By Shi Liang
China took advantage of its status as a relative late bloomer among the world’s financial markets, by building a high-capacity, fully electronic trading infrastructure from the outset. As its capital market liberalization plans unfolded in the 1990s, the authorities were quick to realise that a highly-automated, paperless, technology-driven marketplace was the key to encouraging efficiency, standardization, accuracy and straight through processing (STP).
As such, both the Shanghai and Shenzhen stock exchanges, launched in 1990 and 1991 respectively, were established on these principles and set the foundation and standards for highspeed electronic trading. The result was rapid growth in the country’s investment community, as well as a boost to the domestic financial technology companies, that moved swiftly to keep pace with the demand for high-speed trading.
While China’s markets are still, comparitvely speaking, in their infancy in terms of breadth and depth, this early groundwork has created one of the most highly automated trading systems in the world. While other emerging markets are still struggling to move on from legacy infrastructures or manual trading processes, China has instantly catapulted into the realm of fully STP and virtually seamless T+1 clearing and settlements in its domestic equity markets.
Since the 90s, China’s capital markets have continued to evolve, mainly through a combination of gaining experience from the international financial markets, and domestic innovation.
Automated, but not standardized
However, in keeping with several Asian exchanges, China’s marketplaces have their own unique proprietary protocols. So, while trading in Mainland China’s various marketplaces may be completely electronic, there is no single, standardized messaging standard used to transact. These factors have, to some extent, stymied its potential to develop.
Shanghai and Shenzhen stock exchanges both use their own unique protocol, while the exchange gateways to the order entry systems and network are operated via their communication subsidiaries, STOCOM (Shanghai Stock Communication Company) and SSCC (Shenzhen Securities Communications Company). Similarly, the Dalian and Zhengzhou Commodities Exchanges, as well as National Interbank trading platform, each have their own interfaces.
Still a way to go …
When China joined the World Trade Organisation in 2001, it made clear that its preference was for a prudent and steady approach in the liberalization of its economy. The approach for the financial market was twofold: sustainable development, without threatening the development of the domestic financial sector; and allowing China’s investors to gain experience in global markets without getting burnt.
While China has made incredible progress, there is still an extremely wide gap between its domestic set-up and that of the international markets. In particular, with the absence of alternative liquidity venues, its heavily-regulated stock exchanges (and its tight integration with the depository) and efficient clearing system, it is understandable that many Chinese investors still shy away from alternative venues and complex products.
To achieve this sustainable development sought by the Mainland authorities, many in the investment community are increasingly looking for ways to bring in more foreign technology, expertise and knowledge and it seems that FIX is one of the tools that can be used to narrow the gap.
Are the exchanges driving FIX …
China’s financial sector is increasingly turning its attention to FIX as an efficient and standardized messaging protocol.
In 2006, the Shanghai Stock Exchange (SSE) announced plans to launch its Next Generation Trading System (NGTS). The SSE announced that, “with an extended capacity, the NGTS can support the trading of almost all products and various trading modes.” It added that the System would lay a “solid foundation for further development and innovations in the securities market” and that NGTS would improve the cross-border trading and support the internationalization of the members’ businesses.
Underlying the NGTS is a brand new protocol called STEP. STEP was developed after extensive consultation with a panel of FIX experts and is derived from FIX4.4. Some consider it a dialect of FIX. In June, the China Foreign Exchange Trading System has adopted the use of the iMIX protocol – also based on FIX – for the national interbank trading platform.
Together these developments show an important first move into the adoption of FIX as a common protocol in China.
… Or is it the market?
While the SSE project has increased the buzz surrounding FIX, the main driving force has come from the Qualified Financial Institutional Investor (QFII) and Qualified Domestic Institutional Investor (QDII) schemes. These schemes – designed to offer a gradual opening of China’s markets to overseas investors, and vice versa – turned the attention of the domestic market to international practices. In doing so, the interest in FIX rose to a new level as the investment and financial technology communities sought to study its use and application for the domestic market.
Given the vibrancy of the A-share market, QFII investors and their Chinese partner brokerage firms identified the pressing need to ‘speak’ FIX and made an accelerated switch from their previous communication methods (placing orders by telephone), to using faster and more accurate electronic methods to effect orders.
To date, there are at least 10 domestic brokerage firms providing FIX-supported trading services for QFII firms, with some also providing DMA trading capabilities. These domestic brokerage firms perform the vital role of “language exchange” by providing dual-way translation between FIX and the exchange protocols so that QFII firms can send orders and receive executions virtually real-time.
The use of FIX has also extended beyond QFII into the QDII domain. In April 2007, China launched its QDII scheme, offering the first batch of qualified domestic firms a chance to invest in foreign markets. For these institutions which were already highly-attuned to fully electronic, low-touch trading methods, the need to have FIXenabled trading capabilities was a toppriority.
Today, only a small minority of institutions still rely on telephone orders to their brokers. For most QDII investors, a FIX interface is fast becoming a vital part of their trading infrastructure. A standard FIX engine, connected to an order routing network on the widely-used FIX 4.2 would serve the basic needs of most QDII firms and offers flexible, cost-efficient routing options. Most importantly, they have recognized that having a FIX-enabled infrastructure serves as a base to the advancement to DMA and algorithmic trading.
Understandably in response to the growing interest in FIX, some of China’s technology vendors have been quick to develop FIX-enabled trading platforms, as well as offering FIX education classes.
Greater liberalization, but with a cautious twist
There is little doubt that China will eventually deregulate the market for more complex products and perhaps allow the use of alternative liquidity venues. However most commentators believe the authorities will do so in a measured and cautious manner.
As trade volume continues to sky rocket and new products, with more complex business requirements, are introduced to the markets, the regulators will have to address the challenge of developing high-speed and effective communication standards across more asset classes and for more industry participants.
The rest of the global markets have already gone a long way in this process and there is no need to reinvent the wheel. Speaking FIX would no doubt present an opportunity to leverage the experience of the industry and provide some answers on how to manage these challenges.
By Shi Liang