February 16, 2011 / 1:01 PM / 6 years ago

Hong Kong exchange should resist merger temptation

7 Min Read

HONG KONG/SINGAPORE (Reuters) - The Hong Kong stock exchange (0388.HK) should avoid rushing in to join the global merger frenzy among markets so that it doesn't get sidetracked from its booming China-related business.

Hong Kong Exchanges and Clearing Ltd (HKEx) stressed last week it was open to strategic alliances to arrest a slide in the share price of the world's most valuable exchange operator after a wave of merger deals swept the financial sector.

But market sources cautioned against any haste to join the merger frenzy.

"Hong Kong Exchanges is busy with the pipeline of companies coming to them from China," said Christopher Wong, senior investment manager at Aberdeen Asset Management, which has $287 billion in assets under management and advice globally.

"It's not worth getting distracted right now by potential tie-ups."

A wave of tie-ups and mergers has gripped the sector in the past two weeks, including a $10.2 billion takeover of NYSE Euronext NYX.N by Deutsche Boerse AG (DB1Gn.DE) unveiled on Tuesday. The merged entity could create a more attractive partner for Asian exchange operators, the companies said.

The Singapore Exchange (SGXL.SI) bid for Australia's ASX (ASX.AX) late last year. And last week, London Stock Exchange (LSE.L) said it would buy Toronto Stock Exchange operator TMX Group (X.TO).

Strategy

In Asia, tough regulatory regimes, cumbersome ownership structures and protectionist minded governments mean cross-border mergers involving regional markets will be difficult.

As if to underline that, India's two biggest stock exchanges held out little hope of entering any significant merger deals with Brazil's BM&FBovespa (BVMF3.SA) or other market operators because of regulatory hurdles, sources said on Wednesday.

BM&FBovespa Chief executive Edemir Pinto had said in an interview with Reuters on Monday that the company was on the lookout for opportunities to expand in China and India.

The global industry consolidation is being driven by increasing competition from upstart electronic markets and the flurry of deals has put the spotlight on the strategy of the HKEx.

HKEx shares dropped to a four month intra-day low on Friday on fears the mergers would lead to heightened competition that could eat into its business.

In response to the mergers, the HKEx issued two statements emphasizing that it was open to strategic alliances, but had not yet identified any opportunities.

"Due to changes in the financial market landscape, HKEx will consider international opportunities for alliances, partnerships and other relationships that present strategically compelling benefits consistent with its focus on markets in China," it said.

The tech-heavy Nasdaq (NDAQ.O) or Chicago's CBOE (CBOE.O) are seen by financial industry executives as potential alliance candidates for HKEx.

A long list of IPOs, a fledgling but mushrooming offshore yuan market and strong investor interest in a bourse seen as a proxy for China's growth are reasons HKEx should not resort to anything drastic, the market sources said.

"The HKEx can afford to take its time and not worry about being left behind in the merger frenzy," said Shirlia Chung, a fund manager at Shin Kong Financial's (2888.TW) Asia Equity Fund in Taipei, which owns HKEx shares.

"Its turnover is massive and it has support from the Chinese government."

Riding on China's coattails, HKEx has been the world's biggest IPO market for the past two years.

Consultants PricewaterhouseCoopers forecasts 110 new listings for 2011 raising between HK$300 billion ($38.6 billion)and HK$350 billion versus 114 IPOs in 2010 that raised a record HK$445 billion.

Buoyed by that growth, HKEx shares have risen about 60 percent from their May 2010 low, making it the most expensive major stock market operator in world. Its market capitalization is about $23 billion.

The stock trades at about 36 times 2011 price-to-earnings, compared with 24 times for Singapore and 15.6 times for the NYSE, Thomson Reuters Starmine data showed.

Favourable Factors

On its part, HKEx is launching new products and increasing trading hours to boost competitiveness.

China's major decision in July last year to loosen controls on its yuan currency, also known as the renminbi (RMB), has provided further fuel for HKEx earnings.

While others, such as Singapore, have said they want to target the offshore yuan market, companies such as McDonalds (MCD.N) and Caterpillar (CAT.N), who have issued bonds in the Chinese currency, have all done so in Hong Kong.

"Listed (yuan) products are going to happen," Romnesh Lamba, the HKEx's executive vice president and head of market development said.

"We already have a few RMB bonds and probably the next one is probably going to be a REIT."

Hong Kong's stock market is also attracting global luxury brands, such as Prada. The company could become the first Italian firm to list in the former British colony.

Analysts urged HKEx to seek closer co-operation with the Shanghai and Shenzhen stock exchanges, in particular a common platform where shares can be traded among the three exchanges.

These markets produced a combined trading volume in 2010 of $9.6 trillion.

"The future direction for exchanges is probably a common platform so that investors can trade across jurisdictions," said David Lai, a fund manager at CITIC Securities, with about HK$200 million in assets under management.

However, a common platform may take time for the same reasons that will limit the merger possibilities for overseas exchange operators eyeing China.

Chinese regulations limit the amount of yuan that can flow into the country and there are also restrictions on foreigners who want to invest in Shanghai's domestic A-share market.

Additional reporting by Denny Thomas in HONG KONG and Faith Hung in TAIPEI; Editing by Muralikumar Anantharaman and Neil Fullick

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