The Wall Street Journal-20080129-CME-Nymex- Good Deal-- An --36-11 Billion Tie-Up Of Commodities Markets Raises Hopes- Concerns

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CME-Nymex: Good Deal?; An $11 Billion Tie-Up Of Commodities Markets Raises Hopes, Concerns

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The commodities boom is intensifying the merger mania racing through the world's financial exchanges. But the $11 billion talks by CME Group Inc. to acquire Nymex Holdings Inc. may fuel worries that consolidation is leaving the survivors with too much power.

A purchase of the 135-year-old New York Mercantile Exchange's owner by CME, parent of the Chicago Mercantile Exchange, would create the largest exchange in the world, with a stock-market value of about $45 billion. And acquiring Nymex's crude-oil futures, one of the largest commodity contracts in the world, would fill the last major hole in the 110-year-old Chicago exchange's product lineup, while squeezing remaining rivals in the energy market.

The deal also spotlights some unsettling consequences of the global scramble for alliances and market share in trading financial securities. CME and Nymex are the only U.S. futures exchanges with substantial clearing operations, the lucrative back-office businesses that guarantee timely payment for trades in the futures market, where many participants use borrowed money to juice up bets.

Scrutiny by customers and regulators is likely to focus on the possibility that the combined exchange would be able to raise fees sharply, even though CME says fees have gone down and there probably will be enough competition from overseas exchanges and other trading platforms to keep them from rising.

"It will get a pretty close examination," said Dan O'Neil, executive vice president of futures at Chicago brokerage firm optionsXpress Holdings Inc. Overall, though, the potential takeover "makes tremendous sense," he said, because it would make trading easier in the futures market.

Some customers wouldn't be "particularly happy to see the CME expand even more," said Craig Pirrong, a finance professor at the University of Houston. Last year, CME paid $12 billion for the Chicago Board of Trade, a deal that sparked investor concerns and a lengthy antitrust review.

The CME's emergence under Chairman Terry Duffy and Chief Executive Officer Craig Donohue as Nymex's likely acquirer puts it in front of other potential bidders such as NYSE Euronext and Deutsche Boerse. Nymex, under Chairman Richard Schaeffer and CEO James Newsome, in August acknowledged preliminary merger talks, and many traders at the exchange favored a deal with the New York Stock Exchange's owner, which had accumulated a series of purchases under then CEO John Thain.

Mr. Thain's departure in November became a setback to talks between the two exchanges, according to people familiar with the matter. NYSE officials also grew increasingly wary of Nymex's lofty valuation and previous agreements that include allowing the energy-and-metals market's customers to use an electronic-trading system operated by CME, according to a person familiar with the exchange's thinking. That commitment by Nymex would make it difficult for NYSE to bring Nymex over to NYSE's systems if it pursued a deal.

For CME and Nymex, terms of the "preliminary discussions" disclosed yesterday include a 30-day "exclusive negotiating period" that makes it unlikely, though not inconceivable, that a rival will try to top the $118 a share in cash and stock offered by CME.

Nymex shares surged $9.34, or 8.7%, to $116.50 as of 4 p.m. in New York Stock Exchange trading. CME fell $4 to $625.

IntercontinentalExchange Inc., which runs the second-largest energy exchange and made an unsuccessful hostile bid for the Chicago Board of Trade, slipped $5.09, or 3.5%, to $140.25 amid concern that it might try again to trump CME. ICE unsuccessfully tried to buy the Chicago Board of Trade's owner last year after the CBOT had agreed to be bought by CME.

Despite the premium offered by CME, the price being discussed falls short of some expectations, given the valuation of other recent exchange-related deals. Analysts cited the swoon in financial markets, concerns about earnings growth and the NYSE's recent preference under new CEO Duncan Niederauer for smaller deals.

So far, Mr. Niederauer has announced purchases of the American Stock Exchange and Wombat Financial Software, a trading-technology company, for less than $300 million apiece. Both of those deals aim to make the NYSE a stronger player in its core business of trading U.S. stocks.

With Nymex shares trading about 20% below their high last year, "CME is getting a very good deal at these prices," said Rick Wetmore, an analyst at Turner Investment Partners, which owns shares in both exchanges. If CME completes the deal, its market value would jump ahead of Deutsche Boerse's and comfortably lead both NYSE Euronext and Hong Kong Exchanges & Clearing Ltd.

The wave of exchange mergers follows the decision by most of them to convert to shareholder-owned companies from not-for-profit clubs. Some predict the exchanges may see profits rise more slowly after the mergers and associated cost-cutting subside.

But recent problems in trading and pricing credit instruments may help exchanges. In mortgages and the opaque world of structured financial products, banks trade private contracts "over the counter," and trade prices aren't reported widely. But the recent problems in finding prices and trade information amid the housing-market decline could boost the role of exchanges.

John Damgard, president of the Futures Industry Association, said CME's buying Nymex after last year's CBOT takeover would be "No. 1, No. 2 and No. 3 combining forces. We haven't seen that in many other industries."

Still, a CME-Nymex deal could spark fewer objections than the CME- CBOT deal because CME and Nymex are powerful in different markets. The two Chicago exchanges competed more directly in some financial derivatives markets.

While opposition could still emerge, some large Wall Street commodity desks and hedge-fund managers aren't currently planning to object to the deal, several people familiar with the matter said.

Moreover, Nymex already faces stiff competition in the energy marketplace from ICE. Most big energy-market traders, such as banks and hedge funds, trade on Nymex and ICE. ICE is a big competitor to CME in the development of new trading markets and technologies, and the Atlanta company is trying to establish itself as a major clearing operation after its recent purchase of the smaller New York Board of Trade.

"Neither Nymex nor ICE will have the pricing power to do anything truly harmful and monopolistic," said Michael Cosgrove, president of Amerex Brokers LLC, a Houston natural-gas, power and environmental brokerage unit of interdealer broker GFI Group Inc.

At yesterday's closing price, CME would pay Nymex shareholders about $7.7 billion in CME stock and $3.3 billion in cash. The price would make the deal one of the largest exchange mergers in history, according to Dealogic, rivaling the $11.6 billion CME-CBOT purchase and the NYSE's $10.2 billion purchase of Euronext NV last year.

Nymex also would pay the owners of its 816 memberships as much as $500 million to buy out their rights for discounted fees and a potential chunk of Nymex's future electronic-trading revenue. CME and Nymex said the combined exchange would keep a trading floor open in the New York area, though they didn't specify where.

Nymex has been seen as a takeover target since it went public in November 2006. Like many exchange targets, it outsources much of its technology to rivals or other service providers.

"The exchanges that have staying power are the ones that build their own technology and innovate to have a better value proposition," said Niamh Alexander, an analyst with Keefe, Bruyette & Woods.

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Carolyn Cui contributed to this article.