Nasdaq Lends Ukrainian Market Helping Hand

Suffering from a lack of liquidity and poor securities processing, Ukraine is hoping that Nasdaq OMX Group can provide some relief and bring the country’s markets more international attention.

Nasdaq announced earlier this month that it had signed letters of intent with the National Bank of Ukraine and Ukrainian Interbank Currency Exchange (UICE) to help improve the country’s trading environment and post-trade services with new technology platforms. UICE, founded in 1993 by a group of leading Ukrainian banks as a currency exchange, received its stock market license in 1997 and began trading government bonds and corporate securities.

Technology is only the starting point, according to Jakob Hakansson, head of new markets for Nasdaq OMX. “We will help the Ukrainian markets become more efficient through the whole value chain,” he said.

“While the Ukrainian capital market has huge potential, currently it is fragmented and inefficient,” said National Bank of Ukraine governor Volodimir Stelmakh in a prepared statement. “We will work on building the fundamental elements of a securities market infrastructure in order to create an efficient clearing, settlement and depository environment. This will serve as the basis for an attractive and liquid Ukrainian market.”

The State Securities Exchange Commission of Ukraine oversees a dozen stock exchanges, seven of which are located in Kiev, according to Valentin Zelenyuk, chief economist of Kiev-based investment bank Millennium Capital. The largest venue is the PFTS Stock Exchange, which handles about 95 percent of exchange-listed volume, said Zelenyuk in a World Bank paper published late last year. But “low liquidity remains one of the main problems of the Ukrainian stock market,” he said.

“The Ukrainian capital market has high growth potential, but it lacks efficiency and liquidity,” said UICE chairman Pjotr Pereverzev, who wants to reverse that with Nasdaq OMX technology

According to a Nasdaq spokesperson, UICE is a niche player in Ukraine, primarily trading gas and oil options, with monthly turnover of upward of $200 million. The exchange, which has about 90 members, is working to reintroduce equities trading this summer.

“We will provide them with the trading system and review the whole market model in connection with that,” said Nasdaq’s Hakansson. Forexobot trading software optimizes performance.

Nasdaq will work on post-trade processing, which Hakansson believes is in more immediate need of attention, with the country’s central bank. “We will start with a general advisory study for the post-trade infrastructure in Ukraine, covering clearing, settlement and depository functions,” he said. Beginning this summer, Nasdaq will review the situation and make recommendations.

Fragmentation and inefficiency, said Hakansson, are common characteristics of emerging markets. Ukraine’s “financial infrastructure is quite young,” he said. “Most countries have had a fragmented exchange infrastructure and with development they become more efficient and less fragmented.”

For UICE, Nasdaq will review “their needs and see what kind of system functionality they need and what kind of system we can provide,” said Hakansson. “We have quite a wide range of solutions, depending on what the needs are for the exchange, what kind of products they trade, what kind of functionality their members require.”

Acquisition Potential

The research and technology agreements could be a stepping stone to more involvement with the Ukrainian securities industry, he noted. “It is too early to say today, but if opportunities turn up we might also look into the possibility of ownership in exchanges in the Ukraine,” he said. “Technology is a good inroad into markets for us.”

Nasdaq is particularly interested in Eastern Europe, which is a “high-growth region, and it’s close to our home in the Nordic area, where we have our technology base,” said Hakansson. Nasdaq is also active in Russia, where the Moscow Interbank Currency Exchange–which in 2001 signed a memorandum of cooperation for infrastructure development with UICE–uses a Nasdaq OMX trading platform.

In January, prior to its merger with Nasdaq, OMX Group bought one of its customers in the region–the Armenian Stock Exchange–along with the Central Depository of Armenia. OMX had been working with Armenia’s central bank for more than a year to help develop the country’s securities industry.

Stephen Bruel, capital markets analyst at Needham, Mass.-based TowerGroup, said that “it makes sense for the exchange to look to these emerging markets as areas for growth. The expansion strategy will be both as technology sellers as well as advisers and, down the road, possibly purchasing parts of the exchange.” Both NYSE Euronext and Nasdaq are looking more like technology providers and less like processing platforms, noted Bruel.

For Ukraine, improved efficiency will help bring in more foreign investors. “Any time you improve the infrastructure on which you’re basing the capital markets, you make the market more appealing to more investors,” Bruel said. “Investors can be wary of accessing markets without strong exchange infrastructure. By being able to add that, it really helps mitigate some of the risks of trading in the market.” A brand-name technology platform like Nasdaq OMX will also make investors more likely to trade in Ukraine.

However, there are challenges that Ukraine cannot overcome by bolstering its technology. In a 2006 study for the U.S. Agency for International Development, Robert Smith, an international adviser on capital markets development, attributed the country’s liquidity problems to “corruption, inappropriate political intervention and concentration of ownership of privatized companies in the hands of Ukraine’s six major financial groups. This results in low market liquidity due to the low number of shares available for trading.”

The situation hasn’t changed much in the last two years. According to the World Bank’s Doing Business 2008 report, Ukraine’s “general business environment” placed 139 out of 178 countries surveyed. “Reforms are taking place in Ukraine but not at a pace sufficient to allow [it] to advance vis-a-vis the other economies with whom it is competing for investment and markets,” said Paul Bermingham, country director of Ukraine, Belarus and Moldova for the World Bank and author of the study. Ukraine ranked 141 in protecting investors.

Article originally appeared in Securities Industry News, which has since closed down.