Europe’s equities market is not large enough to sustain the current number of trading venues, which will lead to consolidation in the medium term, according to research from investment bank UBS.
In its first research note covering European exchanges and inter-dealer brokers, UBS noted that European multilateral trading facilities (MTFs) have yet to achieve a solid record of profitability. It said that sources at MTFs suggested that the venues require a pan-European market share of 14% to break even. Assuming a fixed cost base, the bank said this seemed reasonable.
“It is apparent that the market is not big enough to sustain the status quo,” said the research note. “This supports our view that, in the medium term (defined as the depth of the financial resources of the MTFs) there will be consolidation in the industry.”
UBS argues that the fragmentation brought about by technological advancements and the introduction of MiFID has eroded exchanges’ competitive advantages, creating a “stalemate industry” with little opportunity for abnormally high returns.
Therefore, the bank expects revenue stability to return through consolidation, as economies of scale and operational synergies make companies more efficient.
However, UBS believes integration cost and legacy issues make large mergers between incumbent exchanges unlikely.
“We believe that it is more likely to see standalone MTFs taken out by exchanges, provided these loss-making companies do not come with too high a price tag,” the research note read, adding that it expects exchanges to make “small bolt-on acquisitions” to round out their offerings in asset classes beyond equities.
UBS believes that there will be four to five pan-European cash equity exchanges in the medium term, and that the London Stock Exchange (LSE) and Deutsche Börse will be among them.
While the current size of the European equity market may be too small to support all existing venues, the UBS note said that the simplification of the European trading infrastructure through regulatory changes and consolidation should help increase volumes.
So far, dark pool NYFIX Euro Millennium and broker-owned MTF Turquoise have been acquired by NYSE Technologies, a subsidiary of exchange group NYSE Euronext, and the LSE, respectively. Euro Millennium was absorbed into NYSE Euronext’s pan-European dark pool SmartPool, while Turquoise will be merged with Baikal, the LSE’s nascent dark pool.