LSE's Turquoise takes first step in derivatives offensive

Turquoise Derivatives, the pan-European derivatives market operated by the London Stock Exchange Group, will go live on 6 June, offering at first only FTSE futures contracts but expecting to move forward with other products before the end of the year.
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Turquoise Derivatives, the pan-European derivatives market operated by the London Stock Exchange Group (LSEG), will go live on 6 June, offering at first only FTSE futures contracts but expecting to move forward with other products before the end of the year.

The FTSE futures initially offered on Turquoise Derivatives will be identical to those offered on NYSE Liffe, the derivatives exchange owned by NYSE Euronext, with expiry dates in March, June, September and December.

Turquoise Derivatives will be the first European derivatives venue to offer a maker-taker pricing tariff. Members will be charged £0.20 for taking liquidity and receive a rebate of £0.05 for adding liquidity. Clearing, by Anglo-French central counterparty (CCP) LCH.Clearnet, will cost £0.02 per trade.

By comparison, NYSE Liffe, which currently has a monopoly in UK equity options and futures, charges £0.25 for both passive and aggressive trades. Clearing on NYSE Liffe is also provided by LCH.Clearnet and currently costs £0.03.

Exchange battleground

Derivatives trading – and particularly clearing – is increasingly important for trading venues looking to diversify revenues in the face of lower cash equity volumes and market share in Europe. An emphasis on revenue diversification has led to a re-emergence of the vertically-siloed exchange model, which competes traditionally by offering discounts for scale across the transaction chain.

Last May NYSE Euronext announced its intention to drop LCH.Clearnet and develop its its own equities and derivatives clearing services by 2012. LCH.Clearnet recently confirmed discussions with a number of parties about a potential business combination, but LSEG has ruled itself out and will pursue other post-trade options, including leveraging Italian CCP CC&G, which it purchased as part of its takeover of Borsa Italiana in 2007.

NYSE Euronext's prospective merger with German exchange group Deutsche Börse, currently awaiting regulatory and shareholder approval, could lead to the group divesting or changing the governance structure of NYSE Liffe because of the market dominance the deal could create in listed derivatives trading. Deutsche Börse has a joint stake in derivatives trading venue Eurex with SIX Swiss Exchange. The outcome of merger discussions with regulators will also influence how NYSE Liffe replaces LCH.Clearnet as its clearer.

LSEG tried to purchase Liffe in 2001, but its offer was rejected in favour of the NYSE Euronext proposal. At the end of last year, LSEG CEO Xavier Rolet said the firm would target the equity derivatives duopoly held by Eurex and NYSE Liffe in an attempt to introduce new offerings in an area that he described as “bereft of competition”.

Speeding ahead

Turquoise Derivatives will be housed within the LSEG's existing data centre, where the group's main UK cash market and Turquoise's pan-European equity multilateral trading facility (MTF) are also located. The new venue will run on the SOLA technology platform, which is owned by the LSEG's prospective merger partner TMX Group. NYSE Liffe has been located in NYSE Euronext's data centre in Basildon, east of London, since October last year.

According to CEO Adrian Farnham, the low cost of trading on Turquoise Derivatives, combined with the proximity of the venue to the group's other markets, will attract new market participants and arbitrage opportunities to the listed derivatives arena.

“If you are in the business of making prices in the FTSE future, you want to reflect the changes to the underlying equities as quickly as possible and there is no better place to do that than Turquoise Derivatives,” said Farnham. “We are targeting the existing customer base of NYSE Liffe, but if you look at the experience of the cash markets post-MiFID, new arbitrage opportunities have encouraged new types of participants into the market and we expect the same for Turquoise Derivatives.”

Farnham expects Turquoise Derivatives' maker-taker pricing model to generate a lot of interest from potential liquidity providers. Turquoise's cash equity MTF used liquidity provision agreements with its founding banks in its first six months, but suffered a slump in its share of European equity trading from over 6% to under 2.5% on their expiry. Last week, Turquoise had a 3.76% share of pan-European displayed order book trading, according to trading technology provider Fidessa's Fragmentation Index.

Turquoise was launched in September 2008 by a consortium of nine investment banks. The LSE purchased a 60% stake in Turquoise in February 2010, and sold a further 9% of its stake to three new investment banking partners.

Regulatory boost

Turquoise Derivatives has so far failed to secure the licences required to extend its product range beyond FTSE-based contracts, having been refused a licence to offer products based on the EURO STOXX index, owned by Eurex, the derivatives exchange owned by Deutsche Börse and SIX Swiss Exchange.

“We have applied for a EURO STOXX licence but were refused,” said Farnham. “We are thinking about our alternatives in order to obtain a licence, which include a discussion with the relevant competition authorities. Building our own indices is also an option we are considering. We plan to come back to the market with a solution at some point this year.”

In March, pan-European MTF Chi-X Europe announced its derivatives strategy in partnership with US-based investment services and equity indices provider Russell Investments in March, which will result in the creation of new indices. Chi-X Europe, recently acquired by BATS Global Markets, has so far not set a launch date.

Nonetheless, Farnham is encouraged by a recent amendment to the European market infrastructure regulation (EMIR), which states that says where intellectual property rights or commercial ownership relates, “to products or services which have become or impact upon industry standards there shall be a requirement for licences to be available on proportionate fair, reasonable and non-discriminatory terms”.

The amendment was voted through by the European Parliament's Economic and Monetary Affairs Committee last week but must now be reconciled with a draft agreed by national governments at the Council of the European Union.

“We see EMIR as one opportunity for regulators to facilitate the introduction of competition, and the amendment seems very much in tune with what we think is best for the market, so we very much support this,” said Farnham. “But there is scope for further improvement in the language to make it completely obvious that non-exclusive and non-discriminatory access is what necessary to create a competitive marketplace in Europe”.