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Exchanges to Continue Diversifying in Response to Market Changes

Expect derivatives
exchanges to continue diversifying away from their core business of providing a
platform for trading, was the message from exchange heads at the FIA Boca
conference.

On the same day that
Deutsche Boerse and the London Stock Exchange announced that they had agreed a
merger deal, exchange leaders at the conference said that they expect the need
to achieve capital efficiencies to be a key driver of exchange behaviour in the
future.

“If you look at the
change in the landscape from 10 years ago, where it is now and look ahead to
the next 10 years and what are the drivers that will cause either continued
mergers or consolidation or co-operation and it’s first and foremost the environment,”
said Phupinder Gill, CEO of the Chicago Mercantile Exchange (CME).

He said that the
current financial markets environment has created regulatory requirements that will
force firms to look for greater capital efficiencies.

“Looking at things
form the perspective of the client base, they want more capital efficiency
solutions,” said Gill, adding that this will be one of the “major drivers” of
exchange behaviour.

Filling the Void

One impact of this
increased need for capital efficiency is that banks have been re-assessing
their business lines and withdrawing from providing services that are more
capital intensive. The consequence of this is that exchanges are diversifying
in order to fill the void left by this withdrawal.

“The banks seem to, right
now in 2016, be unable to provide certain services to their clients that they
used to be able to provide that the market took for granted and to a large degree
exchanges and others are filling those services,” said Jeffrey Sprecher, CEO of
Intercontinental Exchange (ICE).

He said that the buy
side is also increasingly using exchanges as a way of managing capital and that
this convergence of both the sell side and the buy side coming towards
exchanges is what’s allowed these firms to continue growing. “That’s the
over-reaching trend that we see going on right now,” Sprecher added.

The extent to which
the exchange groups have already diversified their businesses was illustrated
when Andreas Preuss, deputy CEO of Deutsche Boerse, revealed that his firm is
moving “in fast steps” towards having trading and clearing account for less
than 50% of its overall revenues.

“I predict that the
business that we do today, 10 years from now will be a fond memory,” he said,
adding that exchanges have shifted towards becoming technology companies.

Commoditised Business

However, Sprecher, who
said that more than a third if ICE’s revenues come from its data services
business line, stressed that the exchange will remain central to these evolving
companies.

“The exchanges, while
they on a percentage basis may go down in terms of revenue contributions or
earning contributions, they’re the ecosystem that drives what we’re talking
about, which is why are customers talking to us about their risk management
needs, why are we learning about new products, why are we building networks, why
are we involving our technology to touch our customers. The exchange is at the
middle of it,” he said.

Sprecher revealed that
he has fielded questions from investors about the possibility of spinning out
the exchange due to what they perceived as its diminishing relevance. But he
said that he rejected these suggestions, arguing that the exchange is a vital
touch point for other, sometimes higher value, parts of ICE’s business.

“That being said, the
matching itself – the matching of buyer and seller – may continue to become commoditised,
it certainly has in the equities market in the US and Europe due to regulatory
pressures,” he said.
 

“But then what happens
is you have fragmented markets, chaotic markets, and its much harder for
customers to do what they’re really trying to do and all these other services
spring up around it and that’s probably part of an evolution that we’re not
going to be able to stop, but all of us will continue to evolve and innovate
around.”

galen@profit-loss.com                                    Twitter:
@Galen_Stops

Colin Lambert

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