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Investors are loading up on shares of stock exchange operators as a wave of global consolidation sweeps through the sector. But while further mergers appear inevitable, the biggest gains for shareholders may have already occurred.

The London Stock Exchange Group PLC confirmed on Tuesday that it planned to merge with TMX Group Inc., owner of the Toronto Stock Exchange. Only hours later, Deutsche Boerse AG said it is in advanced talks to buy NYSE Euronext to create the world's biggest equity exchange.

The prices of these and other exchange stocks all rose. NYSE soared 14 per cent, LSE closed up 9 per cent and TMX Group rose 6 per cent.

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Speculation that other players will be compelled to do similar deals drove up the share prices of CBOE Holdings Inc. , owner of the Chicago Board Options Exchange, and IntercontinentalExchange Inc. , which operates a derivatives clearing house and futures exchange. Both climbed 4 per cent. CME Group Inc., whose properties include the Chicago Mercantile Exchange and Chicago Board of Trade, rose more than 1 per cent.

Despite the rush to buy, some money managers believe the easy money has already been made.

"Investment opportunities aren't as good as they were five or six years ago," says Rob Grundleger, who runs the Toronto-based investment firm Groundlayer Capital Inc.

Several years ago most stock exchanges were regional monopolies and the companies that owned them were posting annual growth of 20 per cent or more. With the rapid consolidation that has already occurred, those rates have been cut in half, says Mr. Grundleger, who has pared his holdings of exchange stocks.

"It's always better when you're a growth story as opposed to a cost-cutting story. And while these guys will talk about revenue synergies, all they can really be sure about is the cost synergies," he says.

The LSE and TMX Group have estimated their annual savings from the merger will reach about $56-million by the end of the second year. Deutsche Boerse and NYSE, meanwhile, said they would expect about $400-million in annual savings from their deal.

The merger trend among exchanges is driven by new technology that has enabled traders to place orders instantly around the globe from a single screen, as well as by the growth of alternative trading platforms that are challenging traditional exchanges for business.

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But while technology may be erasing the walls around exchanges, some long-term investors still see value in parts of the sector.

"The competitive landscape in equity trading has certainly changed in the last few years. But a lot of our investment thesis hasn't changed," says Garey Aitken, chief investment officer of Bissett Investment Management, which owns more than 2 per cent of TMX Group.

He still likes the business for its high cash flow and relatively low capital costs as well as for its healthy dividends. Two years ago, Mr. Aitken was adding to his position in TMX Group as others worried about new rival exchanges eating into its business. Those concerns pushed the share price down to below $25, which he considered a good value at the time.

The erosion of the exchange's market share has levelled off today and the proposed deal with LSE should produce significant savings, he says. "There is real merit in the deal. I think we will hold on to it."

Most market watchers believe more exchange deals lie ahead. Within 10 years, there may be only three or four exchanges dominating global trading, says Thomas Caldwell, chairman of Caldwell Securities Ltd., who has invested at one time or other in most of the companies behind the biggest exchanges.

One possibility is a merger of IntercontinentalExchange and CME Group, Mr. Grundleger says.

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"In the end I don't expect there will be two of them. There will be one of them. Intercontinental is smaller but very well run. [Founder and chief executive officer]Jeffrey Sprecher has been an acquirer and I don't think he wants to be acquired," he said.

North American publicly listed exchanges

TMX Group

NYSE Euronext

CBOE Holdings

CME Group

Nasdaq OMX Group


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