Why a CBOE and Bats Global merger makes sense

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CBOE is still one of the few exchanges to operate an open outcry floor

Chicago-based CBOE, which operates in the lucrative US equity options market and owns the popular Vix volatility indices, would be the bigger party in any deal, with a valuation of around $ 5.6 billion.

For Bats, the operator of stock exchanges in the US and Europe – and valued at close to $ 2.3 billion – a tie-up would come just months after it went public on its own exchange.

Details are still limited but, taken at face value, a merger makes sense in many ways. Here’s why…

• Little overlap…

For both parties, the deal would offer the magic three: size, scale and diversification.

CBOE is the biggest player in US equity options, with a market share of around 27%, according to the Options Clearing Corporation, the clearing house for the US options market.

Bats, by comparison, has it roots in cash equities. In the US, it operates four stock exchanges and is the second-biggest operator by market share – lagging only the New York Stock Exchange. It runs Europe’s largest stock exchange, Bats Europe, and has made inroads into currency trading with the 2015 acquisition of institutional FX platform Hotspot. It also has a growing exchange-traded fund platform.

Tellingly, Bats also runs two options markets and it has been seeking to grow these. It even launched its own options volatility index in March to rival the Vix, which it called ‘the Spikes’. When Bats launched its initial public offering on April 6, Chris Concannon, the company’s CEO, actually took aim at the CBOE, saying it was “petrified of what we’re about to do in their space”.

Nevertheless, it is still a relatively small player in the options market, with a share of around 10%, according to the Options Clearing Corporation.

And then there’s the technology. While the CBOE is still one of the few exchanges to operate an open outcry floor, Bats is regarded as having some of the best trading technology in the world. It was founded in 2005 by a group of technologists in Kansas City.

Kill or be killed…

The exchange sector is a hotbed of M&A and consolidation, where the mantra has always been “kill or be killed”.

Things are particularly active now, with the London Stock Exchange and Germany’s Deutsche Börse in the midst of trying to push through their own multibillion-dollar merger.

A deal for Bats would put an end to CBOE being seen as a takeover target. In the past it has been viewed as being in the sights of its bigger Chicago-based cousin, CME Group, which has a valuation of close to $ 38 billion.

Of course, this could all put both CBOE and Bats “into play”, according to one senior exchange dealmaker, and the possibility of counterbidders cannot be ruled out. For CBOE, these would most likely come from CME or Intercontinental Exchange. It is harder to find other partners for Bats, without potential antitrust issues. Asian exchanges might have the firepower, and lack of competition issues, needed to make a move.

Speaking of consolidation, US options is looking a little crowded…

Many view consolidation in US options as being long overdue, with 14 separate exchanges operating in the space, according to the OCC.

Aside from CBOE and Bats, Nasdaq runs five options exchanges; three of these came with its acquisition in March of US equity options market the International Securities Exchange from Deutsche Börse for $ 1.1 billion.

NYSE Amex Options and NYSE Arca, owned by Intercontinental Exchange, have around a 17% share.

Others include MIAX Options Exchange, which has a market share of close to 6%. In 2015, it agreed an equity rights deal with seven major trading firms including Citadel Securities, KCG and Optiver, allowing them to take a stake in the company if they increase trading on the exchange.

As a single entity, CBOE is the largest US options exchange. But when you add up the share of the five options markets owned by Nasdaq, CBOE falls into second place, according to OCC figures. A joint CBOE-Bats entity would, however, come out on top with a 38% market share to Nasdaq’s 36%.

The world is CBOE’s oyster…

As its name suggests, CBOE’s franchise is heavily tilted towards the US, particularly Chicago. A deal with Bats would help give it a truly international reach.

Beyond the US, Bats is well established in Europe through both its European stock exchange and Hotspot. The latter platform also has reach into Asia.

CBOE has made some recent steps in Europe, where it is backing CurveGlobal, a new futures venture co-owned with the London Stock Exchange Group and several major dealer banks, which is set to launch on September 28. Another sign of its interest in the region came in July, when the US options exchange opened a new office in London to expand in Europe.

Two months earlier it had taken a minority equity stake in Eris Exchange, the US-based futures outfit which earlier in September said it too was opening in the UK capital.

Bats declined to comment this morning. CBOE was not immediately available for comment.

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