Once regarded as national treasures, over the past few years many exchanges have been evolving into cross-border operations, focused on capturing larger market shares. Following this wave of consolidation and collaboration, however, it still remains to be seen whether bigger really means better.

The competitive landscape of stock exchanges is adjusting to the pressures of regulation, competitive forces and squeezed margins. The merger mania of 2011 – when there was a flurry of deals that aimed to create global cross-border exchange groups – has passed and the mood tempered. In developed markets – particularly the US and Europe – the pace of the mega deals has shifted down a gear, while in emerging markets, consolidation is gathering pace in the form of in-country mergers, deals with developed markets and regional integration.

The recent completion of global exchange network IntercontinentalExchange (ICE) Group’s acquisition of European and US exchange network NYSE Euronext signals a landmark in the road to exchanges becoming larger and more international. The likelihood of this sparking a consolidation wave of similar cross-border deals, however, is limited given the failure of previous merger attempts to get past competition authorities and objections based upon national interests.

Mark Hemsley, chief executive officer of BATS Chi-X Europe, puts the consolidation in the context of a broader trend in developed markets where exchanges have evolved into public companies. “In many cases exchanges were national treasures,” he says. Although many were demutualised and became public companies, he explains, “they still had a strange status because they were effectively monopolies, or near monopolies, but were not regulated as monopolies".

Davids and Goliaths

Along came regulation – in the form of Regulation National Market System in the US, and Europe’s Markets in Financial Instruments Directive (MiFID) – to introduce competition in the market and break up the stranglehold of the monopoly-like companies.“Regulators introduced this competition and really started to treat exchanges as normal firms and, as a consequence, looked at competition regulation,” says Mr Hemsley.

Alasdair Haynes, CEO and founder of Aquis Exchange, says: “In developed markets, where there is competition, it really becomes about economies of scale. We are not surprised by big Goliaths becoming even bigger Goliaths.” 

These giants, however, can be too big, and it was for this reason the European Commission blocked the previous acquisition attempt of NYSE Euronext – by Deutsche Börse – in February 2012.

Regulation has significantly changed the competitive landscape in the US and Europe, but Mr Haynes is not fearful of the cross-border exchange groups and believes that smaller, nimble players – such as Aquis Exchange – can challenge the giants. He says that exchanges such as Chi-X Europe, of which he was the CEO before its sale to BATS in 2011, and now Aquis Exchange, are able to operate a business that is far more cost efficient than the large exchanges.

Mr Haynes draws the comparison with other industries where monopolies have been broken up and competition has come in. He compares Aquis Exchange to budget airlines that are competing with the national carriers on price.

“We have seen it in telecoms, and now we see it in exchanges – there is room for all the participants,” he says. “In Europe, there will be a handful of successful players that have come from one or two of the national exchanges that have merged – such as ICE and NYSE Euronext – and new specialised players like us."

National pride

Aside from competition concerns, national interests have also played a role in dampening the merger mania of cross-border deals. “It goes back to the days when all a country needed was a flag, an army and a stock exchange – it is a fundamental part of [an] economy," says Mr Haynes. "That is very difficult when taking them over."

Back in April 2011, the Australian treasurer Wayne Swan blocked Singapore Exchange’s takeover attempt of the Australian Securities Exchange (ASX Group) on the grounds of national interests. And, in June 2011, London Stock Exchange Group (LSEG) lost out in its international bid for TMX Group, which runs the Toronto and Montreal stock exchanges, to a local Canadian consortium.

There has been speculation that the Singapore Exchange is still on the lookout for other merger opportunities, and that the Australians could also soften their stance on a potential takeover of the ASX Group. Since the merger attempt, ASX Group CEO Elmer Funke Kupper has said that the group continually evaluates opportunities.

According to an ASX Group spokesperson: “ASX believes exchange consolidation will continue around the world. It is important to stay competitive and put yourself in the best possible position to participate on Australia’s terms. But there is nothing for ASX to talk about at the moment."

Despite the difficulties involved in seeing a cross-border merger to completion, Mr Hemsley says: “There is still immense commercial and industrial logic to exchange consolidation. There can be tremendous synergies out of combining technology, operational and sales functions and linking to other areas such as clearing.” He expects consolidation to continue, but because of competition regulation and national interests, he anticipates it will be at a slower rate than in previous years.

When asked if any more big cross-border mergers are likely, Niki Beattie, managing director of Market Structure Partners, says: “Large international mergers are fraught with difficulties. It takes a year to work out if a merger can go ahead – that is a lot of management time and lost traction – it is quite a painful thing to contemplate."

Market movement

In response to those who argue that exchange mergers are often not successful, Richard Repetto, an analyst at investment banking form and broker-dealer Sandler O’Neill, says: “Generally mergers in the exchange space have worked. The only issue is getting the cross-border synergies. I think there is still potential for large cross-border deals, but they have got to be very well thought out and well considered because there have been examples of the political and regulatory interests being more important than the financial benefits of the exchange consolidation." Mr Repetto adds that aside from the benefits of scale, asset diversification is another important driver for consolidation among exchanges.

Ms Beattie expects to see more consolidation between derivatives and cash exchanges. “It is not easy to run a profitable equities exchange on its own,” she says.

Larry Tabb, founder and CEO of financial markets research and advisory firm Tabb Group, says: “Countries do not seem to be as tied to derivatives exchanges as stock exchanges." He points to there being more opportunities with the regulatory push post-crisis to move over-the-counter (OTC) trading onto exchanges. He adds that OTC transactions tend to be derivatives, rather than equities, and says “there is significant potential upside for the derivatives market”.

Bridging the gaps

When it comes to cross-border deals with exchanges in markets that are less developed than the US and Europe, protectionism is a major hurdle for potential acquirers. In Asia, for example, Ms Beattie says that many of the exchanges are protected by local market regulation and it is unlikely that a foreign player would be able to go in and acquire one. She adds that imbalances exist in the state of competition between developed and developing markets and notes that exchanges in protected markets are valued higher because of the monopoly rent they are able to charge.

Ms Beattie points to research that her firm undertook on transaction costs, which found that in markets where there was not a high level of competition, such as China and Brazil, the exchanges – most notably Shanghai Stock Exchange and BM&F Bovespa – stood out as having high transaction costs despite having considerable economies of scale in the market.

There are examples of exchanges from US and European markets buying into more protected markets – such as ICE’s acquisition of Singapore Mercantile Exchange and Deutsche Börse’s acquisition of a stake in Singapore’s Cleartrade Exchange, a commodity derivatives exchange. These smaller start-up derivatives exchanges, which are not part of the national psyche, are less protected and are examples of the few opportunities for a large exchange group to buy into Asia, says Ms Beattie.

Philippe Carré, global head of connectivity for technology provider Sungard’s capital markets business, says that there is an emerging trend for exchanges from mature markets – the US and Europe – to link up with emerging countries. He gives the example of Hong Kong Exchanges and Clearing completing the acquisition of the London Metal Exchange (LME) and says that this is significant because it opens up the Chinese market and brings Chinese funds to the LME.

Ms Beattie, who is also a non-executive director of the Moscow Exchange, says that the consolidation in emerging markets is likely to be in-country mergers that will be driven by the need to pool resources and build national infrastructure. In the developed markets of Europe and the US, by comparison, consolidation is likely to be driven by competition and regulation, she adds.

Major agreements since January 2011

Centripetal forces

Russia provides an example of pulling together the fragmentation in market infrastructure so that the country can compete on an international level. The Moscow Exchange was created by combining the Micex and RTS exchanges. The exchange group also operates a central securities depository and has the National Clearing Centre, a central counterparty, as a subsidiary.

In April 2013, Turkey similarly merged its stock exchange, derivatives exchange and gold exchange to consolidate and improve the country’s financial infrastructure. The same rationale was behind the merger of exchanges in Japan. The Japan Exchange Group (JPX Group) was officially born in January 2013 and was created from the merger of Tokyo Stock Exchange Group and Osaka Securities Exchange, which the company said was a response to the increasingly intense cross-border competition.

There have been reports that the JPX Group is in negotiations to acquire the Tokyo Commodity Exchange (Tocom). A spokesperson was unable to comment as to whether there had been any developments, but said that it was a clear option, and the company is considering “all possibilities”.

In a previous press briefing Atsushi Saito, CEO of the JPX Group, said: “We have already put forth our proposal to Tocom several times, but every time we've done so it has postponed its decision. As of present, we understand that it will have a request for proposal process and we'll need to submit our proposal then. We want to accommodate its needs in the system as far as possible and we want our bid for the contract to be successful.”

Building alliances

Given the time-consuming nature of negotiations and the difficulties in gaining regulatory approvals, an alternative to acquisitions is to build alliances. Mr Carré says that he expects to see more alliances in the future rather than large cross-border mergers, particularly between developing and developed countries.

One such example is CME Group’s (which operates the Chicago Mercantile Exchange) strategic partnership with Brazil’s BM&F Bovespa. The agreement between the two parties allows routing between the two marketplaces, cross-investment in each other, and a commitment to develop future products and businesses together. CME Group also has partnerships with other exchange groups such as Dubai Mercantile Exchange, the Mexican Derivatives Exchange and Bursa Malaysia.

Mr Carré likens exchanges to shopping malls that need more boutique stores and a greater footfall of customers. Creating alliances and strategic partnerships is one way to achieve both, as has been the case with the tie-up between Eurex Exchange, which is now owned by Deutsche Börse Group, and Korea Exchange (KRX). The Eurex/KRX Link was created in 2010 and as of February 2013, Eurex has gained regulatory approval to offer all of its products in South Korea.

Technology is a key part of such arrangements and elsewhere there have been technology partnerships between mature exchanges sharing their technology with emerging markets. The UK’s LSEG has been building partnerships with exchange groups around the world through Millennium IT, LSEG’s proprietary technology company. Millennium IT has entered partnerships with the Kuwait Stock Exchange, the Mongolian Stock Exchange, the Saudi Capital Markets Authority and 13 African exchanges.

Largest domestic equity market capitalisations at year-end 2013

Regional integration

In Africa, as well as other emerging regions, co-operation between exchanges is playing a significant role in moving toward regional integration. In Africa, for example, the Bourse Régionale des Valeurs Mobilières (BRVM) is a regional stock exchange for eight countries in west Africa. In a previous interview, BRVM’s chief executive, Edoh Kossi Amenounve, told The Banker how the BRVM and its west African counterparts in Nigeria, Ghana and Sierra Leone set up a council in January 2013 to create closer ties, with a view to potentially creating a single west African exchange in the future.

In Latin America, Chile, Peru and Colombia have integrated their stock exchanges on the Mercado Integrado Latinoamericano (MILA). Mexico’s stock exchange, Bolsa Mexicana de Valores, has signed an agreement to join MILA, and once the integration is complete the market cap of the regional exchange will be similar to Brazil’s BM&F Bovespa.

In Asia, the Association of South-east Asian Nations (Asean) has been working toward a goal of forming an economic community in 2015. The Asean Trading Link was launched in September 2012, which aims to overcome fragmentation in the region and harmonise the markets, and also create a single Asean asset class.

The creation of a single pan-regional marketplace that compares to what has been achieved in Europe under MiFID is a long way off, especially considering it took decades for Europe to achieve regional integration after first envisioning the creation of a single market.

That single market has developed to the point where competition has opened up and the stranglehold of national monopolies has been loosened. In their place, however, giant cross-border exchange groups have emerged to compete in the new competitive landscape. Further cross-border consolidation among developed exchanges, however, will likely continue at a slower pace and more consolidation activity will shift toward emerging markets.


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