TMX deal needs closer scrutiny: Alpha

One of the leading competitors to the TMX Group says the proposed merger of the exchange with the London Stock Exchange comes as no surprise and even welcomes the news, so long as the deal is stripped of certain strategic assets.

Mergers among traditional exchanges are not surprising, according to Jos Schmitt, CEO of Alpha Group, as they are an inevitable consequence of the demutualization that occurred around the turn of the millennium.

These demutualization processes created virtual monopolies, which generate the need for competition. Enter the alternative trading systems (ATS). As these more agile competitors ate into the traditional exchanges’ market shares, the larger markets turned to mergers to enhance revenues.

“The reason invoked for the mergers is ‘globalization’, but what I really think is that the merger is driven much more by the need for synergies on a cost and revenue perspective,” he says.

The growth of the ATS represents a catalyst for change in the industry, as these services are able to execute trades at 10-15% of the cost of a trade on the TMX, he says.

“I look at [the merger] as an opportunity, because they are clearly demonstrating what is driving them and its not issuer, investor or financial industry interests, but what is the optimal way to create shareholder value,” Schmitt says.

“The centre of gravity of this entity is going to move to London and the Canadian influence over operations will decline further over time—I think they are talking about other mergers in the future. Without a doubt in my mind it will lead to less focus on Canadian interests.”

He expects this will lead to service gaps which Alpha will fill, by focusing on Canadian issuers. He remains tight-lipped about his company’s strategy, but he points out that it filed for regulatory approval last year to list companies as a standalone exchange.

But while the merger presents opportunities for the ATS, the deal is not without its problems, he says. In its current form, it could result in foreign control over strategic assets, such as derivatives clearing functions and Clearing and Depository Services Inc. (CDS) which counts TMX Group among its shareholders.

These services are systemically important and should remain under Canadian control, he says.

Also of concern is the construction and maintenance of benchmark indices, which Schmitt fears could be used as a competitive tool.

The criteria for inclusion to the indices include trading volumes, but only counts the volume of shares traded on the TMX. Shares traded on ATSs are not included in the volume count, which has resulted in some companies being excluded from a given index.