The “other” exchanges

• South Africa
• 4AX, A2X, Cape Town Stock Exchange, Cape Town Stock Exchange, JSE, Stock Exchange, ZAR X
• September 3, 2021

Recently, I co-hosted a Twitter Space with Mark Tobin. We invited Kevin Brady, one of the co-founders of A2X, to join us.

Unfortunately, the sessions can’t be recorded. Perhaps that’s a feature Twitter will incorporate in future but for now, it’s a case of listen live or lose out unfortunately!

I learnt a lot from the discussion, which inspired me to write about the stock exchanges other than the JSE. There have been some major recent developments in this industry in South Africa.

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The stock exchange economics in South Africa aren’t great

Let’s start with the most fundamental question of them all: do stock exchanges make money? It would be spectacularly ironic if they don’t, let’s be honest.

In the year ended December 2020, the JSE grew revenue 13% and operating expenses increased by 11%. Those of you who understand the concept of the Jaws ratio (the difference between revenue growth and expense growth) will immediately recognise that operating profit margin must have therefore increased as well, as revenue growth was higher than expense growth.

Earnings Before Interest and Taxes (EBIT) margin increased by 100bps to 32%. That’s an attractive margin.

With cash generated from operations of over R1bn and capital expenditure of just R89m, the JSE generates plenty of cash. Most earnings are paid out as dividends, with a dividend per share of 725 cents vs. Headline Earnings per Share (HEPS) of 936.7 cents.

All of this sounds terrific right? Keep reading.

The JSE is listed on the JSE. In case you felt your mind explode for a second, remember that the JSE is both a company and a stock exchange. Thus, it can list its own shares on its own platform. You can buy shares in the JSE on the JSE!

The ticker, unsurprisingly, is JSE:JSE.

Something that may surprise you is that the share price is down more than 35% over the past five years:

The market is concerned about growth, or lack thereof. There were 312 Main Board companies at the end of 2019. One year later, there were 300. As we stand today, there have been several more delisting announcements.

Unfortunately, investors don’t just want cash yields; they also want growth. That is where the JSE is simply not delivering:

HEPS went sideways for a few years and then dropped off sharply. If you’re wondering whether the situation has improved in 2021, I’m afraid that it hasn’t.

HEPS for the six months to June 2021 came in at 420 cents vs. 569 cents for the interim 2020 period. That’s a drop of 26%, which the JSE blamed to an extent on the base effect of elevated trading in 2020. That may be true, but 2020 certainly wasn’t a bumper year compared to previous periods either.

The reality is that things aren’t looking great for the JSE.  On a trailing twelve months basis (second half of 2020 plus first half of 2021), the JSE is trading on a P/E of around 12.5x. The dividend yield is just under 7% based on 2020 but there’s now a question mark over what the rest of 2021 might look like.

In summary: the JSE isn’t shooting the lights out. Those who bought at elevated P/E multiples have lost out badly.

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Why, then, would you want to compete in this market?

I suspect the founders of ZAR X are asking themselves the same question.

The news broke a couple of weeks ago that the Financial Sector Conduct Authority (FSCA) decided to suspend the exchange licence of ZAR X with effect from 20^th August. This means that ZAR X cannot accept new listings or allow any transactions in shares listed on the exchange.

The problem is that the exchange doesn’t have enough liquid capital available. ZAR X has 3 months to resolve the situation, but I suspect that the damage has been done. It’s been an enormous struggle for the exchange to compete with the JSE, as the regulatory and staff costs are substantial to meet licencing requirements.

There are just seven companies listed on ZAR X. You can’t make money like that.

The other exchange that decided to compete directly with the JSE is 4 Africa Exchange (4AX), which also boasts all of seven listed companies. I suspect that 4AX is also losing money even faster than a student in orientation week loses dignity, but it all comes down to whose shareholders have the deepest pockets.

While ZAR X is fighting for survival, 4AX is in the headlines with a clever marketing move: a relocation and renaming of the exchange to the Cape Town Stock Exchange. Noise has already been made about becoming the “Nasdaq of Africa” and attracting tech listings.

Time will tell. I think it’s a cute marketing strategy, but it doesn’t change the underlying structural challenges.

How is A2X different?

A2X has taken a different approach to the others. Instead of fighting the JSE at its own game, A2X is focusing on the secondary market.

This means that A2X can only accept a listing of a company that is already listed elsewhere. This could for example be the JSE or, dare I say it, the Cape Town Stock Exchange!

A2X focuses on order execution, lowering the cost of trading and thus minimising the bid-offer spread on listed securities. If you’ve ever bought a small cap and tried to sell soon thereafter, you’ll be familiar with bid-offer spreads. If not, check out the Adcorp share price and look at what you would buy the share at vs. what you could sell it at.

As is the case in other countries, A2X distinguishes between the primary and secondary markets as profit centres. This is a clever model, in which the exchange exists alongside the JSE rather than competes with it head-on.

There are no costs for a company to list on A2X, so it’s borderline a no-brainer for any listed company to also be listed on A2X. It can tighten spreads and possibly enhance liquidity, which are good things for shareholders.

The delisting tide needs to turn.

The trend of delistings is concerning to say the least. There are macroeconomic factors at play here, although I’m not sure the JSE has done nearly enough to react to those challenges.

The future for ZAR X is uncertain, which is unfortunate. I always questioned whether there was enough space in the market for this many players and sadly that story seems to be playing out in front of us. Even if ZAR X can address the liquidity challenges, I’m not sure why a company would actively choose to list on an exchange that has been on the brink of failure.

I personally don’t care which exchange appeals to entrepreneurs the most. I just dream of news of fresh listings rather than delistings.

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