by Donna Nemer, head of capital markets at the JSE
Traders have always been obsessed with speed, and for many years capital markets have focused their thinking and capital on enabling faster trades. We moved from ticker tapes to live data feeds, all in the hopes of ensuring that everyone has access to the same information at the exact same time and can respond to it at lightning speed.
Yet, the delegates at the recent Trade Tech Conference, held in Paris annually, still agreed that the capital markets industry has in fact moved far too slow in adjusting to technological change. Trade Tech brings together leaders from stock exchanges, investment and brokerage firms from around the world and they all admitted it – our industry is moving at a snail’s pace compared to innovative firms like Google and Amazon.
The problem is that while the capital markets industry has succeeded in implementing the technology that allows an immense number of trades to be executed within milliseconds, we have yet to fully utilise the data our industry generates to our benefit. Regulation is partly to blame for our slow responses, but learning how to extract greater value from data through analysis is really about our industry’s ability to adapt to and embrace change.
Exchanges, brokers and buy-side entities need to choose whether they want to innovate their own core competencies or look to enhance their value proposition in another way. For example, just as Amazon recommends a book to a shopper based on what they purchased before, why shouldn’t an algorithm recommend stocks or research to a trader or investor based on how they traded before?
One of the biggest factors currently driving the need for better data and data analysis in capital markets is the focus on best execution. This is not only crucial to creating value for clients, but an important regulatory requirement. The second iteration of the Markets and Financial Instruments Directive (MiFID II), which will come into effect in Europe in January next year, places large emphasis on what best execution really means.
MiFID II requires all firms who carry out transactions on behalf of their clients to take all reasonable steps to obtain the best possible result, taking into account price, costs, speed, likelihood of execution and settlement, size, nature and other considerations relevant to the execution of the order.
MiFID II will affect the South African market as so many large participants here are either foreign entities or owned by them. But in truth, South Africa has only just started its journey to a market with competing exchanges that offer multiple trading venues. The experience of other capital markets globally has shown that such competition does indeed reduce the cost of executing trades, but it also brings about greater complexity. Market participants have realised that they need to consider far more than the cost of trading when trying to achieve best execution for their clients.
In a multiple exchange environment, buy-side firms can choose between many different ways to execute orders across many different venues, which may be ‘best’ according to different metrics. They now have to take into account factors such as the comparative level of liquidity or the transparency offered by different trading venues. The data generated by monitoring the trading process is crucial to ensuring best execution.
South Africa does not yet have a regulatory framework in place to govern an environment with multiple trading venues or the structures through which these venues should interact with traders or each other. This leaves us with a valuable opportunity to learn from the evolution of capital markets and their regulation that has taken place in Europe and the US.
Regulations like MiFID II seek to avoid the unintended consequences of a fragmented capital market and try to address some of those issues already created. South Africa can leapfrog other markets to not only put in place more advanced tools to analyse data, but also to implement regulation that ensure investor protection, best execution and fair competition.
When multiple trading venues exist, exchanges have a choice whether to focus on their existing model or try to innovate to enhance their business model. For the past eight years, the World Economic Forum has ranked South Africa among the top three countries in the world for the regulation of the securities exchange. We should strive to retain this status as a high-quality market attracts investors and deep, liquid and well-regulated capital markets are a very important tool to enable economic growth.