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Mondo Visione Exchange Forum: Industry debates the role and future of exchanges

First Published 19th November 2014

Scrutiny of exchanges' business models made for heated debate at last week's Exchange Forum conference hosted by publisher Mondo Visione, as tempers continue to ignite over the cost of market data in Europe.

Arnaud Giblat, UBS

Arnaud Giblat, UBS

"This is where there are real opportunities, especially in the case of LSE acquiring FTSE and making it fit within its portfolio down the line."

London - Hardly a conference goes by without buy side firms proclaiming that they feel gouged by European exchanges over the price of market data.

And though getting an idea of just how expensive exactly is fraught with caveats, one source said to look at the price tag of recent acquisition announcements such as the $2.7 billion deal agreed by the London Stock Exchange Group for Russell Investments. LSE's market cap is just over $4 billion.

ITG's head of European business Rob Boardman said that compared to the US, research shows European market data costs 10x more.

One thing's for sure: challengers to the European data pricing model are coming hard and fast from all sides of the industry.

Reaching for revenue

From an investor perspective, the advance of exchanges into the benchmarking business presents enormous opportunities in the form of "cost synergies", said UBS analyst Arnaud Giblat.

He explained that in an acquisition, typically 30% is discounted off the target's expense base.

"In the case of Russell, we are told to expect a 100% of the cost base to come out," he said.

But it is also about the ability to roll out new products, he added. "This is where there are real opportunities, especially in the case of LSE acquiring FTSE and making it fit within its portfolio down the line," Giblat said, point to fixed income indices in particular.

Peter Lenardos, analyst at RBC Markets said: "Ironically, when we talk about diversification, we talk about diversifying away from trading (like) pre-trade indices. Information benchmarks (are a) growth asset with expectations (that) passive investing (will) grow substantially over the coming decade."

Panelists across the board, which included the World Federation of Exchange's acting chief executive, Nandini Sukumar, said that the move is "brilliant" and "a great idea" but Richard Baker, chief executive of Cleartrade Exchange added "as long as open access to these indices also appear".

Preparing for post-trade

Despite raising the haunting spectre of open access, Baker did acknowledge that his business "only exists because we have been able to get a number of exchanges to give us access to their clearing houses".

Cleartrade exchange is a regulated futures market for global electronic trading of commodity futures and OTC cleared derivatives. It now connects to five clearing houses.

"Extending choice at the point of execution is part of what the regulators were thinking about. The G20 mandate was about differentiating between the role of mandatory clearing and what happens at execution and I think that points to a change," he said. "Choice and differentiation and innovation is much greater to achieve at the execution level than at the clearing level."

He added that Asia has also seen a boon of emerging physical traders looking to hedge commodities such as iron ore or coal, and ultimately want choice, and choice is part of mitigating risk in the CCP layer as well.

UBS' Giblat sounded a word of caution over the level of revenue that clearing houses might generate from an investor's perspective however. Capital requirements to ensure systemic security are important, but will trap money, so "the multiples paid for those businesses should reflect that".

At the same time, he expects collateral management will become a highly interesting prospect. "Once we wind off quantitative easing, once OTC clearing comes along, once Basel III and capital liquidity requirements come to banks, well, the IMF and a number of independents have talked about a $2 trillion gap (collateral shortage) and rehypothecation will be the name of the game," Giblat said.

UBS recently chose Deutsche Boerse's Clearstream while in a phase of restructuring to address the need and opportunities of managing collateral efficiently. Euroclear's Collateral Highway is another market offering leveraging off these expectations.

Dynamic doldrums

Still, the constant need to innovate may actually be causing the industry to suffer, said Philippe Carré, global head of connectivity at SunGard Capital Markets. That's because innovating can result in ripple effects all the way through the order chain and eat up time and resource away from thinking about navigating the business' future.

Carré mentioned research showing that half of new products launched on derivatives exchanges went "absolutely nowhere" - no trading, no liquidity.

"All the efforts to put these products live - the product management, all the development required to be able to connect and trade those products - all of that was completely for nothing".

On market data innovation, he points to standardisation initiatives, often led by exchanges. "The problem with that is you have so many of these initiatives, it is hard as a technology provider sitting between clients and the provider of (that) information to juggle what is key essential (and then) to convince people to really have a look," he said.

But what he doesn't expect is another era of massive disruption that heralded the end of the trading floor. Sure, algorithmic trading is spreading into the FX world, into derivatives and a healthy level of cross pollination continues to exist but it is "more incremental".

The next revolution

Incremental or not, disruptors tried to convey the reasons their ideas and companies represent a sea change in the financial space.

Kerim Derhalli, founder and chief executive of Investr is taking aim at the whole idea of charging for market data. "It should be a social good, every organisation should be compelled to provide data for free so it can be consumed for free by people who need it," he said.

Investr's platform aims to provide access to news and market commentaries, real-time data, research reports, and do it in a way that is "extremely affordable".

"We are probably the only platform in the world where you can buy real-time data on a single instrument, one day at a time, for once cent," he said.

Consumer flexibility in this regard is where Derhalli believes "the next revolution is going to come".

"If you look at every other industry, what technology has done is to fragment all of the old past structures to get rid of the intermediaries and put power and control back in the hands of individuals and that is what we are trying to do as far as financial data and financial markets are concerned," he said.

If people can do it without the exchange, they are encouraged to do so, said Peter Jessup, head of development for market technology systems and SVP of global software development at Nasdaq, during the last panel session of the day.

"We need to make our money somewhere. We can shift the balance about but we can't run at a loss. At the end of the day we are for-profit businesses," Jessup said, adding that there are numerous examples of secondary markets being unable to manage when principal markets are down.

"Everybody loves market data but nobody wants to pay for it, we all know that," said Virgine Saade, managing director, execution services and market structure at KCG Europe. "But it is all about fairness, if you don't have access to data you can't trade, or you can't trade accurately. So ESMA is going to have to come up with some guidance around that."

Whether the European markets regulator ultimately decides on some form of cap or long-run incremental cost basis, where the exchange can't charge more than the cost, is yet to be seen. "Maybe it is a solution in the middle…but somehow we must have access to data and if you trade a lot or not a lot it doesn't matter," she said.

ITG's Rob Boardman pointed out that intellectual property is part of an exchange function but that if there is a "pseudo-monopoly" then "that is the issue that needs to be changed".

Other topics of the day included surveillance and cyber security, changes in the post-trade landscape and an outlook of the OTC markets.