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In this article, Mike O’Hara and Adam Cox of The Realization Group investigate a radical new concept in trading: the emerging market trading hub. By linking far-flung exchanges at a neutral site in a developed market location, a trading hub essentially brings the market to the liquidity rather than the other way around. The hub revolutionises the relationship between venues and the investors who want to access them, offering significant benefits to all parties. Speaking with Rob Bath, Vice President for Global Solutions at Digital Realty, the company that is driving the initiative, and with Hirander Misra, CEO of GMEX Technologies, which is supplying technology and business expertise to a swathe of hub participants. They also hear from exchange executives Kristian Schach Møller, CEO at Agricultural Commodity Exchange for Africa, Joseph Kitamirike, CEO of ALTX Africa Group, and Alisher Shernazarov, CEO at Central Asian Stock Exchange. Stuart Turner, CEO of post-trade technology specialist Avenir Technology, a vendor backed by GMEX Technologies which is also involved in the project, also features in the report.
One of the greatest challenges faced by new trading venues, particularly in emerging and frontier markets, is how to attract liquidity. At some point, liquidity begets liquidity, but how can a new exchange get the critical mass necessary? Rather than trying to force liquidity towards exchanges, a new business and technological approach offers the chance to do the opposite: to essentially bring those exchanges to where liquidity and trading ecosystems already exist. Emerging market trading hubs, by providing connectivity and access to distant markets from a centralised location, offer new sources of liquidity for venues, new trading opportunities for investors, new sources of business for financial firms and potentially lower costs for all concerned. Whether it means crossing time zones or crossing asset classes, these market trading hubs offer the possibility of breaking down barriers and generating a whole new sphere of trading activity.
The lure of liquidity
The poet Samuel Taylor Coleridge in The Rime of The Ancient Mariner famously wrote about how a group of ill-fated sailors were faced with “water, water, everywhere” but not a drop to drink. It’s a feeling some exchange executives may be all too familiar with. They know the liquidity is out there, but they just can’t access it. Their venues may have extremely attractive assets that investors in other parts of the world would love to trade, if only they could do so without going through difficult and costly hoops.
Rob Bath, Vice President for Global Solutions at Digital Realty, is looking to change all of that.
“What we’re driving here is the creation of a space where new and emerging markets together with existing trading ecosystems – the investor community, data vendors, independent software vendors, sell-side, traditional exchanges etc. – are effectively able to meet in a central location,” Bath says.
For some venues, the hub concept could be a lifesaver. “The inability to access required liquidity is the primary impediment to the growth of a number of these emerging market exchange platforms,” Bath says.
“What we’re driving here is the creation of a space where new and emerging markets together with existing trading ecosystems are able to meet in a central location.”
Rob Bath, Vice President for Global Solutions at Digital Realty
But an emerging market hub offers benefits to many other groups. For investors all over the world, it opens up trading possibilities. For an established venue, a hub solves major distribution issues and presents the possibility of lucrative new revenue streams. For the sell side and the vendor community, it creates a huge pool of potential new clients. Whichever way you look at it, an emerging market trading hub is a classic win-win.
There are plenty of precedents where an exchange in one centre lists the products of another.But the emerging market trading hub concept is different in that it is not simply about cross-listing. What the hub does is physically connect the venues, creating what Bath called a true partnership. “This is providing a complete, cloud-enabled trading and clearing market infrastructure ecosystem,” he says, noting that a hub also differs from existing tie-ups because it is not based on an unequal relationship where a major exchange dictates the terms for a less-established venue.
The first hub, which Digital Realty is developing with exchange and post trade technology company GMEX Technologies, is planned for London and will include a number of new exchanges from Africa and Asia.
Hirander Misra, CEO of GMEX Technologies, adds that multi-venue hubs are planned for other parts of the globe too, including ones in Chicago and Singapore.
What’s different about what Digital Realty and GMEX Technologies are doing, he adds, is that while data centres and connectivity in the developed world are focused on existing markets, participants and vendors, the hub is starting from a totally different perspective.“There wasn’t really a play on having access into the emerging markets or indeed players in those emerging markets getting better access into the developed markets as well,” Misra says. “This is bi-directional in many ways.”
“This is bi-directional, having access into the emerging markets and emerging markets getting better access into the developed markets.”
Hirander Misra, CEO of GMEX Technologies
Bath says that in this regard the idea of using a neutral location is also important. “That neutrality is, in and of itself, very attractive, because the developed market locations in question represent large and established liquidity pools, together with also allowing key participants on those local exchanges now to gain access to and sell products and services to this broader community.”
In addition, the use of a major neutral location such as London offers market participants and vendors alike the reassurance of a robust infrastructure. “In effect, it is the assurance of stable and secure management of this exchange platform, that is very interesting to the institutions providing these services,” says Bath.
The timing of the introduction of the first emerging market trading hub is significant as it comes at a time of increased interest in new and emerging markets. Although there have been plenty of headlines about market unrest, the latest global liquidity report by PricewaterhouseCoopers notes that long-term, emerging markets in general have benefited from increased capital flows as a result of quantitative easing in developed economies. The consultancy says some studies showed US QE coinciding with portfolio rebalancing across emerging markets and the US.
It comes as little surprise, then, that for the exchanges in Africa and Asia taking part, the opportunity to connect with investors on such a London-based platform could not come soon enough.
The web of relationships that make up an emerging market trading hub offers more than just the possibility of new streams of liquidity. It also means new ways of doing business and partnerships that are based on the exchange of technology.
For instance, Kristian Schach Møller, CEO of Agricultural Commodity Exchange for Africa (ACE), says there was nothing in terms of solutions from local providers or off-the-shelf technology that could help his Malawi-based exchange develop and grow.
“We needed to have something that was much more scalable,” Møller says. “We reached a limit as to what we could develop ourselves and what insurance, banking and other related collateral management institutions here are willing to offer. And it means that we need to link to the developed world, to developed institutions.”
“Now we’re getting their expertise to make a product that fits into these very unique structures coming out of an emerging market.”
Kristian Schach Møller, CEO of Agricultural Commodity Exchange for Africa
ACE turned to GMEX Technologies and its post-trade software partner Avenir, which supplied a software solution based on developed world trading systems.
“We call it the Formula 1 technology,” Møller says. “Now we’re getting their expertise to make a product that fits into these very unique structures coming out of an emerging market.”
These relationships underpinning the hub make it unique.
“This is different to what has been seen before, where technology companies really just delivered technology into an emerging market project or on exchange, but didn’t achieve a link to create a bigger network,” Møller says.
Misra of GMEX Technologies says this new approach was a natural fit. “We saw that all they had in place was customer supplier relationships; no-one was actually working with them closely to build up a partnership model where the interests were truly aligned.”
With so many benefits for so many different parties, the question arises as to why an initiative such as an emerging market hub hasn’t happened before. Møller suggested the main obstacle was probably people’s perceptions when it came to markets in some parts of the world. “I honestly think that anybody outside of the region, and Africa in general, perceive Africa as being very risky and probably would not even consider touching it.”
A critical part of the emerging market trading hub story involves the infrastructure, and specifically the need to make a variety of post-trade practices work for international investors. Here the solution partly came about from an unlikely event: a road trip across Africa by Stuart Turner, an exchange technologist.
After his stint in Africa and this road trip, Stuart joined an exchange consultancy where he specialised in Africa. During one project in Kenya, he wrestled with the problem of how to get more liquidity into the SME sector. “And it was over those years of building up this knowledge of Africa that I realised that part of the problem with Africa is that they can’t afford the technology and the access,” Turner says.
Turner decided what was needed was a company that could provide affordable software for less developed venues. “We set up software which is for clearing houses and CSDs, basically all post-trade software,” he says.
The company, Avenir Technology, has teamed up with GMEX Technologies to make the software available to emerging venues. Post-trade issues are particularly important for emerging markets because of one critical factor: confidence.
“It’s not just the systems but also the way they’re operated,” Turner says, adding that Avenir has developed its systems to be compliant with IOSCO’s Committee on Payments and Market Infrastructure standards.
“Sell-side institutions as well as the investors participating in these markets want good systems and processes, and access to information.”
Stuart Turner, Exchange technologist & Founder at Avenir Technology
“You’d be surprised how much focus there is when people decide to trade in new markets,” Turner adds. “Sell-side institutions as well as the investors participating in these markets want good systems and processes, and access to information”.
Avenir relies on a combination of open source technology and the benefits of Moore’s Law about processing power. ”I could run just about every African exchange post-trade system on my laptop, seriously, even the larger ones. It’s not a problem,” he says. Turner says it makes for a good fit with GMEX Technologies since that is the London-based group’s philosophy as well.
“In terms of technology itself, given Moore’s Law, every few years, capacity doubles and technology in price halves,” Misra says. “We’ve seen this with smartphones and so forth, going back from the bricks of the ‘80s. So everything out there that’s being sold for millions and millions of dollars is legacy technology that’s 20 to 25 years old.”
He says GMEX Technologies, when it formed, wanted to start with a clean sheet of paper. “What that means is we can run on 1/10th of the hardware and 1/10th of the data centre footprint with multiple times more capacity than most other systems that horizontally scale. That means you can be more agile and run at much lower costs.”
But Misra says that in addition to being too expensive for some exchanges, technology was too often being deployed standalone, as if on an island. “So that the ships of liquidity couldn’t sail to it, so to speak,” he says. “We found the fact that these standalone tech platforms would be deployed somewhere and that there would be tumbleweed blowing through them as quite bizarre in this electronic age.”
ACE is one African venue taking part in the hub. Another is the Ugandan exchange owned by ALTX, which is based in Mauritius and operated by GMEX Technologies from London.
Joseph Kitamirike, a founder of ALTX, says the hub will create two-way traffic, enabling investors outside of Uganda to trade local assets and those inside the country to trade in London. “We have some brilliant assets trading on the markets in Africa which the rest of the world hasn’t come to know about yet,” Kitamirike says.
Kitamirike says the New York Stock Exchange within minutes can trade the volumes seen in African exchanges within a year. “We can change that,” he says.
The emerging market trading hub solves one part of the equation. Another part will be to deal with the foreign exchange component for transactions to take place, something that ALTX is working on.
After the Uganda launch, ALTX plans to build other exchanges in Africa that can sit on the same network, ultimately allowing investors across Africa to trade in one seamless venue.
“We have some brilliant assets trading on the markets in Africa which the rest of the world hasn’t come to know about yet, we can change that.”
Joseph Kitamirike, a founder of ALTX
“We think by exposing African securities to global capital and exposing globally available securities to African capital, we will build a network through which liquidity will flow.”
Alisher Shernazarov of Central Asian Stock Exchange (CASE) in Tajikistan says the infrastructural issues such as settlement offered one challenge, while another came from within. In his case, Tajikistan’s domestic market regulation required reforms.
“The legal part is one of the challenges. It takes a lot of time in terms of making some amendments to the current legislation here in Tajikistan,” Shernazarov says. “There are some regulations which have made settlements more complicated. Sometimes, it’s very difficult to execute even small transactions,” he adds.
The good news, however, is that the government recognises the value of unlocking the potential for capital inflows and Shernazarov says the ministry of finance, central bank and market regulator are working with the new exchange to make the necessary changes.
“At a certain point the local markets will become saturated and liquidity issues will become more apparent. That’s where the trading hubs can prove to be vital for emerging markets.”
Alisher Shernazarov of Central Asian Stock Exchange
Shernazarov says funding for enterprising companies in Tajikistan remains expensive and the prospect of new capital can make an enormous difference. “Sometimes it’s not viable for entities to borrow from commercial banks in order to increase their capacity. So this definitely will bring a source of long-term funding for local corporates.”
The real challenge starts when the stock exchange becomes operational, Shernazarov says. “At a certain point the local markets will become saturated, and liquidity issues will become more apparent. That’s where the trading hubs can prove to be vital for emerging markets. Connectivity and access to large capital markets can significantly ease the pressure on small emerging economies. In this aspect partners like GMEX can help us in dealing with liquidity issues, by providing linkage with global hubs such as London.”
While the advantages of an emerging market hub to venues are clear, any lasting change in the way new exchanges operate ultimately needs to benefit another group: the underlying users. Here, Bath says the hub concept offers a compelling argument. “This is a participant rather than an exchange-centric proposition, because it is effectively a one-stop-shop for access to multiple exchanges, liquidity venues, products and participants.”
That in turn makes the proposition even more attractive to sell-side participants. “From the bank’s side, you want effectively to co-locate with this emerging market hub, because you now have a completely new set of customers to sell to that you haven’t historically been able to tap into, and across a broad range of asset class,” Bath says.
The new approach, Misra adds, essentially brings a lot of people to the party.
“You could be in Tajikistan in Dushanbe and be setting up a stock market from scratch and be wired into that global ecosystem, whereas before you had to look at, ‘How do I get lines into everywhere else? How do I create points of connectivity?’ And there would be a long lead time and you would sit and wait for people to invest in infrastructure. But then you’d have this chicken and egg scenario where they wouldn’t do that until you had liquidity but you couldn’t have liquidity until they did that. So you break that chicken and egg scenario, as well, by doing it this way.”
As emerging market trading hubs take off, Bath expects the concept to expand beyond the geographical sense. “I think what is interesting is the degree to which this addresses interest across a multitude of asset classes, and the potential reach associated with this,” he says. “This offers significantly greater distribution opportunity for these larger exchanges, without the need to set up costly separate exchanges in the emerging markets themselves.”
Or, as Coleridge might have put it: There will be water, water everywhere – and more than enough to drink.
Writing and additional research by Adam Cox, Associate Editor, The Realization Group
