LSE goes vertical with LCH.Clearnet bid

The London Stock Exchange has reignited its interest in buying LCH.Clearnet, the Anglo-French clearing house, barely six weeks after abandoning its bid for TMX Group, the Canadian exchange operator.
By None

The London Stock Exchange (LSE) has reignited its interest in buying LCH.Clearnet, the Anglo-French clearing house, barely six weeks after abandoning its bid for TMX Group, the Canadian exchange operator.

In a regulatory statement issued this morning, the London Stock Exchange Group confirmed that it is “currently in discussions with LCH.Clearnet regarding a potential transaction”. The statement added that discussions were at “an early stage” with no certainty of a positive outcome. The LSE is understood to be seeking a majority stake that would value LCH.Clearnet at around €1 billion.

LCH.Clearnet, which clears equities for the LSE and for transatlantic exchange group NYSE Euronext but also has growing OTC derivatives clearing businesses, is already subject to a joint offer from Markit, the financial data provider, and NYSE Euronext, which is also in the process of gaining regulatory approval for its combination with Deutsche Börse. The LSE was one of a number of parties to hold talks with LCH.Clearnet in May, following which the clearer asked JP Morgan Cazanove to advise on its possible sale.

The LSE's bid for LCH.Clearnet would appear to suggest a change of strategy following the collapse of its takeover of TMX Group, which was partly justified in terms of the opportunity for cross-listings and single access to North American and European markets. The LSE formally withdrew its bid for the Canadian exchange at the end of June, when it became clear a shareholder vote would not offer sufficient support. By bidding to buy LCH.Clearnet, the LSE would appear now to be following the vertically integrated exchange model already implemented by Deutsche Börse and Asian exchanges such as the Singapore Exchange and Hong Kong Exchanges and Clearing, which offers market participants scale benefits via ownership of equities and derivatives trading platforms as well as post-trade infrastructures. The LSE extended its derivatives franchise at the beginning of June when it launched Turquoise Derivatives, which offers FTSE futures cleared by LCH.Clearnet.

Currently a not-for-profit entity currently owned 83% by users and 17% by exchanges, LCH.Clearnet has operated SwapClear, an interest rate swap (IRS) clearing service for inter-dealer brokers, since 1999. Following the financial crisis, SwapClear was extended to US and European buy-side firms. SwapClear currently handles 40% of the total IRS market. According to the Bank for International Settlements, there were over US$465 trillion worth of IRS contracts outstanding at the end of 2010. SwapClear volumes are expected to grow as bilateral OTC arrangements are wound down in response to regulatory initiatives to minimise counterparty risks in the derivatives market. Markit owns MarkitSERV, a single gateway for global OTC derivative transactions processing that connects more than 120 brokers and 1,700 buy-side firms to central counterparties, trade repositories and third-party administrators.

LCH.Clearnet provides post-trade services to NYSE Euronext's London-based Liffe derivatives exchange as well its European cash equities businesses. The exchange had previously announced its intention to build its own clearing houses, but its post-trade strategy will now depend on the outcome of the European Commission's review of its merger with Deutsche Börse, which already owns post-trade assets Eurex Clearing and Clearstream. The EC sent out a second questionnaire regarding the proposed merger last month.

In an earlier round of feedback to the EC, the LSE said that the merger of Deutsche Börse, which owns the Eurex derivatives exchange, with NYSE Euronext would create “insurmountable” barriers to entry for other derivatives platforms. Recently, Steven Travers, the LSE’s head of regulation, told “Competition would be virtually wiped-out in derivatives in Europe, as DB/NYSE would control between 83% and 97% of the markets in each of the European equity index, single stock and interest rate derivates markets.”

In the financial year ended March 2011, post-trade services accounted for 23% of LSE Group revenues. Post-trade revenue grew by 30% to £150.6 million (€171.7 million) in 2011, from £116.2 million (€132.5 million) the previous year. In July, the London Stock Exchange Group said that income for post-trade services had risen by 58% year-on-year for the three months to 30 June 2011. This was attributed largely through treasury income made by investing the collateral posted as margins on its central counterparty business, which increased by 338%.