I admire the valor of Nasdaq – daring to enter the energy derivatives market space that has been dominated by two giants, CME and ICE. Nasdaq, operating mainly in stock markets, though with some exposure to European power markets, decided to expand into North American power, oil, and natural gas futures and options starting summer 2015. Even though, unlike CME and ICE, this exchange is not planning to handle any physical but will instead focus only on cash-settled contracts, the impact from this new entrant might be noteworthy.
Nasdaq is aiming high and projects to take over 10% of this market in two years. But how will these ambitions be realized? Trying to find the answer, I took a look at some financial figures from the commodity exchanges’ most recent annual filings. It was interesting, but not shocking, to learn that both exchanges did not do perform so well in the energy sector. First of all, in 2014, ICE reported $3,013 million from transaction and clearing fees, the largest portion of which came from the interest rate products, which increased almost six-fold compared to the last year’s results and equities contracts, which grew nine-fold. At the same time, the combined revenues from natural gas, oil, and power contracts have flattened out. In 2014, the revenue from energy contracts comprised about 25% of the total transaction and clearing fees. In 2013, the energy contracts’ share was over 55%.
CME, according to the 2014 annual report, enjoyed the annual increase in transaction and clearing fees by 6% to $2,616 million, which was, however, mainly attributed to interest rate products. Similar to ICE, energy contracts have not exactly been shining stars: their average daily volumes represented only 12% of the total volume of trades in 2014, which was a 2% decrease compared to the previous year’s data.
The not-so-wonderful performance of the energy contracts in the commodity exchanges’ portfolios can be explained by several factors, the most obvious of which is the market caution regarding the future of oil markets and a somewhat apathetic outlook for natural gas.
So what does really attract Nasdaq to products that are currently not economically attractive? My bets are on Nasdaq’s intent of taking over the market share by applying the low price strategy. In fact, it has been suggested by some sources that the exchange is planning to move into the energy space by lowering the cost of trades by 50%. At the same time, Nasdaq has been negotiating bringing on its side such trading giants as Goldman Sachs, JP Morgan, Morgan Stanley, and others. The quote by Hans-Ole Jochumsen, the President of Nasdaq, in the corporate Press Release starts with the statement that Nasdaq’s “strategy is always to meet demand where competition is lacking.” It is an absolute truth: while the market is well developed and liquid, it is being run by duopoly. And with Nasdaq specializing in stock trades, which are usually operating under lower margins than commodity markets, frugality will not be a shocker but more of a standard modus operandi. In the end, entering the markets when the big guys are already losing and are unlikely to compete by slashing prices could have been a well thought-out, tactical move.
As for the rest of us: there is nothing wrong with lower costs and more alternatives for those who are shopping around.
Data Sources: NASDAQ OMX