Bats agrees to merge with Direct Edge as exchange volume shrinks

Bats Global Markets Inc. and Direct Edge Holdings LLC agreed to merge, uniting two of the biggest American exchange operators amid a four-year decline in volume.

The third- and fourth-largest equity market owners said the transaction will close in the first half of 2014. Joe Ratterman, the chief executive officer of Bats, will keep that role at the combined firm, while Direct Edge CEO William O’Brien will be president. Financial details weren’t disclosed.

Formed by some of the fastest traders on Wall Street, the closely held companies have watched volume dry up in the U.S., cutting profits at the proprietary trading firms they count among their biggest customers. Shares changing hands on all U.S. exchanges have fallen 36% since 2009 to 6.3 billion shares a day in 2013 and profits for high-frequency traders slipped 80%, according to data compiled by Bloomberg and Rosenblatt Securities Inc.

“Conceptually, this consolidation play makes sense, but the real question could be what happens after that,” Sang Lee, managing partner and co-founder of Boston-based Aite Group LLC, said by phone on Aug. 23 after Bloomberg News reported the two companies were in discussions. “Assuming they have 10% each in market share and they are combined to get around 20%, then what? From a transaction business perspective you really haven’t acquired a new revenue source.”

The companies’ four exchanges will keep operating, using Bats’s technology, according to a statement. The combination will be headquartered near Kansas City, Missouri. Bats is based in Lenexa, Kansas.

Trading Systems

Bats, an acronym for Better Alternative Trading System, started trading in 2006, aiming to match the incumbent exchanges on speed and beat them on prices. Seven years later, the firm’s daily average U.S. equity market share is about 10%, according to data from Tabb Group LLC. That compares to averages of 23% at NYSE Euronext and 18% at Nasdaq OMX Group Inc. Direct Edge has about 11%, Tabb said.

The deal comes as IntercontinentalExchange Inc. prepares to complete the acquisition of NYSE Euronext, which owns the New York Stock Exchange, the oldest U.S. bourse. Combining Bats, and Jersey City, New Jersey-based Direct Edge would make them the second-biggest market by volume.

Bats, which tried and failed to go public last year, was founded in 2005 by high-frequency trader Dave Cummings of Tradebot Systems Inc. and, along with Direct Edge, helped dismantle the duopoly on American stocks that was enjoyed by the New York Stock Exchange and the Nasdaq Stock Market.

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