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ICE, Nymex Prepare for Electronic Competition

Will electronic energy traders migrate back to old standby Nymex once it begins electronic trading on the Globex system, or will the market be split, with many continuing to trade on the IntercontinentalExchange (ICE), which has offered electronic trading since early 2000? The main thing the protagonists agree on is that "it will be an interesting year."

Having announced a deal in April with the Chicago Mercantile Exchange (CME) to trade on its Globex platform, Nymex said Thursday its side by side trading would begin next month. It will offer cash-settled energy futures contracts for all listed months on June 11 for trade date June 12. Nymex miNY futures contracts will commence trading on Globex on that date as well. For the second phase of the launch, Nymex will offer physically delivered energy futures contracts no later than six months from the initial launch.

Debating the issue last week, Craig Donohue, CEO of the Chicago Mercantile Exchange, said he did not believe a bifurcated market was sustainable. He claimed that over a period of time traders would return to Nymex because of the inefficiencies of having two systems. A bifurcated market would not have enough liquidity. In the end, it is likely to be "winner take all."

But Jeffrey Sprecher, CEO and founder of ICE, believes "dealers now like to have two exchanges; they are making a conscious decision to keep competition. They are going to protect both because they are fearful of having one dominant derivative exchange" which would have tremendous pricing power. While ICE, for instance, could not attempt to move in as a latecomer into the Eurodollar market, it has an existing position in energy that he believes it will hold.

The two debated the issue at a Morgan Stanley "Under the Hood: Capital Markets Conference" May 9.

Donohue said he expected Nymex to win back traders in West Texas Intermediate oil who have strayed over to ICE's electronic platform. He said generally when a market incumbent (Nymex) responds (finally) to a paradigm shift in the marketplace, that incumbent generally wins. Sprecher pointed out that currently the two exchanges just about split the market 50-50 in light sweet crude, including WTI and Brent, and ICE expects to keep its share of that trading. The ICE system "is on every desktop; it's a system everyone knows."

CME's Donohue acknowledged trading in different products or instruments could predominate on one exchange or another.

One market participant sees both exchanges doing very well because of the tremendous market expansion. "Both will benefit from the new competition and new interest," said John D'Agostino, COO of MotherRock LP hedge fund. "I see both shops being very successful for the foreseeable future." The market is "at the beginning of a huge upswing in investment. With prices going up, hedgers have more motivation to get into the market, and the pension funds have barely dipped their toes in yet."

Both exchanges have been reaching out to new participants, D'Agostino said, and as long as they don't mess up, they both should prosper. MotherRock will be trading on both systems."The pie just keeps getting bigger and bigger." When volumes finally stabilize, that will be the time when one could falter. "Academically, Craig is correct; liquidity flows to a single source. But the energy market has never traded the way the academics say."

The fact the Nymex contract is physically settled "is a very, very important distinction; ICE can't live without Nymex, although they are building their own liquidity and their own following."

"We are in the early stages of taking energy markets electronic. It's a tremendous opportunity," Sprecher said. He pointed to the large influx of investment into commodities. "It's a new investment class. The over the counter market in energy is huge." The ICE CEO said the company had about 800 OTC energy products, many of which are very illiquid and "nichey." But there are a middle range of products with development potential to eventually become futures contracts.

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