Trading Pros Still Digesting Nasdaq Bid For NYSE Euronext

Two business days after Nasdaq OMX and Intercontinental Exchange (ICE) announced a rival bid to purchase NYSE Euronext, trading professionals are still trying to digest its impact. The one-time rivals could form the largest North American exchange now that Nasdaq’s trumps the previous offer made by Deutsche Boerse in February to purchase the Big Board.

The new bid, $42.50 cash and stock, or approximately $11.3 billion, was based on the respective Nasdaq OMX and ICE closing share prices as of March 31. The offer represents a 19 percent premium over the price proposed by Deutsche Boerse and is based on its closing share price as of March 31. The price is indicative of a 27 percent premium over NYSE Euronext’s unaffected stock price on Feb. 8.

Tim Mahoney, chief executive of dark pool operator BIDS Trading, said he was surprised at the price of Nasdaq’s bid. For one, Nasdaq would retain the equities portion of NYSE Euronext, and equities trading volume has shrunk in recent years. ICE would get the NYSE Euronext’s derivatives, which Mahoney called a "high-volume, high-margin" business.

"Derivatives are the future," he said, pointing out that the cash equities business is not growing and is much more competitive than derivatives.

For shareholders, he wondered if it was better to keep the diversity of equities and derivatives, as NYSE Euronext is currently configured, or to own one dominant equities exchange in the U.S. with a roughly 70 percent market share that a combined Nasdaq and NYSE Euronext would offer.

Under the terms of the proposed merger, NYSE Euronext stockholders would receive $14.24 in cash, plus 0.4069 shares of Nasdaq common stock and 0.1436 shares of ICE common stock for each NYSE Euronext share.

As part of the proposal, ICE would purchase NYSE Euronext’s futures businesses, and Nasdaq OMX would retain NYSE Euronext’s remaining businesses, including the NYSE Euronext stock exchanges in New York, Paris, Brussels, Amsterdam and Lisbon, as well as the U.S. options business. A combination of Nasdaq OMX and NYSE Euronext would merge the trading, listings, options and market technology businesses of the two exchanges and be headquartered in New York City.

"As announced today, Nasdaq OMX has placed a bid with the intent to purchase NYSE Euronext. We believe that a combination of these two iconic companies will bring many benefits to our U.S. trading members and investors," wrote Eric Noll, executive vice president Nasdaq OMX transaction services U.S. and Europe, in a letter to clients. "I want to share with you our vision of how the combined exchange company will create additional efficiencies, offer choice through multiple market structures, lower costs and bring innovations to the market with greater speed and frequency.

Noll said Nasdaq will continue operating all self regulating organizations within the NYSE Euronext family. "We will continue to offer the full breadth of market structure options available to you today, while continuing to bring new and innovative products to market."

Furthermore, the NYSE Euronext exchanges will be integrated onto the INET platform, resulting in greater efficiencies and lower costs for all participants.

"A single group of protocols and infrastructures will allow participants to reduce IT costs, eliminating the need to support multiple code bases. Similarly, we will consolidate all markets within a single data center, resulting in lower costs and faster access to liquidity. A single point of presence is all that will be needed to access six U.S. equity markets and four U.S. options markets, equaling the largest pools of liquidity in the country."

ICE and Nasdaq OMX will continue to operate as separate entities throughout the merger process and after its completion.

Equities traders were unfazed by the announcement, as speculation has been rampant for weeks about a potential Nasdaq OMX bid.

"Everybody speculated that someone, another bidder for NYSE was lying in the weeds," said Craig Jensen, head trader at Armstrong Shaw Associates. "Obviously, this was Nasdaq.
The merger would be good for buyside firms like Jensen’s if costs associated with doing business come down. And with so many trading venues available to execute a trade, the loss of one doesn’t hurt the markets, he added.
Shares of Nasdaq rose following the announcement and closed Friday 9 percent higher at $28.23, prompting Jefferies to downgrade the stock to "hold" in a note this morning. Nasdaq traded slightly lower at $27.73 in morning trading. Shares of NYSE were also downgraded this morning by Wells Fargo to market perform from outperform.

"Nasdaq shares are within 3 percent of our price target and we believe the current valuation adequately reflects the prospects for the core business," the note said. "Following the recent stock move combined with the uncertainty of the joint proposal for NYX, we believe the risk/reward in the shares is fairly balanced." 

The note said Jefferies risks to the valuation share price include any changes to the terms of proposed merger with NYSE and overall market conditions.
Alfred Berkeley, chairman of Pipeline Trading, and former vice chairman of Nasdaq from June 1996 to August 2003, told Traders Magazine in an interview one day before the bid was announced that should a consolidation among the exchanges were to happen, he preferred if the merger occurred between American companies and not a foreign entity. A wholly American company, he said, would be more sensitive to native corporate interests such as capital formation and job creation, as opposed to an international company.

"I would prefer to have competition between the Nasdaq and the NYSE, and for it to be intense," Berkeley said. "If there is going to be a merger, leaving a dominant, global player, then I’d like that dominant, global player to be an American company."

While competition and declining market share have often been cited as the reasons for the recent spate of exchange mergers, Berkeley said this union was rooted in simple economics. Exchanges like NYSE and Nasdaq are publicly traded companies and must produce profits for shareholders.

And given the recent decline in their trading volumes and increase in trading venues, profits have been scarcer. NYSE Euronext, for example, currently accounts for roughly 14 percent of daily trading volume, down from the heady 80-percent level seen in its own names just 10 years ago. And what revenues the two exchanges have been earning have come increasingly from business lines that fall outside of trading volumes.

"The reason they want to increase their market share and expand their operations is to grow their share price," Berkeley said.   

The merger comes on the heels of two other cross-Atlantic exchange marriages. The first includes the one between the LSE Group, operator of the London Stock Exchange and Borsa Italiana, and TMX Group, operator of the Montreal and Toronto stock exchanges. Separately, BATS Global Markets and Chi-X Europe have tied the knot.

In words that were spoken with the conviction of a man with more than 30 years in the financial industry, Berkeley said the benefits of a merger between Nasdaq and the NYSE would lead to more uniform capital-raising rules as one large exchange would have one set of rules, not multiple exchanges with different sets of rules.

These rules are already attuned to needs of the local markets, which the NYSE has been serving for more than a century. And since capital formation is the basic function of the exchanges, more local growth would lead to cheaper capital costs and lower the risks associated with capital formation. 

"I believe in globalization. And globalization brings many benefits. But if consolidation is going to take place, wouldn’t you rather have the consolidated giant be an American company," Berkeley asked. "It matters, as you intuitively know local decision making leads to local jobs, sensitivity to the capital formation process and philanthropy."

A potential merger between Nasdaq and the NYSE could draw scrutiny for violating anti-trust laws especially when securities listings are discussed. Fewer exchanges could mean fewer venues where shares can have a home listing, and companies want a choice where they can be listed, Berkeley noted. But other existing exchanges such as the International Securities Exchange could easily provide equities listing services and take up the slack, or other venues could fill the void, the market sage said.   

Still not all were convinced. Pat Healy, chief executive at the Issuer Advisory Group, a consultancy, said that issuers want both an American-owned exchange and competition for the listings business. But in this case, they seem mutually exclusive.

"If you give someone 100 percent market share, then they should do away with the listings fees altogether," Healy said.

If listings fees go up as a result of the merger, which Healy thinks could well happen, then he said there was a "very good chance if we will petition the Securities and Exchange Commission to get rid of listings fee altogether."

However, he said issuers would have to weigh the reduction of competition in the listings space versus the benefits of the new mega-exchange being an American-owned firm. And that could be the deciding factor.

Traders were more resigned to the merger being a done deal and saw little trouble for the union of the two New York-based juggernauts. Dennis Dick, prop trader at Bright Trading in Detroit, said that if this merger was put on the table 10 years ago, it might have drawn tremendous anti-trust scrutiny. But not so much now, as investors can choose to trade on 14 different exchanges and other crossing networks and systems.

"I think our regulators would have had some major concerns as NYSE and Nasdaq essentially had monopolies in their respective markets," Dick said. "However, that environment no longer exists today. Considering 30 percent of equity orders never see an exchange, it is hard to argue that there are any serious anti-trust issues for the equity markets."