October 23, 2006

Merger mania in the windy city, as the Chicago Mercantile Exchange buys the Chicago Board of Trade; meanwhile, NYSE/Euronext lurches forward.

Things were busy in the exchange patch last week, as the age-old industry continues to mutate at an incredible rate in the post-IPO, electronic-trading era.

In by far the biggest development, the Chicago Mercantile Exchange (CME) ponied up nearly $8 billion to buy its cross-town rival, the Chicago Board of Trade (BOT).  The deal was the biggest yet in the global consolidation wave gripping the financial exchange industry, creating the world's largest publicly traded exchange by market capitalization, at approximately $26 billion. The new giant will be called the CME Group. 

The numbers, simply put, are staggering. The combined companies will process 9 million contracts per day, with a a notional value of $4.2 trillion dollars (yes, trillion, with a "t.").  The group will dominate the markets for interest rate and indexed futures, and will be in a strong position to push further into the commodity market.  That is particularly true considering that the NYMEX now trades its energy contracts on the CME's Globex platform.

"Chicago used to be known as the hog butcher of the world," said John F. Sandner, a Chicago Merc board member, in one of the better quotes to appear in a Wall Street Journal article this year.  "The city now will be known as the world's risk manager."

The deal is a death knell to one of the great icons of the investing era … the "pit" at the CME.  As part of the deal, the CME will close its trading floor and move all its traders to the CBOT building, probably in late 2008.  The companies expect to save some $125 million annually from this and other cost-saving measures. The question is whether those savings will accrue to shareholders, or be passed through to trader as lower prices.  Although competition is growing in the derivatives exchange space, the combined exchanges' dominant position and exclusive contracts on certain product (including many Dow Jones indexes, although those contracts expire in December 2007) have some investors concerned that prices may rise.

Profits Up

Consolidation or no consolidation, the exchanges are certainly reaping the rewards of the new, for-profit era of trading.  The Nasdaq Stock Exchange posted a 70 percent jump in third quarter profits, and raised its outlook going forward, as it continued to steal market share in trading from its arch-competitor, the NYSE.

Meanwhile, the CBOT reported record revenue and earnings for the third quarter, with revenue jumping 45 percent and net income more than doubling.  The exchange said it benefited form trading volume growth across all product categories, as well as higher fees and tighter cost controls.

NYSE Lurches Forward

Meanwhile, the other mega-merger that is in the workstook another step towards reality, as the CEO of Euronext told a financial conference that he was "relatively close to a memorandum of understanding with the SEC and European regulators" for its merger with the NYSE. Despite constant chatter about counter-deals and other possibilities, this merger continues to lurch towards completion.


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