Key Takeaways:
- APAC's fragmented equities markets operate under diverse regulations, with no unified borrowing pool and limited institutional lending participation.
- Complex regulatory requirements, particularly in China and South Korea, combine with low market liquidity to drive up borrowing costs and reduce availability.
- Successful firms employ multiple approaches, including pay-to-hold for longer-term security and short locates for daily flexibility, supplemented by synthetic strategies where needed.
- Integrated technology systems such as Enfusion are essential for real-time inventory tracking and cost management across multiple markets and borrowing mechanisms.
- Competitive advantage depends on building strong prime broker relationships and achieving rapid execution speeds while navigating diverse market conventions.
Challenges with managing short inventories
For hedge funds and other active investment managers, borrowing shares for short selling helps generate alpha by capitalizing on market inefficiencies. Fragmented regulations, liquidity constraints, and diverse conventions make inventory management essential to capturing the region's potential. In this environment, firms investing in Asia-Pacific (APAC) markets face several challenges when managing short inventories.
- Fragmented Markets: Equities markets across APAC operate under distinct regulations and systems. Firms cannot access a unified regional pool of borrowable shares.
- Limited Supply: Fewer institutional participants participate in the supply side of securities lending programs. A smaller set of asset owners, banks, and prime brokers reduces the availability of shares for borrowing.
- Competition: Thinly traded companies, less active markets, regulatory and compliance restrictions, or high-demand stocks can drive up costs and create volatility.
- Regulatory Hurdles: Rules like mandatory reporting and uptick restrictions discourage securities lending and create additional operational challenges in core markets such as China and South Korea. Moreover, China's rules vary between markets (such as Shanghai versus Shenzhen) and by stock type.
- Varied Conventions: Differences in practices across markets and prime brokers, such as term versus open pay-to-hold structures, short locates, or direct borrowing, make it harder to manage inventory and cash. Firms must make cautious choices between predictability and flexibility when considering the overall costs.
In response to these challenges, firms employ a range of mechanisms to manage short inventory effectively. Pay-to-hold (PTH) provides a longer-term solution for securing inventory over multiple trading days, particularly in low-liquidity markets, while short locates offer a more flexible, day-to-day approach. Securities borrowing remains a staple for obtaining shares in markets with sufficient liquidity.
In addition, some firms also use synthetic strategies like equity swaps to simulate short positions without borrowing. While swaps can simulate short positions, they often carry different cost structures and risk profiles that managers need to weigh against traditional lending.
Some firms also turn to cross-market borrowing, leveraging global pools to address local shortages, or inventory pooling, aggregating shares across brokers to expand availability. But even when global pools are available, settlement cycles and market hours across APAC can make cross-market borrowing operationally challenging.
These strategies help firms navigate complex inventory and liquidity challenges in APAC.
Addressing operational hurdles in short inventory
Managing short inventory in APAC markets presents significant operational challenges across mechanisms like pay-to-hold (PTH), short locates, and synthetic shorts. A common issue is reconciling rapidly changing inventory levels since PTH and short locates demand real-time insight into inventory, borrowing rates, and cash positions. Visibility also goes beyond current positions – firms must actively monitor recall risk and maintain ready contingency options, particularly in markets like Taiwan, where recalls are common practice.
Daily fluctuations in both current and future availability require continuous updates from prime brokers. Yet, data silos between portfolio management systems (PMS) and order and execution management systems (OEMS) often cause discrepancies. For instance, inventory adjustments made in the PMS may not reflect in the OEMS, leading to potential errors like attempting to short shares that are no longer available.
Portfolio managers (PMs) are particularly affected by these gaps. Without a unified view of inventory and liquidity, they must rely on manual checks to verify positions at the start of the day, delaying decision-making and reducing confidence in their data.
Adding to the complexity, shorting mechanisms vary widely. PTH requires meticulous tracking of terms, fees, and structures, while the daily nature of short locates adds strain, especially in low-liquidity environments. Synthetic shorts and cross-market borrowing bring additional challenges, such as navigating counterparty risks and regulatory requirements.
Navigating these interconnected processes demands robust automation and technology tailored to APAC's diverse markets to ensure efficiency and accuracy. By streamlining operations, firms can manage diverse shorting mechanisms—such as PTH, short locates, and synthetic shorts—more effectively, even in low-liquidity environments.
The case for integration
Investment management technology plays a core role in overcoming the operational challenges of managing short inventory in APAC's fragmented and fast-changing markets. Enfusion achieves this integration by unifying portfolio, order, and execution management, giving PMs start-of-day confidence in inventory levels and borrowing rates. As such, they reduce delays, minimize errors, and improve decision-making by automating reconciliation and ensuring consistent, reliable data across trading systems.
However, technology cannot address APAC firms' deepest pain points unless it helps account for regional nuances, such as differences in PTH structures, local settlement rules, and market-specific borrowing practices. Collaboration with key stakeholders—prime brokers, technology providers, and asset managers—plays a vital role in addressing these challenges and delivering solutions that align with client needs.
The value of regional expertise and collaboration
Navigating APAC's fragmented and diverse markets requires more than advanced technology—it demands deep regional expertise and established client relationships. Investment technology providers like Enfusion, with a critical mass of clients in the region, provide valuable insights and solutions for local practices, such as term versus open pay-to-hold (PTH) structures or unique settlement requirements in key markets like China, South Korea, and Taiwan. This granular understanding allows them to provide solutions that address specific pain points like managing multi-market conventions and reconciling inventory effectively.
Enfusion has invested heavily in building short-selling features and enhancements for APAC clients. Our extensive interaction with clients in the region helps us deliver the functionality they need to operate on a single platform across front-, middle-, and back office.”
Collaboration amplifies these benefits. Technology platforms with multiple integrations—spanning prime brokers, custodians, and data sources—offer clients seamless access to the full range of inventory and liquidity options. For example, Enfusion's robust connections with prime brokers enable real-time updates on inventory changes, while custodial partnerships ensure smooth settlement processes across jurisdictions.
Enfusion's APAC client forums also create a vital feedback loop that shapes product development. This collaboration helps firms stay ahead of market evolution while ensuring their systems can handle multi-market complexity.
The blueprint for managing short inventory in APAC
The APAC short inventory landscape is evolving rapidly. While technology and integration remain foundational, future success depends on how firms position themselves across three dimensions:
- First, market access is becoming increasingly nuanced. As markets like China continue opening and regulators adjust their stance on short selling, firms need systems flexible enough to capitalize on new opportunities while managing compliance requirements.
- Second, competitive advantage increasingly lies in firms' speed of execution. Those that can instantly validate inventory levels, assess borrowing costs across multiple venues, and execute complex short strategies will capture alpha others miss. Superior performance requires more than unified systems – it demands intelligent automation to make split-second decisions within preset risk parameters.
- Third, managing your network of partners, providers, and counterparties is a strategic imperative. As supply chains for borrowed shares become more complex, firms that build strong networks across prime brokers, custodians, and technology providers will gain preferential access to scarce inventory. The most successful firms will leverage technology to strengthen these relationships, not replace them. Collaborative efforts refine existing solutions and help anticipate and address emerging market needs.
Firms must prioritize operational frameworks that unify technology with local expertise, automate core processes, and strengthen stakeholder partnerships. By doing so, they can navigate the complexities of short inventory management while capitalizing on the region's growing opportunities.
Take the next step and contact us to explore how pay-to-hold can shape the future of your investment approach.
Share
Related Topics