The Evolution of Markets
February 7th, 2007 by Justin
I’ve recently realized that the industry I work in is a microcosm of markets globally. Retail spot forex (foreign exchange, currency trading, FX) has rapidly gone through the phases of initiation and fast growth, and is in the middle of the “new competition” phase in the United States at least. This is where hundreds of new entrants realize the market’s vast potential and begin getting involved. Some are large banks, making deals with current market leaders. Others are venture capitalists buying out pieces of technology and investing in startups. Finally there are entrepreneurs who realize it is not too late to start a company and undertake the now much more difficult task of gaining market share.
Three years ago, market share was probably the last thing on the minds of what were then the leading firms in the industry–FXCM, Gain Capital, GFT. They were more concerned with offering a product that worked, and setting up their marketing and business models in a way that would be profitable and would allow for longevity.
The fact that this industry is internet-based rather than being built on personal relationships and traditional broking methods is what has allowed for its rapid development. Perhaps within the next five years, the inevitable consolidation phase will already be underway, as smaller participants who have yet to build substantial market share are gobbled up by their larger neighbors. All of this will of course be much easier if some of the forex brokers start going public.
What brought me to the realization that the industry is developing rapidly and speeding through the phases I describe above is seeing a sister industry–one that is hundreds of years old–zipping through the latter stages of development. A small and new company called Bats Trading has, in the last several months, taken nearly 10% of trading volume from the Nasdaq. It has offered a cheaper, faster, better product than what is already supposed to be the cheaper alternative to the low-priced technology exchange. The FT notes that it is now taking its success to the next level in attacking the Big Board itself (the New York Stock Exchange):
Bats Trading, the Midwestern share trading upstart that has captured trading in about 10 per cent of Nasdaq-listed shares with its low price, high-speed system, on Monday launched a parallel attack on the NYSE Group.
The move illustrates the increasingly cut-throat nature of competition in the US cash equities markets and underscores the pressures driving the two largest exchanges, Nasdaq and NYSE, to pursue acquisitions in Europe where stock exchanges remain monopoly-like businesses.
Bats said it would extend the tariff structure used for trading in Nasdaq shares, in which investors posting firm bids are given a rebate on the tariff they pay to buy shares, to NYSE-listed stocks. That tariff is well below that charged by the NYSE, the company said.
Bats is one of the more successful efforts under way to take market share from the NYSE and Nasdaq, which dominate US equity trading. But some analysts question whether smaller players will be able to sustain tariff reductions long enough to make a lasting dent in the big two exchanges’ market share.
David Cummings, Bats chief executive, said the aggressive pricing is a key part of its business model which aims to lure trade from its established competitors. “It takes a long time to change peoples’ behaviour unless you give them a good economic reason,” he said.
My own industry is far from the point where monopolistic participants even exist to be threatened. However, when that point comes, be assured that they will prove no less susceptible to low-cost alternatives than has the Nasdaq.
