Equities Trading Manual JSE TradElect and InfoWiz Systems

Transcription

1 JSE LIMITED Equities Trading Manual JSE TradElect and InfoWiz Systems March 2008 Contact : Ms. Emilie E.J. Olifant Tel Fax emilieo@jse.co.za

2 DISCLAIMER This booklet has been produced as a guide, at a given point of time and in an abbreviated form, to the more important provisions of the Securities Services Act, Rules and Directives of the JSE Limited and other related legislation to assist the broking community as well as membership examination candidates to understand the basic principles and practices of stockbroking and trading on the JSE Limited Given the compressed and dated nature of the contents of a document such as this it should not be construed as the JSE s full and official interpretation of the Act, Rules and Directives and other related legislation. The JSE Limited does not accept any responsibility or liability for any errors or omissions in the formulation of the answers to the questions given, nor for any consequential claims arising therefrom. Accordingly, the JSE Limited accepts no responsibility for any transactions or actions entered into as a result of the contents thereof. NOVEMBER

3 CONTENTS 1 Introduction to Equity 1.1 What is equity? 1.2 Purchasing and selling shares 1.3 Main types of shares 1.4 The financial structure of a company 1.5 Rights of Shareholders 2 The Functions of Stock Exchanges 2.1 Main functions of the stock market 2.2 Main roles of the stock exchange 2.3 Order-driven and quote-driven equity markets 3 Trading Structure, Functioning and Administration of the of the JSE Limited 3.1 A brief history of the stock exchanges in S. Africa 3.2 The Securities Services Act (SSA) 3.3 JSE Limited Trading Rules 3.3 Directive BT 3.4 Trading Methodology 3.5 Clearing and Settlement 4 JSE TradElect SYSTEM 5. A Glossary of Stock Market Terms 3

4 CHAPTER 1 INTRODUCTION TO EQUITY 1.1 What is equity? Equity is another name for shares. A share is a share of a business. When a share is purchased, the buyer becomes a part owner - a shareholder - of a business. Companies issue ordinary shares, or equities, and they represent the money that shareholders originally put into building up the business. If the company makes a profit, shareholders are entitled to a share of it - paid to them in the form of a dividend. Dividends can vary from year to year. Taking into account the overall size of the year s profits, the directors recommend how much money the company should keep in reserve for future expansion (i.e. retained earnings), and how much should be distributed to shareholders (i.e. dividends). When a company wishes to expand, it can do so in a number of ways. It may decide to use excess profits or retained earnings, but often this is impossible on economic grounds where expansion requirements exceed the retained earnings. Alternatively, the company can raise capital either by issuing bonds or shares. A company s basic resource is the stream of cash flow produced by its assets. If the company is financed entirely by common stock, all cash flow belongs effectively to the shareholders. When it issues both debt and equity securities, i.e. bonds and shares, it splits up the cash flow into two streams, a relatively safe stream that goes to the debt-holders (i.e. interest payments) and a more risky one that goes to the stockholders (i.e. dividend payments). The company s mix of different securities is known as its capital structure. When a company decides to raise capital by issuing shares, it can do so in a number of ways. This will be examined later in the workbook. Shares are also defined as a number of equal indivisible rights or interests in the management, profits and ultimately the assets of a company to those who own the shares, and are normally evidenced by a share certificate. This is a document furnished by the company, and, in particular, the transfer secretaries of the company, to the shareholder certifying details of his ownership of the shares. It is important to note here, that with STRATE and dematerialisation of share certificates in South Africa, the share registers of companies is electronic, with no share certificates being issued. This will not detract from shareholders rights, but rather reduce certain risks such as fraudulent share certificates. There are different classes of shares, namely: ordinary shares; preference shares; participating preference shares; convertible preference shares; redeemable preference shares; founders or deferred shares; and bearer shares; etc. 4

5 1.2 Purchasing and Selling Shares It is important to note that shares that trade on a stock exchange are referred to as listed shares, while unlisted shares do not trade on a stock exchange. Although there are different classes of shares, the most important by far are ordinary shares. Almost all equity investments focus on listed ordinary shares. Investors do not buy listed shares directly through the stock exchange, but through stockbroking firms, which are members of the stock exchange. When a potential investor approaches a stockbroking firm, the latter is likely to offer investment advice to the investor, as decisions need to be made about which shares to purchase and how much to invest. On instruction from the stockbroker, a dealer of the stockbroking firm will execute the order for the investor at the price agreed upon. Alternatively, the investor might impose certain price limits within which the dealer must buy the shares. In the case of a sale of shares, the investor informs the stockbroker to sell all or part of a share holding at the best possible price or within certain limits. Selling limits are usually set when the investor wishes to obtain a certain price for his shares, and where the investor is prepared to wait until this price is realised. Shares are owned either by private investors, corporate investors, or by institutional investors. Private investors are individuals who hold shares as a personal investment, such investors hold only a very small percentage of the shares listed on the JSE. Corporate investors refer to companies that hold shares in other companies, and in those cases where a company owns more than 50% of the ordinary shares of another company, the latter is referred to as a subsidiary company. Institutional investors on the JSE, who are dominant investors, comprise organisations that invest funds on behalf of others. The main examples are unit trusts, pension funds and insurance companies. Investors who actually own the shares are described as the beneficial owners, because they are entitled to the benefits of ownership. However, the shares may be registered either in the name of the beneficial owner or in the name of a nominee company. Some nominee companies are operated by stockbroking firms on the JSE, who hold shares owned by their clients. 1.3 Main types of shares Ordinary shares Ordinary shares (also known as common stock or equity) are the most important type, and ordinary shareholders have voting privileges, the right to receive dividends, and subscription privileges in the event of new shares being issued. When a company is first established, a certain number of shares will be authorised. They will have a par value, which in SA is typically a few cents. Shares that are authorised, but not issued, are called un-issued shares. Shares have an issue price, which can exceed the par value but cannot be less than the par value. All issued shares will remain outstanding unless the company repurchases them. Ordinary shares have no specific maturity date, no fixed income, are subject to price volatility and thus ordinary shareholders assume a greater risk than holders of preferred shares or debentures. Thus a company could have the following equity structure: 5

6 Issued and outstanding shares Un-issued shares Total authorised shares The par value of a share has no real significance, except in the event of insolvency. What is important, however, is the market value of the share Preferred shares Preferred shares are the other important class of shares and have many of the characteristics of bonds. In particular, preferred shares can offer a fixed dividend like bonds, but unlike ordinary shares. Preferred shares do not guarantee to deliver the dividend payment, and a preferred dividend need not be paid if the company s earnings are insufficient to fund it. In this event, preferred shareholders, unlike bondholders, do not have the right to have the company declared insolvent. Holders of preferred shares have the right to dividends before ordinary shareholders, thus if preferred shareholders do not receive dividends, then neither will ordinary shareholders. 1.4 The financial structure of a company Shareholders are residual claimants to the value of the company i.e. shareholders are the last in the queue in the event of the company becoming insolvent. Bondholders, on the other hand, have a prior claim on the company. They have a contractual relationship with the company, and as long as the contract is honoured they have no additional claim. They will only be interested in the company in so far as its activities and financial structure influence the risk class of the bonds. Shareholders, however, own the company and generally appoint managers to run it, and will want to ensure that the value of the company is maximised. Therefore they will be much more interested in the company and its structure. The appointed managers of the company will take the decision as to the mix of debt to equity when raising capital. Ordinary share capital is a major source of finance for all companies, which are listed on the JSE. It is, however, instructive to explain the main features of all the classes of share capital, which can be employed by a company, as well as the other main sources of capital. In a capitalist economy the risks and profits of a company are shared by the investors providing the finance in four main ways: a) The initiation of ordinary share capital and thus ordinary shareholders. Such investors bear the full risks of running the business and share in profits by way of a cash payment in the form of dividends only if profits are made, and only after all the other contributors of finance have been paid their allotted portion (i.e. they have control of the company). At worst ordinary shareholders can only lose the capital they have invested in the company due to the privilege of limited liability conferred on them. Each share usually entitles its owner to one vote on matters of company governance at the company s annual general meeting, and such shares have no specific maturity date. b) The second source of finance involves the information of preference share capital and thus preference shareholders. Such capital has the following distinguishing features: 6

7 Preference shareholders have prior but limited rights in the form of a fixed rate of dividend, which means they share in profits up to a fixed amount before the ordinary shareholders receive anything. Normally when preference shares are issued they carry preferential rights to repayment of capital vis-à-vis ordinary shareholders if the company goes into liquidation. A company can also issue different classes of preference shares such as cumulative and non-cumulative preference shares. In the case of cumulative preference shares the company is liable for paying any arrears in respect of preference dividends, which build up. There are also redeemable and irredeemable preference shares, where redeemable preference shares bear a fixed annual rate of dividend and are redeemable at the option of the company at a specified price on a specified date or over a specific period. Participating preference shares include not only a fixed normal rate of dividend, but also extra dividends over and above the normal rate, once the rate paid on ordinary shares reaches a given level. Participating preference shares are normally more expensive to buy than normal preference shares. Convertible preference shares are securities carrying a fixed annual rate of dividend as well as a right to exchange all, or part, of them for ordinary shares on previously specified terms at some date or dates in the future, bringing a degree of flexibility or optionality to this type of share. It is possible for preference shares in issue to have a combination of the above features. It is, for instance, possible for non-cumulative, participating convertible preference shares to exist. Such shares would have pre-determined dividends attached to them with the possibility of additional dividend payments if the profits and/or dividends on the ordinary shares reach certain levels. Such shares, however, would have preference dividends paid out which are non-cumulative, while the shares would be convertible into ordinary shares on previously specified terms at a specific date or dates in the future. (c) The third source of finance involves the issue of loans by the company through debentures and loan stock. Such capital involves a fixed rate of interest being attached to the loan, which represents debt owed by the company to the holders of the debt. If a company is liquidated, debenture holders have the first claim on the assets. Similarly, if the interest is not paid the debenture holders have the right of recourse to the law. And most debentures are secured by means of either a general charge on the assets of the company, or sometimes through a charge on specific assets. Unsecured or 'naked' debentures can also be issued. There are different classes of debentures: Redeemable and irredeemable debentures. Participating debentures. Convertible debentures. 7

8 (d) (e) The final source of finance involves, in a way, the avoidance of raising finance; this involves the renting of land or other durable capital goods in return for a fixed annual payment payable irrespective of whether profits are earned or not. This is generally known as lease financing which can take place in two ways. The company may simply enter an agreement to make use of another party's property by paying a rental. A company that already owns property may sell the property and then lease it back for its continued use (sale and leaseback). The some retail companies undertake such transactions Rights of shareholders Shareholders have rights that sometimes differ from bond or debt holders. They are as follows: Right to buy and sell shares If a shareholder desires to buy and sell shares, he or she can do so on the stock exchange or privately. The company or its duly appointed transfer agent traditionally a function fulfilled by transfer secretaries in SA - keeps a record of the individual share certificates Right to a dividend if declared by the board of directors When the company s directors declare dividends they can do so in the form of cash, additional shares or both Right to information Shareholders have the right to demand information about the company in which they hold shares (e.g. financial statements, etc) Pre-emptive rights The shareholder has the right to maintain his proportionate share of the assets, earnings, and control of the corporation, and would therefore have the pre-emptive right to take up the rights issue Voting Rights Shareholders have the right to select the board of directors and vote on fundamental changes in the corporation. 8

9 1.6 Exchange Benefits The Exchange ensures efficient, cost-effective and properly regulated trading by: Providing the structure and rules of the market; Regulating the day-to-day activities of the market; Supervising the conduct of member firms who deal in the markets; Providing a range of information services including up-to-date share prices; Providing announcements made by listed companies; and Providing a record of daily transactions in each company s shares 9

10 CHAPTER 2 THE FUNCTIONS OF STOCK EXCHANGES Simply stated the JSE Limited (JSE), like any other stock exchange, is a market where ordinary shares and other securities, which are issued by companies and listed by the JSE, are traded. Every company has ordinary shares which are held by the shareholders. The latter are the true owners of a company who are entitled to the balance of the income of the company after all expenses have been met. Moreover, if a company is subject to liquidation, the ordinary shareholders are entitled to the balance of the assets of the company after all debts have been repaid. Ordinary shares traded on stock exchanges are also often referred to as equity shares or equities, while in the United States ordinary shares are known as common stock. 2.1 Main functions of the Stock Market A distinction must be drawn between the primary and secondary markets, and this is explained below. In the primary market new issues of shares take place by means of new listings of companies and through rights issues by existing companies quoted on the Exchange. In contrast, in the secondary market the buying and selling of existing shares takes place. Transactions in the primary market therefore affect the size of the equity pool, unlike transactions in the secondary market, which do not affect the number of shares in issue which are traded on the JSE. Raising capital - primary market Trading - secondary market Primary Market The primary market is where new capital raised through the issue of new shares. Companies can raise capital both at the time of going to the market and subsequently by issuing further shares. In South Africa, a new issue is defined as the introduction or sale to the public by a company of a block of shares not previously quoted on the stock exchange (Initial Public Offer). If a company does not already have shares quoted on the JSE Limited and its shares are being sold to the public for the first time, the issue is called a flotation, and can only be done in terms of certain requirements such as an approved prospectus (Approved by the Registrar of Companies). Initial public offerings done through the JSE are also subject to the JSE s requirements and involve an offer for subscription. Usually, the initial distribution of shares is done through an underwriter. The underwriters (e.g. investment bankers) contract with the issuer to purchase and issue securities directly for the company at a specific price. This assures the company (the issuer) that it will raise the required funds. The underwriter then publicly distributes the shares at a slightly higher price. If successful, the underwriter earns the mark-up profits (premium). If unsuccessful, the underwriter takes up the shares not subscribed to by the public. This is also referred to as an offer for sale. An offer for subscription is an offer of new shares made on behalf of the issuer by an intermediary acting as an agent. The company s shares are offered to the public who subscribe for a number of shares by completing an application form contained in the prospectus. Offers for subscription or offers for sale can be made in one of three ways: 10

11 A fixed price offer In this method, the issuing company in conjunction with the issuing house predetermines the price of the share. Some companies may deliberately price new issues slightly below anticipated market value so as to ensure a buoyant after-market. A tender offer Applicants have to state both the number of shares they want and the price they are prepared to pay for them. Usually a minimum price will be stated below which applications will not be accepted. Once all applications are received, the tendered prices and quantities are assessed and a strike price is fixed. Applicants who have applied at that price or higher are allotted shares and pay for them at the strike price. A placing A placing is a cheaper, more discreet way for companies to raise capital or to sell existing blocks of shares. A placing is really the selective marketing of shares. If there are only a few shares being issued, a placing may be the only practical method. In a placing, the company and its sponsor (usually a merchant bank), fixes a price for the shares that are to be placed with selected clients or investors (usually institutions). Rights issues Companies can raise additional capital by issuing new shares to existing shareholders in proportion to their existing holdings through rights offerings. All existing shareholders have the right to purchase these new shares at a set price, or they can sell their rights in the market if they do not wish to buy the new shares themselves Secondary Market The secondary market is the market in which existing securities are subsequently traded. In the primary market the initial price of the security is set rather than determined by the market. The prices of securities in the secondary market are determined by the market participants through supply and demand. We will look at how market prices are determined later in the workbook. The secondary market in listed shares is conducted through the JSE TradElect system. The JSE broking firm s display their bids and offers on the SETS system. Critical role of the secondary market To function successfully, the primary market relies on the liquidity provided by the secondary market. Investors would hesitate to buy securities in the primary market if they felt they would not be able to sell them quickly at a known price in the secondary market. Secondary markets are also important to issuing companies because the prevailing market price of their shares is determined by action in the secondary market and any new issue will be priced in line with that market price. 11

12 2.2 Main roles of the Stock Exchange Due to the distinction between the primary and secondary markets, two main roles for a stock exchange can be identified. Firstly, the exchange is a channel where new capital can be raised by companies for production purposes. Secondly, it provides a market where securities can be readily traded in a regulated environment. This type of market is indispensable in any economic system that is based on private property rights and the existence of ordinary shares. The existence of a stock exchange can then be justified on the basis of the following functions that it performs: a) Channelling savings into investments undertaken by companies, i.e. the creation of capital resources and their allocation between the various competing investment opportunities. b) Providing investment liquidity for investors, i.e. the conversion of investment into cash. c) Acting as a barometer for the management of listed companies. Each of these functions will now be explained separately in greater detail Channelling of Savings into Investments Capital resources, combined with other production factors such as human enterprise, determine the quantity and quality of a country s output. Among the decisions that have to be taken in an economy, few are more vital than those concerned with the allocation of a country s capital resources. A prerequisite for the efficient allocation of capital resources will be efficient allocation of corporate equity funds. A prime source of information to companies about the availability and cost of equity capital is the stock market. Companies seeking funds for expansion are able to make relatively enlightened investment decisions by analysing the conditions prevailing on the stock market. Companies that are regarded as having favourable growth potential will have high share prices in relation to earnings, and are encouraged to obtain further capital from the market by issuing new shares. Those companies that are judged to have relatively poor growth potential generally have depressed share prices and less incentive to obtain additional funds through this medium. A further function performed by the market is that it frequently provides the basis for the terms and conditions that prevail in the new issues market when new shares are issued by companies. The Stock Exchange not only channels funds into the economy, but also provides investors with returns on investments in the form of dividends and capital gains Providing Investment Liquidity Although the stock market provides an effective mechanism for the mobilisation of savings, this in itself is not sufficient. The stock market must also be able to reconcile the conflicting requirements (and psychologies) of the investor or entrepreneur and the saver. This conflict arises because saving and investment are often carried out for different reasons by different individuals. The entrepreneur requires funds for long-term investment in productive assets such as plant and machinery. Savers, on the other hand, prefer to keep their savings in a more liquid form. They wish to have these funds available when needed. An example will illustrate this point. Suppose a company wishes to expand its production plant and plans to finance this through a 20-year debenture issue. In this case it would be 12

13 forced to rely on individuals and institutions prepared to make an irrevocable 20-year investment. Such investment finance should be in short supply and consequently very expensive. However, should an efficient securities market exist for such debentures, the company would be able to obtain the funds from shorter-term investors. That is, it would obtain funds from individuals and institutions who had no intention of becoming long-term investors. When they wished to liquidate their holdings, they would sell their securities to other short-term investors. The stock market thus provides the short-term investor with liquidity and is able to channel these short-term funds to long-term employment, providing the economy with an entirely new method of coping with the problem of scarce resources. In addition, the ruling market price of a share provides investors with an evaluation of the financial health and prospects of a company as seen by the market as a whole. They are therefore able to monitor their investment holdings and, if they so desire, liquidate them (often within minutes of instructing their stockbrokers) and reinvest in existing securities or in new listings or issues. In this way, the short-term investors enable the economy to finance long-term investments in capital goods with savings that are essentially short term in nature. Acting as a barometer for the management of listed companies Acting as a Barometer for the Management of Listed Companies Companies monitor their share prices, and are not indifferent to movements in these prices. This concern on the part of management supports the theory that the market evaluates and appraises the performance of management. Management will generally seek a steady and dependable rise in share prices over time and will be motivated to avoid reductions in share prices. If the market is able to value the companies listed in such a way as to approximate closely the value of future earnings and the expected efficiency of company operations, then the market will be able to exert considerable influence on the company. Even if the company relies solely upon internally generated funds for its expansion and does not make use of the market as a source of capital, it will nevertheless be concerned about its evaluation by the market. The stock market not only supplies the information necessary for individuals, institutions and companies to make investment decisions, but also provides the economic system with a method of recourse against companies that are unable to meet the market s requirements, in that they will most probably find that their share prices weaken. 2.3 Order-driven and quote-driven equity markets Stock exchanges can be classified in terms of the underlying pricing systems that they use. They can use either: The order-driven (or auction-driven) pricing system; The quote-driven pricing system; or A combination of the two. 13

14 2.3.1 The order-driven pricing system The JSE uses a system where the market opens and closes with an auction and where continuous order driven trading takes place during the day. The advantages of an order-driven market are: Cheap for market users (no price spread to be paid); Works well for illiquid markets; and Cheaper to supervise than quote-driven markets. The disadvantages of an order-driven market are: Open to price manipulation by major players; No continuous price quotation; and Prices to be established during the auction not known beforehand to the investor The quote-driven pricing system In a quote-driven market the price of securities can change throughout the day as buying and selling prices are quoted continuously. A quote-driven market is potentially more expensive for the investor than an order-driven market; because the price spread paid to traders constitutes an additional expense for investors (this is usually more than compensated for with the better price discovery). The advantages of a quote-driven market are: Better price discovery; Continuous trading throughout the day (which is a major competitive advantage in comparison with other exchanges trading under the order-driven system; and The promotion of liquidity in the market. 14

15 The disadvantages of a quote-driven market are: Expensive to operate (market makers have to be paid for their services); Extensive rule book to provide protection to investors; and Less tradable shares tend to become even less tradable as market makers are reluctant to make price commitments (or spreads become excessive) 15

16 CHAPTER 3 THE STRUCTURE, FUNCTIONING AND ADMINISTRATION OF THE JSE LIMITED SOUTH AFRICA 3.1 A brief history of the Stock Exchanges in South Africa The JSE Limited South Africa (JSE) is currently the only stock exchange in South Africa and facilitates trade in the listed shares of South African companies. Historically, there have been several stock exchanges in South Africa. The first recorded share dealings in South Africa took place in Cape Town in In 1881, the Kimberley Royal Stock Exchange was formed following the discovery of diamonds in Kimberley. This market closed in 1890 soon after the establishment of the Witwatersrand Club and Exchange Company in February In 1887, the Johannesburg Stock Exchange (JSE) was established. This was roughly 14 months after the discovery of rich gold deposits on the Reef. At the time, gold mining shares dominated trading on the JSE, with industrial shares were virtually nonexistent due to the lack of industrial development in the country. In 1903, the JSE moved to Hollard Street, Johannesburg, which became the financial centre of Johannesburg for more than half a century. In 1933, the Union Exchange was formed in Johannesburg to trade in smaller company shares. This market existed side by side with the JSE, and remained active until 1958 when it was closed, and its listed companies were transferred to the JSE. In 1963, the JSE was admitted as a member of the International Federation of Stock Exchanges. From the late 1930s onwards, the South African economy enjoyed industrial growth resulting in a greater number of industrial companies obtaining listings on the JSE. In 1932, 151 companies (mining, financial and industrial) were listed, and by September 1998 this had grown to 659. In 1978, the JSE moved from Hollard Street to Diagonal Street, Johannesburg. During the 1980s, the JSE entered a growth phase with a mushrooming of new listings, which resulted in two new categories of shares being listed. One category was known as the Development Capital Market (DCM) which catered for smaller companies, and laid down less demanding listing requirements as regards minimum profits and company size. The better performing companies in this category moved in time to the main listings board. The other category was the Venture Capital Market (VCM), which accepted companies undertaking greenfield ventures (i.e. new companies without a profit history) subject to certain requirements. From its inception right through until June 1996, the trading structure of the JSE was based on floor trading (i.e. open outcry). In 1996, a new era of high-tech computer trading replaced the open outcry (i.e. Automated Trading System ATS). The JSE ATS, known as JET (Johannesburg Equities Trading system), was phased in over several months. On 13 May 2002 the JET System was replaced by the JSE SETS Trading System. On 2 April 2007, JSE SETS was replaced by JSE TradElect which introduced additional functionality. 16

17 In the latter part of 2000, the JSE moved its offices to Gwen Lane, Sandton and changed its name to the JSE Securities Exchange, South Africa. In order to increase the efficiency of the Exchange against the background of a global environment that is becoming more and more competitive, The JSE decided to demutualise and became a listed company on 5 June The JSE was concerned about the prospect that other stock exchanges around the world competing with it to take away trading volumes. By demutualising and becoming a listed company, the JSE is in a better position to develop and improve its services to counteract the competition threat, since it is able to issue new shares to investors to raise money. If a stock exchange is to operate successfully, investors must have confiddence in its integrity to the extent that: They can deal at genuine and fair prices; and The market is not manipulated to their disadvantage. This confidence only comes when the stock exchange operates within a proper regulatory framework that is adhered to by all market participants, and which is rigorously enforced by the appropriate regulatory authorities. Any market which is perceived to be poorly regulated will, in particular, find it difficult to attract foreign investors. Following the South African tradition, the regulatory framework of the JSE has been based on self-regulation since its inception more than a hundred years ago. Legislation relating to the JSE has, in general, sought to protect the interests of the general public in buying and selling shares without unduly infringing upon self regulation, such legislation being embodied in the Securities Services Act, Act 36 of The Securities Services Act The JSE is governed broadly by the Securities Services Act (SSA) of 2004, which has been amended several times. The SSA, which is administered by the Financial Services Board (FSB), lays down certain rules that govern the activities of the JSE. The SSA requires that the exchange draft a rulebook, which must be approved by the FSB, that addresses issues such as the capital and certain other requirements for membership of the Exchange, the type of books of account that must be kept by a stockbroker, provisions in respect of minimum cover, the time allowed for the payment of share purchases and for the delivery of shares, and the conditions under which short (or bear) sales may be executed. The SSA also calls for broking firms to submit annual audited financial statements to the JSE. The SSA also states that a representative of the FSB is entitled to attend any meeting of any JSE Committee, and specifies the requirements for the formation of a stock exchange. Although there is only one stock exchange in South Africa, the Securities Services Act (2004) allows for the existence and operation of more than one exchange. Each year, the JSE must apply to the Licencing Committee of the FSB for an operating licence for the coming year. 17

18 3.3 The JSE's Rules and Directives for JSE TRADELECT 1. - INTERPRETATIONS AND DEFINITIONS act means the Securities Services Act, 2004 (Act No. 36 of 2004) and any measure prescribed thereunder by the Minister of Finance or the Registrar; "after hours" means before the opening auction call period and after the end of the closing auction call period and any extensions thereto and any other time that the equities market is halted or closed; application program interface means the electronic protocol and message structure used to provide a mechanism for a Member Trading Application to communicate with the JSE trading system; "asset swap" means a transaction which complies with all the asset swap requirements of the South African Reserve Bank; "auction call period" means a period of time, during which orders for inclusion in an auction can be entered into and deleted from the order book and there is no automated trading; "auction matching" means the process of matching buy and sell orders according to a matching algorithm at the end of an auction call period; "auction price" means the price of transactions resulting from auction matching; "auction trade" means a transaction matched automatically in the JSE trading system during auction matching; "automated trade" means a transaction matched automatically in the JSE trading system during continuous trading; "block trade" means a transaction where a broking member (equities) trades as an agent or principal in a single security where the transaction:- has a minimum value of R5 million; andcomprises at least 20 times exchange market size; business day means any day except a Saturday, Sunday, public holiday or any other day on which the JSE is closed; buyer means, in relation to the settlement of transactions, the buying member; central order book means the order book of the JSE equities trading system in which automated trades occur according to price then time priority; Chief Executive Officer means the person appointed by the Board as the Chief Executive Officer in terms of the Constitution of the JSE; client has the same meaning as that contained in Section 1 of the Act; compliance officer means the person appointed by a member in terms of the rules to assist the board of directors of the member in ensuring compliance by the member with the Act, the rules and the directives; "contra trade" means a transaction to correct an erroneous central order book trade that is equal and opposite to that trade and which is entered on the same business day as the original trade; 18

19 controlled client means a client or an account holder on whose behalf a client is acting, whose funds and uncertificated equity securities are under the control of a CSP or whose settlements take place via the CSDP of a member; corporate action means an action, taken by an issuer or any other entity or third party, which affects the registered owner and the beneficial owner of equity securities in terms of an entitlement; "corporate finance transaction" means a transaction which: - must be entered into in writing; - requires public notification in the press; and - complies with the requirements of transaction categories 1 or 2 or 3 of Section 9 of the Listing Requirements of the JSE; CSDP means a central securities depository participant that has been accepted by a central securities depository as a participant in that central securities depository; CSP means a custody services provider; delta trade means a transaction where a member trades as a principal with another member in a single equity security where the transaction transfers the delta hedge from one member to another member in respect of a derivative transaction which has been reported to either the JSE derivatives trading system or the derivatives trade recording system referred to in the directives; direct market access means the process whereby an order is received electronically by a TSP from a client and then submitted electronically to the JSE equities trading system by means of an order entry application operated by the TSP without the intervention of a registered securities trader; employee means an individual engaged by a member whose function relates to the provision of regulated services; equity securities means those JSE listed securities traded on the JSE equities trading system; "exchange market size" means a quantity of a security as specified by the Market Controller from time to time; "fill or kill" means an order submitted to the order book which may only execute in full against eligible orders or otherwise is cancelled; foreign client means a client who does not reside in the Republic; "foreign professional market participant" means a person who does not reside in the Republic and whose regular business is the buying and selling of securities; in writing has the same meaning as that contained in section 1 of the Act; issuer means any company, any class of whose securities has been admitted, or is the subject of an application for admission, in terms of the Listing Requirements; JSE means JSE Limited, a company duly registered and incorporated with limited liability under the company laws of the Republic; licensed to operate and exchange under the Act; "JSE systems" means any system, device or network which is operated by or on behalf of the JSE for the purpose of providing an equities market; JSE equities trading system means the computer system or systems and associated network or networks operated or used by the JSE for the purpose of providing a market for the trading of equity securities; 19

20 JSE Executive means the Chief Executive Officer and such other officials of the JSE as the Chief Executive Officer and Chairman of the controlling body may from time to time designate; JSE listed securities means those listed securities included in the list of securities kept by the JSE; "late trade" means a transaction where a member trades after hours with a professional market participant, as agent or principal, in fulfilment of - - an order already entered into the JSE equities trading system which reflects a reasonable price at which a client wishes to trade; - an order received prior to the end of the closing auction call period, the price of which could only be established after the closing auction call period; or - an order received after hours; listed securities has the same meaning as that contained in section 1 of the Act; "limit order" means an order submitted to the order book, which is held on the order book and may execute either in full or in part against eligible orders; market controller means the person appointed by the JSE to supervise, administer and control the daily operations of the JSE equities trading system; "market order" means an order submitted to the order book during an auction call period with no price limit, which is held on the order book and may execute either in full or in part against eligible orders, at the price of a new order entered into the order book or at the reference price; "market order extension period" means an extension to an auction call period which occurs when there would be unexecuted market orders on the order book following auction matching; member means an equities member, which is a category of authorised user admitted to membership of the JSE under these rules; member trading application means any system, software or program operated by a member which submits data to and receives data from the JSE equities trading system; non-controlled client means a client or an account holder on whose behalf a client is acting, who has appointed his own CSDP to settle transactions in equity securities on his behalf; "off order book principal trade" means a transaction where a broking member (equities) trades as a principal in a single security where the transaction: - has a minimum value of R500,000; and - comprises at least six times the exchange market size; except where the transaction is with a foreign professional market participant in which case no minimum value or quantity of securities will apply; "order book" means the order book operated by the JSE in which automated trades occur according to price then time priority; "order" means an instruction from a client to buy or sell equity securities or an instruction to amend or cancel a prior instruction to buy or sell equity securities; "order entry application" means any system, software or program operated by a broking member which facilitates electronic submission of orders to a member trading application and which complies with such requirements as the JSE may from time to time prescribe in the directives; 20

21 "portfolio transaction or portfolio trade" means a transaction where a member trades as agent or principal in a list of investments which - has a minimum value of R15 million; and - comprises at least 10 different securities none of which exceeds 25% of the total value of the portfolio; "post contra trade" means a transaction to correct an erroneous central order book trade that is equal and opposite to that trade and which is entered on the business day following the original trade; pre-issued trading means transactions effected in pre-issued securities in accordance with these rules; pre-issued securities means entitlements to securities the listing of which on the JSE has been approved but where the listing becomes effective only after a number of conditions have been fulfilled on or before the commencement date of official trading. "price monitoring extension period" means an extension to an auction call period which occurs when the indicative auction price is a specified percentage or more away from the reference price; "professional market participant" means a financial services provider licensed in terms of section 8 of the FAIS Act; "publication" means in relation to a transaction, the disclosure of the price and quantity of equity securities traded; "reference price" means the last auction or automated trade price, whichever is the most recent, or in the absence of a last auction and automated trade price, a price as determined by the JSE; registered securities trader means an employee of a member registered with the JSE and who is authorised by such member to enter and execute orders through, and report trades to, the JSE equities trading system on behalf of such member; "reported transactions" means a transaction executed off the central and reported to the JSE equities trading system by a member; reported transaction correction means a cancellation of a previously reported transaction; securities has the same meaning as that contained in section 1 of the Act; shares see securities; stockbroker has the same meaning as that contained in section 1 of the Act; trade date means, in respect of a transaction in uncertificated securities, the date reflected as such on the contract note or an electronic confirmation thereof; "traded option" means an option on a security, traded on the JSE; trading services means the execution of transaction in equities securities by a member (a) for the member s own account; and (b) with or on behalf of a client trading services provider means a member which has been authorised by the JSE to perform trading services in terms of the rules; 21

22 transaction has the same meaning as that contained in section 1 of the Act; TSP means a trading services provider; uncertificated securities means equity securities that are not evidenced by a certificate or written instrument and are transferable by book entry without a written instrument; "volatility auction period" means the auction call period which occurs during automated trading when an order is entered that would execute at a price that is a percentage, as specified by the JSE Executive from time to time, or more away from the reference price; "warrant" means a warrant as defined in the Listing Requirements of the JSE. 2. Trading rules for JSE TradElect Securities 6.10 Use of the JSE equities trading system All transactions in equity securities by a member must only be conducted through the central order book of the JSE equities trading system, unless otherwise stipulated in the rules or directives A person who seeks to be registered with the JSE as a registered securities trader must satisfy the fit and proper requirements of rule 4.10 and must have obtained a pass in the registered securities trader examination prescribed by the JSE The Market Controller and any one member of the JSE Executive may decide that the market in equity securities be closed if they are of the opinion that a fair and realistic market does not exist. A fair and realist market may be deemed not to exist after consideration of the percentage of members not able to access the JSE systems and their contribution to price formation Despite any other provision of the rules or any directive and subject to rule 2.10, the JSE Executive may reduce or extend the hours of operation of the JSE equities trading system for any particular business day; without prior notice to any person, halt or close the JSE equities trading system for trading at any time and for any period; if there has been any failure of the JSE systems, for any reason, or if JSE systems have been closed, suspended or halted, declare that a transaction effected through or by the JSE equities trading system is void. Such declaration shall bind a member and a client of a member on behalf of or with whom the transaction was effected; exercise such further powers and take such further action as may be exercised or taken by the JSE in terms of the rules and directives, and as may be necessary to resolve any issue which may arise from the closure, suspension, halt or failure eof the JSE systems; and take such other steps as may be necessary to ensure an orderly market Each equity security is allocated to a segment and functional sector based on trading characteristics. These trading characteristics include volatility, liquidity, price and country of issue members accessing JSE systems must at all times 22

23 maintain and enforce appropriate security procedures which are designed o prevent unauthorised persons from having access to any JSE systems, member trading applications or client applications; and have the necessary resources to ensure that any data sent to or received from JSE systems does not interfere with the efficiency and integrity of the equities market or the proper functioning of the JSE systems The Market Controller may instruct a member to immediately discontinue using a member or client application or may restrict the usage by a member of any or all components of a member or client application Trading Capacity, Trading Periods and Times The JSE equities trading system will operate on every business day according to the following standard periods and times: market opening period 08h30 to 08h35; opening auction call period: 08h35 to 09h00; automated trading period: 09h00 to 16h50; closing auction call period: 16h50 to 17h00; runoff period: 17h00 to 18h00; system close: 18h00; intra-day auction call period for selected securities: 12h00 to 12h Additional periods may occur under certain market conditions. These periods include: volatility auction period; market order extension period; price monitoring extension period; where up to a maximum of two of the auction extension periods referred to in and may occur after any auction call period except for after a closing auction period when there may be up to a maximum of three. In this event, the closing auction period will be extended Orders submitted to the JSE trading system must specify the capacity in which the member is dealing, namely as principal or as agent Reported Transactions Reported transactions do not have to be executed through the order book. The following transactions may validly be reported by the selling member to the JSE trading system block trades (BT); asset swaps (AS); corporate finance transactions (CF); portfolio transactions (PF); late trades (LT); 23

24 exercise of warrants (WX); exercise of traded options (TX); exercise of options (OX); off order book principal trades (OP); contra trades (CT); post contra trades (PC); transaction corrections; and delta trades (OD) Reported transactions if conducted during trading hours, must immediately be reported by the member to the JSE equities trading system. Where members are involved in the transaction, the selling member must report the transaction; if conducted after trading hours, must be reported to the JSE equities trading system on the next business day within 15 minutes of the commencement of the market opening period; and are immediately published unless otherwise stated, except for exercise of options, exercise of warrants, exercise of traded options and delta trades, which are not published A block trade is a reported transaction where a member trades as agent or principal in a single equity security and the transaction has a minimum value of R5 million; and comprises at least twenty times exchange market size An asset swap is a reported transaction which complies with all the asset swap requirements of the South African Reserve Bank A corporate finance transaction is a reported transaction which must be entered into in writing; requires public notification in the press; and complies with the requirements of transaction categories 1,2 or 3 of Section 9 of the Listing Requirements of the JSE A portfolio transaction is a reported transaction where a member trades as agent or principal in a list of equity securities which has minimum value of R15 million; and comprises at least 10 different equity securities none of which exceeds 25% of the total value of the portfolio A late trade is a reported transaction where a member trades after trading hours and where the transaction is executed by a member acting on behalf of a client, in fulfilment of an order already entered into the JSE equities trading system, and where either the buyer or the seller is a foreign professional market participant; or executed by a member for a professional market participant, in fulfilment of an order received prior to the end of the closing auction call period, at a price which can only be established after the closing auction call period; or 24

25 executed by a member for or on behalf of a professional market participant, in fulfilment of an order received after trading hours, where the buyer or the seller is a foreign professional market participant A delta trade is a transaction where a member trades as a principal with another member, who also trades as a principal, in a single equity security where the transaction transfers the delta hedge from one member to another member in respect of a derivative transaction which has been reported to either the JSE derivatives trading system or the derivatives trade recording system referred to in the directives Off Order Book Principal Trades An off order book principal trade is a transaction where a member trades as a principal in a single equity security where the transaction has a minimum value of R ; comprises at least six times the exchange market size; except where the transaction is with a foreign professional market participant in which case no minimum value or quantity of equity securities will apply The details of an off order book principal trade may be delayed for publication until the earlier of % of the risk profile of the transaction having been unwound, in which case the details of the transaction must be immediately released for publication by the member; or the following business day Trade Corrections Despite any other provision of the rules or any directive, the Director: Surveillance may, where in his opinion a trade has been matched as a result of a clear error by a member or reported in error, grant permission to or instruct the respective members to execute a contra trade, a post contra trade or a reported transaction correction Contra and post contra trades may only be considered in exceptional circumstances and if the trade meets at least the following requirements the request is received by the Director: Surveillance within 20 minutes from the time of the erroneous trade; and the price of the trade or trades for which the contra trade is requested is 5% or more away from the reference price immediately before the erroneous trade occurred, and the difference between the aggregate value of the trades that qualify in terms of and the value that would have resulted had such trades been executed at the reference price is R or more; or the quantity of shares traded exceeds 5% of the issued share capital of the equity security in issue If, in the opinion of the Director: Surveillance, an automated trade, auction trade or reported transaction materially impacts the integrity or transparency of the market, or the correctness of the statistics, the Director: Surveillance may instruct members to enter a contra or a post contra trade or perform a reported transaction correction without having received a formal request to do so from any member. 25

26 6.60 Pre-issued trading A member may only execute transactions in pre-issued securities during the period permitted by the JSE If the listing in respect of which pre-issued trading has been approved commences, all transactions effected during the period of the pre-issued trading will settle on the same terms as all other transactions in equity securities If the listing does not commence on the intended commencement date of official trading, every transaction effected under this rule will be void ab initio and neither the member nor a client will have recourse against the JSE or a member, as the case may be, in respect of such transactions Unreasonable transactions Where, from a lack of clarity in the published information available at the time of the transaction, a member deals in a quantity or at a price which in the opinion of the Director: Surveillance is unreasonable, the Director: Surveillance may declare such transaction void. Such declaration shall be binding on the members who entered into such transaction and on the clients for or on whose behalf the transaction was executed Trading halt The Director: Surveillance or his deputy, in conjunction with the Chief Executive Officer or acting chief Executive Officer or, failing the Chief Executive Office or acting Chief Executive Officer, the Director: Issuer Services, may declare a trading halt in an equity security in circumstances where the Director: Surveillance determines that the trading activity in an equity security is being or could be undertaken by persons possessing unpublished pricesensitive information that relates to that security; is being influenced by a manipulative or deceptive trading practice; or may otherwise give rise to an artificial price for that equity security No member may trade that equity security for the duration of the trading halt but may delete orders from the central order book. 26

27 3.4 Directive BT The words defined in the Rules will, if not inconsistent with the subject or content and unless they are defined in this directive, bear the same meaning in this directive. 1. A TSP is responsible for identifying the origin and the accuracy, integrity, and bona fides of all data submitted to JSE systems by or on behalf of that TSP. Any information received by JSE systems is deemed for all purposes under the rules and directives to have been submitted to JSE systems by, and with the knowledge of the TSP. 2. Data from or submitted on behalf of a TSP may only be submitted to the JSE equities trading system in a manner approved by the JSE. 3. A member may only access and utilise JSE systems with the required approval of the Market Controller and subject to such instructions as may be issued by the Market Controller. 4. In order to utilise the services of, and access JSE systems, a TSP must: 4.1 enter into and sign such agreements; and 4.2 adhere to such requirements and specifications of such agreements, as may be prescribed by the JSE Executive from time to time. 5. The JSE or its agent may conduct an audit of compliance by the TSP with such requirements as have been prescribed by the JSE from time to time and the TSP must assist any representative of the JSE appointed to conduct such audit. 6.1 An order submitted to the JSE equities trading system must at least contain the following detail: capacity (agent or principal); client account reference number to which any associated trades will be booked; institutional identification number (where applicable);; quantity of securities; ISIN code; JSE Alpha code; Trader group; Trader identification number; and such other information as determined by the Market Controller from time to time. 6.2 The only valid order types to be submitted to the JSE trading system are limit; and market. 6.3 A market order type may only be entered into the JSE trading system in an auction call period. 27

28 6.4 Market orders which are not matched at the end of an auction call period will automatically be expired. 7.1 A TSP seeking permission for a contra or post contra trade or transaction correction must subject to rule , immediately upon becoming aware of the erroneous trade, request permission from the Director: Surveillance to correct the trade by informing him of the original trade giving details of such trade and the circumstances or reasons which resulted in the original trade; and within 20 minutes confirm these details in writing. 7.2 The Director: Surveillance shall, upon receipt of the written request, without delay, either accept or decline the request. 7.3 within 5 minutes of permission being granted, one of the following actions must be taken; in respect of an automated or auction trade matched on the current business day, a contra trade must be entered into the JSE trading system by a TSP designated by the Director: Surveillance; or in respect of an automated or auction trade matched on the previous business day, a post contra trade must be reported to the JSE trading system by a TSP designated by the Director: Surveillance. 7.4 Where a TSP has to correct a reported transaction that was reported on the current business day or the previous business day, the broking member (equities) must advise the Director: Surveillance and a transaction correction must be sent to the JSE trading system by that TSP. Where the correction is in respect of a two-member reported transaction the originator of the report must send the transaction correction. 7.5 Where a TSP requests permission to correct a trade for a contra, post contra or transaction correction and such request fails to meet the criteria described in , the TSP will be liable for payment of an administration fee of R2, Whenever a contra, post contra or transaction correction is executed, the TSP responsible for the error that gave rise to the correction will be liable for payment of an administration fee of R10,000. The TSP who requested the contr4a trade or post contra trade must compensate the opposite TSP, who in turn must compensate its client, for any damages suffered due to the loss of price/time priority. The Director: Surveillance will, on request, determine the amount of compensation. 7.7 A TSP may appeal to the JSE against a ruling given in terms of subject to the appeal being lodged with the Director: Surveillance before 12h00 on the business day following the ruling; the payment of a fee of R2000 which, at the discretion of the JSE, may be refundable in whole or in part. 28

29 8. In managing orders received from clients and submitting such orders to the JSE equties trading system, as well as in submitting proprietary orders to the JSE equities trading system, a TSP must meet the following objectives, in addition to ay other requirements in the rules and directives relating to the submittion of orders to the JSE equities trading system: 8.1 Avoidance of erroneous orders The TSP must implement appropriate procedures to ensure that orders are not submitted to the JSE equities trading system or left5 open in the JSE equities trading system where such orders could result in erroneous trades. 8.2 Settlement assurance The TSP must implement appropriate procedures to ensure, prior to submitting a client or proprietary order to the JSE equities trading sytem, that it has the capacity to settle trades resultin gfrom such orders on the settlement date, and that all such trades will not adversely affect the TSP s ability to meet its financial resources requirements as set out in the rules and directives. 9. A TSP shall not operate an Order Entry Application ( OEA ) that provides Direct Market Access ( DMA ) without the prior written approval of the JSE. The approval when granted will be for the use of an OEA by the member to facilitate the electronic submission of orders by controlled clients or non-controlled clients, or both, and shall be on the condition tha the member ensures at all times tha the OEA meets the key objecties set out in BT10. The JSE may at any time review and withdraw such approval. 10. A member applying to operate an OEA that provides DMA must be able to demonstrate, to the satisfaction of the JSE, that the OEA meets all of the following key objectives: 10.1 Avoidance of Erroneous Orders and Manipulative Practices The OEA must ensure that orders are not submitted to the JSE equities trading system or left open in the JSE equities trading system where such orders could result in erroneous trades, a false appearance of trading activitiy or an artificial price for a security Management of Order Limits and Order Types Adequate controls should be implemented to ensure that orders are within the normal trading aptterns of the relevant clients. The OEA should also be able to limit the life of an order and be able to control each, of the relevant order types Settlement Assurance The OEA must be able to verify, before submitting any orders to the JSE equities trading system, the capacity of the client to settle trades resulting from orders processed via the application, through the use of appropriate exposure limits for non-controlled clients and checks on availability of funds and securities for controlled clients Adherence to Trading Phases The OEA must be able to detect and react to the various JSE defined period schedules 10.5 Maintenance of Audit Trails The OEA must be able to identify the source of all order details submitted to the JSE equities trading system and must ensure and be able to evidence the maintenance of the integrity of the order details from the receipt thereof by the member to the submission of the order to the JSE equities trading system Adherence to JSE Rules and Directives 29

30 All orders submitted to the JSE equities trading system by the OEA and the trades resulting from those orders must comply with the requirements of the rules and directives Adherence to security and technical requirements The technical specifications of the OEA must comply with the JSE Users Specification Documentation and must ensure that the operation of the applictaion will not adversely impact the operation of the market. Access to the application software and the data utilised by that software must be strictly controlled to prevent undue manipulation. An application to the JSE to operate an OEA that provides DMA shall be in the form prescribed by the JSE from time to time. 11. The JSE may from time to time request such information from a TSP as the JSE deesm necessary to monitor the usage by members and their clients of OEAs that provide DMA and to assess the effectiveness of the measures implemented by the member to control the use of such applications on an ongoing basis. 12. A TSP that operates or intends to operate a member trading application or any other system without the intervention 3.5 Clearing and Settlement What is STRATE? STRATE is the approved Central Securities Depository (CSD) for equities in South Africa. STRATE is also an electronic settlement system that is changing the face of the South African securities industry. STRATE achieves secure, electronic settlement of share transactions on the JSE and for offmarket trades. Shares in companies listed on the JSE can no longer be bought or sold unless they have been dematerialised onto the STRATE system The STRATE initiative is facilitated by the submission of share certificates to a custodian bank or JSE member firm ( broker ) for conversion into an electronic record. This process is referred to as dematerialisation. Why the need for STRATE? The successful introduction of the Johannesburg Equity Trading (JET) system highlighted the deficiencies in the JSE s paper-based settlement system. The demise of the open outcry floor in favour of the screen-based JET system has contributed to a massive leap in turnover. As a result, back-office support services were incapable of handling this increase in daily transactions efficiently in a paper-based environment. The transition to an efficient settlement system will undoubtedly increase market activity and will certainly improve the international perception of the South African market by reducing settlement and operational risk in the market, increasing efficiency and ultimately reducing costs. Accordingly, by heightening investor appeal, STRATE will allow South Africa to compete effectively with other international markets, and not just those of emerging countries. 30

31 What is dematerialisation? Dematerialisation is simply a technical term referring to the process whereby paper share certificates are replaced with electronic records of ownership. Investors should hand in their certificates, which are then sent to the relevant transfer secretary for validation. Once the authenticity of the certificate has been verified, the actual conversion process begins. Investors may hand their share certificates in to either a CSDP or broker for conversion into an electronic record. Swiss settlement system, SECOM, which has been providing investors with secure and efficient settlement for years CSDP stands for Central Securities Depository Participant. STRATE Ltd is South Africa s Central Securities Depository (CSD) for equities and warrants and the CSDPs are the only market players who can liaise directly with STRATE. Most of the current CSDPs are banks. In order to qualify for this status, they had to fulfil the entry criteria set out by STRATE and approved by the Financial Services Board. The benefits of STRATE naturally emerge from the variety of advanced, technological features and business principles incorporated in STRATE s underlying software, SAFIRES (Southern African Financial Instruments Real-time Electronic Settlement system). SAFIRES is an adaptation of the Swiss settlement system, SECOM, which has been providing investors with secure and efficient settlement for years. This system has also been sold to India The features of STRATE s system are numerous and each provides a very significant, riskreducing benefit to the market as a whole. Electronic custody of shares Under STRATE, shareholding is recorded electronically by each of the Central Securities Depository Participants (CSDPs) and collated at CSDP level within STRATE, South Africa s Central Securities Depository (CSD) for equities. These electronic records will take the place of the register of shareholders kept by transfer secretaries on behalf of companies. The records of the CSDPs are balanced and reconciled every day with the records kept in SAFIRES, where the total balance of dematerialised shares is kept. Investors will receive regular statements detailing their electronic holdings and, as these statements are not negotiable instruments, investors need not fear the loss or duplication of such statements. These statements will take the place of share certificates. This is in direct contrast to the paper settlement environment where risks of lost forged or stolen documents abound. Naturally, the costs associated with the replacement of such documents are also eliminated under STRATE. Security of the system The electronic records of shareholding are subject to extensive controls. In fact, as mentioned previously, SECOM has been in use in Switzerland for years and, thanks to a sophisticated encryption and authentication device in the coding of the software, the security of the electronic records has never been compromised. Furthermore, STRATE utilises the renowned S.W.I.F.T network (Society for Worldwide Interbank Financial Telecommunications) for the relay of electronic messages. S.W.I.F.T is a network owned by all the banks in the world and therefore the provider of choice for all major financial institutions, globally. This is the most secure network in the world with consistent 99% up-time since its inception. Electronic settlement of share transactions At the point of settlement, the electronic records are updated real-time via book-entry. 31

32 Settlement via book entry is therefore both secure and efficient. It is no longer necessary for the seller to submit his share certificate to his broker for further submission to the transfer secretary who issues a new certificate in the name of the buyer. This manual process is risky, administratively burdensome and time consuming. 32

33 Rolling settlement Rolling settlement refers to a settlement environment in which transactions (securities and funds) become due for settlement a set number of business days after trade. In South Africa, rolling settlement has been introduced on a T+5 basis (where T= trade date). Rolling settlement represents a significant departure from the account period methodology employed up to now whereby trades of any given week are settled from Tuesday of the following week. Investors know that the trade will settle five business days later and can plan / budget accordingly. The account period methodology of the paper-based settlement environment operated on an indefinite basis; some transactions remained unsettled for months. As every day is a trading day, under STRATE every day is also a settlement day (for the trades which took place five business days before). Contractual settlement Contractual settlement is a market convention embodied in the rules of the JSE which states that a client has a contractual obligation to cause a JSE trade to settle on settlement day. The JSE, in its capacity as Settlement Authority, ensures that all on-market trades entered into by two JSE member firms settle five days after the trades are entered into. Investors obtain the assurance that their transactions will settle on the specified settlement day. The appropriate cash and share accounts will be debited / credited on settlement day and the risk of delayed settlement and loss of earnings is vastly reduced. Simultaneous final irrevocable delivery versus payment (SFIDvP) SFIDvP refers to the principle whereby the delivery of shares by the seller and payment for those shares by the buyer occur simultaneously. SFIDvP is enabled by reserving the shares and cash before the point of settlement in order that they are ready for simultaneous, electronic transfer on settlement day. This transfer is irrevocable and the finality of the transfer is upheld by the amendments to the Companies Act (1973) and in terms of the Custody and Administration of Securities Act (1992) and the CSD Rules. Buyers need not fear that, having paid the requisite amount for a said number of shares, the seller will fail to deliver the shares in question or vice versa. Both legs of the settlement occur simultaneously, providing assurance to both buyer and seller. Transfer of ownership is immediate upon settlement and principal risk is effectively eliminated. Principal risk refers to the risk whereby a party to a trade will lose the full value involved in the transaction. This could occur when there is a delay between the payment and transfer of ownership of the securities. Connectivity through SAMOS In 1998, the South African Reserve Bank granted STRATE permission to use its computing infrastructure, SAMOS (South African Multiple Options System), as the development platform for SAFIRES. The main benefit that SAMOS brings to the South African financial markets is that it provides for final and irrevocable payment. Similarly, STRATE provides the investor with contractual settlement and finality of ownership transfer. 33

34 By synchronising scrip ownership transfer through STRATE with the payment thereof through SAMOS, the equity market is able to provide local and international investors with SFIDvP, as explained above. SAMOS provides for final and irrevocable payment settlement, while STRATE provides the investor with real-time settlement and finality of ownership transfer. By making the SAMOS settlement infrastructure available for the settlement of financial market transactions, the Reserve Bank has greatly boosted the capability and competitiveness of the South African financial markets. The interdependence of these two systems is in line with the world wide drive towards consolidation and the resultant economies of scale. Accuracy of the shareholders register The electronic register is updated real-time on T+5 when the simultaneous transfer of shares and funds takes place. This means that all trades will be reflected on the register of shareholders for dematerialised shares in the STRATE environment as there will be no outstanding share transactions except for trades effected during the last five days. This is in stark contrast to the paper-based environment which allows up to six months for the register of shareholders to be updated. Listed companies wishing to obtain an accurate idea of their shareholders will find themselves in a far more efficient position in the STRATE environment. Compliance with G30 recommendations The Group of 30 (G30), a private group of prominent financial industry participants, in 1989 proposed nine standards for improving the world securities industry's efficiency and reducing settlement risks. STRATE complies with all these recommendations and even surpasses certain of the guidelines to ensure that the risks in the settlement process are further minimised. Foreign fund managers operate within the parameters of local regulations which invariably demand a balance between risk and return. STRATE s adherence to internationally accepted settlement standards will result in the enhanced global status of the South African market, increased foreign investment and exchange and, consequently, an improved economy. Ability to settle all financial instruments SAFIRES, the system underlying STRATE, has new Scrip Lending and Borrowing (SLB) functionality in place that allows for Business Partners (BPs) to participate in electronic lending and borrowing. BPs are thereby enabled to capture trades for SLB purposes with significant cost savings and enhanced levels of security. The SAFIRES system is able to settle all kinds of financial instruments: equities, bonds, money market instruments, derivatives and unit trusts. If STRATE were to settle all financial instruments, investors would benefit from an efficient system in the settlement of all their investment transactions. The utilisation of STRATE for the settlement of all financial instruments would lead to significant economies of scale. Since STRATE s profits are capped, such savings would be passed on to investors by mean of a reduction in settlement costs. Indeed, settling all financial instruments in the same environment would create consolidation, streamlining, cost savings and marketing opportunities for all affected industries. It would also increase market liquidity, eliminate operational risk (the risk that improper operation of trade processing or management systems will result in financial loss) and enhance market efficiency. Investment managers will also be able to compile a more accurate risk profile for the assets under their management because all financial instruments within a portfolio would be subject to the same settlement procedures. 34

35 Combination of gross and net settlement Since STRATE s netting engine was fully implemented on 6 November 2000, STRATE has been in a position to offer both gross and net settlement. Some products are better settled gross than net, and vice versa. The ability to offer both methods of settlement is an advantage to all market players, who invariably offer multiple investment products. Electronic execution of corporate actions STRATE executes all corporate actions electronically. proceeds will be credited to the clients' accounts. For example, interest, dividends and The electronic execution of corporate actions is quick and secure. Payments will be transferred electronically with same-day value. Investors will therefore benefit from a dramatically increased level of efficiency and cost effectiveness. Protection against tainted scrip The tainted scrip problem typically arises when genuine share certificates are lost or stolen, and subsequently negotiated with a forged transfer document. The fraudulent transfer results in the person who holds a genuine share certificate and claims the right to the securities indicated on it, to no longer be reflected in the register of members as the holder of these securities. Instead, the subsequent holder, who holds tainted scrip, evidencing title to the same securities, has dematerialised these shares and is reflected as the holder of these securities in the electronic register. Naturally, investors will want to claim compensation for the failure of the market players to ensure the safe maintenance of their legal title in the paper-based environment. Therefore, STRATE established a Dispossessed Members Fund - much like an insurance policy - with cumulative cover of R2 billion, which offers a cost-effective and convenient solution to the investor and increased protection for all market players. The existence of this fund goes a long way to ensuring that the transition process into STRATE is not affected by the tainted scrip legacy of the paperbased environment. The Fund expired on the 30 September 2002 but has a run-off period of one year for the lodgement of claims. What this means is that the 'tainted scrip' must have been dematerialised before 30 September 2002, the dispossessed member then having until 30 September 2003 to realise he has been dispossessed and to lodge a claim against the Fund. Increased market regulation STRATE is the regulator of the CSDPs and has a responsibility to ensure the certainty of market transactions. The JSE regulates qualifying stockbrokers. The regulation of the market players is significant as CSDPs and qualifying stockbrokers act as agents for investors and have a statutory and contractual duty to protect the records of the investor in the electronic environment. Investors gain the peace of mind that all business processes associated with electronic settlement are regulated by STRATE and the JSE under the authority of the Financial Services Board. As illustrated by the examples above, the key features of electronic settlement contribute to a massive reduction of risk in the South African market. This will increase South Africa s standing as an investment destination for international investors which will undoubtedly provide a significant boost to both trading and liquidity. For a country so desperately in need of foreign investment, the importance of the STRATE initiative cannot be overestimated. 35

36 The end of 2001 saw all of the JSE Limited's listed equities fall under a STRATE umbrella that contains features as sophisticated as those boasted by any other CSD. STRATE is a clearing, settlement and depository for equities and warrants which achieves rolling, contractual, guaranteed settlement through electronically effective delivery-versus-payment on a net cash, net script basis. STRATE has designed, developed and implemented a settlement model containing three levels of netting (at broker level, at CSD Participant level and at cash level across counters). The netting engine linked the cash root directly to the scrip root and eliminated any unnecessary intermediaries in the settlement cycle. While the focus for 2001 was on dematerialising as much of the market s issued share capital as possible, several components of the project underwent concurrent development, among them: Migration from the central bank's mainframe to a customised mainframe using the SWIFT Alliance network. Implementation of the new market rules for automated Corporate Actions processing. The benefits derived from the model include the electronic payment of dividends, guaranteed payment of dividends on due date and the elimination of market claims. STRATE achieved true Simultaneous Final Irrevocable Delivery-versus-Payment via the central bank's national payment system's concurrent batch processing line, a crucial building block in the globalisation of South Africa's securities markets. The settlement of Namibian Stock Exchange (NSX) trades. A solution was found to the transfer instrument requirement of the UK Companies Act for the settlement of JSE-listed shares with primary LSE listings. The key features of electronic settlement contribute to a massive reduction of risk in the South African market. This will increase South Africa s standing as an investment destination for international investors. 36

37 4. JSE TradElect System This section focuses on what is included in the trading model; its functional segments and sectors; the characteristics, parameters and execution of the Order Book; the Opening Auction; Continuous Trading, Volatility Auctions, Volume Weighted Average Price (VWAP) and Closing Price of the trading day; types, publication, delays and correction of trades. This manual has been put together to assist potential Equities traders in establishing a reasonable amount of understanding of the new JSE TradElect and InfoWiz systems. Introduction Market Structure Previously, on JSE SETS, a market was defined through the allocation of a specific Market Segment to which Sectors and groupings of instruments were assigned. JSE TradElect builds upon this structure, and introduces a new tier to explicitly identify to which market it belongs. The current method of uniquely identiofying an instrument by Tradable Instrument Code (ISIN), Country of Register, Market Segment Code and Currency Code will be maitained. Below is a depiction of the new market structure: Market Segment Sector Instrument Used to describe the geographical elements of a trading environment its business calendar and time zone the Market is operating in The Segment tier is used to define a set of Instruments that follow the same trading model, e.g. an electronic anonymous order-driven The Sector provides a more granular level that defines the group of Instruments within the Segment that follow the same trading schedule The lowest tier is used to describe the individual tradable instrument itself JSE ZA01 J1H1 AGL NEW Functional Segments The trading platform has been divided into several functional segments to facilitate trade and efficient running of the market. Functional segments and sectors facilitate the setting of common trade parameters for equity securities with similar characteristics. The segments are determined by grouping stocks with similar liquidity classifications as they have similar characteristics. The current liquidity classifications of instruments will remain. The JSE TradElect trading system is divided into five functional market segments, namely: 1. Top Companies (ZA01): A functional market segment for the order-driven trading of JSE TOP40 equities. 37

38 2. Medium Liquid (ZA02): A functional market segment for the order-driven trading of medium liquid equities; 3. Less Liquid (ZA03): A functional market segment for the order-driven trading of less liquid equities including Exchange Traded Funds and the Alternatve Exchange 4. Specialist Products (ZA04): A functional market segment for the order-driven trade of Warrants and Investment Products ; and 5. NSX (ZA11): A functional market segment for the order-driven trade of instruments Namibian and JSE/NSX dual-listed instrument. Please note that the classification of instruments into functional segments should not be confused with the current industry sectors (e.g. gold, mining), these sectors will remain under the new trading model. Functional classification is based common trading characteristics in relation to market rules which are applied differently to each segment or sector. 38

39 JSE Top Companies (ZA01) TOP40 equities Functional sectors obey the same trading schedules and similar trade period rules JSE Medium Liquid (ZA02) Liquid and Medium liquid equities and related instrument which are not part of the TOP40 Functional sectors obey the same trading schedules and similar trade period rules JSE Less Liquid (ZA03) Less liquid equities and related instruments including ETFs and the Alternative Exchange Functional sectors obey the same trading schedules and similar trade period rules Intra-day liquidity auctions are used to facilitate trade JSE Specialist Products (ZA04) Warrants and,ips Functional sectors obey the same trading schedules and similar trade period rules Closing price is determined using the mid of the bid and offer NSX (ZA11) NSX instruments Functional sectors obey the same trading schedules and similar trade period rules Intra-day liquidity auctions are used to facilitate trade Functional Sectors Each functional market segments is in turn made up of functional market sectors. Instruments have been classified into these sectors based on the following characteristics: - price and volatility; - liquidity - country of issue These sectors are important to ensure an efficient market as instruments with varying volatility levels can now be made to react in different ways to price movements. Of the six sectors within the ZA01 segment, the first three are all dual listed instruments (dual listed in UK, not other exchanges) and are grouped as high, medium, or low priced. The next three sectors are top companies that are not dual listed, these are also grouped as high, medium, or low priced. The same principle applies for the ZA02, ZA03 and ZA04 segments. The ZA11 segment is divided into six sectors. The first three contain those instruments that are dual listed on both the Namibian Stock Exchange (NSX) and the JSE, the remaining three contain instruments listed on the NSX only. The less liquid ZA03 and local NSX instruments will be subject to intra-day liquidity auctions to increase liquidity. ZA04 does not have intraday auctions and has a different closing price methodology to the other segments. 39

40 Ongoing review of EMS (Exchange market size), functional sector and segment allocation The trading pattern for instruments is influenced by various economic factors. As part of its regulatory responsibilities, the JSE is constantly reviewing the EMS bands, functional sector and segment allocation for all listed instruments to ensure that trading can be conducted effectively. The bulk of the reallocations are normally scheduled to coincide with the quarterly JSE/FTSE indices review but changes can be made on an ad hoc basis. EMS banding for ZA01 and ZA02 is based on the volume of agency trades conducted over a twelve-month period. Functional sector and segment allocation for these two segments is based on the trading price of the instruments. EMS banding for ZA03, ZA04 and ZA11 is based on 0.50% of the issued share capital. Functional sector and segment allocation is based on the trading price of the instruments. If an instrument is moved from one functional sector or segment to another, all open orders associated with those instruments are automatically deleted. Therefore, Equities traders should be aware of the impact to their orders and advise their clients accordingly. Market JSE Market NSX Market Functional Market Segment Top Companies (ZA01) Medium Liquid (ZA02) Less Liquid (ZA03) Specialist Products (ZA04) NSX (ZA11) Market Model Order-driven TOP40 Dual Listed J1H1 J1M1 Order-driven High Liquid J2H1 Order-driven Less Liquid* J3H1 J3M1 Order-driven Specialist Products J4S1 J4S2 Order-driven Dual-listed NSX N1H1 N1M1 J1L1 J2M1 J3L1 N1L1 Functional Market Sector Definition Top Companies J1H2 J1M2 J1L2 J2L1 Medium Liquid J2H2 J2M2 ALT J3S1 Local* N1H2 N1M2 N1L2 J2L2 VCM & DCM Boards Main Board 40

41 Legend Highpriced price Instruments with relatively large absolute movements in Mid-priced Instruments with medium absolute movements in price Low-priced Instruments with small absolute movements in price VC & DC Venture & Development Capital NSX Namibian Stock Exchange * Intra-day Auctions included Note: All Sectors to have Opening & Closing Auctions with the exception of those within ZA04. Participant Structure A new level has been introduced to the participant structure viz. Trader Group. This structure can be used to support the identification of desk and/or individuals within a trading entity, such as cash desk, arbitrage, international brokerage, direct market access and automated trading systems. Member ID Trader Group Trader ID The highest level for depicting a Participant this is intended to correspond to the firm s highest entity The level at which authorization and/or role enablement for trading actions in a particular Market is performed. This is the lowest possible level of granularity, and is used to represent the individual trader. Each Trader ID must be unique within a given Trader Group. The member ID can have a 1 to many relationship with Trader Groups to allow a range of groups to be allocated to a single Member ID. This relationship provides a greater level of flexibility and can help in segmenting trading activities between individual desks. However, to minimize customer impact, the system will be initially configured so that the Member ID will have a 1 to 1 relationship with the Trader Group and both will be populated with the current Participant Code (BIC code) Trader IDs must be unique within a trader group. All trader IDs are validated by the equities trading system. A valid trader ID must be submitted on all orders and trades. 41

42 The Order Book Full market depth of the order book is available i.e. ALL orders are shown. There are two types of orders allowed, viz. Limit Order (LO) and Market Order (MO). Limit orders stipulate both a volume for trade as well as a limit price. Limit orders will always execute at the specified limit or better. Both market orders and limit orders can be subject to either execution constraints or validity constraints. Limit orders are always executed at their specified limit price or better and are eligible for partial fill. Market orders stipulate only the volume of shares for trade and do not specify any limit price. They will execute against as many orders on the opposite side of the order book as are necessary to fill the order (if they can). Market orders may not be entered for instruments that have not traded before and no reference price has been loaded for them. Market orders receive price priority over limit orders and are executed on time priority with other market orders. Market orders will execute against as many orders on the other side of the order book as are required to fill the order, they are eligible for partial fill. Any unexecuted persistent market orders will automatically be removed from the order book at the start of continuous trading. Depending on the order type, it may be either persistent (i.e. the order remains on the order book until either execution or cancellation) or non-persistent (i.e. the order is automatically cancelled if not executed immediately upon entry to the order book). If an order is subject to an execution constraint (Execute and eliminate / Fill or kill), it is regarded as a non-persistent order because it never resides on the order book. If an order is not subject to an execution constraint it is regarded as a persistent order because it will be written to the order book until it executes, is deleted or expires. Note that only persistent orders may be entered during an auction phase. Validity Types Every enter order message must include a market mechanism type and a validity type, the combination of which, fully define the order s behaviour. The concept of validity defines the conditions under which an order is to be entered onto the order book and subsequently removed. Validity can be categorised into three different types execution based validity, time based validity and period based validity. Execution based validity The existing Execute and Eliminate and Fill or Kill order types can both be defined through the use of Validity Type on the new system. Execution validity controls the removal of those orders that are immediately submitted to the book upon entry by a Participant. Fill or Kill (FOK) validity must be fully executed or they will be removed in whole, whilst Execute and Eliminate (ENE) validity will have any unexecuted volume removed from the book. Market Orders with an Execute and Eliminate validity allows you to trade immediately and indicate willingness to trade at ANY price. As there is no limit price, the order will execute as far as possible down the order book with no protection against price movements other than the onset of an auction due to the breach of price volatility bands. If the order size is bigger than the order book, then the remainder of the order is rejected. Remaining volume is deleted from the Trading System without any partial fill. Market Orders with an Execute and Eliminate validity may not be entered during the auction call phase. 42

43 Limit Orders with an Execute and Eliminate validity are similar to market orders with the same constraint but allow you to enter a limit price to protect your execution. The order will execute down the order book until it has been satisfied or it reaches the limit price specified. The remainder of the order will be rejected. Fill or Kill Orders (unpriced or priced) are all or nothing orders, they differ from 'execute and eliminate' orders in that they will only execute if the entire order can be satisfied. If the entire order cannot be satisfied the order will not execute at all and will be eliminated from the order book. 'Fill or Kill' orders may be either priced or unpriced. Depending on whether trading is in the continuous or auction phase, order execution may differ. During continuous trading orders may execute immediately upon entry, or as soon as it is hit by a matching order. In an auction orders execute after the auction call phase through a process known as the uncrossing of the order book. Both partial and full matching is possible, thus each order may generate a number of trades, known as multiple fills. These fills may each occur at a different price. Market Orders with a Fill or Kill validity may not be entered during the auction call phase. Time based validity These are immediately entered into the order book upon entry by a Participant and are removed once the expiry date/time specified in the message has been reached (unless fully executed or deleted prior to the specified time). The two types of time based validity are Good Till Time (GTT) and Good Till Cancelled (GTC). Good Till Time (GTT) Good Till Cancelled (GTC) Allows an expiry date and time to be specified on the message up to a configurable maximum No expiry date and time is specified but will default to the configurable maximum for the instrument (currently 90 days including order entry date) Note: An expiry date and time is only specified with GTT validity and both fields must always be populated GTC orders will have their expiry date set to the maximum number of calendar days allowed in the segment after the day of entry. If a GTC order has either the date or time populated, it will be rejected by the system. GTT orders will expire using the date and time specified in the date and time validity fields. The enter order message must have both date and time fields populated. Period based validity This validity type introduces the concept of Parked Orders, allowing both the entry and removal of the order to be based upon a specific period based transition. Validity enables common orders such as Good for Day and At the Close to be introduced. These orders are commonly referred to as parked orders as they can be parked on the system and then injected at the appropriate time as depicted in the table below: Period based validity types Validity Type Description Behaviour (Add) Behaviour (Remove) GFD Good for Day Immediately posted to book Deleted at start of the Runoff and End of Continuous Trading periods 43

44 ATO At the Open Parked for injection at the start of the next opening auction ATC At the Close Parked for injection at the start of the next closing auction GFA Good for Auction Parked for injection for the next available auction (Open, Close, Intra-day or Volatility) GFX Good for Intra-Day Parked for injection at Auction the next scheduled intra-day auction (IDAC) Deleted at end of opening auction Deleted at end of closing auction Deleted at end of auction Deleted at end of auction An order submitted by a Participant will be held in the system until the applicable period is reached, at which point it is passed onto the order book. Whilst the order is held by the system it is not publicly visible and does not participate in continuous trading/auctions. However, it may still be modified and deleted. Whilst parked, the order will maintain time priority in line with all other orders that have been parked for that particular instrument. Also, when modified, it follows the same rules as it would on the order book to determine whether price/time priority is maintained. As the period becomes effective the order will be injected into the order book as if the Participant had at that point submitted the order themselves. The order will then either execute against any valid orders or remain on the book. The transitioning of the period can also control the removal of the order, if it has not already been fully executed. Validity types such as At the Open (ATO) will be entered at the start of the Auction Call period and if not executed, removed before transitioning into continuous trading. The ability to park orders prior to the period they are intended for, ensures that they have a higher priority when going into the period. This is because they are entered prior to any new orders being able to be submitted for that period, however, any live orders already active on the order book will always have higher priority than the parked orders being injected. ORDER TYPES LIMIT ORDER MARKET ORDER EXECUTION BASED VALIDITY Fill or Kill (FOK) Execute & Eliminate (ENE) TIME BASED VALIDITY Good till time (GTT) Good till cancelled (GTC) PERIOD BASED VALIDITY Good for Day (GFD) At the open (ATO) At the Close (ATC) Good for Auction (GFA) 44 Good for Intra-day Auction (GFX)

45 Basket Messages Basket message simplify the process of entering multiple orders through the use of a single message. Each individual order must belong in the same Segment (as Segment Code is identified in the message header). The basket message will be acknowledged by the trading system with a Acknowledge Basket Instruction for Enter Order. Each order will be processed and acknowledged individually and each will be provided with individual order codes. These acknowledgements may consist of failure conditions for those orders that fail validation (instrument not in Segment etc). It is possible to submit a basket modification message. This will however, be treated as individual modifications to the orders specified in the message. Similarly a basket of order deletes can be submitted using the Basket Instruction for Order delete message. Order Entry Parameters When entering orders, they must at least contain the following information: Dealing capacity: 'Agent' or 'Principal' - this parameter defines the interest of the member with regard to the trade. Client account reference number to which any associated trades will be booked; - this is the valid BDA account number allocated by the TSP Institutional identification number (where applicable) - This parameter may be populated in order for an institution to track their specific orders, depending on the application used; it allows the institution to view the order via their Front-end. Quantity of securities; - the volume of shares associated with the order ISIN code the unique international numbering code allocated to each listed security by the JSE; JSE alpha code; the unique code allocated to each security by the JSE Trader identification number; - Trader IDs are issued to registered traders and form one of the mandatory parameters needed with each order. Trader Group ID mandatory code and level at which authorisation and/or role enablement for trading actions in a particular Market is performed. Lot size - round lot size of 1 share Tick size - 1 cent Currency - South African cents (ZAC) Foreign currency indicator This parameter indicates if a trade has been conducted by a nonresident investor, it performs the same function as the Rand indicator used previously and will default to No. Note that the only trade type with which this parameter may be yes is the Off Order Book Principal trade (OP). If checked, STRATE will settle the securities component of the trade only and not the cash component. This allows the cash component to be exchanged overseas. 45

46 Order Modification Enhancements to the current system will allow the modification of an order s Participant Reference (which contained the Trader ID and registered Institutional ID), Date/Time Validity and/or Client Reference without also having to change either the price or size, or losing price/time priority. Private order codes All order types have different public and private codes, with the private order code remaining constant for the life of the order. A modified order will always retain the same private order code; however it will be allocated a new public order code following any change in price or an increase in size. In this case the modified order will be published to the market with the new public order code following the removal of the original order. Price/time priority Previously, any change in size of an order would result in the loss of price/time priority. In the current equities trading system, time priority will only change if the visible volume has increased. A reduction in volume does not change price/time priority as shown below: Order size is increased Order size is decreased Previous Trading System The order will lose time priority Private order code is updated Public order code is updated The order will lose time priority Private order code is updated Public order code is updated Current Trading System The order will lose time prio Private order code is mainta Public order code is updated The order will maintain time Private order code is mainta Public order code is maintai Please note: A reduction of the size of the order does not result in a loss of the order s price/time priority. The private order code is maintained throughout the life of the order. Example 1: Firm successfully updates order price (absolute change) and size (relative change) Order book before modification BUY Price Time Size Order A :01 1,500 Order B :05 2,300 Order C :06 5,000 Firm XYZ decide to modify their buy order A to a new price of 208 and to increase their order size by 3,500. After successful order modification, order A s price is successfully changed and the order is assigned a new time stamp. The order book will look as follows: 46

47 BUY Price Time Size Order B :05 2,300 Order C :06 5,000 Order A :08 5,000 Example 2: Order size modification immediately follows a partial execution and order is deleted Order book before modification BUY Price Time Size Order A :01 1,500 Order B :05 2,300 Order C :06 5,000 Firm XYZ decide to decrease their buy order A by entering a relative size of Moments before the order modification message is sent, an aggressive order of 1,200 executes against order A. Because the effective order size following execution is 300, reducing this size by 500 will take the order size to below zero. Thus, order modification is processed as a deletion because the order size is below zero and the user is sent an order modification acknowledgement with a blank Advisory Code as the remaining order size is less than zero. Order book after modification BUY Price Time Size Order B :05 2,300 Order C :06 5,000 Example 3: Order price and size modification immediately follows a partial execution and order is updated Order book before modification BUY Time Size Price Order A 11:06 5, Order B 11:07 2, Order C 11:06 3, Firm XYZ decide to decrease their buy order A by entering a relative size change of -500 and also decide to change the order price to 208. Moments before the order modification message is sent, an aggressive order of 3,000 executes against order A (i.e. execution occurs before the order modification). Because the effective order size following execution is greater than zero and above the minimum order size, the order modification is successful and firm XYZ are sent an order modification acknowledgement message and the order is updated accordingly. 47

48 Order book after successful modification BUY Time Size Price Order B 11:07 2, Order C 11:06 3, Order A 11:08 1, Example 4: Firm successfully updates order size (relative) Order book before modification BUY Time Size Price Order A 11:07 2, Order B 11:06 3, Order C 11:08 1, Firm XYZ decide to modify their buy order A to decrease their order size by 500. After successful order modification, order A s size is successfully changed and the order retains its price/time priority. The order book will look as follows: BUY Time Size Price Order A 11:07 2, Order B 11:06 3, Order C 11:08 1,

49 The Trading Day A normal trading day consists of several key phases 08h30 08h35-09h00 09h00-16h50 16h50-17h00 17h00-18h00 Open Opening Auction Continuous Trading Liquidity Intra-day Auction Volatility Auction VWAP Closing Auction Post-trade run-off 12h00-12h15 Trading Period Open Opening Auction Continuous Trading Price volatility auction* Intraday liquidity auction Closing VWAP End of Continuous Trading Time (SAST) 08h30 08h35 08h35 09h00 09h00 16h50 Random 12h15 12h30 16h40 16h50 16h49 18h00 Description This is a systemic period during which all orders that have expired overnight will be removed from the system. The opening auction consists of two phases, the call phase and the uncrossing phase. During the call phase LO and MO (Limit orders and Market orders without execution constraints) may be entered, modified and delete. Information on the state of the order book is provided throughout the call period but no execution occurs. During the uncrossing phase the auction price is determined and book is uncrossed. Continuous order entry and execution occur with a wide variety of order types LO, MO with execution based validity (ENE or FOK) being entered. This period is entered when instruments in the ZA01 and ZA02 segments breach their specified volatility bands. As in all auctions, this period consists of a call phase when orders are entered for the auction and an uncrossing phase when the uncrossing algorithm is run and orders are executed where possible. Instruments in functional segments ZA03 and local NSX instruments in ZA11 are subject to an intra-day liquidity-focusing auction. As in all auctions, this period consists of a call phase when orders are entered for the auction and an uncrossing phase when the uncrossing algorithm is run and orders are executed where possible. The closing VWAP is calculated over the last ten minutes of continuous trading and should not be confused with the general VWAP that is calculated throughout the trading day. This VWAP calculation is used for closing price determination if no closing price could be determined during the closing auction. End of Continuous trading is a period much the same as the closing auction during which the closing prices for Warrants and Investment products is determined. The difference lies in the price determination methodology which is based on the best bid or offer. During this period persistent orders can be deleted, but no new orders can be entered. Only the Client Reference field for existing orders can be modified. 49

50 Trading Period Time (SAST) Description Closing Auction Post trade run-off Close Trade Reporting 16h50 17h00 17h00 18h00 18h00 08h30 18h00** The closing auction occurs over the last ten minutes of the trading day. As in all auctions, this period consists of a call phase when orders are entered for the auction and an uncrossing phase when the uncrossing algorithm is run and orders are executed where possible. The price determination from this auction is used to calculate the closing price. This period is used for general 'housekeeping' activities, orders may be modified or cancelled, and trades may be modified or reported. Order entry of parked orders for injection on the next business day may take place in this phase and no automatic execution will occur. Systemic closure of the trading system and official end to the trading day. Trade reporting may take place at any time during the trading day. Reporting of late trades must, however, must be entered by 08h45 on the following trading day. * This may be removed for segments ZA01 and ZA02 during the close-out period **This may be extended on Futures Close-out Opening Auction All auctions follow a similar process, whether it is an Opening Auction, Intra-day Auction, Volatility Auction or Closing Auction. 08h00 08h30 08h35-09h00 09h00-16h50 16h50-17h00 17h00-18h00 Open Opening Auction Continuous Trading Liquidity Intra-day Volatility Auction Auction VWAP Closing Auction Post-trade run-off Opening Auction Period Call Period Random Period Auction Call Extensions Market Order or Price Monitoring Random Period Match/ Uncrossing 50

51 The trading day will begin with an Opening Auction, which, like all other auction types, begins with a call phase. During the call phase traders are able to enter new orders as well as modify and delete their existing orders as order execution is not enabled and no matching can occur,. Due to the increasing complexity of the auction algorithm, the JSE equities trading system centrally calculates and disseminates an indicative auction price and volume in real-time throughout the auction (including random periods and extensions). The call phase of the Opening Auction lasts twenty-five minutes. The call phase ends with a thirty second random period. At the end of this random period the system determines whether any auction extensions should take place. If it is determined that an extension is required the auction will be extended to accommodate this, if not the auction will enter the price determination phase. During the price determination phase the auction algorithm will be run to determine the auction price, the order book will then be uncrossed based on this price. During the matching process Market Orders will be given preference over Limit Orders. Random Call Periods To minimise market manipulation, the start of continuous trading occurs at a random time. To facilitate this a random period will occur at the end of all auctions and auction extensions. The random period will last for a maximum of thirty seconds and serves to make the starting time of the next period unpredictable. 51

52 No Random Period 08h35 AUCTION CALL PERIOD 09h00 MATCH Random Period Applied 08h35 AUCTION CALL PERIOD 09h00 e.g. 09h00:27 RANDOM END MATCH 0-30 seconds During periods where the entire functional segment is in auction the random period is applied on a sector level and thus all stocks in that segment will move into the next period of trading at the same time. Where individual stocks enter an auction or auction extension, however, the random period will be applied individually. It is only after the random period that price determination of the auction occurs. Call Extensions Auction call extensions are implemented for optimal price formation and auction execution, they indicate to the market that an unusual event is occurring and give the market time to react by prolonging the auction. There are two types of extensions: Price Monitoring Extensions If the likely execution price at the end of the normal auction call lies outside the defined tolerances from the last traded price then the auction call will be extended to increase the likelihood that the price movement might be reduced (these defined tolerances are known as volatility bands). If no execution can take place during price determination, it is not possible to enter a price monitoring extension. Market Order Extensions If market orders within the order book are not executable or only partially executable (i.e. there is a market order surplus at the end of the call phase) the call phase will be extended for a certain time in order to increase the execution probability of market orders in the auction. 52

53 The Call Extension Process At the end of the auction's random period, the trading system will investigate on a stock-by-stock basis, the requirement for extensions to the auction call. If executable market order volume would remain unexecuted after the auction, then a market order extension is initiated to allow the market additional time to trade against the unsatisfied market order volume. If the auction price, when compared to the last order book price, lies outside the volatility for that instrument, a price monitoring extension is initiated to allow the market time to respond to the potential of a price movement. 08h35 AUCTION CALL PERIOD e.g. 09h00:27 Would there be unexecuted market orders? MARKET ORDER EXTENSION e.g. 09h02:52 MATCH Check order book before match Would there be excessive price movement? PRICE MONITORING EXTENSION e.g. 09h05:43 If both a price monitoring and market order extension are required at the end of the schedule call phase, then the market order extension has priority. A price monitoring extension will not automatically follow this, but rather a separate check will be made at the end of the market order extension. A market order extension will be a maximum of two minutes and a price monitoring extension will be a maximum of five minutes in duration, and each will be subject to a random end period up to a maximum of thirty seconds. The number of call extensions initiated after the auction period is dependant on the type of auction in progress. An Opening Auction can have a maximum of one market order and one price monitoring extension, these may occur in any order as can be seen in the diagram below: Opening Auction : 25 min 0-30 sec 5 min if PME 2 min if MOE 0-30 sec 5 min if PME 2 min if MOE 0-30 sec Call Call Market Order Extension Call Price Monitoring Extension Call Market Order Extension Price Monitoring Extension Call Price Monitoring Extension Market Order Extension Random Element Auction Match Maximum Extension of 7 minutes plus two random periods of up to 30 seconds each 53

54 With the random time elements, this means that the OPENING auction call may be extended for a maximum of eight minutes. If at the end of all possible extensions some market orders remain wholly or partially unfilled, then matching will take place as far as possible at the auction price, with any remaining market order volume being automatically deleted from the order book.. Although the opening auction only allows for a single price monitoring extension and a single market order extension, this is not the case with all auctions. Different auctions allow for different numbers and combinations of extensions. Generally a maximum of two extensions (one price monitoring and one market order extension) will be used for all auctions other than the closing auction (which can have a maximum of three extensions, of which two are price monitoring extensions and one a market order extension). This can bee seen graphically in the figure below. Open O pening Auction Liquidity Intra-day Auction Continuous Trading Volatility Auction Closing Auction Post-trade run-off M arket O rder Extension O ne One O ne O ne Price M onitoring Extension O ne No extension No extension Tw o No price monitoring extensions are possible during volatility auctions. A price monitoring extension in this case would be redundant as it is the role of the volatility auction to ensure that trades placed outside of the volatility band have been acted upon. Similarly price monitoring extensions are not possible during intra-day liquidity auctions. This is because those instruments subject to these auctions do not have volatility bands associated with them. If, after the auction algorithm has been run, no price can be discovered; continuous trading will be entered into (except for the case of closing auctions). Matching and Uncrossing Maximum Execution Minimum Surplus Market Pressure Reference Price The highest executable volume for each possible price (i.e. the minimum of the buy and sell executable volumes at any given price). The lowest surplus for each possible price (i.e. the smallest difference between the buy and sell executable volumes at any given price). Should the market pressure be on the buy side (the buy executable volume is greater than the self executable volume), the highest possible price will be the auction price. Should the market pressure be on the sell side, the lowest possible price will be the auction price. The auction price will be the possible price closest to the reference price. 54

55 During all auctions and auction extensions, as well as during the uncrossing of the order book at the close of the auction, a price determination algorithm is run calculating the indicative price and volume. This algorithm uses all orders entered during the auction call and determines price based on the following principles: Maximum execution The auction price is the price with the highest executable order volume for each possible price in the order book. Market orders have priority over limit orders to reward liquidity provision. Minimum Surplus Should the price determination process determine more than one possible price with the highest executable order volume, the lowest surplus for each possible price in the order book is taken into account as a further criterion. The auction price is the price with the highest executable order volume and the lowest surplus for each possible price in the order book. Market Pressure Should the price determination process determine more than one possible price with the highest executable order volume and the lowest surplus for the determination of the auction price, the surplus is referred to for further price determination. Either - The auction price is stipulated according to the highest possible price if the surplus for all possible prices is on the buy side (surplus of demand); or - The auction price is stipulated according to the lowest possible price if the surplus for all possible prices are on the sell side (surplus of supply). Reference Price If the inclusion of the surplus does not lead to a single auction price, the reference price is included as an additional criterion. This may be the case if - there is a surplus of offerings for one part of the possible prices and a surplus of demand for another part; or - there is no surplus for all possible prices. In the first case, the lowest possible price with a surplus of offerings or the highest possible price with a surplus of demand is chosen for further price determination. In both cases, the reference price is included for stipulating the auction price: - if the reference price is higher than or equal to the highest possible price, the auction price is determined according to this limit; - if the reference price is lower than or equal to the lowest possible price, the auction price is determined according to this limit; or - if the reference price lies between the highest and lowest possible prices, the auction price equals the reference price. The order book is momentarily frozen while the uncrossing algorithm is run, thus preventing orders from being entered, deleted or modified. All matches will occur at the price determined by the uncrossing algorithm. After price determination is concluded, the members whose orders are executed (in part or in full) are informed by a message confirming each execution that has occurred and giving all relevant trade information (i.e. price, total volume and trade type). Trade information is also published to the market. Publishing of Trade Information Post-Auction Auction trades are identified by the trade type, UT (auction trade) 55

56 At the close of the auction a single trade message is generated and sent to the market. This message details the total auction volume and price and is identifiable as trade type, UT (auction trade). The UT will be published per instrument and will contain the auction price and cumulative volume of all matches, which occurred during the uncrossing period. In addition to the UT message all trading participants receive individual trade details. AUCTION MATCH Trading Participants Individual trade details Market Single trade price and volume Continuous Trading UT After the price determination at the end of the Opening Auction the day moves into Continuous Trading. 08h30 08h35-09h00 09h00-16h50 16h50-17h00 17h00-18h00 Open Opening Auction Continuous Trading Liquidity Intra-day Auction Volatility Auction VWAP Closing Auction Post-trade run-off 12h00-12h15 During continuous trading the following types of orders may be entered: Limit orders (LO) with all execution based, time based, and certain period based validity types. Market Orders(MO) - Only those with execution based validity. Market orders (MO) without execution based validity may NOT be entered. Each new incoming order is checked for matching against orders already on the order book, in the case where matching is possible this is done according to price-time priority. Incoming orders executing against those already on the book are known as aggressive orders (Fill or kill, execute & eliminate and at best orders will always be aggressive as they will always execute against orders sitting on the book or be cancelled). Orders on the book that are waiting to be executed against are known as passive orders. All trades matched during continuous trading will be identified as automated trades (trade type AT). Details regarding automated trades will be disseminated to the parties involved as well as to the market. Due to price-time priority, a single order may have multiple executions; each execution constitutes a separate trade and must be settled separately. Members are given the option of identifying all trades on a broker's note or displaying only an average price for the total 56