Cboe Global Markets has made no secret of its plans for the world domination of electronic derivatives trading—the exchange operator and market infrastructure provider is clear about its ambitions to provide the world’s biggest derivatives and securities trading platform. The group last year launched a derivatives platform in Europe and is pushing ahead with plans to gain ground in Asia-Pacific and Canada. 

Cboe has a playbook for moving into new geographies, what chief operating officer Chris Isaacson calls a “flywheel”. First, it gets a toehold in spot markets like cash equities, which produce market data that can form the basis of future indexes. Then, the exchange looks to acquire a clearing business to help it launch a derivatives platform: while US options are cleared on a utility (the Options Clearing Corporation), in most other listed derivatives markets, contracts trade and clear on platforms owned by the same group. Once the clearing services are in place, Cboe can launch its derivatives venue. 

Though it took the better part of a decade, Cboe’s expansionist flywheel has rolled a full 360 degrees in Europe with the 2021 launch of CDEX, a service for the trading and clearing of futures and options that runs alongside Cboe’s existing Amsterdam exchange. CDEX leveraged Cboe’s established cash equities business in the bloc, which provided the group with market data with which it could develop proprietary European indexes. When the time came to build the derivatives platform, this suite of indexes could form the basis for equity index contracts. Cboe’s acquisition of cash equities clearing house EuroCCP gave it the clearing service it needed to offer CDEX.  

“We recently launched European derivatives, so we’ve completed the flywheel. It’s taken seven to 10 years to achieve that, but we have it now,” Isaacson says. “In the US, obviously, we have cash, data, and derivatives—we use the OCC for the clearing of derivatives. So that is our playbook, and we are forthright with investors that this is our strategy around the world.”

In Asia-Pacific, Cboe last year bought Chi-X, gaining access to the securities markets of Japan and Australia, its first significant foray into that region.

And in 2020, Cboe began looking across Lake Superior to the US’s northern neighbor. Canada’s attractions were obvious, Isaacson says, because it’s open to competition, it’s close to the US, and it has a similar regulatory regime. Many companies are cross-listed on US and Canadian venues.

“We look at the world and ask where is competition allowed in equity markets? We didn’t have a footprint in Canada, so in early 2020, we decided we wanted it to be part of our global expansion.”

Making matches

Cboe’s first foray into Canada was its purchase of MatchNow, the country’s biggest dark pool. In 2020, Cboe bought the alternative trading system (ATS) from Virtu Financial, which itself had inherited it from ITG during its acquisition of the agency broker in 2019—MatchNow was part of ITG’s dark trading suite Posit. At the time of the Cboe acquisition, MatchNow accounted for around 65% of Canada’s dark trading volume, and about 7% of overall equity volume.

Cboe spent about a year and a half updating MatchNow’s legacy tech and migrating it to its own tech and data centers, announcing that the migration had been completed on February 1 of this year. At the same time, it announced that users of MatchNow’s conditionals orders book would have access to improved conditionals capabilities from block trading network Bids Technologies, which Cboe had acquired in 2021.

“We thought that as part of this platform migration of MatchNow, we should also introduce Bids into the Canadian market. Almost 40 buy-side firms have onboarded, and another 180 have expressed interest. We have 26 broker-dealers that are accessing Cboe Bids Canada via algos,” Isaacson says.

This acquisition of Bids, a large US broker-dealer and block trading venue operator, was another piece of the puzzle for Cboe’s move into Canada. Cboe and Bids were known to each other through a 2016 partnership to build Cboe Large in Scale, an indication-of-interest platform, in Europe. The 2021 acquisition gave Cboe more reach into the off-exchange segment of the US equity markets.

Then in June of this year, Cboe completed the third acquisition that it hopes will secure its toehold in Canadian cash equities. The group announced that it had bought Neo Exchange, a registered Canadian stock exchange. Together, MatchNow and Neo give Cboe about 15.6% of equity market share in Canada.

“Neo has built a fully fledged stock exchange in Canada. But they do more than just trading—they have data and they have a nice listings business. So we feel like this acquisition was the final step of three. We have MatchNow, Bids, and a stock exchange to get it to scale. We think this is a great foundation to build upon,” Isaacson says.

MatchNow, Bids, and Neo form the foundation of what Cboe hopes will be a holistic equity trading platform, Isaacson says, with a full range of trading mechanisms, from lit to dark, large to small, low frequency to high frequency. “With Neo, we have a very good lit order book and great listings venue. With MatchNow, we have a dark book that offers a set of different execution mechanisms, from those that are much more frequent and smaller, to Bids, which is less frequent and of much larger size, including conditionals,” he says.

While the migration of MatchNow is complete, Neo has yet to be fully integrated. Isaacson says Cboe is focused on the tech integrations of Chi-X in Australia and Japan, and once those are complete next year, the exchange group can look to complete Neo’s migration.

Good conditions

Cboe also plans to expand Bids globally, launching in Australia in Q1 2023 and in Japan in Q4 2023. Dark pools in Asia-Pacific are finding that tech can offer the ability to mask pre-trade information. As a source at an institutional broker-dealer in the region told WatersTechnology back in March, microstructure improvements such as conditional orders, where clients can apply an “If I could, I would” type of order, as well as the use of minimum quantities, help clients get “chunkier” executions.

Cboe Bids Canada brings a sponsored access model to MatchNow: buy-side firms can get direct electronic access to the platform via a sponsor of their choice—one of the platform’s network of sell-side subscribers—in order to send conditionals to the ATS. Sell-side and buy-side users can place orders through Bids’ desktop model, Bids Trader, which is integrated with the user’s execution and order management systems.

The conditional orders, which are two-stage orders much like indications of interest, are sent to the system, where they sit uncommitted until the platform identifies contra-liquidity and invites the user to firm up the order.

“Conditionals allow a user to be in two places at once with the hope of sourcing a block-sized transaction on Cboe Bids Canada. But they’re not doubly exposed because the order must be firmed up with a two-stage commit,” Isaacson says. The order is then executed on-exchange.

MatchNow had some conditionals functionality prior to Cboe, Isaacson says, but integrating Bids enabled Cboe to expand that for the buy side with the sponsorship model. MatchNow already had 56 existing broker-dealer subscribers when Cboe bought it; 33 of these participated in its conditional book. Those 33 are now participating on Cboe Bids Canada post-migration.

Cboe Bids Canada has launched a new feature called Willing To Trade aimed at making conditional trading easier for the sell side. This mechanism links large orders resting in MatchNow’s regular book with the conditionals book, so clients can let Bids handle the firm-up process. Cboe says this enables the subscriber to participate in the conditionals book without having to do any dev work as the buy-side clients are already onboarded and trading on Bids.

Headwinds

A source with decades of experience in senior roles at Canadian exchanges says Cboe’s acquisition of Bids makes sense for the exchange: “Bids has had some success in building decent market share and daily turnover. Cboe can standardize the technology and messaging, apply the capabilities they have, take a profitable business, and make it more profitable, and bring those capabilities to more markets.”

As for Neo, the source says, the listings part of the business would have been especially attractive to Cboe. They say Canada has a lot of listed companies due to its extractive industries—junior mining companies need funding, and this is not a space that private equity ventures into much. Companies listed on exchanges pay annual fees, and so for the investment bankers advising exchanges, listings are an attractive source of regular, reliable revenue, unlike trading fees.

They say, however, that when it comes to the wider strategy of establishing a derivatives platform, Cboe might encounter some difficulty in the future.

It makes sense that Cboe would want to establish such a platform—derivatives platforms are far more profitable than cash equities, partly because listed derivatives remain in those silos, trading and clearing with the same group, giving that group ownership of, and chance to charge for, the whole stack. And Canada may seem attractive to Cboe given the presence of huge institutional investors, such as Ontario Teachers’ Pension Plan with roughly $185.2 billion in assets under management, which could be a market for index options.

But Canadian derivatives markets, which are relatively shallow, compete with cash equities markets that have evolved to be deep, liquid, and efficient, or they would have lost liquidity to New York. “Because the ETF market is there, you have all these other instruments, you can drop C$100 million into 60 index stocks and there isn’t even a ripple. And five banks would be standing by to backstop the order,” the source says. “The virtuous liquidity cycle has never taken off.”

Additional reporting by Wei-Shen Wong