INSIDE VIEW: Keeping watch downstream

The rapid growth of the Latin American economy and fund management community has placed pressure on the region’s financial markets infrastructures to keep pace. Sheldon Warrick, of Omgeo, explores what this means for the future of post-trade in the sector.

The creation of wealth in Latin America, through stable economic growth, has resulted in a burgeoning domestic fund management industry, making it an established and important constituent in the global investment community.

While Brazil has been the beacon of Latin American growth, countries such as Colombia, Mexico, Peru and Chile have also made significant progress. The amount in pension fund assets-under-management in these countries (excluding Brazil) has increased from $9.5 billion in 2005 to $28.8 billion in 2010. And it is anticipated that Latin America mutual funds (including Brazil) will amass another $1 trillion over the next five years, doubling the amount of assets held in September 2010, according to a research report by Cerulli.*

The largest growth in assets, so far, has been seen in the local investor community, where fund managers have taken advantage of the easing of local restrictions on equity investing. In the past, pension funds in Latin America were restricted in terms of what portion of their investments could be allocated to domestic and international equities. Growth, however, is not confined to a domestic investment. Inbound investment has also increased as global asset managers become increasingly attracted to opportunities within the region. This may well be the case for some time, given the extent of perceived political risk, and the underperformance in the US and European markets.

Cross-border trading
Part of the reason Latin American investors are interacting more with each other and with the global investment community is because market participants and infrastructures have realised the importance of simplifying access into the Latin American markets. The region is still primarily domestic in nature but it has succeeded in facilitating more cross-border trading in recent years and has, thereby, enhanced its global attractiveness. In part, this has been prompted by, or was a consequence of, the demutualisation of the Brazil and Mexico exchanges in 2007 and 2008. At the same time, exchanges in the region are becoming better connected, both with each other and with those located outside Latin America.

Most recently, the creation of the Latin American Integrated Market, or Mercado Integrado Latinoamericano (Mila), which includes Columbia, Peru and Chile – with Mexico recently making noises about a potential partnership or agreement – aims to increase intra-regional transactions by allowing the regions to execute orders on each other’s exchanges.

The growth of the fund management industry and the implementation of a robust market infrastructure that supports it are interdependent. Together, it is these two developments that have resulted in increased funds flow both into and out of the region. Fund management firms, driven by the desire for further growth, are embracing state-of-the-art trading tools to help them to access liquidity and execute orders quickly and efficiently.

In a short space of time, Latin America funds – primarily in Brazil but in other countries as well – have become savvy and sophisticated market participants, embracing mechanisms such as direct market access and execution algorithms. The increasing prevalence of order management systems in the region, which enable market participants to track, change, or cancel orders, allows firms to automate their trade execution. As a result, not only has the number of transactions increased, but the speed of trading in the market has improved significantly.

Building foundations
The changes that have taken place in Latin America’s investment and trading industries have not, to an equal degree, been matched by enhancements to trade processes in operations departments within firms. Like many markets, the middle-office, or post-trade area, has typically been ignored. As a result, post-trade operations are often filled with manual processes and disparate systems that slow down the trade process at a time of faster executions and increased volumes. In many ways, this is reflective of a global trend where the middle and back-office systems and processes are often an afterthought to the front office.

Ultimately, as trading becomes more electronic and volumes continue to increase across markets, Latin America must make sure that its front office is supported by robust – and preferably standardised – middle-office processes. As firms look to compete globally and engage in more cross border trading, they are likely to find that home-grown solutions might not satisfy their trade processing needs. In short, Latin America must ensure that it is set up to manage the additional complexities of cross-border settlement.

The relative infancy of the Latin American markets does place it in a privileged position vis-a-vis the veterans of the financial markets which are grappling with antiquated processes. There is a real opportunity to implement technology that can grow with the fund management industry and adapt to the ups and downs of the markets. Indeed, Latin America is well positioned to become a model for post-trade processing. We look forward to seeing how this will evolve as the Latin American markets continue to grow.

Sheldon Warrick is executive director of global relationship management at Omgeo

* Institutional Asset Management in Latin America, Cerulli Report, April 2011.

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