Tie-ups between the stock exchanges that bear the names of cities and countries always make headlines. But, for those involved in the deals, once they get past the boardroom, the real work can lie in picking apart technology and infrastructure. It is not often an easy task. The technology and data burden can often involve many months or years of planning and integration, especially in circumstances where exchanges are anchored to legacy systems. 

“Getting to the requirements is often the hardest part of the project, because these systems have often been run for many years, sometimes decades, so understanding exactly how they work is a challenge and you have to understand what you are trying to build,” says Chris Isaacson, executive vice president and COO at Cboe Global Markets. 

Acquisitions or mergers come in different shapes and sizes. But a common challenge across everyone is weeding out inefficiencies and tying together a multitude of fragmented systems.

Cutting and Consolidating

Today, global exchange groups have evolved into colossal organizations with lucrative businesses—often acting as marketplaces, technology vendors and major data providers under the same roof. However, traditional exchanges have seen a significant blow to their dominance in recent years, as alternative trading venues such as multilateral trading facilities and dark pools continue to populate the market, and pushback from the industry over data fees and other areas has led to the emergence of new competitors, such as the Members Exchange in the US. With that, merger and acquisition (M&A) activity has become a natural trajectory for many exchanges in an effort to remain competitive and stimulate growth in an already squeezed marketplace. 

“A lot of assets are now available on most exchanges [and venues] and there is a lot of choice in terms of where you can buy or sell a given asset,” says Guy Warren, CEO of ITRS. “Exchanges have declining volumes, which is the reason for this consolidation. They are not getting organic growth and therefore going for inorganic growth by acquiring other companies.” There have been several significant exchange mergers and acquisitions over the last decade. Some of the most notable global examples are the Intercontinental Exchange Group’s (ICE’s) takeover of NYSE Euronext in 2013 and Cboe’s acquisition of Bats Global Markets in September 2016.  The initial planning for such a wide-scale integration begins by mapping out the level of overlap between systems, clients connected to the platforms and the crossover of products provided.

Migration projects require an extensive assessment of all technologies involved to identify inefficiencies and decommission old, inferior systems. According to Cboe’s Isaacson, the process entails ripping out the weaknesses and adding new features to stronger existing platforms. Cboe, for instance, is in the middle of a multi-year migration project where it is moving all its options platforms to Bats technology. In May 2018, it completed the move of its C2 Options Exchange and is expected to finalize its C1 Options Exchange migration by October 2019. 

As part of the migration process, another important element is evaluating the data being transferred to the new systems. The acquiring firm will have to identify valuable data, normalize it and port it to the platform in a standardized format. To complicate things further, exchanges will have to consider the regulatory obligations of each firm involved when managing and removing data from systems. Under the General Data Protection Regulation (GDPR), for instance, the acquiring firm will have to consider the legal requirements, among other areas, when it comes to the movement of data across jurisdictions, and data retention. 

In other cases, M&A can impact a firm’s workflows, processes, and even its culture. It can involve scaling back on departments or technical teams that are being integrated to cover the same operations. This was a concern when talks of a merger between the London Stock Exchange Group (LSEG) and Deutsche Börse arose in 2016. Although the deal was ultimately blocked by the European Commission over antitrust concerns relating to the LSEG’s fixed-income trading operations, one of  the questions at the time was which technology platform would prevail between the two European heavyweights. 

“In these circumstances you would select the technology that is the most modern, the most cost-effective, and the one that can scale. Scaling up is key because with some technologies you can add markets, hundreds of new products or hundreds of new clients at the same cost base,” says Anthony Attia, CEO of Euronext Paris and global head of listings.

In many cases, regional exchanges do not operate their own proprietary technology, but rather outsource to some of the major operators. When Euronext acquired the Irish Stock Exchange (ISE)—now known as Euronext Dublin—in April 2018, the local exchange was originally using Deutsche Börse’s trading platform. Deutsche Börse declined to comment for this story. 

According to Euronext’s Attia, acquiring firms that outsource their technology can enable a simpler migration compared to exchanges using complex and customized proprietary infrastructure. It took a total of eight months for ISE’s services and operations to be moved onto Euronext’s in-house exchange technology, Optiq, with the final touches completed in February 2019. 

Although the process is faster when dealing with smaller exchanges, these projects still carry significant challenges. Exchanges are becoming increasingly complex and diverse, making the integration of systems burdensome.  They comprise multiple cogs in a mammoth-sized machine—they are made up of matching engines, smart order-routing tools, market surveillance capabilities, analytics, databases and often clearinghouses and central securities depositories, not to mention investor relations tools and technologies specific to listed instruments or initial public offerings. When the exchange in question also covers markets such as options, futures and other derivatives, the complexity can be compounded in an exponential manner. 

“You need to map all the systems on both sides and see how they can be combined. If you have two systems that are doing the same thing, you decide the ratio between the efforts in its migration versus what you gain in stopping one of the systems,” explains Attia. 

Making sense of these fragmented systems is one thing, but securing connectivity and maintaining system integrity throughout the process is a whole other ball game. 

Connectivity 

High-speed data connections, microsecond-level latency, and uptime performance are the three cornerstones of a typical stock exchange. Its infrastructure will be built to withstand huge volumes of transactions and it will have significant operational resilience. One of the greatest challenges is preventing connectivity issues or technical failures during migration projects. The bottom line is to ensure all stakeholders experience minimal disruption, if any, to services and are supported throughout the entire process—including via the provision of education about the new systems, regular communications about updates and the allocation of dedicated weeks for testing. 

“You have to put a timeline that your customers can be ready for, because the goal depends on 100% customer readiness. We can be ready but if our customers aren’t then it doesn’t really matter; it’s a failure unless they are all ready,” says Cboe’s Isaacson. 

This also applies to third-party vendors responsible for built-in technologies, security software, databases, and hardware infrastructure. Each partner must be aligned with the timeline for launching the combined services, and must work in sync with the exchange to successfully deliver the project. In some cases, a client might not be registered with the lead exchange involved in the acquisition or merger. If this occurs it will have to decide whether to subscribe to the evolving firm by switching over or terminating all access to the former exchange. Sometimes this might be unlikely, such as when considering large-scale acquisitions, as most major banks or asset managers will be registered with the biggest exchanges on the planet. However, the takeover of regional exchanges or trading venues might require localized firms to be on-boarded and made familiar with the newly combined marketplace.

One solution for simplifying the migration process is to implement standardized exchange platforms. Global exchanges such as LSEG, Nasdaq and Deutsche Börse are major providers of exchange technology, which is often used by regional exchanges with smaller budgets for developing their proprietary platforms. 

“When exchanges first set up in a country, they try to build their own matching engine, but it is very expensive to do that. So most people are now standardizing platforms that are provided by exchange providers,” says ITRS’ Warren. 

Out of the biggest providers, Nasdaq’s matching engine technology is used by 70 global markets and LSEG’s MillenniumIT platform, which is developed primarily out of Sri Lanka, is rolled out to more than 40 clients around the world. The offerings cover trading solutions, algo capabilities, surveillance, and clearing, among others. The standardized platforms can be used to create markets for any asset class and enable the end user to build additional complex features on top of the technology. As the heavyweights build and sell their technology to smaller market operators worldwide, it allows for easier pickings for the larger exchanges when they are seeking to broaden their geographical footprint through acquisition. 

“Slowly but surely, these mammoth groups have been buying up regional exchanges in a consolidation play, and I see that continuing for the next few years,” says Rob Boardman, CEO Europe at agency broker ITG, which itself was recently acquired by Virtu Financial in a deal that finalized on March 4. 

Boardman continues by explaining that the industry is “seeing the death of regional independent exchanges,” as this strategic move has fast-tracked the ability to ramp up acquisitions. According to Euronext’s Attia, standardized platforms can bolster client connectivity and access to a wide pool of liquidity. Single platforms can allow for a more frictionless experience when trading various assets across multiple markets. However, not all examples fall within this bracket of claiming market share by rolling out their technologies across global markets. ICE, in particular, has flexed its muscles in terms of acquisitions over the years, picking up more than a dozen regulated exchanges and marketplaces to date. Its approach has been to finalize the takeover and onboard its new subsidiaries to its own technology. 

“When they acquire, ICE tends to say ‘whatever you are using, get rid of it, you are going to be using our standard platform now,’” adds ITRS’ Warren. ICE was unable to respond in time for publication. 

Beyond regional clients, a new market has emerged for providers of exchange technology. The cryptocurrency space has demanded attention from institutions and as part of that are investing in traditional technologies to help inject confidence in trading digital assets. On January 22, the Atom Group, a Hong Kong-based crypto fintech firm, announced its implementation of LSEG’s Millennium Exchange platform to support its AAX digital asset exchange. These examples are becoming increasingly more frequent as crypto firms are turning to professional-grade platforms in a bid to legitimize their position in the traditional world. 

“Digital asset exchanges want to be able to demonstrate that they are taking technology seriously by leveraging established, scalable financial market infrastructure to support their business growth,” says Ann Neidenbach, chief information officer at LSEG Technology. 

This push for territory across regional and minority markets demonstrates a new form of acquiring dominance and firepower for exchanges. Although deploying standardized technologies at a large scale could simplify tie-ups or takeovers, in the long run, consideration must be given to whether this would prove favorable for competition, costs, clients and ultimately, the end investor. 

But as it stands today, the burden of migrating systems continues to frustrate the industry, and some firms are turning to advanced technologies to offer a solution. However, the concept of cloud-based exchanges may prove promising even if there are several roadblocks that have yet to be overcome. 

The Future Roadmap 

Cloud technology has made significant strides in recent years among financial institutions. Providers such as Amazon, Microsoft, and Google have ramped up campaigns to instill confidence in their services for migrating data and functions to the infrastructure. In addition, the increasing cost pressures of maintaining in-house servers, versus the relative ease and cheapness of cloud scalability, have paved the way for most banks and asset managers to incorporate cloud in some shape or form over the next few years. For exchanges, the cloud roadmap has yet to be carved out in full. According to Euronext’s Attia, many are keen to leverage the technology, but it has a long way to go to support microsecond matching engines or high-powered trading functions.

“Cloud providers are making huge progress with the financial industry, focusing on data, data lakes, and analytics, etc. The part that is not yet in the cloud, however, is the matching engine, as they still need to reassure the industry on some specific low-latency and robust aspects. But this could come in the next five to 10 years,” he explains.

In the event of M&A activity, there may be potential to accelerate the exchange-to-exchange integration on cloud technology and fast-track the migration process. The logic behind this is that data and services can be moved more easily from the cloud’s infrastructure rather than multiple fragmented systems, likely from a variety of proprietary and outsourced datacenters and servers. But the cloud has yet to adapt to the sensitive requirements of exchanges, taking on not only the challenge of low latency but co-location. For decades, trading firms have positioned their servers and systems close to exchanges to shave off valuable microseconds for executing high-speed orders and receiving near real-time analytics. Migrating these services to the cloud could complicate the constructs of the market as trading firms would need to be located near the cloud provider’s servers. 

“Co-location is very important and it’s where your clients need to be really close to your matching engine. The market is built on a community of market participants and exchanges, and they all need to be together,” adds Attia.

Although cloud technology has found its way onto the agendas of many firms, it must be fully mature before it is able to be applied to a variety of use-cases driven by latency and geography. According to Isaacson, today’s cloud is more suited to functions such as variable compute, data storage and possibly even disaster recovery applications, although he doesn’t rule out further applications in the future.

“I’m never going to say never, but requirements for primary exchanges are too high for what’s offered by the cloud today. As the cloud offering matures, it may just happen,” he adds.