Capital market firms have always valued economies of scale. Over time in Europe and America, thanks to a common language, single regulatory framework, and the close geographic proximity of its main centres, the positioning of workforces and trading desks centralized in cities such as London, New York and Chicago, making them the undisputed trading hubs of their regions.
Another essential enabler was rapidly improving trading infrastructure and connectivity. The introduction of co-location, proximity hosting and dedicated high-speed fibre optic routes between capital centres and stock exchanges meant that many foreign brokers could compete with their domestic rivals in terms of execution speeds. This quickly pushed down fees and reduced spreads, providing an advantage to the asset management industry, which also benefited from easy-to-access products listed on different markets.
The situation remains quite different in Asia, where trading activity remains genuinely fragmented, and in some markets, extremely localized. But this is starting to change. One reason why the region continues to retain many more financial hubs is the pure physical distance between them. So while earlier generations of low-latency connectivity and co-location technology were sufficient to put traders in London and Paris (just 344 kilometres apart) or New York and Toronto (551km) on an even keel, technology improvement is now reaching the point where traders in Tokyo can trade at the same execution speed as those in Singapore and Chicago – a distance away of 5,308km and 10,135km respectively.
This is a watershed moment for regional asset managers. Easier trading between these three centres has already revolutionized parts of the market. For the first time, there is evidence of arbitrage or quantitative-style trading activity appearing in Asia, particularly in foreign exchange and certain derivatives given the closely related or identical products listed in markets, such as Nikkei 225 and Topix futures. This has increased overall volumes and driven down spreads globally, increasing the size and value of the market as a whole.
Faster trading speeds between Asian financial centres is not only benefitting those who like tighter spreads. Asia is home to an array of smaller markets, such as Sydney, Seoul and Taipei, home to listed companies that punch above their weight because of their critical importance to global supply chains. Derivatives tracking these markets have always been hugely popular and are traded on every continent. Yet, a lack of low-latency connectivity to their home exchanges impacted price discovery, which in today’s times when the world is facing a critical semiconductor shortage, for example, increases risk.
Change is happening quickly. New co-location centres established by the Stock Exchange of Thailand and the Taiwan Stock Exchange have recently facilitated new ultra-low latency connection routes to these markets, making them more accessible to a larger pool of global investors while providing asset managers with more investment opportunities.
Faster and more efficient connectivity will make it easier for Asia-based brokers and traders to follow their American and European counterparts in centralizing more of their operations, resulting in lower costs and lower fees.
There is a limit, of course, to how far Asia’s capital markets can emulate the centralization seen in the West, given the lack of common language and any chance of an EU-style single regulatory framework being created.
But the trend will continue as ever more promising technologies become viable that will further reduce the tyranny of distance and continue to disrupt the trading and investment strategies of all asset managers in Asia.
Masato Hoshino is head of Asia and president of Japan at Colt Technology Services.