The impending introduction of new cross-sector competition legislation in Hong Kong, first proposed in 2006, could fix the Hong Kong stock exchange's trading monopoly in stone.
Brokers and corporate governance activists see the possible exclusion of the exchange from the Competition Bill, published by the Executive Council, the executive arm of the Hong Kong government, on 2 July 2010, as a sign that potential competition between trading venues is being held back in the Special Administrative Region (SAR).
The objective of the bill is to prohibit and deter people and businesses, referred to as “undertakings” within the document, in all industrial and commercial sectors from adopting abusive or other anti-competitive conduct “regardless of its legal status or the way in which it is financed”.
However concerns have been raised that Hong Kong Exchanges and Clearing (HKEx), which operates Hong Kong's stock and derivatives markets and clearing houses, might be excluded from the bill, which offers an exemption to any “undertaking entrusted by the Government with the operation of services of general economic interest.”
Under the Securities and Futures Ordinance, the overarching legislative framework for Hong Kong's financial markets enacted in March 2002, only HKEx is permitted to operate a stock exchange in the SAR. If HKEx were to be included in the new competition bill, the ordinance could potentially be repealed at least in part to open the way for competition.
For the bill to proceed, the Legislative Council of Hong Kong must appoint a bill committee to review the proposal, before the 60 members of the council are able to vote, requiring a simple majority to pass the law.
Concerns were further raised by a speech on 21 July 2010 in which Ronald Arculli, chairman of the HKEx, said that “deregulation in the name of competition” had allowed new trading venues to take market share from traditional venues, thereby fragmenting liquidity. “Investors in these [new] venues have to adopt a buyer beware approach. Meanwhile, the standards that traditional exchanges maintain, and are indeed required to have, remain high,” he said.
In 2007, the Hong Kong government appointed Arculli, Fong & Ng, a law firm co-founded by Arculli, to “provide expert advice on issues relating to the development of competition law, in particular with reference to regulatory frameworks in other jurisdictions” and “advise on how best to legislate for the effective implementation of Hong Kong’s competition policy, including the establishment of an enforcement body and guidelines for the implementation of the law”. Arculli, Fong & Ng, completed a merger with King and Wood in 2009, where Arculli – chairman of HKEx since 2006 – remains a partner.
Arculli's July speech emphasised HKEx's support for competition between exchanges internationally, but some have taken his comments to suggest that alternative trading systems (ATSs) of the sort that exist in Europe, US and are emerging in other parts of Asia would not be welcome in Hong Kong.
“The law will apply to HKEx and they won’t be able to indulge in anti-competitive behaviour unless exempted from it specifically,” said David Webb, a former independent non-executive director of HKEx. “My concern is that they were laying the ground with that speech and other comments, saying ”[HKEx] is special, this is like an electricity utility, it is properly regulated and should not have competition.'”
More than a dozen dark pools have been permitted to operate in Hong Kong in recent years by the Securities and Futures Commission, the SAR's financial regulator, but these must all report and clear their trades via HKEx.
“There is a system of ATS licensing already,” Webb acknowledged. “But that doesn’t put them on level playing field with HKEx. They’re not allowed to deal with the public, just prop trading desks and institutions. They still have to pay homage to HKEx in the form of trading fees.”
One sell-side source said that institutional brokers do not currently see the exchange as being able to provide the technology needed to meet client demand for faster trading speeds and increased capacity. Although HKEx is currently engaged in a HK$800 million infrastructure upgrade, many feel that competition would accelerate the exchange's plans and make it more sensitive to the needs of institutional market participants.
Brokers have held discussions about whether to make a formal representation to the government arguing against an exemption of the HKEx from the forthcoming legislation.
Other sources said that it would be extremely unlikely for the Hong Kong government to introduce competition to the exchange as it owns a stake in the HKEx. Webb suggested that different arms of the government would have different perspectives. “The economic development bureau would like to see increased competition, but if you are talking about the sovereign wealth fund, the profits of that monopoly are likely to go down if there is competition,” he said. “They put themselves in a conflict of interest by being a shareholder in the first place.”
Asked about the exchange's view on the bill, Henry Law, head of corporate communications at HKEx, said, “It's not for us, it's a matter for the government. The only monopoly we have is on trading, and even on trading we only have a monopoly here in Hong Kong because some products are also listed in other places.”
New trading venues have begun to open in a number of Asian markets. Chi-X Japan added to the number of proprietary trading systems competing against the Tokyo Stock Exchange on 29 July 2010. The firm's parent, Chi-X Global is expected to be one of a number of venues to compete against the Australian Stock Exchange before the end of the year.