How the ASX saw off all comers

Many tried, but only one competitor has a toehold, writes Michael West.

When accused of monopoly, the ASX argued that the sharemarket was now open to competition. Look, Chi-X has a licence and is now operating.

In reality, this is Claytons competition. Forgetting its hegemony in futures trading, there are four things the ASX does in equities: listing, trading, clearing and settlement.

Chi-X competes in only one of these areas; trading. It provides a market in the top 200 stocks.

In clearing, which is the risk management between the time of the trade and the settlement, the ASX's Australian Clearing House has a monopoly. The London Clearing House had attempted to enter the market but has been kept at bay.

But the ASX does not always kill its competitors, it is given to wounding them too, slowing them down. This was the case with Chi-X which says in a submission to Treasury that a "clear consequence of the delay [in having its licence granted] was enabling the legacy monopoly provider to prepare for competition".

"The time between the Chi-X application for an Australian Market Licence being lodged and that licence finally being granted was the most serious threat Chi-X has faced to its operations surviving in the Australian market.

"The long-term, stifling ramifications on competition that arose from the length of time between the application and granting of the licence still have an impact on the dynamics of Australia's financial markets."

Chi-X applied in April 2008 and was granted a licence in May 2011.

In the meantime, the ASX had begun tweaking its prices. Say - and this for the purposes of example - it charged $2 for trading, $2 for clearing and $1 for settlement previously, that price mix was changed to $1, $2 and $2. Same price, different mix.

The net result was a tightening of the screws on Chi-X who only compete on trading.

The ASX had merely shifted its pricing from trading, where the business was becoming contestable, to clearing and settlement, where it remained uncontested. In one fell swoop it managed to lift its net pricing and reduce the contestable revenue pool available to its competitors.

During the reign of Tony D'Aloisio, in 2005, the chief executive who went on to become chairman of the corporate regulator ASIC, the ASX had lifted its trading fees but reduced clearing and settlement fees.

In an announcement in 2005 about making prices more competitive, the ASX was trying to lure the high-frequency traders into its arena to lift trading revenues - a paradox, as things turned out.

One year on, and with the spectre of competition from Chi-X, Liquidnet and AXE-ECN looming, the joint venture between the New Zealand Stock Exchange and five investment banks incoming ASX chief executive Robert Elstone was contemplating another round of changes to prices. By June 2007 prices for trading were going back up. Frustrated, AXE-ECN pulled stumps two years ago, saying they couldn't get a licence to operate. They applied in 2006 and wound up in January 2011. Liquidnet, a US dark-pool operator specialising in block trades for fund managers, was similarly unsuccessful.

If the AXE-ECN partnership of Citigroup, Macquarie, Merrill Lynch, Goldman Sachs and CommSec and the New Zealand stock exchange couldn't swing a licence, who could?

As it turned out Chi-X could, but only in limited form, and only after completing an Olympian course of regulatory obstacles.

One long-standing representation of the ASX has been that it has an access regime for other players through its electronic clearing and settlement trading platform CHESS. This was the case put to counter anti-competition arguments during its takeover of the SFE Corporation in 2006 - the monopoly futures provider.

When the ASX was formed after the merger of the six state stock exchanges, and the federal government took over corporate law, it was a global pioneer in the electronic marketplace.

CHESS was the vehicle which put ASX at the vanguard of international market progress. But CHESS was effectively a national asset. While the ASX receives the financial returns of CHESS it did not pay for its development. These costs were met by the Financial Industry Development Account - which, like the National Guarantee Fund, is controlled by the ASX.

Anyway, despite its representations of open access to CHESS in 2006, the ASX still had to build an access regime; the ASX Trade Acceptance Service. This service began working only in October 2010, four years after the takeover of the SFE.

The point of all this is that, should government finally twig to the scaremongering on dark pools and the bogus arguments against competition in financial markets, it may take years before competition eventuates - years of obfuscation and fussing over the likes of "development of a code of practice" being debated with regulators in three-month cycles .

Based on independent studies, including one by the Commonwealth Bank, ASX's pricing for cash equity clearing services is far higher than that of its international peers.

Still, on advice from the Council of Financial Regulators, the Treasurer has committed to locking in the ASX monopoly without countervailing control over pricing or access.

Like most other market businesses, the ASX has been hit by the financial crisis and the ensuing fall-away in transaction volumes. Being in good financial shape with little debt has stood it in good stead.

Unlike other market businesses, however, its sheer monopoly has allowed it to offset the fall in transaction revenue by hoisting its prices.

Earlier last year, as the rest of the market languished, it increased its CHESS settlement fees by 10 per cent.

"The 10 per cent rise in the fee for CHESS holding statement reflects the increase in postage costs[seven years' worth] and the upgrade made to the CHESS system last year," ASX Group spokesman Matthew Gibbs said. "ASX will be regularly reviewing its pricing schedules across the group in line with market developments, and advising customers of fees and charges annually or more often as circumstances require."

The previous month it had announced plans to raise fees in its debt securities division Austraclear by 9 per cent to 15 per cent.

Listed companies were hit. They remain an easy target. Where else can they go? And CHESS holding statement fees disproportionately affects companies with high retail participation because these statements go to retail investors and self-managed super types. They probably should be using email by now anyway.

But there is little incentive to innovate when you are a monopoly. And this is the problem. The ASX, once the inspiration of its global peers, risks falling further behind if it continues to be mollycoddled by government.