Will an Exchange Acquire an IBD ?

Shanny Basar

Consultancy Opimas said it expects an exchange to acquire an interdealer broker, as these firms have been experiencing a shrinking market.

Octavio Marenzi, founder and chief executive of Opimas, said in a report that exchanges have had buoyant revenue growth and strong returns and command far higher multiples than interdealer brokers. Opimas said that since 2011 the interdealer broker market has shrunk by more than 30% due to increased regulatory constraints, higher capital requirements, low interest rates and a shift from over-the-counter to exchange-traded derivatives.

“We believe that this creates an opportunity for an exchange to acquire an interdealer broker, and generate significant shareholder value – although such an acquisition is fraught with risks,” Marenzi added.

The consultancy added that is unlikely that interdealer brokers will see a turnaround in the difficult market environment over the next year and the situation could deteriorate even further, as large banks cut more costs and further shrink their balance sheets. “Against this backdrop, we do expect to see exchanges step in and make some acquisitions,” said Marenzi.

Some exchanges have already acquired businesses from interdealer brokers. For example Nasdaq purchased eSpeed, BGC  Partners’ electronic trading platform for US Treasuries, allowing the US exchange group to expand into fixed income trading and market data.

“However the results have not been encouraging,” added Marenzi.”While eSpeed had a greater market share of US Treasury trading than Icap when the platform was acquired by Nasdaq in 2013, now, Icap has almost twice the volume of eSpeed.”

In 2008 the Intercontinental Exchange acquired interdealer Creditex, the first fully electronic trading venue credit default swaps, which led to the launch of ICE Credit Clear, a CDS clearing service.

ICE completed the acquisition Trayport, which provides software for energy trading, from BGC Partners last year although the UK Competition and Markets Authority provisionally ruled that the merger could lead to a substantial lessening of competition. Last week the competition regulator said a disposal of Trayport was the only effective remedy and that ICE will have to sell the business to a new owner approved by the CMA.

Marenzi said: “Should ICE be forced to divest itself of Trayport, it is difficult to imagine that Trayport will command a price close to what ICE paid for it.”

Interdealer brokers have adopted different strategies to deal with their shrinking market. Tullett Prebon and BGC Partners are trying to achieve greater economies of scale through acquiring voice brokerage businesses from different interdealer brokers.

Opimas noted that in stark contrast to BGC Partners and Tullett Prebon, Icap has made the strategic decision to focus mainly on electronic trading through BrokerTec for US treasuries and repos and EBS for foreign exchange.

Icap announced in November last year that it intends to sell its hybrid voice broking business to Tullett Prebon. Once the sale is completed the Icap brand will be transferred to Tullett Prebon and the remaining business consisting of post trade risk and information services and electronic markets will be renamed Nex Group plc.

In addition, this month Icap announced the acquisition of Abide Financial and the regulatory reporting technology provider will become a subsidiary of Icap’s post trade risk and information division.

Jenny Knott, chief executive of Icap’s post trade risk and information said in a statement: “Increased scrutiny and regulation of the financial services industry has created significant opportunities for us at Icap to help companies meet new regulatory demands that many do not want to carry out in-house, primarily because of the cost and manpower involved.”

Marenzi said interdealer brokers can either move down the value chain or deepen services where they are already active such as post-trade services, software, connectivity, order routing and analytics. He said: “With new regulations looming in Europe in the form of MiFID II, we believe that IDBs are well positioned to provide services to the market that involve price discovery and best execution, their core areas of expertise.”

Abide provides a regulatory reporting hub to allow clients to meet the requirements of regulations such as Emir, for clearing, and MiFID for financial markets. The firm is waiting for regulatory approval to become a trade repository under MiFID II, which will come into force in the European Union in 2018. After the acquisition, Abide will be integrated with Traiana, Icap’s post trade processing business and Icap’s approved publication arrangement reporting service.

The transaction has been led by Euclid Opportunities, Icap’s investment arm focused on emerging fintech companies, which had already made a minority investment in Abide last year.

Michael Spencer, group chief executive of Icap said in a statement: “This acquisition demonstrates how the team at Euclid works and how it will continue to operate as we transition to become Nex.”

Icap/Nex is the most obvious candidate for an exchange acquisition as its fully electronic approach to trading closely mimics how exchanges operate according to Marenzi. “We fully expect to see Icap/Nex acquired by an exchange within the next 18 months,” he added.

Marenzi continued that exchanges with a higher appetite for risk could acquire an interdealer broker with mainly voice trading as  potential returns are much higher.

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