Friday, 21 December 2012

Bye Bye New York Stock Exchange

OK - the title is pure hyperbole. The New York Stock Exchange (NYSE) is going nowhere. But the company that owns NYSE is just being bought over. The curious part of the story is that the acquirer does not really want the NYSE, but it comes as part of the package- so he has to take it !

Here's the deal. NYSE is part of a conglomerate called NYSE Euronext. The conglomerate consists of NYSE itself, Euronext, which is a combination of three European stock exchanges and Liffe which is a London based derivatives exchange. NYSE and Euronext are ugly spinsters nobody wants. The beauty amongst the beasts is Liffe. For it is the sexy new hottie - a derivatives exchange.

And therein lies the story. In the modern day casino , that is finance , equity exchanges like NYSE are worthless as businesses. Margins are supposedly low. Stock exchanges are the places where almost all companies that require capital list and that's where investors channel their savings into productive investment. One would have thought that  the raison d'ĂȘtre for financial markets was to fulfill that objective, but obviously I am an old foggie.

In today's world, the money is all in running commodities exchanges,  derivatives markets etc - not boring old equity. The acquirer is a company called ICE that did not exist before 2000 (for the record NYSE was founded in 1817). ICE purely handles derivatives trading. The career of Jeffrey Sprecher, the CEO of ICE says it all. He started his career building power plants.  But he realised that there was more money (in facts tons more money) playing on financial contracts relating to power than in generating power itself. So he started ICE , obscurely in Atlanta, in 2000. See where he has got to in 12 years.

We've now come to a stage where even the NYSE is an unattractive prize - in fact positively repellant. Given a choice Mr Sprecher would probably spin off NYSE, or sell it off somewhere or simply forget about it. Unfortunately that is politically simply unthinkable. So he has to live with it and make pious noises of how important it is.

Its a symptom of where the world is going.  This post is one sided and biased (whoever said that a blog has to be objective !). Derivatives markets are not all evil and equity markets are not all saints. Both serve useful economic purposes. But you can see where this is headed. Esoteric, ununderstandable financial structures are getting to be more important than the underlying asset itself. That's why, a wise old fox from Omaha, back then in 2003, called derivatives a weapon of mass destruction.

Many years ago, when the world was a simpler place and when this blogger was a young man (!), he went to 11 Wall Street, entered the visitors gallery of NYSE and gazed at the trading floor in awe.  Little did he know that not in the too distant future, this lovely lady was going to be thrown out into the street as an ugly old crone.


gils said...

wow!! derivative?? apdina? differential calculus related samachaarama? ungalta neria class eduthukanum...

Ravi Rajagopalan said...

Blogs are polemics at best - you are remarkably objective for a blogger. Nevertheless, one has to move with the times. I am not familiar with Dodd-Frank but I think it does not sufficiently address the impact of derivatives on ordinary people, and hence does a poor job of regulating them. Like the Maginot line, it is fighting yesterday's war.

I really wonder why no one has come up with an accurate method of estimating the cascading down-side risk of a derivative play on money markets, the stock exchange and other modes of financial intermediation. If you recall, the huge intervention in the markets by Hank Paulson and the Fed in 2008 was because the inter-bank and inter-corporate call money market ran out of liquidity because of cascading margin calls from players entirely unrelated to each other. Who in the world imagined that an obscure part of AIG in London would indirectly cause the collapse of Lehman Brothers?

Better and more intelligent regulation is what is required.

Appu said...

Some how i strongly hope (even pray) that world will come to its senses very soon when it comes to the modern day (ir)regulated casino. there would be a reset and world will go back to the basics/fundamentals and not the wild valuations and derivative devils. It has to happen.
oh btw if you havent read Devil's Casino on Lehman Brothers is a good read :)

Sandhya Sriram said...

there should be no sympathy for all those who go and puts their money knowing that it is indeed a casino out there. the problem is when their crimes are bailed outs or pension or insurance funds are ruined.

But its also a cycle. five years from now, when you would be even more younger and dashing (because you have only grown younger with age), NYSE would return to its limelight and the short term money maker who now owns it would realise what is more sustainable. it could be a new bottle, different financial products, different followers, different tools, but the fundamentals that held it together from 1817 wouldnt change.

Vishal said...

Wonder if multiplying the money exponentially was so easy, why so many great brains would toil inside a board meeting or shareholders' meeting!

Having said that, sensible and wise investments do have good returns (only if sensible and wise)!! After all, wisdom does have its own cost and rarity too :)

Ramesh said...

@Gils - Differential calculus ??? Apdinaa ?? :)

@Ravi - Honoured. Probelm is nobody seems to be ableto find a way to effectively regulate gambling anywhere - be it Las Vegas or Macau or the derivatives market. Like sex, its one of the uncontrollable instincts of man !

@Zeno - The problem is how to regulate and control the genie which has escaped from the bottle.

@Sandhya - That would be very nice it it happened, wouldn't it ?

@Vishal - Its not easy at all. many people badly get burned playing in derivatives - remember its a zero sum game ; there is no wealth created by this. As in all forms of gambling (or lottery for that matter), you definitely know as a who9le everybody is going to lose, but the chance that one may gain is the fatal attraction. hats why lotteries, or casinos are great businesses, even though its a proven fact that collectively customers lose.

Vishal said...

Agree with you completely, Ramesh! Couple of my friends got burnt pretty badly playing in derivatives.

Actually, my comments was more generic and not so in context of derivatives :)

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