The global capital markets have seen significant changes over the last 15 years. The advent of the Internet and adoption of other innovative technologies has made exchange-traded markets more transparent than ever before and has substantially lowered the barrier to market entry. One of the most fascinating changes over the last decade has been the transformation of the exchange competitive landscape. The process of demutualization essentially altered the DNA of the exchanges, transforming exchanges from a member-owned (i.e., broker/dealers) industry utility to a profit-maximizing entity, increasingly coming into conflict with their former members.
At the global level, market consolidation has been the major trend as large exchanges scramble to further expand their presence regionally as well as broaden their support for different asset classes. While there are many different reasons for this trend, one of the key drivers happens to be increased competition in domestic markets driven by market fragmentation.
In order to survive, exchanges are behaving like any other publicly traded company with global aspirations: Diversify revenue source and expand market footprint.
Playing Offense And Defense
As domestic competition continues to increase, exchanges have had to play both defense and offense. On the defensive end, exchanges have devoted hundreds of millions of dollars to revamping their trading infrastructures. In addition, they have hired personnel familiar with the rapidly changing electronic trading market in the hopes of holding onto their dwindling market share. Exchanges also have had to substantially cut their transaction fees to keep pace with smaller and more aggressive alternative trading systems.
While shoring up their domestic competitive positions, exchanges have gone on the offensive via consolidation. A few of the key drivers for exchange consolidation include the following:
• Hedging against increased local competition.
• Desire to expand into other region and markets.
• Need to diversify asset class support to remain competitive globally.
New Business Models
Over the last three years, exchanges have begun to move well beyond their traditional business of listings and transactions and moved aggressively into other areas in the hope of finding more lucrative revenue sources that can withstand volatile market conditions, including stagnant trading volume. Most of this focus has led to innovations in new market data products, including development of low-latency feeds as well as next-generation data products such as unstructured data feeds.
Most large exchanges have also developed a growing technology business. Leveraging years of experience and resources committed to building out their own technology infrastructure, exchanges are selling everything from exchange matching engines and pre-trade risk tools to trading front ends. NYSE Euronext has taken one step further by building out its down data center and becoming a legitimate infrastructure player. Nasdaq OMX has been a major supplier of exchange technology for years now, with a strong presence in many global markets.