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No. 177 September 1, 2012 Two Barriers Hindering the Integration of Stock Exchanges and the “Japan Exchange” Initiative Sadakazu OSAKI NRI Papers No. 177 September 1, 2012 Two Barriers Hindering the Integration of Stock Exchanges and the “Japan Exchange” Initiative Sadakazu OSAKI I A Spate of Exchange Integration Initiatives II Background to the Integration of Stock Exchanges III “National Interest” Presents a Barrier to Stock Exchange Mergers IV The Antitrust Law Constitutes a Barrier to Stock Exchange Consolidation V Significance of and Challenges Facing the “Japan Exchange” Initiative he world has seen a wave of proposed mergers between leading stock exchanges such as that T between the London Stock Exchange Group and the TMX Group and that between NYSE Euronext and Deutsche Börse. As a background factor behind these moves, there is the issue of increased competition involving exchanges and off-exchange trading venues such as proprietary trading systems (PTSs). Given the highly public nature of a stock exchange in that it is responsible for operating the critical infrastructure of a country’s economy, the mention of any consolidation with an overseas exchange tends to give rise to an emotional backlash that is rooted in nationalism along with criti- cism being voiced such as “impairing the national interest.” The barrier of “national interest” is a major hindrance to the cross-border integration of stock exchanges. Moreover, the integration of stock exchanges also poses a problem from the viewpoint of anti- trust laws. The proposed merger between NYSE Euronext and Deutsche Börse to form the world’s largest stock exchange was abandoned on the grounds of conflicting with the EU Competition Law. In Japan, the Tokyo Stock Exchange Group (TSE) and Osaka Securities Exchange (OSE), which have been rivals for 130 years, are slated to merge to form the “Japan Exchange Group.” There are great hopes for the benefits that are expected to be brought about by the planned merger such as the integration of the TSE and OSE systems. While at first glance, this combination appears to build a monopolistic position in the Japanese market, any antimonopoly challenges would be outweighed by increasing global competition as well as by concerns over a relative decline in the presence of the Japanese market. Copyright 2012 by Nomura Research Institute, Ltd. 1 NRI Papers No. 177 September 1, 2012 I A Spate of Exchange announced the acquisition of Chi-X Europe, the largest alternative trading system (equivalent to the proprietary Integration Initiatives trading system (PTS)) in Europe. Relatively speaking, because the organizations involved in this takeover are In February 2011, the UK’s London Stock Exchange not so well known, this merger did not attract so much Group (LSE) and Canada’s TMX Group, which operates attention. Nevertheless, if realized, this merger would stock exchanges such as the Toronto Stock Exchange, create Europe’s largest stock exchange in terms of trad- entered into a merger agreement. At almost the same ing value—bigger even than the LSE. time, NYSE Euronext, which manages the New York Since September 2000 when the Paris Bourse, Am- Stock Exchange (NYSE) and European stock and sterdam Stock Exchange and Brussels Stock Ex- futures exchanges, announced their plan to merge with change were merged to form Euronext, the world’s Deutsche Börse. Because both of these agreements stock exchanges have been toying with restructuring involve the mergers of exchanges that are among the that extends beyond national boundaries. While these world’s top 10 exchanges in terms of stock trading value, efforts were briefly stalled during the global financial these initiatives drew a huge amount of attention from crisis of 2007 – 2008, a series of announcements made people involved in the securities markets (Figure 1). since then clearly gave the impression that the restruc- Also in February, BATS Global Markets (BATS), a turing of global stock markets has entered its second leading operator of electronic markets in the U.S., act. Figure 1. Positioning of the new two exchanges to be created if proposed mergers are completed among the world’s top 10 exchanges by value of shares traded in 2010 NYSE Euronext + Deutsche Börse 1 NYSE Euronext 2 NASDAQ OMX 3 Shanghai Merger agreement London + Toronto Merger agreement 4 Tokyo 5 Shenzhen 6 London 7 Germany 8 South Korea 9 Hong Kong 10 Toronto 0 5 10 15 20 25 ($ : Trillion) Source: Compiled based on material published by the World Federation of Exchanges. Figure 2. Diagram of exchange merger initiatives Canada’s TMX Group London Stock Exchange Abandoned proposed merger NASDAQ OMX, etc. Deutsche Börse Abandoned proposed acquisition Abandoned merger plan NYSE Euronext New York Stock Exchange Euronext Merger completed in April 2007 Singapore Stock Exchange Australian Securities Exchange Agreed to terminate proposed merger Tokyo Stock Exchange Osaka Securities Exchange Agreed to merge in January 2013 Source: Translated from “Shukan Ekonomisuto (Weekly Economist),” February 21, 2012, p. 18, courtesy of Mainichi Shimbunsha. Two Barriers Hindering the Integration of Stock Exchanges and the “Japan Exchange” Initiative Copyright 2012 by Nomura Research Institute, Ltd. 2 NRI Papers No. 177 September 1, 2012 As of March 2012 when the author wrote this paper, with nine exchanges. However, in 1967, the Kobe ex- however, the only merger that has been successfully change was dissolved. Since 2000, the Hiroshima, Ni- completed was BATS’ acquisition of Chi-X Europe. igata and Kyoto exchanges were absorbed into either the Two other initiatives mentioned above have fallen apart. Tokyo Stock Exchange or the Osaka Securities Ex- The proposed merger attempt between the Singapore change. Exchange (SGX) and the Australian Securities Exchange In many countries, the major reason behind the inte- (ASX) that was agreed upon in October 2010 was also gration of regional exchanges into central exchanges is abandoned (Figure 2). the fact that with the development of a means of trans- Even in Japan that had so far been thought of as being portation and communication as well as the increased outside a global wave of mergers, there was new move- concentration of financial functions in major cities, the ment. In March 2011, it was reported that talks began on past mechanism in which securities issued by local com- the merger of the Tokyo Stock Exchange Group (TSE) panies were traded in local exchanges was no longer and Osaka Securities Exchange (OSE). In November of reasonable. In other words, the regional exchanges that the same year, the proposed merger was formally an- disappeared through integration completed their historic nounced. The two bourses are scheduled to merge in mission. January 2013, inaugurating a combined holding com- pany, “Japan Exchange Group.” 2 Characteristics of the integration of In the following chapters, the factors that frustrated a exchanges in recent years series of planned mergers around the world, as described above, are examined. While so doing, consideration is Characteristics that are very different from those in the given to the future of the proposed merger between the past have been seen in the integration of exchanges in TSE and OSE as well as to its significance. recent years. First, the integration of exchanges in the past was generally meant to abolish or give relief to exchanges II Background to the that were no longer economically viable. However, the Integration of Stock rationale behind the integration of exchanges in recent years has been to increase the scale of exchanges as Exchanges Note 1 businesses and to make them more competitive. Since the mid-1990s, with progress in electronic 1 Integration of exchanges in the past securities trading systems and given increasingly glo- balized securities trading, competition from proprietary To begin with, what are the dynamics behind the moves trading systems (PTSs) and overseas exchanges has to integrate exchanges within any one country or across intensified. To effectively meet this situation, more and national borders? more exchanges in countries around the world have The integration of exchanges is, in itself, not at all been transforming themselves from traditional member- unusual. Rather, if we look back at past trends, the his- ship-based organizations to joint-stock companies. An tory of exchanges in each country up until the mid- exchange that is set up as a joint-stock company must 1990s manifests itself as consisting of procedures in operate a business that has a high public nature, i.e., which regional exchanges within a country were inte- operate the markets in a way that ensures fair pricing. At grated into major exchanges located in financial centers the same time, the exchange must also pursue the maxi- (there can actually be more than one major exchange in mization of corporate value as a profit-making company. any one country). One strategy for achieving this seemingly ambivalent For example, in 1973, all of the UK’s local exchanges goal is to partner with an overseas exchange or with an were integrated into the LSE. In 1988, France set up a exchange dealing in commodities that the exchange has common nationwide listing system and abolished all of not handled in the past. its local exchanges. In 1993, the Frankfurt Stock Ex- One effect that validates this strategic direction in the change, which is the largest exchange in Germany, be- integration of exchanges in recent years is that while came Deutsche Börse as a holding company operating exchanges as business entities are combined, the mar- local exchanges. kets that they operate often remain separate. In the past, In the Meiji era, Japan had nearly 50 securities ex- exchange mergers were often accompanied by the aboli- changes throughout the country. However, in 1943, the tion of the markets that lost their economic functions. de facto government-operated Japanese Stock Exchange However, recently, because the purpose of a merger is to was formed, at which time the National Mobilization strategically take on new markets, there has been no Act (which provided for government controls over civil- need for market consolidation or abolition.

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