In the fast-paced world of financial services, it’s easy to get swept up in the latest technological advancements, but it’s crucial not to overlook the evolution of long-standing market infrastructures like Exchanges. These institutions are no longer just venues for trading securities—they’ve transformed into complex organisations driving broader market shifts.
In this report, we’ll explore:
- The shift away from traditional revenue models.
- The maturation of secondary market trading.
- The rise of low-value-added trading methods.
- The growing appeal of outsourced trading solutions.
- The expansion of Exchange-based data services.
- The rise of tokenisation and digital assets.
- The potential of new marketplaces and countertrade.
In the dynamic world of financial services, it’s easy for asset managers and investment bankers to focus on the latest technological trends while taking long-standing market infrastructures, such as Exchanges, for granted. Yet, in doing so, they risk overlooking the significant transformations that are reshaping these institutions and the broader ecosystems they currently and can potentially support. Exchanges have long since grown past being merely venues for listing and trading securities; they have evolved into complex organisations with diverse revenue streams and a growing influence on broad market and even societal developments. As these changes unfold it’s crucial for financial services professionals to reassess how they view Exchanges, where Exchange’s growth opportunities might emerge and the implications of this future state for their own firms.
The Shift Away from Traditional Revenue Models
Historically Exchanges have derived most of their revenue from capital markets activities such as trade execution and listing fees. Today however, it isn’t unusual for major Exchanges to report less than 20% of their total revenue being generated from these sources. In response to the need for diversification, Exchanges have increasingly expanded their offerings in data services, analytics, and research. These services now account for large proportions of their income reflecting a broader industry trend toward data-driven decision-making, the commoditisation of trading activities and a strong appetite for expansion into new business areas.
The shifting landscape of revenue generation among Exchanges highlights the need for asset managers and investment banks to think differently about their relationships with these organisations. As traditional trading models mature, Exchanges are increasingly pursuing new sources of income that extend beyond their historical role merely centred on core financial markets. This evolution not only presents new business opportunities but also raises questions about the strategic priorities that financial services firms as users of Exchanges should adopt in response.
The Maturation of Secondary Market Trading
The introduction of the Markets in Financial Instruments Directive (MiFID) in Europe set off a wave of innovation in secondary markets trading. This led to the establishment of new trading venues, including organised trading facilities (OTFs) and multilateral trading facilities (MTFs). However, that burst of innovation has slowed significantly, with the industry now characterised by consolidation and a focus on optimising existing trading models rather than creating new ones.
This slowdown can partly be attributed to subsequent regulatory changes that have dampened the appetite for trading method experimentation in secondary markets. Moreover, as trading platforms have become more established, the potential for ground-breaking innovation has diminished. While startups like 24X Exchange aim to disrupt the market with 24/7 trading, most major Exchanges disregard this dramatic extension of trading hours. Instead, they are focusing on incremental improvements to existing systems, such as periodic auctions that concentrate liquidity within specific time frames.
The AHEAD model, a recent proposal for a hybrid periodic auction trading mechanism, exemplifies this trend. Rather than seeking to extend trading hours, AHEAD advocates for a model to enhance liquidity concentration, and being that this focuses on periodic auctions, by its very nature it acts to compress trading in time. Notably one of the co-authors of this whitepaper is a senior official from the French regulator, the AMF, which adds both a layer of credibility to the proposal as well as perhaps some indication of the political opinion for trading evolution. This divergence in approaches to innovate trading strategies underscores a broader industry debate about the future of trading and the role of Exchanges in facilitating liquidity and price discovery.
For asset managers and investment banks, these trends suggest that secondary market trading is approaching a point of maturity where incremental tweaks will be the norm. As a result, firms may be well advised to re-evaluate their internal trading capabilities and consider whether the resources allocated to these functions could be better utilised elsewhere.
The Rise of Low-Value-Added Trading Methods
As secondary market trading becomes more homogeneous, the emphasis is shifting toward trading methods that prioritise simplicity and cost efficiency over alpha generation. For instance, Volume Weighted Average Price (VWAP) trading has gained traction as an alternative to more complex alpha seeking strategies. By focusing on matching the average price over a specific period, typically a trading day, VWAP allows traders to achieve benchmarked returns with no need for skill or intervention. Similarly, market-on-close orders are increasingly popular especially during index changes when up to half of total market volume can easily occur at the day’s close.
These trends reflect a shift toward trading methods where outperformance is no longer a primary objective, arguably underscoring an attitude of “if you can’t beat them, join them”. In this environment, many asset managers find it acceptable to meet benchmark trading outcomes rather than pursuing active strategies that require significant resources and incur risk that may not be rewarded. Consequently, the marketplace for innovative trading solutions has narrowed with new offerings largely focused on optimising existing processes rather than creating fundamentally new ones.
As firms confront this changing landscape, the rationale for maintaining large, in-house trading operations becomes far less compelling. Given the high costs associated with staffing trading desks or developing alpha generating trading abilities many asset managers are turning to outsourced trading providers who can offer scale and efficiency at an attractive cost. This trend toward outsourcing allows firms to reduce cost and free up internal resources for higher-value alpha generating activities, such as research and portfolio management.
Embracing Outsourced Trading Solutions
For asset managers and investment banks alike, the outsourcing of trading operations presents a practical response to the challenges posed by a mature and increasingly standardised market. By leveraging the infrastructure and expertise of specialist providers, firms can streamline their operations while maintaining access to the liquidity and execution services they need. Regardless of who is right in the 24 hour trading debate, outsourced trading solutions appeal as they have either the ability to provide 24 hour coverage at scale, or to provide resources that are used only when needed.
The shift toward outsourced trading continues to gain momentum, with ever growing numbers of asset managers embracing this approach as a means of achieving cost efficiencies and operational flexibility. For firms that have yet to explore this option, now is the time to consider how outsourced trading could enhance their competitive position and support their broader strategic goals.
The Expansion of Exchange-Based Data Services
As Exchanges evolve, data has emerged as a critical area of innovation and growth. Long recognised as a valuable by-product of trading, data has become a significant revenue driver for Exchanges as they seek to monetise the information generated by core operations. However, the nature of this data is changing, with Exchanges increasingly focusing on advanced analytics and artificial intelligence to extract actionable insights from their datasets.
One area where data services are experiencing rapid growth is in Environmental, Social, and Governance (ESG) metrics. As investors place greater emphasis on sustainable investing, demand for ESG data has surged, prompting Exchanges to develop new platforms and services to meet this need. The Green Impact Exchange (GIX) for example is preparing to launch a platform that will enable corporate issuers to share ESG metrics with investors, creating a new source of data which investors will no doubt welcome.
For asset managers, the expansion of ESG data services offers valuable opportunities to enhance their research and investment processes. By leveraging these new datasets, firms can gain a deeper understanding of the companies they invest in and make more informed decisions that align with their clients’ values. Investment banks, too, stand to benefit from these developments, as ESG data provides a foundation for new research products and advisory services that can drive revenue growth.
The Rise of Tokenisation and Digital Assets
Beyond data, Exchanges are exploring new frontiers in asset tokenisation—a technology that has the potential to transform the way a wide range of financial assets and indeed objects are bought, sold, and managed. By converting assets into digital tokens, Exchanges can enable fractional ownership and broaden access to illiquid assets, such as real estate, art, and private equity. This democratisation of investment opportunities not only creates new revenue streams for Exchanges but also expands the universe of investable assets for institutional and retail investors alike.
Deutsche Börse’s 360X platform and SIX Group’s advancements in the tokenisation of securities and digital currencies illustrate the growing momentum behind this trend. These initiatives enable the provision of a robust operational and regulatory aligned environment for the trading of tokenised assets, offering investors the protections they expect from traditional financial markets while opening up new possibilities for diversification and growth.
For financial services firms, the rise of tokenisation presents both opportunities and challenges. On one hand, tokenised assets offer new ways to achieve portfolio diversification and gain exposure to alternative asset classes. On the other hand, the development of these markets requires firms to navigate complex regulatory and operational environments and invest in new technologies and skillsets. As the landscape continues to evolve, firms that can adapt to the demands of tokenisation will be well-positioned to capture value from this growing technological solution.
New Marketplaces and the Future of Countertrade
One of the most intriguing developments in the expanding Exchange and markets segment is the emergence of new marketplaces that leverage tokenisation in a multitude of ways, such as facilitating corporate and sovereign government countertrade. ECO Capacity Exchange, for instance, aims to create a platform for the trading of corporate and government countertrade obligations—a market that is largely invisible to traditional Exchange environments but holds enormous potential.
Estimates from organisations like the International Trade Council suggest that countertrade could represent as much as 20% of global trade, highlighting a huge untapped opportunity. By creating structured marketplaces for the trading of these assets, Exchanges can unlock new revenue streams and provide firms with access to a previously inaccessible market.
For investment banks and asset managers, the rise of countertrade marketplaces offers a unique opportunity to engage with a new asset class that could provide diversification and risk mitigation benefits. As Exchanges explore ways to bring transparency and liquidity to this market, financial services firms should consider how countertrade markets could impact their businesses in the future.
Staying Ahead of the Curve: Strategic Implications for Financial Services Firms
As Exchanges continue to transform, financial services firms must stay ahead of the curve by reassessing their strategies and capabilities in relation to this growing set of Exchange oriented offerings. A driver for different underlying reasons is that for many firms, the maturation of secondary market trading suggests that firms should consider whether expensive secondary market trading resources are actually worthwhile. A clear and growing example being the potential benefits of outsourced trading as the market appears to be shifting toward low-value-added methods and standardised trading performance benchmarks.
In parallel with this the expansion of data services and the rise of tokenisation create new opportunities for growth and innovation. By investing in the technologies and skillsets needed to navigate these trends, firms can position themselves to capitalise on the evolving role of Exchanges and the new markets that are opening up.
In conclusion, the transformation journey of Exchanges might have started in the 17th and 18th centuries but is far from complete. From data-driven services to tokenised assets, these institutions are redefining the financial markets in ways that create both opportunities and challenges for asset managers and investment banks. By analysing these changes and adapting to the evolving landscape, financial services firms can ensure they remain competitive and well-positioned for the future.
