Exchanges: With Nymex, CME creates a global player

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By:
Peter Koh
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Sang Lee, Aite Group

"The combined entity is a very strong competitor in an increasingly consolidating global marketplace"
Sang Lee, Aite Group

The Chicago Mercantile Exchange has pushed through a contentious $7.7 billion acquisition of the New York Mercantile Exchange following months of negotiations. The CME was already the largest derivatives exchange in the world but the combined group, with pro forma 2007 annual revenue of $2.7 billion and average trading volume of approximately 14.2 million contracts a day in the first two quarters of 2008, will now control some 98% of trading in US futures and exchange-traded options.

"As a united company we are well positioned for a new phase of growth, innovation and product development that will benefit our customers, shareholders and market users around the world," commented CME Group executive chairman Terry Duffy.

The deal was first announced in January but some Nymex members complained that it undervalued their company at a time when commodity markets were booming. However, after a series of negotiations, the CME managed to secure 80% (650 member votes) support for the deal – they needed at least 75% support to get it through.

The CME expects the integration of Nymex to create $60 million in cost savings. In the second quarter of next year it aims to migrate the Nymex and Comex (the commodities part of the business) trading floors into one and integrate fee systems. Membership systems will be integrated in the first quarter, and clearing and price reporting systems will be integrated in the third quarter. The addition of Nymex’s energy and metals contracts will expand the CME’s already diverse product range, which covers interest rate derivatives, equity indices, currencies, agricultural products and other niche products such as weather derivatives and real estate derivatives.

The acquisition is the latest example of a global consolidation trend in stock and futures exchange businesses that has seen the emergence of a few big international players. The deal comes a little over a year after the CME’s acquisition of its historic rival, the Chicago Board of Trade (CBOT), and in April last year the New York Stock Exchange merged with Euronext, which itself took over the London International Financial Futures and Options (Liffe) exchange in 2002. The other significant player is Deutsche Börse and its subsidiary – which it jointly owns with SWX Swiss Exchange – the Eurex derivatives exchange. The German exchange failed to buy the London Stock Exchange in 2005. It also unsuccessfully bid for Euronext in 2006. However, last year Eurex, in a $2.8 billion deal, acquired US electronic options market the International Securities Exchange (ISE), which lists dollar-denominated equity options, index options and foreign exchange options.

Sang Lee, managing partner at Boston financial consultants Aite Group, says the acquisition of Nymex will help establish the CME as a leading global player. "The combined entity is a very strong competitor in an increasingly consolidating global marketplace," he says.

Lee adds that regulatory authorities are now more open to letting mega-mergers go through because they too recognize that exchanges have to compete globally. "Certainly, the global trend of exchange consolidation has had a huge impact on how the regulators are looking at these deals," he says. "I’m not sure a deal like this, or even the CBOT takeover, would have gone through 10 years ago. But at this point the regulators have bought into the CME’s argument that it is no longer about domestic competition. Instead, it’s about global competition – whether or not they can compete against players like the NYSE Euronext, or Deutsche Börse with its Eurex component."

New competitive forces may be about to come into play. In March, 12 financial institutions announced that they intended to form a new futures exchange called the Electronic Liquidity Exchange (ELX). The 12 include leading banks such as Citi, JPMorgan and Deutsche Bank, as well as the Chicago hedge fund Citadel. Few details have emerged about the project but ELX is expected to go head to head with the CME on US treasury futures.

A similar European project, dubbed Project Rainbow, is also at an early stage of development. This too is being led by investment banks and is intended to increase the competitive pressure on European exchanges and clearing systems. Lee says it is too early to gauge how these projects will affect the market, but adds: "The large banks and broker-dealers have an incredible amount of market clout, so their presence will make a difference."