Exchange consolidations: Help or hospice?

In addition, the U.S. Treasury Department seems set on exempting swaps involving foreign currencies. The forex market itself has a $4 trillion-dollar-per-day turn-over.

Finally, customized swaps that do not lend themselves to be duplicated in sufficient volume to warrant trading on a central market need not be accepted by any exchange or clearinghouse. This, too, could shelter a great many swaps.

So, Dodd-Frank does not necessarily mean a massive shift of swaps to a fully-regulated regime. Most will incur new federal requirements but may remain in the realm of privately-negotiated arrangements through systems paralleling the traditional markets. For instance, the CFTC may not require strict collateralization—as on exchanges—for private swaps of commercial hedgers. There should remain abundant competition to the exchange-centric model. This gives rise to the question: will mergers among exchanges address this threat or simply “circle the wagons” without addressing the true threat?

On the securities side, the same question is posed and, in some ways, more acutely since alternative trading systems can be used not only for security derivatives but for exact copies of exchange-listed offerings, as has been the case for generations. While consolidations among traditional exchanges will amplify their trading numbers, and perhaps their revenues, through the simple physics of combining data that would otherwise be reported separately, there is reason to wonder whether this strategy can or will blunt the real challenge facing those markets. And there are frictions that might impede even this cosmetic change.

Antitrust. Even for domestic exchange mergers, close scrutiny is expected of any two significant exchanges that propose to do so. Even the potential for eliminating the possibility of dual listings of the same securities or derivatives could give antitrust authorities reason for pause. This concern is elevated for cross-border alliances, not only because multiple competition reviews will occur but because a sense of “dominance” at the international level would touch a far wider economy.

Regulation. Where more than one regulator has the burden of market integrity and performance, neither will want to reduce its grip over policy, supervision, or enforcement. For cross-border link-ups, this impediment is magnified. In a European/U.S. merger like Deutsche Boerse and NYSE Euronext, each of the national regulators wanted to retain the tools necessary to protect the people they are sworn to serve. Even if one regulator is assigned “primary” responsibility, others retain a seat at the table for key decisions and during crises. This could not only produce a shifting regulatory landscape for the combined exchanges but require that key functions—clearing, surveillance, rule enforcement—remain separate in order to accommodate local authorities and thus reduce the normal cost benefits of consolidations.

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