SGX today announced a 50:50 JV with Chi-X to launch a region wide Dark Pool by 1HFY10. We view this initiative very favorably as it pre-empts competition in Asia-Pacific, where alternative trading platforms are in nascent stages as of now. The proposed dark pool aims to provide liquidity for block trades in Singapore and offshore crossing facilities for HK, Australia and Japan. Please click on this link for details on dark pools in context of Asian exchanges, a note we did last year.

We expect this dark pool to have a neutral revenue impact on SGX to begin with, as clearing will still be done by CDP (100% owned by SGX). The exchange cash securities revenues are about 1:4 split between order-matching and clearing. And with SGX having a 50% share in the JV, the effective split comes to almost 1:9 between ordermatching and clearing. Hence, we expect revenues from higher clearing volumes to offset revenue losses from order matching business. Overall, as long as clearing revenues increase by 1%, order-matching revenue impact from almost 10% market share loss to the JV would likely be offset.

The broader intent of JV to match regional trades, if successful, would prove to be a revenue driver in the medium term but we do not expect that to take place for at least next two-three years. The success of the regional platform would depend on depth of liquidity in the pool, degree of neutrality, compliance/regulatory issues and ease of settlement for the Singapore blocks.

We view this JV as a step towards development of a ‘two tier’ structure for exchanges in the long term – one for price discovery and one for size discovery. The former would involve trades close to the average ticket size and smaller, which determines the price and the second market that takes price from the first and discovers size by aggregating all the blocks. It is the second type of market that does not exist in a formal / efficient way and dark pools are filling the gap.

Overall, a step in the right direction from SGX, though revenue impact should not be very apparent in the near term. We continue to maintain our structural positive view on SGX on expectations of market leading initiatives on product suites and trading infrastructure. Near term, we expect the stock to be driven by higher trading volumes. Maintain OW.