The times they are ex­chang­ing

Financial Mail - Investors Monthly - - Front Page -

T he launch, for the first time in more than 80 years, of three new stock ex­changes in SA — Zar X, 4 Africa Ex­change (4AX) and A2X — has been met with equal mea­sures of ex­cite­ment and scep­ti­cism.

“What are they go­ing to sell and who are they go­ing to sell to?” asks an ex­as­per­ated David Shapiro. Shapiro, who joined the stock mar­ket in 1972 and is deputy chair­man at Sas­fin Se­cu­ri­ties, says he is wor­ried about the fu­ture of the mighty JSE — never mind that of new ex­changes. The JSE is “not what is used to be”, he says, in terms of the qual­ity of com­pa­nies list­ing, their prospects and the un­der­ly­ing econ­omy.

In an age when tech­nol­ogy com­pa­nies boast some of the big­gest mar­ket values, the JSE’s largest coun­ters, bar Naspers, re­main largely old-world busi­nesses, Shapiro says. “We’re run­ning out of ideas here.”

Many have wel­comed the com­pe­ti­tion, say­ing it will lower bar­ri­ers to en­try for is­suers and in­vestors alike.

But mar­ket watch­ers are un­sure of whether the new ex­changes will be able to at­tract the list­ings and in­vest­ing ac­tiv­ity re­quired for a thriv­ing, liq­uid ex­change.

New ex­changes will strug­gle to sur­vive in a mar­ket where even the JSE has ex­pe­ri­enced a drop in trad­ing vol­umes, says Greg Davies, head of wealth at Cratos Cap­i­tal.

The daily value of shares trad­ing hands on the JSE has dropped from about R22bn to R16bn over the past few months, Davies says.

New stock ex­changes “need a spread of var­i­ous shares and liq­uid­ity”, he says. Zar X’s strat­egy to list agri­cul­tural co-op­er­a­tives is a smart one, but is un­likely to at­tract sig­nif­i­cant in­ter­est from stock­bro­kers, he adds. “What would ap­peal to bro­kers is if Zar X lists prod­ucts the JSE doesn’t of­fer.”

Fo­cus­ing on smaller stocks, re­stricted shares and “ex­otics”, such as struc­tured prod­ucts, could lend ap­peal to the new ex­changes, agrees Si­mon Brown, founder of Just One Lap. The JSE does list some of these prod­ucts, but they are lost in the bourse’s 400-odd coun­ters, he says. He can imag­ine a fu­ture with the JSE and “one other ex­change”, but says he can’t see SA man­ag­ing four ex­changes.

So, what are these fledg­ling ex­changes plan­ning ex­actly?

Eti­enne Nel, Zar X CEO, says: “Re­stricted share of­fer­ings, new-wave pas­sive in­vest­ment struc­tures, ven­ture cap­i­tal, tax-ef­fi­cient struc­tures, and a fully trans­par­ent fixed in­come mar­ket are all in­trigu­ing ar­eas.”

Zar X will re­main an eq­ui­ties-fo­cused ex­change for now, but Nel says it will look at list­ing other in­stru­ments, such as debt, if it iden­ti­fies a need.

4AX, which hopes to be­gin trad­ing this month, will list a range of as­set classes, says CEO, Fay Mukad­dam, in­clud­ing eq­ui­ties, debt and spe­cial pur­pose ve­hi­cles.

The third new ex­change, A2X, will pro­vide a se­condary list­ings plat­form for JSE-listed com­pa­nies, tar­get­ing the 50 to 65 largest and most liq­uid stocks on the bourse. It plans its end-to-end trans­act­ing costs to be about 40% lower than JSE costs. A2X chair­man Ash­ley Men­de­lowitz says the ex­change will com­pete di­rectly with the JSE.

He and A2X nonex­ec­u­tive direc­tor Sean Mel­nick are part of the found­ing team of Pere­grine Hold­ings, with Mel­nick now nonex­ec­u­tive chair­man of the fi­nan­cial ser­vices group. Pere­grine Eq­ui­ties is one of the coun­try’s largest stock­bro­kers, while Pere­grine Se­cu­ri­ties sends trade worth bil­lions of rand through the JSE ev­ery month. It is un­doubt­edly pay­ing

The ex­changes also want to make it eas­ier for small busi­nesses to gain ac­cess to cap­i­tal mar­kets

the ex­change high fees to do so. It re­mains to be seen what will hap­pen when it has ac­cess to some of the same se­cu­ri­ties on a se­condary ex­change at a frac­tion of the cost.

At the time of writ­ing, only Zar X had be­gun trad­ing. On Fe­bru­ary 20 it matched, set­tled and cleared its first trade — a buy or­der for 100 shares in agri­cul­tural group Sen­wes at R10.50 a share — in 10 sec­onds.

Be­tween Fe­bru­ary and early May, the stock had traded on about 10 days (mostly small trades, bar­ring one trade for 100,000 shares on March 29 and an­other for 15,000 on April 5) with the price range-bound be­tween R10.40 and R10.50.

No­tably, Zar X’s real-time set­tle­ment is a first in SA. The JSE op­er­ates on a T+3 (trade plus three days) set­tle­ment cy­cle, mean­ing it takes four days to set­tle a trade.

Real-time set­tle­ment is par­tic­u­larly ben­e­fi­cial for re­tail clients, as they can ob­tain their money im­me­di­ately rather than hav­ing to wait days for trades to clear, says Rid­waan Moolla, Absa Stock­bro­kers head of dig­i­tal & ed­u­ca­tion.

Trades have to be pre-funded with real-time set­tle­ment, which re­moves the risk that a trade won’t clear be­cause there are in­suf­fi­cient funds or shares.

On a T+3 cy­cle, stock­bro­kers need very large bal­ance sheets, have banks stand surety for their trades be­fore they make them or face higher margin­ing fees (ef­fec­tively an in­sur­ance levy) from the JSE.

Real-time set­tle­ment re­duces cap­i­tal ad­e­quacy re­quire­ments for bro­kers and frees up in­vestor cap­i­tal.

Still, bro­kers don’t ap­pear to be rush­ing to be­come ac­cred­ited mem­bers of the new ex­changes. But it’s early days. Zar X has only two list­ings (Sen­wes and its hold­ing com­pany, Sen­wes­bel, which has vir­tu­ally no free float) so there is not much to trade.

Sen­wes has a mar­ket cap­i­tal­i­sa­tion of R1.9bn and just more than a quar­ter of its shares in free float. The group sup­plies equip­ment, seed, stor­age fa­cil­i­ties and fi­nan­cial ser­vices to the agri­cul­tural sec­tor. Its 60 silo com­plexes store 25% of SA’s grain out­put.

Nel is thrilled that Zar X has at­tracted such an im­pres­sive first list­ing, but even he ad­mits: “One list­ing is not a sus­tain­able ex­change. Sus­tain­abil­ity is a func­tion of the value traded.”

And herein lies the clincher for Zar X, 4AX and A2X: can they at­tract enough is­suers and in­vestors to gen­er­ate the vol­ume and value of trades to be sus­tain­able? Time will tell.

If A2X can sig­nif­i­cantly re­duce the se­condary list­ing costs for JSE-listed com­pa­nies, while promis­ing en­hanced liq­uid­ity, it may at­tract the size­able is­suers it is af­ter, par­tic­u­larly if a stock­bro­ker as large as Pere­grine sends trades through the ex­change.

It also has the back­ing of Pa­trice Mot­sepe’s African Rain­bow Cap­i­tal (ARC), which owns a 20% stake in the ex­change, with an op­tion to in­crease this to 25%. ARC co-CEO and former San­lam chief Jo­han van Zyl has pre­vi­ously said that ARC’s in­dus­try re­la­tion­ships will un­lock sig­nif­i­cant op­portu- ni­ties for A2X.

Zar X has a healthy pipe­line of in­ter­ested is­suers, in­clud­ing a com­pany with a mar­ket cap­i­tal­i­sa­tion of R15bn, says Nel. Since SA’s sov­er­eign credit down­grade, Zar X has been ap­proached by banks look­ing to list pref­er­ence shares and struc­tured prod­ucts to re­duce the cap­i­tal they have to hold on bal­ance sheet, he says. Banks’ cost of cap­i­tal is ex­pected to rise fol­low­ing the down­grades.

4AX will fo­cus on com­pa­nies with a mar­ket cap­i­tal­i­sa­tion of R100m-R8bn. It has teamed up with the Gaut­eng pro­vin­cial gov­ern­ment to look at list­ing small and medi­um­sized busi­nesses, such as town­ship en­trepreneurs.

The JSE, mean­while, is work­ing on a sim­i­lar idea. CEO Nicky New­ton-King de­scribes it as a “sub-AltX” re­tail mar­ket to help small en­trepreneurs, such as spaza shops, to raise cap­i­tal and at­tract more in­vestors.

Both Zar X and 4AX will go af­ter is­suers that have se­cu­rity trad­ing re­stric­tions, such as over-the-counter (OTC) and broad-based black eco­nomic em­pow­er­ment schemes.

Nel es­ti­mates that be­tween 30 and 50 com­pa­nies are do­ing some form of OTC trad- ing in their shares, with about half of these hav­ing list­ing po­ten­tial. “We are talk­ing to a lot of them,” says Nel, who co­founded OTC trad­ing plat­form Equity Ex­press.

The ex­changes also want to open up stock mar­ket in­vest­ing to the broader pub­lic and make it eas­ier for small busi­nesses to gain ac­cess to cap­i­tal mar­kets.

But de­mand from large in­sti­tu­tional in­vestors will drive vol­umes. The rea­son why stock­bro­kers aren’t rush­ing to join the new mar­kets may be that their in­sti­tu­tional clients haven’t yet asked them to.

Nel says that Zar X will gen­er­ate most of its rev­enue from trad­ing fees and sell­ing data. It is of­fer­ing a lot of data free via its stock ex­change news ser­vice equiv­a­lent, Zaps.

It plans to charge for “val­ueadded an­a­lyt­ics”, such as di­rec­tors’ deal­ings an­nounce­ments for a spe­cific sec­tor over a spe­cific time pe­riod, or the data be­hind ev­ery matched trade.

The JSE re­lies heav­ily on post-trade and in­for­ma­tion ser­vices, which in­cludes the clear­ing of trades and mar­ket data, to gen­er­ate rev­enue.

While Zar X’s trad­ing fees, at 1.5% of the value of each trade, make it much cheaper to do smaller trades, in­vestors could pay more than they would on the JSE if they make very large trades, says Moolla.

4AX is tar­get­ing an­nual trad­ing vol­umes of R2bn to re­coup amor­tised costs. “4AX be­lieves it will be­come fully prof­itable in its first year of trad­ing,” says Mukad­dam.

While zero legacy tech­nol­ogy and legacy mar­ket is­sues give new ex­changes a dra­matic com­pet­i­tive ad­van­tage, they will need more than that to be sus­tain­able. Says Nan­dini Suku­mar, CEO of the World Fed­er­a­tion of Ex­changes: “An ex­change is suc­cess­ful when it has and of­fers liq­uid­ity, and wins and main­tains the trust of in­vestors and is­suers.”

Eti­enne Nel Pic­ture: BUSI­NESS DAY

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