In a surprise move, the Hong Kong Exchanges and Clearing Ltd. (HKEx) has made a proposal to acquire the London Stock Exchange Group (LSEG) in a £31.6 billion ($39.04 billion) deal. HKEx’s offer represents a 22.9% premium to the closing share price of LSEG on September 10. 
 
The proposal requires approvals from LSEG shareholders, as well as the UK and Hong Kong regulators and antitrust bodies. HKEx says the transaction will bring about synergies that will benefit market participants. One of those synergies, it said in its announcement, is the migration of its trading and clearing platforms to LSEG’s technology. 
 
James Fok, head of group strategy at HKEx, said in a press conference call that the potential merger will connect the plumbing of the two exchanges, and expand the capital flow between China, Asia, and the rest of the world. This will be “huge,” he said, as the renminbi is emerging as a global reserve currency, and as the Chinese market continues to become friendlier to international investors.

“In the short-term, looking at the cost synergies, the largest component will be coming from applying LSE’s technology to our systems in Hong Kong, where, if you’re familiar with us, we’re in the process of undergoing a multi-year repurposing and retooling of our core systems. That’s the largest component of the cost synergies we have in mind,” he added. 

Question 1: Refinitiv

From a technology perspective, at the deal’s core there are three big questions. First, what becomes of Refinitiv? In July it was announced that the LSEG was looking to buy Refinitiv in a deal valued at $27 billion (£22.1 billion). A merger of the massive bourse and the data giant would form one of the largest technology companies in Europe, should the regulators approve the deal.

But that merger is now in limbo because of this HKEx play, as its proposal is based on the condition that LSEG’s offer in July to buy Refinitiv for $27 billion does not go through, according the HKEx’s proposal document. The document states: “a resolution in respect of the approval of the Refinitiv transaction having been voted on and not approved by the LSEG shareholders; or the Refinitiv transaction being terminated, lapsing, being withdrawn or not proceeding for any other reason; in each case by 31 December 2019 or such later date as HKEx may determine.”

While the LSEG–Refinitiv deal posed big questions in and of itself, it is curious that HKEx would not want Refinitiv to be included for the same reasons that the LSEG wanted to acquire Refinitiv.

An executive at a rival exchange says the deal makes sense in the context of the Chinese market being a major growth sector and it would create a truly global powerhouse. But they also found the deal to be “shocking” because HKEx didn’t want Refinitiv. They speculate that the exchange might have gotten cold feet on the market data behemoth because of antitrust concerns, as this takeover will be difficult enough to get across the finish line without the market data fight that the Refinitiv piece might bring.

On the call, Charles Li, CEO of HKEx, addressed the Refinitiv piece briefly, but did not go into detail as to why HKEx did not have interest, at this time, in buying Refinitiv, saying simply: “The deal is predicated on the future of our market.”

If the HKEx–LSEG merger now moves forward, that will put Refinitiv, which is owned by a consortium led by private-equity giant Blackstone, back in play. That could present ripple effects for other exchanges and data players in the space.

Refinitiv declined to comment for this story. 

Question 2: Tech Investment

The next big question is around platform integration. HKEx is in the midst of an ambitious three-year technology overhaul, which saw the promotion of Richard Leung to group CTO earlier this year. Leung is responsible for HKEx’s technology strategy and operations in Hong Kong, London, and mainland China. 

One of the initiatives it has been working on is its next-generation post-trade platform. In February this year, it had completed rehearsals with market participants for its Hong Kong Futures Automatic Trading System and its Derivatives Clearing and Settlement System, which was set to launch in May. 

HKEx uses Nasdaq’s Genium INET trading system. Other core enhancements include integrating HKEx’s subsidiary London Metal Exchange (LME) and its Hong Kong derivatives market onto the Orion Trading Platform. The platform was launched in February 2018 to replace HKEx’s previous securities trading platform, AMS/3.8. 

Additionally, in February, HKEx bought a 51% stake in Shenzhen-based Ronghui Tongjin, a financial markets technology company that specializes in securities, data application, and regulation technologies. The deal was made to help push HKEx’s IT projects forward and to reduce reliance on third-party vendors. At the time, Li said the acquisition was largely aimed at helping the exchange with in-house operations and services, adding that as far as potential future acquisitions are concerned, the exchange likely “won’t buy a massive tech company.”

It seems HKEx will now be heavily leveraging LSEG’s tech stack to overhaul its own, but what then becomes of the investment that the exchange has already made in its infrastructure?

It should also be noted that on September 5, the HKEx was forced to suspend trading and after-hours sessions of its derivatives market due to a connectivity issue on the Hong Kong Futures Automatic Trading System. The exchange later confirmed that software issues in the vendor-supplied trading system caused the outage. It then said it will release a full and detailed analysis of the incident and the vendor software issues once it is complete. 

Over the past six years, the exchange has spent HK$3 billion ($382.6 million) to upgrade the efficiency and security of its trading systems. Even so, while the derivatives trading platform was suspended, HKEx suffered yet another distributed denial-of service attack (DDoS) on its open-access website. While unrelated to the software issue it was experiencing at the time, the DDoS attack disrupted its ability to display exchange prices and financial data on its website. The last time it experienced a similar attack was in August 2011.

Iosif Itkin, co-CEO and co-founder at trading software testing company Exactpro, says technical outages in complex technology systems are like death—they are inevitable. “One has to take all reasonable steps and do whatever it takes to avoid them, but it is never a question of ‘if,’ it is always a question of ‘when.’ The best way to decrease the impact and frequency of software glitches is to always be fully aware of their imminent nature and to be on constant alert that things will go wrong,” he says.

HKEx upgraded to the new Genium platform in May with a two-week stabilization period and a fallback plan to revert to the previous version should an incident occur. HKEx said last week that they switched to the older version, but that software too, had a bug.

The LSE has also had some challenges in recent months. In August, the exchange experienced an almost-two-hour delay at the start of trading due to a technical software issue, its worst outage in eight years. There are concerns that if this integration is not handled properly, it will create disruptions that will now extend from Asia to Europe.

“Mergers and acquisitions aren’t just pieces of paper, they’re a merger of all resources and talent too. A core component is computer systems,” says Lev Lesokhin, evp of strategy and analytics at consultancy Cast. “Nobody wants to be left with a Frankenstein’s monster to deal with, possibly in perpetuity.”

Question 3: The Data

In Asia, the deal is being met with applause.

“Truly a bold move and quite imaginative,” Lyndon Chao, managing director of ASIFMA’s equities division and who leads its Equities Committee and Post Trade Committee, tells WatersTechnology. “HKEx has been a great inbound investment channel for China. LSE has the potential to position itself as China’s outbound channel, especially as US relations remain challenging amidst potentially unfriendly markets if [US senator Marco] Rubio succeeds in passing the controversial Equitable Act. It would also seem to make sense for the UK as they contemplate options in a post-EU world. Very imaginative! Very bold! Could be good for Hong Kong, good for China and good for the UK.”

During the conference call on the proposed takeover of LSEG, Li said the deal would combine the largest and most significant financial centers of Asia and Europe. “The potential combination of these two great businesses will create a truly global market infrastructure group connecting the East and West, ideally positioned to benefit from the macroeconomic landscape,” he said. 

If the deal is approved, the combined entity would be a powerhouse exchange group offering trading, clearing and settlement services. It will also have the ability to provide an 18-hour trading day, across Asia and Europe, and into the start of US trading.

Mack Gill, COO at post-trade technology provider Torstone Technology, and the former CEO of LSEG subsidiary MillenniumIT, tells WatersTechnology that the deal has the potential to create a global infrastructure provider that is relevant in Asia and in Europe. “[It] would obviously through the LSEG have a lot of exposure to the US market, through LCH and through FTSE Russell. So, it’s highly complementary in terms of actual markets, geographies, and in terms of asset class coverage, because with the HKEx you have LME, as well. So it is already diversified and [there are] really good synergies from that combination,” he says. 

Octavio Marenzi, CEO of capital markets management consultancy Opimas, says this is a bid for HKEx to expand its data revenues. “This is, first and foremost, a data play, and a way for HKEx to snap up not only another exchange and get greater economies of scale, but also a way of massively expanding HKEx’s revenues from data,” he says. “Data at exchanges, in general, has been extraordinarily profitable, but at HKEx, the operating margins on market data are a staggering 90%. It is easy to understand HKEX’s strategy on this front.” (See chart at top of page.)

To that point, in a blog post, Li spoke highly of LSEG’s index business and data analytics capabilities.

“Lastly, LSEG owns a world-leading index business with strong data and analytics capabilities and an extensive and high-end distribution network. Data is also part of HKEX’s ambitions: We are currently looking at the development of a next-generation digital asset trading platform. We intend to inject new energy and vigor into the global financial industry by leveraging the massive amounts of data generated from Asian countries and, in particular, the highly digitized economy of China.”

Torstone’s Gill adds that the exchange’s focus could be on executing on the industry it is familiar with, and hence decided to leave Refinitiv out of it. “With the thesis of the scale and coverage, that makes a lot of sense because it is a business that they know. It is also that they know Europe through a number of years that they have owned LME and they have also looked to globalize the LME in terms of providing more commodities and conversion to Asia,” he says. 

That has probably given HKEx a good filter as to what an integration with the LSEG might look like. 

“They have certainly done their homework and … they are a very well-respected organization in our industry with a grand vision. I mean, Charles Li is truly a visionary leader and we have seen that both in terms of the LME move but also the efforts to create and for the HKEx to be the true capital markets gateway to China,” Gill says.  
 
For the HKEx–LSEG deal to go through, HKEx will need the approval by its shareholders, as well as regulatory and antitrust approvals. On the conference call, Laura Cha, chairman at HKEx said: “There is very little overlap between our two markets, so we do not foresee a great deal of competitive regulatory hurdles.”