Streetwise Professor

March 16, 2011

To Merge Their Farms, Will Deutsche Borse and NYSE Have to Sell the Silo?

Filed under: Clearing,Derivatives,Economics,Exchanges,Regulation — The Professor @ 10:52 am

Immediately following the announcement of the proposed NYSE-EuronextLIFFE-Deutsche Borse deal, I stated that the main risk to the transaction would be that European antitrust regulators who are not keen, to say the least, on the vertical integration of exchanges and clearinghouses (the “silo” model).  A close watcher of these developments, Anthony Belchambers of the Futures and Options Association, believes this risk is quite real:

European regulators could push merger partners NYSE Euronext (NYX) and Deutsche Boerse AG (DB1.XE) to spin off part of their derivatives clearing business, according to a senior industry lobbyist.

Fusing NYSE Euronext’s London-based Liffe unit with the German company’s Eurex business would create a dominant force in European-listed derivatives, and antitrust officials may target the profitable clearing segment as part of any approval, said Anthony Belchambers, chief executive of the Futures and Options Association, which represents banks and brokers in the region.

“Clearly they’re going to be looking very closely at this,” Belchambers said of the regulators’ stance. He was speaking in an interview on the sidelines of an industry conference organized by the Futures Industry Association, the FOA’s U.S. counterpart.

Deutsche Boerse has in the past successfully fought efforts by some European lawmakers to force the separation of its clearing business, and analysts said a renewed push could effectively sink the planned NYSE Euronext deal.

Belchambers said regulators are likely to focus on exchanges’ control of clearing trades in futures and options contracts listed on their markets, a framework that has enabled market operators like Eurex and Liffe to fend off competitors in fixed-income and stock-index contracts.

This would be a deal killer, most likely; the main attraction of the deal is the potential to exploit clearing efficiencies and profits, and DB considers integrated clearing an essential part of its business model.  I would think that DB would rather stand pat with its current business than merge and amputate its clearing operations.

Given that, will European regulators push it and impose conditions that make the deal unpalatable, especially for DB?  And if they do, will that leave the door open for NASDAQ (perhaps in conjunction with ICE)?  Absent a deal killer, or the serious prospect of a deal killer, I don’t see NASDAQ or NASDAQ + ICE as a serious threat to break up the proposed merger, especially since NASDAQ+NYSE would pose antitrust issues here in the US.

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2 Comments »

  1. The current vertical silo is already under threat from the expanded scope of EMIR to cover both listed and OTC derivatives, within which there is a current EU Council provision in Article 5 requiring fair and open access to a) CCPs by execution venues and b) to execution venues by CCPs. This would mean Eurex would have to provide access to its listed CCP to competing Exchanges. For this reason, they and the German Authorities have been lobbying furiously to kill this extended scope to listed.

    At the same time, Eurex today announced it intends cross-margin between listed and OTC products, thereby making a mockery of their suggestion that CCPs for OTC be regulated differently from listed products, given that they are now proposing to integrate/consolidate the risk for such products as well as the Ops/Management.

    I agree with Anthony that this is looking very likely as the EU requirement for the merger to go ahead and with you that operating solely as an Exchange business would be far less appealing to Eurex.

    It is notable in the US, that whilst they are demanding that OTC CCPs offer fair and open access to SEFs/DCMs, Gensler has made no such demand of the Futures market which is dominated by CME and its’ listed vertical silo.

    Comment by John Wilson — March 16, 2011 @ 11:22 am

  2. Thanks, John. I was aware of the EMIR issue; it’s difficult to assess, at least from the press that I’ve been reading, what the prospects for those provisions are. I know there’s a lot of furious negotiating going on behind the scenes. Always tough to figure how that’s going to turn out but given the stakes for the Germans I thought it would get watered down in the end.

    I figured from the start that the EU would use this as an opportunity to eliminate something that has galled them for a long time. I can’t imagine that DB would have figured otherwise, and figuring that, how they believed that were going to get around it.

    Re “mockery”: a foolish consistency is the hobgoblin of little minds 🙂 Similar comment re CME. Also, Gensler knows the IL Congressional delegation would have his head if he tried. Back when the USDOJ wrote its jeremiad against silos in the aftermath of its approval of the NYMEX and CBT takeovers, I wrote a blog post about it. I was told by people who witnessed it that one Senator’s “head exploded” after it was brought to his attention and he read it, and that several senators went on the warpath against DOJ telling them in no uncertain terms that that will NEVER happen again if they know what’s good for them.

    Thanks for your comments. Please share more if you have occasion to.

    The ProfessorComment by The Professor — March 16, 2011 @ 2:38 pm

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