Exchange Examiner

FIG/Diversified Financials Services 26 October 2011
Exchange Examiner
Three big issues: FTT, OTC and valuation
The European Commissions proposed financial transaction tax (FTT) could reduce volumes by up to 50%, and we adjust our valuations for Deutsche Brse, NYSE Euronext, Helex and LSE. Exchange-traded derivatives comprise just 11% of global volumes, but regulation will reshape these markets in Europe and US and we expect a further shift to central counterparty clearing, if not trading. This could be positive for exchange-owned clearing houses. Stocks have de-rated in recent weeks while consensus forecasts have been upgraded, and we think the sector now looks very attractive on valuation. We have cut our target prices for Deutsche Brse, Hellenic Exchanges, LSE and NYSE Euronext, but remain Overweight. We also maintain our Overweight ratings on BM&F Bovespa, Cetip, HKEx, Singapore Exchange and Tullett. We are Neutral on ICAP and DFM (on a lower target price). Our conviction Overweight ideas are LSE for developed markets and HKEx for emerging markets.
By Johannes Thormann, Nitin Arora, Dimitris Haralabopoulos, Shirin Panicker, York Pun and Paulo Ribeiro
Disclosures and Disclaimer This report must be read with the disclosures and analyst certifications in the Disclosure appendix, and with the Disclaimer, which forms part of it
FIG Diversified Financial Services 26 October 2011
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Summary
There are three big issues driving exchange shares: FTT, OTC and valuation. Regarding the first of these, we estimate the European Commissions proposal to introduce a financial transaction tax in 2014 could reduce volume by up to 50%. The second uncertainty is how regulation will reshape OTC derivatives trading; we expect a further shift to central clearing, if not trading. Finally, on valuation we think the sector looks very attractive, trading at close to historical lows. Our conviction ideas are LSE for developed markets and HKEx for emerging markets. Among European names, LSE is least exposed to Eurozone woes and FTT risk. Looking at emerging markets exchanges, we think that HKEx offers good growth opportunities while its shares have been de-rated in recent months.
Issue 1: Financial transaction tax (FTT)

The European Commission is proposing the introduction of a financial transaction tax starting from 2014. This would generate massive tax revenues of an estimated EUR23bn from cash instruments and EUR59bn from derivatives in Europe based on 2010 volumes. However, the introduction of the tax would result in a decline in trading volumes. We assume a two-thirds probability of a Eurozone FTT. We also see a possibility that governments in the rest of Europe will also go down this route since Eurozone politicians have firmly committed themselves because of the potential billions of additional tax revenues. The decline in trading volumes resulting from FTT would depend on several factors, but we believe it could be up to 50% for both cash instruments and derivatives. The European Commission expects to raise tax revenues of EUR57bn per year, which implies that it expects a 30% volume decline (assuming EUR82bn tax revenues based on the 2010 volumes). This decline would be partly driven by institutional clients reducing their trading activity, but would mainly be due to the crowding out of high frequency trading because of higher costs per trade. All exchanges would be affected, in particular those with lower operational gearing. Another problem is the proposal that the European counterparty will have to pay both sides of the tax, thereby increasing counterparty risk in the market. We have introduced a valuation discount for the European exchanges we cover based on the potential decline in trading volumes due to the FTT; 25% for Deutsche Brse and NYSE Euronext, 10% for Helex and LSE.
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Issue 2: OTC derivatives trading

The second big issue is what will happen to trading activity in the 2011e USD790trn global derivatives market. The derivatives market is still dominated by OTC transactions, which comprise about 89% of the global market, but will soon be subject to major regulatory change. The market share of listed derivatives is expected to continue growing as increased regulatory burdens reduce the growth in the OTC market and lead to a shift of activity towards exchange-traded products. Tackling stability and transparency issues, regulators around the globe are drafting major laws that will move considerable amounts of OTC trading to clearing houses, and transactions will be subject to daily reporting through so-called trade repositories. The move of bilateral OTC clearing to central counterparty (CCP) clearing will lead to a higher level of collateralisation of derivatives transactions, and aims to increase investor protection and market stability due to reduced counterparty risk and the mutualisation of losses. Mandatory CCP clearing of standardised OTC derivatives will additionally benefit investors as a higher percentage of margins will be subject to netting effects which effectively reduces the amount of deposited collateral. However, as no common global regulatory framework is in sight, the speed of the lawmaking process is slow and final rules are not expected before the end of 2012. The fear of over-regulation in Europe and the US is slowing the process even further, as less regulated markets in Asia might attract significant amounts of business from the West which would eliminate the transparency benefits achieved in Europe and the US.
Issue 3: Valuation
The third big issue is valuation. We believe that sector valuation looks very attractive. While sector multiples have fallen recently, we have seen upgrades to consensus forecasts for European and US exchanges since June. One exception is in Asia, where, although HKExs earnings look quite secure for 2011e, it seems consensus is worrying about its prospects; consensus has slashed numbers for 2012-13 recently to reflect a potential bear market. Emerging markets names still show valuation premiums to the exchanges focused on mature European markets, but these premiums have fallen sharply in recent months. We estimate that the exchanges sector is trading at close to historical lows at a one-year forward PE of 15.4x (versus 19.1x a year ago). Further, the peer group is inflated by the DFM valuation; adjusted for this, forward PE is 12.3x. We use two valuation methodologies for the stocks under coverage. We believe that an equity-valuebased valuation remains more appropriate for the mature European names we cover because they have enough equity to be able to pay out high dividends. Furthermore, the stocks are less influenced by longterm growth prospects which would normally drive DCF models. For emerging markets stocks, an equity value model cannot factor the long-term growth opportunities into the valuation whereas we believe that a DCF or residual income (economic value added) model offers a better way to factor those long-term trends into the valuation.
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Companies
Overview of HSBC Global exchanges and related stocks coverage (priced at close on 21 October 2011) Bloomberg Currency BM&F Bovespa Cetip Deutsche Brse DFM* Hellenic Exchanges Hong Kong Exch & Clearing ICAP LSE NYSE Euronext Singapore Exchange Tullett Prebon
*As at close 20 October Source: Company data, HSBC estimates
Rating OW OW OW N OW(V) OW N OW OW(V) OW OW(V)
Price 9.87 23.50 41.08 0.99 3.35 114.4 4.29 8.82 26.78 6.21 3.80
Target price 11.6 31.0 55.0 1.15 4.00 190.0 4.70 10.8 35.0 8.20 4.50
Old Potential target return 18% 32% 34% 16% 19% 74% 10% 22% 31% 37% 18%
Yield PE 2011e PE 2012e 2010a 5.2% 5.5% 5.1% 0.0% 4.5% 3.7% 4.6% 3.0% 4.5% 4.3% 4.1% 17.3 29.7 9.3 283.5 9.6 22.4 14.3 10.7 10.9 19.8 8.6 14.5 18.4 7.7 60.6 10.0 17.4 12.5 9.8 8.3 16.5 8.0
BVMF3 BZ CTIP3 BZ DB1 GY DFM UH EXAE GA 388 HK IAP LN LSE LN NYX N SGX SP TLPR LN
BRL BRL EUR AED EUR HKD GBP GBP USD SGD GBP
73.0 1.40 6.70
12.0 47.0
BM&F Bovespa
The Q3 2011 operating figures indicate stronger traded volumes q-o-q for both the cash equities and derivatives segments. However, the risk from macro prudential measures is still meaningful, but lower interest rates could boost volumes. We rate BM&F Bovespa Overweight with a BRL11.6 target price, helped by attractive valuation relative to peers.
Cetip
Cetips Q3 2011 operating data highlights strong volumes in fixed income and derivatives but softness in vehicles financing which is as expected. The OTC derivatives regulations in Brazil are generally more stringent than in other countries. We rate Cetip Overweight with a BRL31.0 target price. We prefer Cetip to BM&F Bovespa as a way to play the growth in financial markets in Brazil.
Deutsche Brse
Despite being the most diversified exchange group globally and having potential synergies of EUR11.77 per share from the proposed merger with NYSE Euronext, the shares have not performed. The macroeconomic environment and fears about the possible introduction of a FTT in Europe have massively weighed on shares. While we cut our target price from EUR73 to EUR54 to factor in a 25% discount due to introduction of FTT, we still see 34% upside and stay Overweight.
Dubai Financial Markets (DFM)

The near-term revenue outlook remains challenging as the continued market sell-off impacts DFMs trading-based fee income. We thus see little room for cost efficiency gains, and this would further constrain its short-term profitability. We maintain our Neutral rating but cut our target price to AED1.15 from AED1.40 due to changes in our fee income estimates.
Hellenic Exchanges (HELEX)

Declining trading activity is having an adverse effect on profitability; we forecast a 29% annual drop in volumes for 2012e (at EUR60m). Nevertheless, a low valuation (5.0x 2012e ex-cash trough EPS, deep discount to peers) and cash-rich balance sheet (EUR1.8 per share or c54% of market cap) are the key merits; the current price discounts 40% WACC and 2012e daily turnover of EUR45m. We reiterate our Overweight
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(V) rating, but we cut our target price to EUR4.0 from EUR6.70 on our lower volume forecasts (down by c55% for 2012e-13e), higher WACC estimate and 10% discount for the potential FTT.
Hong Kong Exchange (HKEx)

The concern about a sharp fall in cash turnover might be misplaced, in view of the quick market recovery we are forecasting .While RMB deposits gathering has slowed, the growth story is intact and RMB stock trading remains a credible theme. We stay Overweight with HKD190 target price unchanged. The current market weakness provides a good chance to accumulate the stock in our view.
ICAP
Increased volatility in financial markets should benefit volumes at ICAP. Whilst e-broking is doing well, Brazil remains a concern. We maintain our Neutral rating with target price of 470p.
London Stock Exchange (LSE)

LSE has turned from simple UK cash trading profit maximiser into a diversified European exchange running a with customers model. By bidding for LCH.Clearnet, LSE has turned from potential prey into predator once more, and if the deal goes ahead it could result in promising synergies. However, we cut our target price from 1,200p to 1,080p to reflect the risk of FTT nevertheless we reiterate our Overweight rating.
NYSE Euronext (NYX)

NYSE Euronext will benefit strongly from the planned merger with Deutsche Brse as its dependency on trading business will be reduced. Fears about macroeconomic conditions have hit the share price, and the potential introduction of a FTT does not help either. We cut our target price from USD47 to USD35 but stay Overweight, albeit adding a volatility flag. NYSE Euronext seems to us the better stock for playing the proposed merger.
Singapore Exchange (SGX)

Given the flexibility available to SGX, it is premature to assume a potential deal with LME will be value destructive, in our view. Growth in stock turnover is likely to resume with a prospective market recovery, and technology costs are likely to peak soon. Fundamentals are still on the mend, and the market has overreacted to the M&A news. Reiterate Overweight with a SGD8.2 target price.
Tullett Prebon
We expect increased volatility in financial markets to result in higher trading volumes at Tullett. The launch of tpSWAPDEAL will strengthen its e-Broking revenue. We maintain our Overweight rating with a target price of 450p.
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Contents
Impact of FTT What will happen to derivatives trading? Current valuation Company profiles
BM&F Bovespa Cetip SA Deutsche Brse Dubai Financial Market Hellenic Exchanges HKEx ICAP London Stock Exchange NYSE Euronext Singapore Exchange Tullett Prebon
6 12 26 31
32 38 47 57 63 72 78 83 90 97 103
Disclosure appendix Disclaimer
109 112
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Impact of FTT
European Commission is proposing a financial transaction tax
starting in 2014
It could generate EUR23bn from cash instruments and EUR59bn
from derivatives in Europe according to our forecasts based on 2010 volumes; the European Commission expects EUR57bn, implying a 30% volume decline
The potential trading volume decline depends on several factors,
but we estimate it could be up to 50% for both cash instruments and derivatives
EU wants to introduce a transaction tax by 2014

The Brsen-Zeitung reported on 21 September that in a draft document the European Commission is proposing a financial transaction tax (FTT) for exchange traded and OTC business, starting in 2014 instead of 2018 as previously indicated. The proposal does not cover all financial transactions. First, all primary markets activity as well as central bank business will be excluded from this tax. Second, cash forex trading business will be excluded. Finally, all transactions of the EFSF and other financial assistance funds will be excluded. The first reaction of many market participants is to conclude that this tax would be easy to circumvent. A FTT could lead to trading activity being moved to locations outside the taxation area, such as Asia or the US. However, the European Commission is trying to take countermeasures to prevent this. The Commission
suggests that the taxation will be based on a country of residence principle to avoid moving trading activity outside Europe. So, for example, a bank in Germany will even be taxed for trades done by its subsidiary in Asia. Conversely, this also means that any market participant from outside the taxation zone, such as those of Swiss or US origin, would be exempt from the tax. The Brsen-Zeitung reported that one article of the proposed tax law has caused irritation. The terms of this article suggest that if only one counterparty to a trade is located in Europe or the Eurozone, it will have to pay the taxes for both sides of the transaction, while the non-Eurozone counterparty is exempt. In practice this could mean that a Eurozone asset manager would only give orders to a broker located in the Eurozone to ensure that it would not have to pay the full tax bill. The legislation would therefore deter brokers from closing down Eurozone operations and moving to a location not subject to FTT as they would lose their Eurozone customer business.
Johannes Thormann* Analyst HSBC Trinkaus & Burkhardt AG, Germany +49 211 910 3017 johannes.thormann@hsbc.de *Employed by a non-US affiliate of HSBC Securities (USA) Inc, and is not registered/ qualified pursuant to FINRA regulations.
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One other possible but draconian and unlikely way of stopping the circumvention of the FTT would be a reversion of the liberalisation of markets under MiFID in 2007 by reintroducing the old French/Spanish model of the concentration rule, resulting in forced trading on a domestic exchange on a central order book. By introducing this measure, all trades would have to be executed on one platform. Of course some OTC trades could be done by investors outside Europe without paying the tax, but as soon as the trade was settled at one of the European ICSDs, either Clearstream or Euroclear, the tax authorities could see it. And looking at the recent success of the German finance ministry of introducing a general withholding tax for previously untaxed deposits in Switzerland held by German citizens, it could be that the officials in the European Commission and the individual European finance ministries have learned from the mistakes of the Swedes in the 1980s, and measures for circumventing the tax might be made more difficult. This could be positive for all incumbent exchanges, but of course would put all Multilateral Trading Facilities (MTFs) out of business, and this could be seen as unlawful.
FTT revenues from exchange-traded cash instruments implied by 2010 volumes and assuming 0.1% rate (EURbn) Equities volumes Bonds volumes Total volumes Potential tax revenues
Source: Company data, HSBC estimates
could lead to EUR23bn of taxes for European cash instruments. But only a third of bonds are traded on-exchange while two-thirds are traded OTC. If all trading is moved on-exchange, which could be the case looking at current regulatory initiatives, this could triple bond trading volumes, leading to even higher tax revenue of EUR49bn for Europe or approximately EUR30bn for the Eurozone. However, this does not factor in any decline in volumes due to the introduction of the tax.
FTT revenues from exchange-traded derivatives implied by 2010 volumes and assuming 0.01% rate (EURbn) Notional turnover Potential tax revenues
Source: BIS data, HSBC estimates
Europe 591,573.6 59.2
Based on 2010 volumes and a 0.01% rate, we estimate that up to EUR59bn could be raised by a tax for exchange traded derivatives based on notional turnover. However, as approximately only a tenth of all derivatives are traded onexchange, the tax revenues could be much higher. We think that part of the OTC derivatives trading will move onto exchange platforms, part could vanish and only some will stay OTC. So in total we estimate up to EUR82bn could be raised, which is even higher than the EUR57bn estimated by European Commission per year. It may be that European Commission is already factoring some volume decline into its calculations. Based on our forecasts, this could imply that the European Commission expects a 30% volume decline overall.
Mitigating solutions
Europe 10,094 13,094 23,187 23.2
Eurozone only 4,868 8,679 13,547 13.5
The European Commission is targeting the introduction of the tax in January 2014, but tax rates are still unclear. Rates of 0.1% for trading of cash underlying, such as equities and bonds, and 0.01% for derivatives on notional amount outstanding are being discussed. The FTT would be charged on both sides of the trade. This could lead to the generation of substantial tax revenues. Based on 2010 exchange-traded volumes, this
One possibility would be a tax rate of just 5bps on cash instruments and 0.5bp for derivatives. Another mitigating effect could be that the FTT is just charged on one side, also halving the original planned tax amounts. Furthermore, the taxation of derivatives could also be based on gross market
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values instead of the notional amount outstanding which would cut revenues by a factor of 25-30x, thus lowering the tax burden to EUR2.0-2.4bn.
Europe versus Eurozone
country or region. Finally, we divided the adjusted turnover by market cap to arrive at the velocity.
10% volume decline for institutional volumes
Although the introduction of a financial transaction tax in all of Europe is relatively unlikely considering the opposition of the Swedish and UK governments, a Eurozone FTT looks more realistic as the governments of Austria, Belgium, France, Germany, Italy and Spain support the tax. It seems that only the Dutch government is opposed within the Eurozone. The UK government has indicated that it would not oppose such a measure, if it is just agreed for the Eurozone.
Estimating the FTT impact

Impact on cash trading
In our November 2010 edition of Exchange Examiner, we tried to estimate the potential impact of a FTT on the trading volumes and exchanges revenues as well as profits. We repeat this exercise here. First, we had to estimate the correct velocity levels for each market. We took the domestic trading volumes from FESE for the exchanges and adjusted them for market shares, to get to estimated total domestic trading volumes. We also took the FESE market cap levels for each
To gauge the potential impact of a transaction tax, we compared the velocity of Euronext-listed stocks and those of UK-listed stocks for 2009 and 2010 because the two markets have a comparable mix of listed stocks and retail investors have limited importance. Nevertheless, the UKs velocity is five percentage points lower across the two years, which could be explained by the impact of UK stamp duty. In this context, the position of the UK government in the European discussions seems to be in contrast to its tax regime. HM Government is clearly arguing against a transaction tax although UK equities are already burdened by a 50bps stamp duty for buyers (thus effectively two and a half times the level now targeted by European Commission) which is just charged at settlement point. The stamp duty has been vigorously opposed by LSE and other market participants for many years. The 2010 UK tax revenues from stamp duty are GBP3bn, or about EUR3.4bn. So looking at the velocity differential, we estimate that the introduction of an EU-wide transaction tax could lead to a 5% to 10% reduction in cash trading
Development of velocity for equity trading at selected European markets
250% 200%
219%
149% 150% 100% 50% 0% UK Italy Euronex t 84% 91% 87% 97%
145% 135% 94%
124% 79% 72%
109%
97%
Germany 2009a 2010a
Spain
Sw iss
Nordics
Source: Company data, FESE data, HSBC estimates, WFE data
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Scenarios for potential profit decline __________________mild case __________________ Decline in volumes Decline in revenues Operating margin Potential profit decline
Source: HSBC estimates
_________________ bear case___________________ 50% 45% 30% -150% 50% 45% 40% -113% 50% 45% 50% -90% 50% 45% 60% -75%
10% 9% 30% -30%
10% 9% 40% -23%
10% 9% 50% -18%
10% 9% 50% -15%
volumes for institutional investors which make up one of the largest customer groups. This would hurt but not kill the markets.
Impact on HFT much bigger
we combine these important customer groups, it seems fair to argue that 10% of all cash trading volumes could fall away in a optimistic scenario and up to 50% in a pessimistic scenario. To estimate the general P+L impact, we can say that a 10% decline in volumes should normally lead to a 10% decline in revenues although volume rebates may mitigate this to some extent. So we would estimate a 9% revenue decline. A 50% volume decline should lead to 45% decline in revenues. Nevertheless, as most exchanges have an operating margin of 30% to 60% in the trading business, this could still imply a profit decline of 15% to 30% in the optimistic scenario and an even more severe 75% to 150% decline in the pessimistic scenario. If we assume a worst case scenario, the exchange would be loss making no matter how good the operating margin was before. But this does not factor in any countermeasures by respective management teams to preserve profits by cutting costs. In essence, all companies will suffer but the higher the operational gearing, the better protected the company.
Impact on derivatives
However, the impact of the tax on high frequency trading activities, which nowadays are the biggest group of market participants, should be far bigger. High frequency traders are mainly the proprietary desks of banks and brokers, but also include independent trading firms. The impact of a reduction in high-frequency trading is difficult to gauge because it will depend on the point of the transaction to which taxation is applied. If taxation is triggered by execution of trade, major parts of high frequency trading will fall away as we estimate that those traders in average generate 30% to 40% of all European trading volumes. We see two possibilities. If the FTT is charged at point of settlement, as in the UK, most of the activities might continue because normally those market participants end the day with flat positions. But we consider this favourable treatment as very unlikely as one draft explicitly mentions HFT as the reason for introducing the tax. Thus the second option of no exception seems more likely. And the FT reported on 12 October that regulators have concerns that high-frequency traders tend to withdraw from markets amid signs of stress anyway, which would favour a crack down on such market participants. Nevertheless, this analysis again faces difficulties as some high-frequency trading firms have become general quant traders and so might not completely withdraw from markets even if they are taxed. So if
The impact on derivatives trading by 2014 is even harder to estimate. A European Commission official said in a speech on 4 October 2011 that high frequency trading activity could drop by 90%, which is in line with our assumptions. As high frequency traders make up around 40-50% of trading activity on Eurex, according to our forecasts, and slightly less on NYSE Liffe, this implies that 35% to 40% of trading activity could fall away. Adding some percentage points for other market participants, it once again seems fair to argue that up to 50% of all derivatives trading
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volumes could fall away. Thus the same logic on potential profit declines applies to derivatives as well as cash trading.
Settlement business
The impact of FTT on the settlement business of CSDs (central securities depositories) should be minimal as the tax is scheduled to start in 2014 at the same time as the ECBs TARGET2-Securities platform.
No winners, just losers
revenues. What might speak in favour of the tax is that cash equities trading for UK institutional investors like pension funds and retail investors would become even cheaper. The government could argue it wants to promote long-term savings but create disincentives for speculation.
Even the US may be moving
In the end, all market participants are likely to be losers and even the broad population will not be a winner in our view. This is because promised tax revenues will be much smaller than estimated due to the negative effect on trading volumes. Furthermore, the tax will not prevent another financial crisis because crises tend to occur as a result of massive economic imbalances. Of course, European or Eurozone exchanges will be major losers of this new tax, but a further burden will be borne by European banks because they have additional costs and will lose major parts of their business volumes and revenues in the corporate and investment banking (CIB) area.
What is the likelihood of FTT happening?
US politicians also have to find a way to cut the massive US budget deficit, although US Treasury Secretary Timothy Geithner has recently reiterated his opposition to such plans as have many Republican politicians and industry groups. Nevertheless, we see two proposals coming up and give them a 10% likelihood of being the means of introducing a financial transaction tax in the US. Senator Levin (D-Mich) with the support of Warren Buffett wants to cut a tax benefit for derivatives trading, called the 60/40 tax treatment or the 1256 contracts code. Since 1981, some types of derivatives trades have been taxed at a blended rate of maximum 23% (40% based on short-term tax of maximum 35% and 60% long term tax rate of 15%) according to Bloomberg on 20 September. This tax benefit would be cut and normal taxation rules of maximum 35% introduced. In addition, two Democratic Congress members, Senator Tom Harkin of Iowa and Representative Peter DeFazio of Oregon, want to reintroduce a transaction tax proposal, a sequel to their 2009 bill before the November G-20 meeting, according to Politico.com from 4 October 2011.
We assume a two-thirds probability of a Eurozone FTT. We also see the possibility that other European governments go down this route, since Eurozone politicians have firmly committed themselves, in the light of potential billions in tax revenues to be raised. In the end, it is the simple urge of mainstream politics to make markets pay for what they have done which will mainly drive politicians in France and Germany, and probably even the UK. Although we consider the introduction of a FTT in the UK as unlikely (less than 25%), we would like to play the devils advocate briefly. The UK government could decide to replace stamp duty with a more general FTT which would boost tax
Impact on our valuation models

As 50% of Deutsche Brse revenues come from Europe trading activities and European trading volumes could decline by 50%, we introduce a 25% valuation discount for Deutsche Brse. However, none of the potential benefits of the
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merger with NYSE Euronext are priced into shares in our view. Although all of Helex revenues are related to European trading activities, we estimate that Greek trading volumes would decline by just 10% because Greek volumes are already extremely low and there is no HFT in this market. We thus introduce a 10% valuation discount for Helex.
As roughly 20% of London Stock Exchange revenues come from Eurozone trading activities, which could decline by 50%, we introduce a 10% valuation discount for LSE. As roughly 50% of NYSE Euronext revenues come from Europe and European trading volumes could decline by 50%, we introduce a 25% valuation discount for NYSE Euronext. However, none of potential benefits of merger with Deutsche Brse are priced into shares in our view.
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What will happen to derivatives trading?

Exchange traded derivatives just 11% of global market OTC derivatives are dominated by G14 and still show big leverage
and cluster risks

Regulation will reshape derivatives markets in Europe and US but
implementation is slow
The global derivatives market

Despite talks about changes in regulation, the OTC market still makes up close to 90% of the derivative market and thereby is roughly eight times the size of the exchange traded market.
Global derivatives market in terms of notional amounts outstanding (USDtrn)
900 800 700 600 500 400 300 200 100 0 2008a OTC 2009 a 2010a Exchange-traded 2011 e 2012e 2013e Exchange-traded (rhs) 13.5% 13.0% 12.5% 12.0% 11.5% 11.0% 10.5% 10.0% 9.5% 9.0%
2012e in OTC trading, while exchange traded volumes should reach USD84.3trn and USD81.0trn in 2011e and 2012e respectively.
Notional amounts outstanding and world GDP (USDtrn) 2008 2009 2010 2011e 2012e
Global GDP OTC Adjusted OTC volume* in terms of GDP On-exchange in terms of GDP
61.26 598.1 472.3 771% 57.7 94%
58.11 603.9 447 769% 73.1 126%
63.05 601.0 418.9 664% 67.9 108%
64.20 705.3 480.3 748% 85.3 133%
66.50 719.4 454.4 683% 90.9 137%
Note: *adjusted for FX products and double accounting of cleared swaps Source: BIS, ISDA
Source: BIS, HSBC estimates
To put it into context, 2010 global GDP, as published by the World Bank in July 2011, stood at USD63trn compared to USD601trn of notional amounts outstanding in the OTC derivatives market and USD68trn in the exchange-traded derivatives markets. Notional amounts outstanding are forecast to reach USD705trn in 2011e and USD719trn in
However, we have to caution that notional amounts are not a good representation of the market risk, as they also represent past contracts, some over 20 years old, rather than just reflecting market values of the derivatives. This measure reflects the value of derivatives if they were sold and cleared at that moment. Gross market value of derivatives outstanding was worth USD21.1trn in December 2010. Thats USD14.1trn lower than the comparable 2008 level and only a third of global GDP, down from 57% in 2008. All exchange-traded derivatives are cleared by clearing houses, while OTC-traded derivatives may be conducted bilaterally, with no central
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Exchange-traded derivatives market share by region (analysis by trading volume in billions of contracts traded)
2012e
2010a
2008a
2006a 0% 10% 20% Asia Pacific

Source: FIA, BIS, HSBC estimates
30%
40%
50% Europe
60%
70% Latin America
80%
90% Other
100%
North America
counterparty (CCP) involved, or via CCPs. With CCP clearing picking up pace, market transparency should increase in the near future. With increased usage of CCP, the level of collateralisation is expected to reach 71% in 2011e versus 66% in 2008. In the past four years the proportion of collateralised OTC traded derivatives has been around 65% to 70%. A possible tax on derivatives transactions would adversely affect OTC and exchange-traded derivative volumes in years after 2013e by 10% to 50%. However, how big the shift from OTC onto exchange trading will be is still unclear, as there has not yet been agreement about the level of taxation or how it will be imposed.
Exchange traded derivatives

The exchange-traded derivatives market is dominated by a few large exchange groups in Asia, Europe and America. When comparing global derivative exchanges, it is important to keep in mind that the contract sizes of Asian derivatives are often much smaller than their European or US counterparts. This artificially inflates trading volumes, as indicated by the FIAs statement in its 2010 annual volume survey that the ZCE sugar contract is one-fifth of the size of the comparative ICE contract. Nevertheless, Asia has been picking up pace and catching up on its Western peers as shown in the
Exchange-traded derivatives market share by region (segregated by notional amounts outstanding)

2013e 2012e 2011e
Turnover of exchange-traded derivatives (USDtrn)

1,200bn 1,000bn 815.4 800bn 600bn 707.9 990.7 784.8
2010a
400bn
2009a
200bn
2008a
115.9 20.9 2009 North America
175.0 36.6 2010 Other Markets
bn
0% 10% 20% North America 30% 40% Europe 50% 60% 70% Asia & Pacific 80% 90% 100% Other Markets
Europe
Asia & Pacific
Source: BIS
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chart above. It assumed the lead position for the first time in terms of contracts traded in 2010. Notable is a constant decline in the European share beginning in 2008. FIA numbers show that from 2008 until 2010, Europes market share declined from 24% to 20%. We expect Europes market share to be just below 18% in 2012e. While Asia & Pacific saw contract volumes increase continuously since 2006, Europe and the US lost volumes in 2009. Latin America saw a short decline in 2008, yet has recovered quickly and we expect it to have doubled its 2006 volume in 2011e. Volumes traded on all exchanges exceeded 22bn contracts in 2010. This represents a 26% increase versus 2009 and an 88% increase versus 2006. For 2011e we expect contract volumes to reach 26bn contracts and we forecast 29bn contracts for 2012e. This is driven by increased product offerings by exchanges and regulatory reforms which will boost exchange traded volumes. Comparing regional trading volumes in terms of notional amounts outstanding, it is notable that North America and Europe have significantly higher market shares than Asia & Pacific, which in turn is market leader by volume traded. This supports our analysis that contract sizes in Asia & Pacific are much smaller than their Western counterparts. Notional amounts outstanding on Western
exchanges are about 15x to 20x higher than their Asian & Pacific peers. Taking the Kospi 200 Index Options of the Korean Exchange as a measure, volume traded was 3.5bn contracts in 2010. Despite a shrinking market share in terms of contracts traded, North America will hold firm its market share in terms of notional amounts outstanding in 2011e before it is likely to decline slightly in 2012e.
Top five derivatives exchanges globally
The top five derivative exchange groups in terms of contracts traded saw one change in November 2010, according to FIA magazine, as we forecast. The National Stock Exchange of India took over the fifth place from CBOE Group, which is now ranked number seven. The other four heavyweights changed places amongst themselves. As expected, CME Group took over the second place from Eurex Group including ISE (Eurex Group), while Korean Stock Exchange remained the unchallenged leader. The development is depicted in the chart below. While volumes have been rather flat for Eurex Group, Korea Exchange, CME Group and NYSE Euronext (including Liffe) each increased their volumes by more than 19%. National Stock Exchange of India has even increased its volume by 76%. The top 15 exchanges had one new entrant, namely the Osaka Securities Exchange, gaining
Market share of selected exchanges in derivatives trading by contracts traded

201 3e 201 2e 201 1e 201 0a 200 9a 0% 10% BM&F 20 % C ME 30% C BOE 4 0% E UR EX KEX 50% NYX 6 0% ND AQ 70% NS E Oth ers 8 0% 90% 100 %
Source: World Exchanges Federation, FIA, HSBC estimates
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Five largest derivative exchange groups by volume traded in 2009 and 2010 and y-o-y growth (both in number of contracts traded in m)
4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 -30% 0% 30% 2010
Source: World Exchanges Federation, HSBC estimates
Korea Exchange CME Grou p Eu rex NYSE Liffe Eurex CME Group Korea Exchange National Stock Exchange of India
NYSE Liffe National Stock Exch ange of Ind ia 60% 90%
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one spot from JSE South Africa, now ranked sixteenth. The highest volume gain was achieved by the relatively new MCX-Exchange in India. It is now the ninth largest derivatives exchange by volume, up from twelfth place. The Zhengzhou Commodity Exchange gained 118% and was the second biggest gainer within the top 15 exchanges, now ranking twelfth. The dispersion among the exchanges may be best described by the relative volume traded as compared to the Korean Exchange. The second ranked exchange, CME Group, has 85% of the volume traded on Korea Exchange. The same statistics translates into 70% for the third (Eurex Group), 43% for the fifth and only 17% for the tenth largest exchange. Korea Exchange alone has almost 17% of globally traded derivative contracts on its exchange. The top three exchanges account for 43% of all contracts traded globally, while the top 10 make up 60%. This shows the domination of the market by a few exchanges. We still believe that intellectual property (IP) rights for index options and futures are unlikely to be broken by regulators, but some changes could happen if the EU Commission asks for remedies in this area to approve the Deutsche Brse/NYSE Euronext merger. This could increase competition and
could lead to lower costs for investors. However, this does not guarantee that small exchanges will benefit and gain volumes as the champions still have the liquidity advantage. Finally, there is no indication as to when or if the matter could become law. Our forecast for 2011e sees two changes within the top 10 as we expect Nasdaq OMX Group to take over the seventh place from CBOE Group. We also forecast that the Russian Trading Facility should reach the same volume as CBOE Group ranked eighth in 2011e. But again, we highlight the difference in the ranking if we rank exchanges by notional amounts outstanding or turnover, as Asian exchanges have smaller contract multipliers. However, due to a lack of transparency and comparable data, a ranking by turnover is not really feasible.
Taking a look by product
The global exchange traded derivatives market is dominated by interest rate products, which made up more than 91% of the market in 2010, while equity derivatives only had a share of 8% in terms of notional amounts outstanding. This is the same as in the OTC derivatives market.
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Exchange traded derivatives in number of contracts (m) by asset class 2010

Ex otic Commodities Currency IR ETF Stock Index Single Stock 0 Americas
Source: WFE, HSBC
Exchange traded derivatives in number of contracts (m) by type of contract in 2010
7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 Futures

2,000 Asia Pac ific 4,000 6,000 8,000
Options Equity Index
IR
Currenc y
Europe, Africa, Middle East

Source: BIS, HSBC
However, when comparing the number of contracts traded in 2010, the charts show that equity derivatives have more than double the volume of interest rate derivatives traded. The high volume in equity derivatives is mainly influenced by 3.5bn equity index option contracts traded on the Korea Exchange, which as said before have a fairly low notional value compared to contracts of their Western peers. Data from BIS and the world federation of exchanges (WFE) further suggests that more than 87% of the 4.8bn equity contracts traded in Asia & Pacific were options. We therefore highlight the concentration of Asian volume on the Korean Exchange,
especially in Kospi 200 index options, while most other exchanges in Asia have more futures than option contracts traded according to WFE data. We think that the parallels between the OTC and the exchange traded derivatives market show that at least CCPs are ready to take on clearing volume from OTC trades. During dividend season in Germany, Eurex Clearing has taken big parts of OTC equity options trading on exchange via reduced fees for block trades. In a second step, the trading could even migrate from OTC on-exchange. If clearing for such an asymmetric and difficult derivative products like CDS with its jump-todefault risk could be developed, we think nearly
Exchange traded contracts (m) by asset class and overall contract growth in %
35, 000 30, 000 25, 000 20, 000 15, 000 10, 000 5, 000 0 2008a Single s toc k
Source: WFE, HSBC estimates
35% 30% 25% 20% 15% 10% 5% 0% 2009a Equity index IR 2010a FX 2011e Commodity 2012e ET F Ex otic 2013e Grow th (RH)
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every instrument can be cleared centrally. We can see no reason for any interest rate or equity product to remain traded OTC except to keep the level of transparency low.
BRICS alliance
the participating exchanges expect to develop a BRICS index (and related derivatives products and ETFs) to track the BRICS exchanges and discuss joint development of other products.
OTC derivatives
The global derivatives market stood at USD601trn end of 2010 according to BIS data. The major part of the volumes outstanding are interest rate (IR) products, which make up USD465trn of the total market in 2010. In H1 2011, notional amounts outstanding of IR even increased to USD543.2trn. The second-largest category is FX products, with USD58trn in notional amounts outstanding. FX derivatives are different from other derivatives mainly due to their life span, which is much shorter than that of most other derivatives. FX derivatives were therefore excluded from all regulation imposed by Dodd-Frank Act (DFA) in the US. The third category is credit default swaps (CDS) which have USD30trn notional amounts outstanding in 2010. We forecast USD35trn at the end of 2011e because of increased trading activity driven by current markets, such as increased hedging of sovereign risk. In 2010, 15% of all notional amounts outstanding of CDS were held with CCPs, 25% with
In combination with five other BRICS exchanges, BM&F Bovespa and HKEx announced on 13 October a cross-listing joint initiative between exchanges of the BRICS countries (Brazil, Russia, India, China, and South Africa). The first phase of the initiative involves the exchanges cross-listing each others benchmark equity index derivatives, traded in the local currency of the exchange (for instance, a Brazilian investor can buy and sell a Hang Seng Index futures contract in reals on the BM&F Bovespa) and is expected to be in place by June 2012. Revenues will be shared between the issuing exchange and the exchange where the contract is traded on an undisclosed basis. While we view the agreement positively, we anticipate a limited impact on earnings through 2013, growing only gradually from then, so we have not changed our estimates or valuation. As an example, equity index derivatives now represent about 2% of BVMFs total gross revenues. In the next phases,
Global OTC derivatives market, classified by amounts outstanding per category

H2 12e H1 12e H2 11e H1 11e H2 10a H1 10a H2 09a H1 09a H2 08a H1 08a H2 07a H1 07a 0% 10% 20% 30% IR 40% FX 50% CDS 60% Equity 70% Other 80% 90% 100%
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OTC traded IRS volumes (USDtrn)

400 350 300 250 200 150 100 50 0 2007a 2008a 2009a 2010a 2011 H1e IRS volumes
Source: BIS, TriOptima, HSBC estimates
OTC derivatives notional amounts outstanding (USDtrn)

100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% IRS volumes cleared (rhs)
800 700 600 500 400 300 200 100 0 2007a 2008a 2009a 2010a 2011e 2012e 2013e Total contracts Adjusted volume s
Source: BIS, ISDA, HSBC estimates
banks and securities firms, 50% with reporting dealers and the rest with other institutions. Fourth in line are equity derivatives with notional amounts outstanding of USD5.6trn. They are roughly in line with exchange traded amounts outstanding and are the only category in which OTC trading is not significantly greater than exchange traded notional amounts outstanding. In 2011e we expect notional amounts outstanding to increase to USD6.8trn because of increased equity trading volumes and due to a fall in share prices, which increased the value of hedging positions in derivatives. Commodity contracts made up the smallest reported part of the OTC derivatives market. Of these USD2.9trn, gold contracts made up 13.6%. According to ISDA data, 82% of total notional amounts outstanding are held by the G-14, the 14 largest derivative dealers. They have a market share of 90% in CDS, 82% in IR and 86% in equity derivatives. The five largest US dealers account for 37% of total notional amounts outstanding according to ISDA. Considering the massive volumes outstanding and the lack of central clearing, this remains a big cluster risk.
cooperation with the ISDA, show the amount of OTC interest rate products has increased to USD543trn, up 16.8% from USD465trn in H2 2010. Notional amounts outstanding of all derivatives are expected to be even higher as the new estimate for the global OTC market is now at USD705trn in 2011e. This value is 11x forecast global GDP for 2011e, above the actual 9.5x in 2010. While derivatives traded on organised exchanges gained ground compared to OTC derivatives (for example USD82.6trn at end of June 2011 compared to USD67.9trn end of 2010), notional amounts outstanding fell to USD82.6trn end of H1 2011. We expect a rebound in H2 and estimate total notional amounts outstanding for 2011e at USD85.3trn, and in 2012e we expect this value to reach USD90.9trn. However the outlook for 2012e is largely dependent on CFTC rulings on OTC clearing, the availability of good and qualifying collateral and other effects of DFA, as regulators in Europe and Asia are looking at decisions made by the CFTC and SEC and are expected to follow suit. The decision about a potential financial transaction tax in Europe that covers derivatives trading will also have significant effects on future volumes and the development of the market. The general BIS statistic does include double accounting in cleared derivatives contracts. Each time a derivative contract is cleared via any CCP, the dealer of each
2011e and further developments

The latest numbers from the interest rate trade repository report (IRTRR) from 12 August 2011, submitted to regulators by TriOptima in
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side enters into new contracts with the clearing house, thus doubling the notional amounts outstanding, as both transactions are included in the comprehensive semi-annual BIS statistics. In contrast, ISDA publishes adjusted volumes which can be used to analyse the effects of double accounting. As only LCH.Clearnet has a significant market share in OTC interest rate swap (IRS) clearing, ISDA adjusts OTC contracts traded by LCH.Clearnets IRS volume. The adjustment for the novation process via CCPs leads to different market shares when comparing exchange traded and OTC traded derivatives. In terms of notional amounts outstanding, the market share of exchange traded derivatives as compared to OTC traded derivatives was fairly stable around 10% and 12% between 2008 and 2010. When comparing exchange traded derivatives with adjusted OTC traded derivatives, the market share increased from 12% in 2008 to 18% in 2010. This is because of an increasing number of cleared IRS, which increase the unadjusted OTC volume significantly due to double accounting and thereby inflates the OTC market share. As a result of increasing clearing volumes, we expect the spread between the two market share measures to increase even further in the future. Regulatory actions will lead to increasing clearing volumes. In 2012e and 2013e the exchange traded market share will reach 12.6% and 13.2% of the total OTC amount outstanding, respectively, compared to 20% and 22.7% of adjusted OTC volumes outstanding.
of OTC contracts. This might lead to institutions or individuals shifting trades from more regulated markets to the other Asian countries. Still, financial regulators in both HK and Singapore have pledged to follow global regulations (mainly under G-20) and are setting up their own CCPs. However, as yet, there is no legislation to require OTC trade to migrate to exchanges in both markets. Below, we explain the US regulation in brief from the point of view of how it might impact European regulation.
US regulation
The Commodity Futures and Trading Commission (CFTC), established in 1974 under the Commodities Futures and Trading Act is the top level regulator in the options and futures business. Over the years the CFTC has received special jurisdiction. All exchanges and futures commission merchants have to report to the CFTC on a daily basis. A futures commission merchant (FCM) is an individual or institution which is registered with the National Futures Association (NFA), defined below, and is licensed to accept orders for futures and options on futures contracts and accepts margin payments for these products. All institutional investors, brokers and banks not investing solely on their own behalf, must submit trades via FCMs or be registered as an FCM themselves. FCMs are also useful indicators for derivative market volumes and trend recognition, as the CFTC publishes monthly data on the money held in FCM accounts for customers, which therefore gives an indication of the publics interest in derivatives. With potential changes for derivatives taxation discussions in mind, the FCM statistics might be quite important in the future. Recent statistics show accelerating account readings of money deposited with FCMs, which are in line with current volume increases at all derivative exchanges.
Update on global regulation

There is no global or truly supranational regulator for derivatives. However, regulators in Europe are observing steps taken in the US and are expected to follow suit. In Asia, only some countries appear to be replicating the new regulatory framework that the US and Europe are trying to set up in order to ease and enable oversight and regulation
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The National Futures Association was created in 1981 as a self-regulatory organisation. According to the Code of Federal Regulations part 17, which outlines the Commodity Exchange Act (CEA), each FCM is obliged to be member of a designated self-regulatory organisation (DSRO) unless the organisation is not solely trading on its own behalf or if it has solely non US customers and is trading through an FCM.
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (DFA)
The variety of products offered as well as the increase of OTC trading has made the market fairly difficult to evaluate over time. Together with the government, the CFTC and the NFA have come up with rules and regulations to guide the market and aiming at more transparency, especially for OTC trading. Last in line are drafts outlining regulation required by DFA, which aims at the elimination of loopholes for OTC derivative trades and asks for a more aggressive prosecution of fraud and market manipulation. DFA is intended to promote the financial stability of the United States by improving accountability and transparency in the financial system, to end too big to fail, [] to protect consumers from abusive financial services practices, and for other purposes. It has major effects on OTC derivative transactions, especially Swaps and Credit derivatives. Furthermore it declares some exchanges and clearing houses to be systemically important financial institutions (SIFIs). There are many drafts and research notes from regulators, DSROs and associations available about as to when a clearing house should be classified and treated as a SIFI, but no final decisions have been made, yet. The Federal Reserve Bank of Cleveland proposed in August 2009 to treat a clearing house as a SIFI if it conducts more than 25% of trades in an important asset class or if it is handling more than 30% of an important credit activity.
DFA will also impose obligatory clearing of all standardised derivatives traded over-the-counter, with the exemption of FX-derivatives. The requirement for central clearing rather than bilateral clearing has many implications. First, it will make the market more transparent. This would also ease the probable implementation of taxes on derivative transactions. It will also help regulators monitor the market. Secondly, it might drive investors out of the market as central clearing could be too cost-intensive for some trading strategies. Higher amounts of margin requirements might make their trades unprofitable under these new regulations. DFA will also have effects on Swap dealers and swap transactions in general as Swap dealers would now have to be separate entities so-called Swap Execution Facilities (SEFs) and are required to report all transaction data to the CFTC. In fact, registration with the CFTC will be required for all SEFs. According to an article in Forbes on 13 October, many market participants outside the US like Ronald Arculli, chairman of the World Federation of Exchanges as well as HKEx, worry about the US habit of extending their laws beyond their shores.
EMIR and MiFID impact

Other than in the US, there are two distinct large scale regulatory frameworks under discussion in Europe that will have impact on derivatives regulation. The proposal to create European Markets Infrastructure Regulation (EMIR) followed the G-20 summit meeting in Pittsburgh in 2009. A final decision on the regulation is expected for November 2011. The current proposal includes a central clearing of standardised OTC transactions, obligatory reporting of all OTC transactions to repositories and an exemption of corporate end-users of the underlying under a not yet specified threshold. The European Securities and Markets Authority (ESMA) should be responsible for the compliance
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Overview of European regulators estimated to cost EUR37m in FY2011e and EUR68m in 2014e
European Systemic Risk Board
European Supervisory Authorities (ESAs)

European Insurance and Occupational Pensions Authority (EOPIA) European Commission (one member)
European Securities and Markets Authority (ESMA)
Advisory Technical Committee (ATC)
European Banking Authority (EBA)
ECB Council (President, Vice President and Governors of member states 'CB's)
no voting rights
President of the Economic and Financial Committee (EFC)
Source: ESRB, EU Commission, ESMA, FSA, HSBC
one rep. per member state of a national supervisory authority
of the regulation and will most likely set up final rules in 2012e. ESMA has been created in January 2011 and is now responsible for the oversight and safeguarding of the European securities markets as stated by ESMA. It should eventually impose equal rules on all 27 EU member states and would therefore harmonise regulation within the European Union, though there has been no agreement to a final draft, yet. ESMA is part of the newly created European System of Financial Supervision (ESFS), a European supranational framework which also includes the European banking Authority (EBA) and the European Insurance Occupational Pensions Authority (EIOPA). Together, they will be responsible for the safeguarding and supervision of the European financial market and its members. The oversight of ESMA is part of the regulation which is discussed in EMIR. ESMA is solely responsible to the European Parliament. With regard to OTC Swap trading, the Markets in Financial Instruments Directive (MiFID) proposal calls for the implementation of so called Organised Trading Facilities (OTFs) which will be responsible for OTC Swap transactions.
According to the FT on 31 May 2011, it seems that the regulation of OTFs in Europe would be more elastic than the US regulation with its SEFs. As laid out above, European regulations under EMIR and MiFID call for similar actions to those required by the DFA. They call for the clearing of standardised derivative contracts, the enforcement of reporting of all OTC and cleared transactions and the exemption of end-users from the regulation. The end-user rule applies to all investors who are hedging risks, buying or selling goods via derivatives. A key difference between Europe and the US remains the swap trading regulation. The framework being discussed in Europe is similar to, but will not be as closely defined as the US alternative. In Risk.net, Gary Gensler, chairman of the US CFTC stated that European regulators would make a mistake if they regulate only OTC derivatives as they should regulate all derivatives, including those trading on exchanges. But this appears to be the approach the EU parliament is taking, which seems, to us, to be more pragmatic as exchange traded derivatives offer higher transparency and risk mitigation.
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Clearing house ownership structure
An important point in current discussion remains ownership of clearing houses; whether a clearing house owned by shareholders or users would serve markets better. The matter, which we discussed in the last Exchange Examiner in June 2011, has not been resolved yet.
Risk management practices of CCPs
Clearing houses are serving as central counterparties, guaranteeing all trades and thereby taking on all risks associated with the trades of their clearing members. Counterparty risk is reduced because default risk is shared among clearing members and the clearing house. CCPs therefore need a sustainable risk management system to cope with possible defaults of clearing members, consisting of many different measures.
Clearing house procedures in case of a members default
Position netting Collateral liquidation Clearing fund of defaulting member Reserves of clearing house Clearing fund contribution of other members Liable equity of clearing house Parental guarantee
Source: Deutsche Brse, HSBC
respective position. Additionally clearing houses collect variation margin or intra-day margin that is adjusted real-time for many clearing houses such as Eurex Clearing. This risk monitoring procedure balances losses between investors. As soon as aggregated margin accounts of clearing members are running below certain limits, margin calls will be triggered immediately at real-time monitoring clearing houses to shore up the margin account. These measures secure the exterior funding of the risk management system of clearing houses. Clearing houses also have interior measures that are part of the risk management structure in case exterior funding is wiped out completely due to the default of a clearing member. These are reserves of the clearing house, liable equity of the clearing house and potential guarantees from parental organisations. When a clearing member defaults, the clearing house would immediately hedge or close all positions of that member or transfer them to other members if possible. The losses that occur will be accounted for in the following order. First, the clearing house would use all collateral of the defaulting member. Second, it would use the capital paid into the clearing fund by the defaulting clearing member. Third, the clearing house would use its reserves before the rest of the clearing fund is touched. The last measures are liable equity and potential parental guarantees that would pay for losses exceeding those paid for the all the other measures. The clearing house would default if all measures fail to cover the total losses associated with the members default. When Lehman defaulted, all Lehman trades were hedged and all losses contained within 40% of Lehmans initial margin according to an article in the just published November 2011 Futures Industry. Mark-to-market measures should reduce counterparty risk and to some extent also the risk of the clearing house incurring losses due to a
First of all, clearing members are required to contribute to a default fund of the clearing house. This fund is used in case of default of a clearing member. Secondly, initial margins are collected based on the level of risk associated with each trade. Margins may be deposited in cash or in securities, including physical gold, selected sovereign debt and selected money market funds. The margins cover potential losses between the time of default of a clearing member and the time a clearing house could close or hedge the
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counterparty default. The earlier a clearing house can hedge the positions of a defaulting member, the smaller the impact of losses on the default fund and other risk provisions. There remain some major differences between clearing houses and their mark-to-market procedures. While marking-tomarket is done twice a day by clearing houses such as CME Clearing, other clearing houses, like Eurex Clearing, offer real-time marking-to-market, which reduces counterparty risk more than CME Groups system. Marking-to-market only twice a day may be dangerous for investors as prices might fluctuate significantly in the meantime. As central clearing is expected to become mandatory for standardised derivatives, real-time mark-to-market clearing houses should become mandatory as well. On 29 November 2010, the FT ran an article that highlights the importance of real-time risk management. As high-frequency trading (HFT) is becoming more popular and volumes are increasing, the clearing industry sees the need for a change in the way risk management is to be handled. CFTC Commissioner Bart Chilton in his 5 October 2011 speech said that about 50% of all trading in Europe and around 30% of all trading in the US is done by high-frequency traders. HFT should lead the drive towards real-time clearing.
Trade repositories
The need for central trade repositories, which will collect data on OTC trades, is omnipresent. Europe and the US have worked out their own proposals, but Europe is far behind the US in the law making process. Regulators have not agreed whether there should be one global repository per asset class as the US wishes or whether each country or region should have its own repository with access to regulators worldwide (FT, 10 October 2011). While the DFA draft in the US makes foreign regulators liable in case submitted data is leaked, the EU proposal has no such clause in its current form. Another matter of discussion is the level of information mined by trade repositories. The FT quotes insiders who say that the current proposal does not include collateralisation levels of outstanding bilateral OTC trades, which would be important to know. The data would enable regulators to assess the market risk in a better way than today.
Collateralisation
Collateralisation is the process when collateral is posted as recourse, for example margin payments, for doing a trade as a protection against a counterparty default. As an increasing number of contracts are being cleared centrally, the need for
Graphic representation of trade repository transaction reporting

ID 600 Name A Name B XYZ Corp 1,000,000 EUR 600 ID 200 Name A Name B XYZ Corp 1,000,000 EUR 200
Buyer: Seller: Referent: Notional: Currency: Side ID:
Buyer: Seller: Referent: Notional: Currency: Side ID: ID 600 and ID 200 sides are paired Transaction ID 100 assigned to paired sides CDS ID 100 Buyer: Seller: Referent: Notional: Currency: Side ID:
Buyer: Seller: Referent: Notional: Currency: Side ID:

Source: OTC Derivatives Regulators Forum, HSBC
Name A Name B XYZ Corp 1,000,000 EUR 600
Name A Name B XYZ Corp 1,000,000 EUR 200
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Reported and estimated levels of total collateral (USDbn), not adjusted for double accounting
4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 2002a 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011e 2012e 2013e 71% 70% 69% 68% 67% 66% 65%
R eported (LH)
Source: ISDA, HSBC estimates
Es tim ated (LH)
R eported v s es tim ates (R H)
collateral to be used for margin payments increases. Investors clearing derivative trades via CCP clearing houses, have to post collateral as initial and variation margin. This collateral needs to meet certain criteria which can differ from one clearing house to another. The wish for the clearance of all standardised contracts via CCPs, as explained and proposed by regulators, could lead to a shortage of qualifying collateral which could be used for the clearing of those trades, according to an FT article on 11 July, 2011. The June 2011 BIS Quarterly Review suggests that some derivative dealers might not have enough cash for variation margin requirements. Collateral transformation could be needed in order to create the necessary margin collateral for all the new OTC clearing as said by the FT. Collateral transformation describes the creation of collateral which is accepted by clearing houses out of collateral which does not qualify as such. A repo agreement in which some low rated corporate bonds are exchanged for cash so that the cash could be used as collateral would be a possibility, according to the article. However, the proposed merger of Deutsche Brse and NYSE Euronext could help in this respect as it promises to free up to EUR3bn of margin calls. Looking at industry data of BIS, ICE and
TriOptima, we estimate that already more than 50% of IRS and approximately 30% of CDS are centrally cleared. But a higher level would of course be welcomed by regulators. Another sign of cost pressure could be the fact that ICE Clear Credit and CME Group want to merge their margin accounts for CDS clients, as reported by Dow Jones Newswires on 7 October. For 2010, ISDA data show that 81% of all posted collateral was cash, followed by 10% in government securities and the remaining 9% in other assets. Clearing members are quoted in the mentioned FT article as highlighting that pension funds and mutual funds do not have unlimited cash and government securities to use as collateral for their trades. However, according to ISDA data, they are already showing a collateralisation rate of 70% for their OTC trades and thus the extra burdens might not be too heavy when the mandatory clearing regulation is enforced. It depends on the level of collateral CCPs will require and what kind of collateral is currently used by pension funds and insurance companies in their bilateral agreements. Banks and other bilateral OTC partners might accept collateral which would not qualify as such with CCPs. However, Bloomberg Businessweek ran story on 14 October that LCH.Clearnet is looking at the
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Development of counterparty credit exposure in OTC derivatives trading (USDbn)
5, 005
6,000
3,859
3, 744
2, 075
2, 032
1,969
1,897
1,511
1,750
2,000 1,000 0
1, 317
H1 2003a
1, 478
H1 2005a
1,900
3,000
2, 036
2, 672
4,000
3,256
H1 2008a
3,521
H1 2010a
3,578
3,650
3, 785
3, 995
5,000
4,053
4,129
Counterparty credit ex posure

Source: ISDA, HSBC estimates
possibility of accepting investment-grade corporate bonds as collateral. Others like CME Groups clearinghouse are already doing so. The level of collateral used in OTC transactions may be seen as a benchmark for the assessment counter-party risk in the market. The higher the collateral posted, the lower the risk of losses associated with the bankruptcy of any counterparty investor. However, as cross margining and other measures of margin reduction are becoming increasingly used to reduce the amount of margin needed to be posted, the level of collateralisation will also face downward pressure. This is especially the case as more trades are conducted via CCPs. As a result, a decline or increase in reported collateral does not automatically indicate rising or falling counterparty risk, respectively. For 2011e and 2012e we expect slightly growing collateral levels. This is because an increasing volume of trades will be handled by CCPs which have been conducted as bilateral and uncollateralised deals in the past. This trend is affected by Dodd Frank Act (DFA) in the US and the planned EMIR regulation in Europe. Clearing houses and the G14 will net large quantities of initial and variation margins payable, but the expected increase in volume traded via CCPs will
inevitably lead to an increase in collateral used in OTC transactions in the future. We therefore estimate a growth rate of total collateral posted of 4% in 2011e, 11% in 2012e and 9% in 2013e.
Netting
Another measure of risk, not for the assessment of counter party risk, but rather for market risk, is the netting effect, or netting factor for gross market values. In the near future we estimate gross market values to remain in the range of 3% to 4% of notional amounts outstanding. Gross market values are netted by a factor of 5.8x in 2010 to arrive at the gross credit exposure of USD3.7trn of all counterparties according to ISDA and BIS data. This netting factor should increase to 6.2x in 2011e, because of a higher percentage of contracts cleared. The netting factor shows the degree of efficient risk reduction by CCPs. As they net positions, CCPs efficiently reduce the amount of collateral needed to be posted as margin. The November 2010 edition of the Exchange Examiner had a close look at the pros and cons of netting and the theoretical ideal number of CCPs needed.
H1 2013e
H1 2012e
H1 2002a
H1 2004a
H1 2006a
H1 2007a
H1 2009a
H1 2011e
4,200
4, 300
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Current valuation
Stocks have de-rated, valuation looks very promising We saw upgrades of consensus forecasts Exchange sector trading at historical lows
Relative valuation
The third big issue is sector valuation. This looks very attractive to us. In addition we have seen upgrades of consensus forecasts for European and US exchanges since June. In Asia, the earnings of HKEx seems quite secure for 2011e, but it looks like consensus is worrying about the companys prospects and is slashing the numbers for 2012-13 to reflect a potential bear market. We expect that in the Asian markets a similar trend to the volume recovery in 2009 will be seen as the market seems oversold now and a rebound is around the corner. In other words, we expect that the
traditional bear market wisdom might not work well this time. This point is also true for European names The emerging markets names are still on valuation premiums to the exchanges focused on mature European markets. However, HKEx and SGX are trading at around 20x 2011e earnings, which is below the average forward PE of the last five years and well below peak valuations. BM&F Bovespas share price has continued to de-rate, however, and is now just around 17x 2011e earnings. This is more in line with the US names, which does not seem justified to us. The Emirates exchange DFM is still on a high PE, but the share price has continued to fall as well.
2011e and 2012e PE of global exchanges (as on 21 October 2011)

30 283.5 60.6 25 20 13.8 12.7 11.2 11. 3 9.3 10 5 0 Deut sche Brs e Hong Kong Ex ch I ntercontinent al DFM NYSE Euronex t Exchanges Nas daq OMX* CME Group* Singapore BME* BM &F Bovespa & Clearing Exc hange* Exchange Hellenic TMX* ASX* LSE 7.7 9.1 8. 4 22.4 18.8 16.8 14.1 15. 2 13.4 17.4 16.6 10. 9 9.8 10.0 9.0 8.3 19. 8 16.5 11. 3
15
10.7
10.6
company 2011
Source: Factset consensus, HSBC estimates
company 2012
adj. s ector av erage 2011
adj. s ector av erage 2012
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12-month rolling PE of European and US exchanges (as of 21 October 2011)
70 60 50 40 30 20 10 0 Jan-04 J an-05 J an-06 Jan-07 DB1

Jan-08 LSE NYX
J an-09 Helex
Jan-10
Jan-11
Looking at our European and US coverage, the previous boost from returning M&A activity has completely vanished from share price performance in the last months as fears regarding the macroeconomic environment and the possible introduction of the FTT in Europe have taken their toll. Consequently, we believe that sector valuation now looks attractive. We estimate that the exchanges sector is trading close to historical lows as valuations have become much cheaper versus last year. Global exchanges currently trade on a one-year forward PE of 15.5x versus 19.1x a year ago. Further, the peer group is inflated by the DFM valuation; adjusted for this, forward PE is 12.3x.
We think that the current sector valuation has factored in expectations for trading volumes and earnings (and consequently share prices), and a macro-economic slowdown not only in Europe and US, but also in Asia, especially in China. Some risk of a FTT is likely to be included in the valuation of the European names. Our conviction ideas are LSE for developed and HKEx for emerging markets. Among European names, LSE is least exposed to Eurozone woes and risk of FTT introduction. Looking at emerging markets exchanges, we think that HKEx promises good growth opportunities while the shares have been de-rated in the last few months.
12-month rolling PE of emerging market exchanges (as on 21 October 2011)
70 60 50 40 30 20 10 0 Jan-04 Jan-05 J an-06 Jan-07 HKEx

Jan-08 SGX DFM
J an-09 BM&F
J an-10
J an-11
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Global exchanges peer group data (as of 21 October 2011) Rating Currency Market cap in local curr Market cap Closing Target price (USD) price Potential return PE 2011e PE 2012e Yield 2010a Yield 2011e
ASX* BME* BM&F Bovespa CBOE Holdings* CME Group* Deutsche Brse DFM Hellenic Exchanges Hong Kong Exch & Clearing Intercontinental Exchange* LSE Nasdaq OMX* NYSE Euronext Singapore Exchange TMX* Global sector average Adj. global sector average European average
NR NR OW NR NR OW N OW (V) OW NR OW NR OW OW NR
AUD EUR BRL USD USD EUR AED EUR HKD USD GBP USD USD SGD CAD
5,235 1,706 19,602 2,303 17,694 7,643 7,920 235 123,438 9,294 2,366 4,520 6,990 6,651 2,996
5,349 2,286 10,205 2,303 17,694 10,241 2,156 315 15,828 9,294 3,644 4,520 6,990 5,101 2,976
30.16 20.40 9.87 25.57 264.49 41.08 0.99 3.35 114.40 126.51 8.820 25.11 26.78 6.21 41.70
----11.6 ----55 1.15 4.00 190 --10.8 --35.0 8.2 ---
----18% ----34% 16% 19% 70% --22% --31% 37% ---
13.8 11.2 17.3 16.6 15.2 9.3 283.5 9.6 22.4 18.8 10.7 10.0 10.9 19.8 11.3 32.0 14.1 10.2
12.7 11.3 14.5 14.6 13.4 7.7 60.6 10.0 17.4 16.6 9.8 9.0 8.3 16.5 10.6 15.5 12.3 9.2
5.7% 7.7% 5.2% 0.8% 1.7% 5.1% 0.0% 4.5% 3.7% 0.0% 3.0% 0.0% 4.5% 4.3% 3.7% 3.3% 3.6% 5.1%
6.0% 7.8% 4.4% 1.6% 2.0% 5.1% 0.0% 4.5% 4.0% 0.0% 3.2% 0.0% 4.5% 4.5% 3.8% 3.4% 3.7% 5.1%
Note: * not covered by HSBC but median of Factset consensus. Adjusted global sector average excludes DFM. FY for LSE ends March, for ASX and SGX ends June. For all other companies FY ends December Source: Company data, Factset consensus, HSBC estimates
Valuation models
One final word regarding the different valuation models we use. Although we compare all exchanges using PE multiples, this seems the least appropriate method to value these stocks because as a relative valuation it would just follow the market trend and not show any fundamental overvaluation or undervaluation. Although it could be argued that a DCF model could be appropriate to value all exchanges, we believe that an equity-value-based valuation remains more appropriate for the mature European names we cover as they have enough equity to be able to pay out high dividends. Furthermore, the stocks are less influenced by long-term growth prospects which would normally drive DCF models.
For emerging markets stocks, an equity value model cannot factor the long-term growth opportunities into the valuation whereas we believe that a DCF or residual income (economic value added) model offers a better way to factor those long-term trends into the valuation.
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Global exchanges landscape

Proposed merger
NYMEX 5%
Nordpool
Bluenext
EEX
PHLX CME 5% NOM IDEM
16.5%
NYSE Arca ISE NYSE Amex Athens Exchange Sicom
Derivatives
Cetip
BM&F
CBOT
OMX Derivatives
Turquoise Derivatives 20.6%
NYSE Liffe
EUREX Deutsche Brse Group Xetra XIM Frankfurt
15% 15%
MEFF
SGX
Futures Exchange
Cetip
BM&F Bovespa
CME Group
Nasdaq OMX Boston Helsinki Copenhagen Nasdaq Neuro Rejkjavik Riga Stockholm Tallinn
1% LSE Group Borsa Italiana LSE Turquoise
NYSE Euronext Amex Amsterdam Brussels NYSE NYSE Arca N A Europe Paris Portugal Smartpool
SIX Group
BME Group
Helex
Borse Dubai
SGX
HKEx
Cash Trading
Fixed Income Cetip Net
Bolsa de Valores de Sao Paulo
MTFs like BATS/Chi-X, Burgundy Equiduct
Swiss Exchange
Barcelona Bilbao Madrid Valencia
Athens Thessaloniki
DFM Nasdaq Dubai
Stock Exchange of Singapore
Hong Kong Stock Exchange
Clearing
CetipNET
CBLC
CME Clearing
BSE EM CF
CC&G LiffeClear LCH.Clearnet
Eurex Clearing
xclear
Iberclear MEFFClear
Helex Clearing
DFM Clearing
AsiaClear CDP SGX-DC
HKSCC SEOCH HKCC
Settlement
Cetip
CBLC and BM&F Settlement Bank
NordicCSD APK (FIN) VPC (S)
Monte Titoli
Euroclear CIK (B)) CrestCo (UK) Necigef (NL) Sicovam (F) InterBolsa (P)
Clear stream
SIS SegaInter Settle
Iberclear
Central Securities Depository
Central Securities Depository
Central Depository
Central Depository
abc
Depository Trust and Clearing Corp Security flows Participations

Source: HSBC
Joint Venture Link Up Markets
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Company profiles
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BM&F Bovespa
Q3 2011 operating figures indicate stronger traded volumes q-o-q
for both the cash equities and derivatives segments

The risk from macro prudential measures is still meaningful, but
lower interest rates could boost volumes

We rate BM&F Bovespa as Overweight with a BRL11.60 target
price, helped by attractive valuation relative to peers
Investment case
We rate BM&F Bovespa Overweight with a target price of BRL11.60. At current prices, our target price implies potential return of 17.5%. The relative valuation of BM&F Bovespa versus its core global peers is compelling. BM&F Bovespa trades on PE multiples of 12.7x for 2011, 11.7x for 2012, and 10.4x for 2013, and on EV/EBITDA multiples of 12.2x for 2011, 9.6x for 2012 and 7.2x for 2013. Compared with the market capitalisation weighted average of emerging markets exchanges, we estimate that BM&F Bovespa trades at a 57.6% discount to PE and
34.4% discount to EV/EBITDA for 2011e, and a 49.5% discount on PE and 29.5% discount on EV/EBITDA for 2012e. We believe BM&F Bovespa also has an attractive valuation relative to global industry peers. Our target price is based on a blended valuation based on target PEG, target EVG, and target DCF.
Paulo E Ribeiro Analyst HSBC Securities (USA) Inc + 212 525 4430 paulo.e.ribeiro@us.hsbc.com
Recent developments
Decline in interest rates could boost volumes traded
In both the Bovespa and BM&F segments interest rates and traded volumes bear an inverse relationship and have a strong negative
Revenue breakdown 2011e

Others 16%
Trends in EBITDA margin and ROE after taxes

80% 75% 10% 9% 8% 70% 7% 65% 60% 2010 2011e 2012e 2013e ROE 6% 5%
Bov es pa (equities ) 47% *BM &F 37%
EBITDA margin - Left axis

Source: HSBC estimates *derivatives segment Source: BM&F Bovespa, HSBC estimates
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correlation. Volumes, which are measured in Brazilian real for Bovespa and by number of contracts for BM&F, react positively to declines in the Selic rate. We highlight, though, that potential benefits from rate cuts could be offset by macroeconomic uncertainty, especially inflation and GDP growth concerns. We are forecasting a decline of 1.9% in 2011 and 18.0% growth in 2012 for Bovespa, and growth of 10.4% in 2011 and 15.0% in 2012 for BM&F. We believe our expectations balance the upside risk of lower rates with the downside risks of further macro prudential measures as well as of lower GPD growth (as forecast by HSBCs economics team). Nevertheless there could be some upside to our numbers if rates fall faster than expected or the risk of new macro prudential measures is reduced.
Changes in fee structure
market, to help contain the appreciation of the Brazilian real. The measures including imposing a 1% IOF tax on onshore positions that increase long real exposure over a USD10m limit. For BM&F Bovespa, dollar-related contracts (including US dollar future and US interest rate contracts) represent 11-13% of revenues. Operating data for the past two months does not show a material decline in FX-related contracts so far, in part due to the recent depreciation of the real. That said, given our expectation of the negative impact of the measures, we are adjusting our estimates to consider lower average daily trading volumes for FX-related derivatives (and thus lower overall derivatives), as detailed in our report published on 2 August 2011 (Cut TP to BRL11.6 on lower volumes and higher risk).
Integration of trading platforms
On 13 July 2011, BM&F Bovespa announced the rebalancing of its fee structure between trading and post trading (settlement and registration) to better reflect the cost structure and increase the alignment with international markets. The all-in fee remains the same and thus the rebalancing has a neutral effect for investors and on BM&F Bovespa revenues and margins.
Bovespa: breakdown of segment fees as trading and post trading (ex depository) before and after rebalancing
4.00 3.00 2.00
0.60bps 2. 75bp s 2.85bps
On 29 August 2011, BM&F Bovespa announced the conclusion of the first stage of the development of its new multi-asset trading platform, the BM&F Bovespa PUMA Trading System, developed jointly with CME Group. It will replace the current trading platforms for each asset class, resulting in greater processing capacity and significantly lower latency. The implementation will take place in three stages, with derivatives and spot foreign exchange having already moved onto the new system, equities and equity derivates moving onto PUMA in H1 2012 and fixed-income, and corporate and government securities moving over in H2 2012.
Multi-asset trading platform implementation
1.00 Old Trad ing

Source: BM&F Bovespa, HSBC
0. 70bp s
N ew S etllement
Before implementation (timing of move to PUMA in brackets)
GTS (on 29 August 2011) Derivatives and spot foreign exchange Mega Bolsa (H1 2012) Equities and equity derivatives Bovespa FIX (H2 2012) Fixed-income and corporate securities SIBEX (H2 2012) Government securities After the full implementation PUMA system(2013) All asset classes
Source: Company data, HSBC
IOF tax on FX derivatives
On 26 July 2011, the Brazilian government announced new regulations (effective immediately) regarding the FX derivatives
Integration of clearing
BM&F Bovespa has undertaken a project to integrate the four clearing systems for equities,
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BM&F Bovespa: Q3 2011 operating numbers BM&F Q3 2011 Q2 2011 Q3 2010 Q3 11/Q2 11 Q3 11/Q3 10 Main growth areas in Q3 2011
ADTV (000s of contracts) RPC (BRL) Bovespa ADTV (BRLm)

Source: BM&F Bovespa, HSBC
2,804 1.11 6,600
2,670 1.13 6,207
2,428 1.17 5,906
5.0% -1.3% 6.3%
15.5% Interest rate and stock indices contracts -4.7% 11.7% Cash equity trading
derivatives, fixed income and spot FX. The new infrastructure is expected to be fully implemented in 2013. Once operational, this system should benefit participants as it should reduce operational costs. It should also improve risk management efficiency for investors through capital allocation reduction.
Cross-listing initiative with BRIC exchanges and with CME
Q3 2011 operational figures summary

For Q3 2011, BM&F Bovespa has released key operating figures for the Bovespa and BM&F segments. For Bovespa, Q3 2011 ADTV stood at BRL6.6bn, up by 6.3% q-o-q and 11.7% y-o-y, and 12.7% higher than our estimate. Year-to-date, ADTV is BRL6.5bn, up 2.3% from the same period a year ago, and in line with our forecast for full year 2011 ADTV of BRL6.4bn. For BM&F, Q3 2011 ADTV stood at 2,804 thousand contracts, up by 5% q-o-q and 15.5% yo-y, 1.3% higher than our estimate of 2,768 thousand contracts. The ADTV for the year to date of 2,783 thousand contracts is in line with our forecast of an ADTV of 2,787 thousand for full year 2011. For Q3 2011, the RPC was BRL1.11, 1.3% lower q-o-q and 4.7% lower y-o-y, and 3.9% higher than our estimate. Both the BMF and Bovespa segments continued to post strong growth in the share of volumes captured by high frequency trading and colocation (launched in September 2010 for the Bovespa segment).
On 13 October 2011, BM&F Bovespa announced a cross-listing joint initiative between exchanges of the BRIC countries. The first phase of the initiative involves the exchanges cross-listing each others benchmark equity index derivatives, traded in the local currency of the exchange, and is expected to be in place by June 2012. Equity index derivatives now represent about 2% of BM&F Bovespas total gross revenues. Revenues will be shared between the issuing exchange and the exchange where the contract is traded. While we view the agreement positively, we believe the benefit to earnings will be small in 2013, and grow only gradually from then. Therefore we have not changed our estimates or valuation. BM&F Bovespa and CME are expected to announce a similar but, we believe, more relevant, agreement for the cross-listing of futures contracts shortly (beginning with IBOVESPA Futures, cash-settled soybean futures and mini S&P 500 futures and more will come in the future). Currently, they have an order-routing agreement in place.
Valuation methodology
Based on a blended valuation methodology by applying appropriate weights to target PEG (40%), target EVG (20%) and target DCF (40%) methodologies, we arrive at our 12-month target price for BM&F Bovespa shares of BRL11.60.
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Under our research model, for stocks without a volatility indicator, the Neutral band is 5% above and below the hurdle rate for Brazilian stocks of 11.5%, or 6.5% to 16.5% above the share price. Given a potential return of 17.5% (priced as of 21 October 2011), we rate BM&F Bovespa as Overweight.
Target PEG
Target DCF
The discounted cash flow (DCF) model is another of our core valuation parameters, and for BM&F Bovespa, we use a three-stage DCF model. We assume an initial period of growth, a transition period of growth, and a period of stable growth. In the initial growth period, which we assume extends for five years to 2014, we estimate a FCF CAGR of 10% pa. For the transition period to 2015, we estimate a CAGR of 8.6% pa. For the stable period, we assume a growth rate of 7% pa.
Downside risks
We estimate BM&F Bovespas PE multiples at 12.7x for 2011, 11.7x for 2012 and 10.4x for 2013 (based on adjusted net profit), and based on an EPS CAGR for 2010-2013e of 6.9% pa, we derive a PEG ratio of 1.60x. Given BM&F Bovespas earnings growth potential, we arrive at a target PEG of 2.05x, which implies a target price of BRL11.64 per share (and a target 2012e PE multiple of 12.1x).
Target EVG
We estimate BM&F Bovespas EV/EBITDA multiples at 10.9x for 2011, 8.5x for 2012 and 6.3x for 2013, and based on an EBITDA CAGR of 10.8% pa, we estimate a 0.79x EVG multipleto-growth ratio. Given our EBITDA growth forecasts for BM&F Bovespa, we arrive at a target EVG of 1.25x, which implies a target price of BRL12.57 per share (and a target 2012e EV/EBITDA multiple of 13.5x).
The downside risks for BM&F Bovespa, in our view, include: weaker-than-expected volumes and trading activity in derivatives and equities and higher-than-expected capex from the investment plan hurting cash-flow and contributing to higher operating expenses. Regulatory risk has been increasing for this name since the end of 2010. We think it would take three to five years for a significant risk of a new competitor to arise.
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P&L* statement BRLm Gross revenues exc Other Net revenues SG&A EBIT (operating income) Depreciation/ Amortization EBITDA EBITDA margin (%) Financial result Equity in the results of subsidiaries Pre-tax earnings Net earnings (adjusted) EPS (adjusted) (BRL) 2009 2,527 2,687 (570) 2,117 42 2,159 80.4% 254 2,371 2,407 1.17 2010 1,771 1,895 (690) 1,249 67 1,316 69.0% 298 40 1,903 1,540 0.77 2011e 1,723 1,859 (704) 1,154 65 1,219 65.6% 324 112 2,094 1,596 0.78 2012e 2,021 2,140 (746) 1,394 70 1,464 68.4% 360 112 1,994 1,731 0.84 2013e 2,402 2,515 (789) 1,726 75 1,802 71.6% 399 112 1,903 1,957 0.95
*some less significant line items have been omitted for sake of conciseness Source: BM&F Bovespa, HSBC estimates
Balance sheet* BRLm ASSETS Current assets Financial investments Cash and equivalents Accounts receivables Other Assets Total current assets Financial instruments Deferred Income and Soc. taxes Other non-current assets Total long-term assets Fixed Assets Investments Tangible fixed assets Goodwill Total fixed assets Total assets LIABILITIES Current liabilities Collateral transactions Suppliers Provisions Dividends Other liabilities Total current liabilities Long-term Liabilities Loans and financing Deferred taxes Total long-term liabilities Minorities Shareholders equity Issues Capital Reserves Retained Earnings Total equity Total equity and liabilities 2009 2010 2011e 2012e 2013e
2,600 51 40 74 2,779 586 41 85 716 1,319 268.9 16,118 17,706 21,201
2,264 104 51 119 2,548 1,067 55 92 1,217 2,287 367 16,216 18,870 22,633
2,802 104 37 119 3,071 1,067 55 92 1,217 2,287 552 16,216 19,054 23,342
3,601 104 39 119 3,871 1,067 55 92 1,217 2,287 694 16,216 19,196 24,285
4,633 104 43 119 4,908 1,067 55 92 1,217 2,287 799 16,216 19,301 25,426
810 21 25 21 285 1,162 0 261 313 16 2,310 16,666 733 19,710 21,201
955 81 24 3 321 1,416 1,010 732 1,799 15 2,540 16,863 0 19,403 22,633
955 80 24 575 321 1,988 1,010 1,148 2,214 16 2,540 16,863 293 19,695 23,342
955 92 24 575 321 2,001 1,010 1,620 2,687 18 2,540 16,863 747 20,150 24,285
955 108 24 575 321 2,019 1,010 2,186 3,253 20 2,540 16,863 1,303 20,705 25,426
*some less significant line items have been omitted for sake of conciseness Source: BM&F Bovespa, HSBC estimates HSBC estimates
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Financials & valuation: BM&F Bovespa

Financial statements Year to 12/2010a 12/2011e 12/2012e 12/2013e Key forecast drivers Year to 12/2010a 12/2011e
Overweight
12/2012e 12/2013e
Profit & loss summary (BRLm)
Revenue EBITDA Depreciation & amortisation Operating profit/EBIT Net interest PBT HSBC PBT Taxation Net profit HSBC net profit*
Cash flow summary (BRLm)
1,895 1,316 -67 1,249 298 1,552 1,994 -446 1,147 1,589
1,859 1,219 -65 1,154 324 1,479 1,903 -418 1,172 1,596
2,140 1,464 -70 1,394 360 1,755 2,094 -472 1,392 1,731
2,515 1,802 -75 1,726 399 2,126 2,414 -566 1,669 1,957
Volume contracts (derivative) (000) Growth in contracts traded % Daily Average Trading Value m
619 65.3 6,488.65
680 9.9 6,362.33
788 15.9 7,506.94
928 17.8 8,932.92
Valuation data Year to 12/2010a 12/2011e 12/2012e 12/2013e
Cash flow from operations Capex Cash flow from investment Dividends Change in net debt FCF equity
Balance sheet summary (BRLm)
1,316 -254 -254 -973 1,325 915
1,219 -249 -249 -879 -537 876
1,464 -212 -212 -937 -798 1,140
1,802 -180 -180 -1,114 -1,031 1,455
EV/sales EV/EBITDA EV/IC PE* P/Book value FCF yield (%) Dividend yield (%)
8.1 11.7 1.0 12.8 1.0 5.5 5.2
8.0 12.2 1.0 12.7 1.0 5.2 4.3
6.6 9.6 0.9 11.7 1.0 6.8 4.6
5.2 7.2 0.8 10.4 1.0 8.7 5.5
Note: * = Based on HSBC EPS (fully diluted)
Issuer information
Share price (BRL) Intangible fixed assets Tangible fixed assets Current assets Cash & others Total assets Operating liabilities Gross debt Net debt Shareholders funds Invested capital 16,216 367 2,548 2,368 22,634 1,380 1,043 -1,325 19,403 15,382 16,216 552 3,071 2,906 23,342 1,379 1,044 -1,862 19,695 15,554 16,216 694 3,871 3,705 24,285 1,391 1,045 -2,660 20,150 15,685 16,216 799 4,908 4,737 25,426 1,407 1,047 -3,691 20,705 15,778 Reuters (Equity) Market cap (USDm) Free float (%) Country Analyst
9.87 Target price (BRL) BVMF3.SA 11,315 70 Brazil Paulo E Ribeiro
11.60 Potentl rtn (%)
17.5%
Bloomberg (Equity) BVMF3 BZ Market cap (BRLm) 20,174 Enterprise value (BRLm) 14,825 Sector Diversified Financial Services Contact +1 212 525 4430
Price relative
18 16 14 12 18 16 14 12 10 8 6 4 2010
Rel to BOVESPA INDEX
Ratio, growth and per share analysis Year to Y-o-y % change 12/2010a 12/2011e 12/2012e 12/2013e
10 8 6 4 2009
BM&F Bovespa
Revenue EBITDA Operating profit PBT HSBC EPS

Ratios (%)
-29.5 -39.0 -41.0 -34.5 -34.0
-1.9 -7.4 -7.6 -4.7 0.5
15.2 20.1 20.8 18.6 8.5
17.5 23.1 23.8 21.2 13.1
2011
2012
Source: HSBC *Note: HSBC net profit has been adjusted to eliminate deferred liability recognized in correlation with temporary differences from amortization of goodwill for tax purposes, the impact of the stock options plan and the investment in associate (CME Group) accounted for under the equity method of accounting, net of taxes
Revenue/IC (x) ROIC ROE ROA EBITDA margin Operating profit margin EBITDA/net interest (x) Net debt/equity Net debt/EBITDA (x) CF from operations/net debt
Per share data (BRL)
0.1 5.8 8.1 5.2 69.5 65.9 -6.8 -1.0
0.1 5.4 8.2 4.8 65.6 62.1 -9.4 -1.5
0.1 6.5 8.7 5.6 68.4 65.2 -13.2 -1.8
0.2 8.1 9.6 6.5 71.6 68.6 -17.8 -2.0
Note: price at close of 21 Oct 2011
EPS Rep (fully diluted) HSBC EPS (fully diluted) DPS Book value
0.56 0.77 0.51 9.44
0.57 0.78 0.43 9.59
0.68 0.84 0.46 9.81
0.81 0.95 0.54 10.08
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Cetip SA
Q3 2011 operating data highlight strong volumes in fixed income
and derivatives but softness in vehicles financing, as expected

OTC derivatives regulations in Brazil are generally more stringent We rate Cetip Overweight with a BRL31 target price. We prefer
Cetip to BM&F Bovespa as a way to play the growth in Brazilian financial markets
Investment case
We rate Cetip as Overweight with a target price of BRL31. At the current price, our target price still implies an attractive potential return of over 30%. On our estimates Cetip trades on PE multiples of 29.7x for 2011, 18.4x for 2012, and 12.5x for 2013, and on EV/EBITDA multiples of 14.2x for 2011, 10.7x for 2012 and 8.4x for 2013. Compared with the market capitalisation weighted average multiples of emerging markets exchanges, we estimate that Cetip trades at a 0.9% discount on PE and 23.7% discount on EV/EBITDA for 2011, and a 20.7% discount on
PE and 21.5% discount on EV/EBITDA for 2012. We believe Cetip has an attractive valuation relative to global industry peers. Our valuation is based primarily on a discounted cash flow model.
Paulo E Ribeiro Analyst HSBC Securities (USA) Inc + 212 525 4430 paulo.e.ribeiro@us.hsbc.com
Recent developments
ICE became largest shareholder in Cetip
On 15 July 2011, Intercontinental Exchange (ICE, not rated) acquired 12.44% of the total capital in Cetip for BRL804.9m (around USD451m using current exchange rate of BRL1.79/USD), becoming Cetips largest shareholder. ICE has been expanding its presence in Brazil, most recently via the launch of a Brazilian electric
Trends in EBITDA margin and ROE after taxes
73.0% 72.0% 71.0%

GR V 49% Cetip 51%
50.0% 40.0% 30.0% 20.0% 10.0% 0.0% 2010 2011e 2012e 2013e ROE EBITDA margin - Left axis
70.0% 69.0% 68.0%
Source: Cetip, HSBC estimates
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power exchange partnership BRIX and the distribution of energy futures screens. ICE operates globally and has expertise in OTC derivatives products. It could support Cetips expansion in this segment, which currently contributes a small portion of revenues, as financial markets grow in Brazil. ICE has stated that it acquired this strategic stake as a long-term investment that is not aimed at altering the control of Cetip. Any shareholder that accumulates more than 15% of the shares has to launch a public tender offer for all the remaining shares, but ICEs stake is below this threshold. ICE appointed a representative to Cetips nine-member board of directors.
Collateral management with Clearstream
diversification by having more than just one central party. The new service adds efficiency to the capital allocation and risk management processes in Brazil and could increase demand for OTC derivatives from all kinds of participants. Earlier, in November 2010, Cetip and Deutsche Brse had signed a non-binding letter of intent to develop a possible trading platform, with an initial focus on fixed income trading.
IOF tax on FX derivatives
In mid-July 2011, Cetip and Deutsche Brses Clearstream announced the launch of a tripartite collateral management service. This will allow assets that are registered on Cetip, Clearstream and Selic, a central depository of securities issued by Brazils national treasury and central bank, to be used as collateral by participants.
Growth in collateralised exposure for OTC derivatives (as % of total exposure)
80% 60% 40% 20% 0% Glo bal - 2003 G lobal - 2010 Braz il - 2010 29% < 10%
On 26 July 2011, the Brazilian government announced new regulations (effective immediately) for the FX derivatives market, to help contain the appreciation of the real. The measures including imposing a 1% IOF tax on onshore positions that increase long real exposure over a USD10m limit. For Cetip, the potential negative impact on revenue is approximately 2.5%-3.0% of total revenues, much less than for BM&F Bovespa. In Brazil (as shown in the next chart), the exchange-traded derivatives market is almost nine times the size of the OTC derivatives market; thus the potential impact of the measures are greater for BM&F Bovespa.
Exchange-traded derivatives (ETDs) form the majority of total derivatives in Brazil, in contrast to the global trend
C AGR 12.9%
68%
100% 80% 60% 40% 20% 0%
11%
89%
92%
8% Global Brazil ETD
Source: ISDA , CETIP, Brazilian market interviews
OTC
We consider this initiative as a positive for Cetip as it could aid OTC market development in Brazil by offering an important tool to offset counterparty risks and providing some credit risk
Source: IMF, Cetip, BIS, BM&F Bovespa, HSBC
OTC derivatives and Cetip
The regulators approach to the OTC derivatives market has been more restrictive in Brazil than in
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other countries, preventing the formation of alternative avenues for derivatives trading. Brazilian regulations require that all derivatives trades be officially registered in a centralised system approved by the Brazilian Securities and Exchange Commission and the central bank. Cetip and BM&F Bovespa provide registration and settlement services to the OTC derivatives market in Brazil. The majority of OTC derivatives (about 75%) in Brazil are registered with Cetip, and the majority of OTC transactions cleared through BM&F Bovespa are stored in its own central data repository. Given the already tighter reporting/registration requirements and the high level of standardisation of OTC derivatives in Brazil, two aims of the ongoing global OTC market reforms, and the relatively small share of OTC registration in Cetip revenues, we do not expect a material impact on Cetip of a further tightening of OTC requirements in Brazil.
Regulatory support for development of fixed income market
Examples of other government measures to facilitate the development of a private debt market, including secondary market trading, are: Certain income tax exemptions for individuals and foreign investors on infrastructure-related debentures. Improvements to the corporation law to rationalise debenture issues and make procedures more efficient. Creation of a liquidity fund to act as a market maker for private debt via BNDES, promoting liquidity in secondary market. Elimination of Brazils IOF tax on financial transactions of up to 30 days on trades of private securities, and the change in the taxation periodic income (such as coupon and amortisation of principal payments) to avoid securities trading on days not coinciding with coupon payment, for instance, from generating additional taxes. Regulation of public offerings of bank debentures (letras financeiras).
In Brazil, given the substantial financing needs for investment and infrastructure and the limited savings pool we expect the private sector to increasingly tap the debt market. Government regulations have generally promoted the development of the local fixed income market. One such initiative is project called the New Market for Fixed Income Securities, or Novo Mercado de Renda Fixa, coordinated by Anbima (the Brazilian Association of Financial and Capital Markets) and aimed at stimulating liquidity in private debt.
Q3 2011 operational figures

Cetips Q3 2011 operating figures showed strong volumes in the Cetip segment but some softness in the GRV segment, as expected. It is important to remember that average pricing information was not released for the quarter and it is subject to substantial variation depending on the product mix. That is to say, that strong volume growth, in registration in particular, does not necessarily translate into strong revenue growth.
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Main operating Indicators for Q3 2011 and 9M 2011 _______________Quarter _______________ Q3 2011 Q2 2011 Q3 2010 Cetip Registration (BRLbn) ________9M _________ _______________ Growth_________________ 9M 2011 9M 2010 Q3 2011/2Q11 Q3 2011/Q3 YTD 2011/YTD 2010 2010
Interbank deposit (DI) Bank deposit certificate (CDB) Swaps Currency forwards
Custody (BRLbn) Debentures Letras Financeiras Transactions (in millions) Monthly Utilisation Number of participants GRV segment Inclusion of Liens (in 1000s) Financed vehicles as % of total sales Contracts registered (in 1000s)
* YTD calculated for period until 9M11 in 2011 and until 9M10 in 2010 Source: HSBC, Cetip
1,589 641 497 272 382 114 22.5 10,546 2,043 44.7% 1,381
865 594 na* na* 371 91 20.6 10,268 1,920 45.3% 1,312
896 439 na* na* 325 18 16.2 9,480 2,062 46.7% 1,423
3,545 1,837 na* na* 382 114 64.2 10,546 5,756 45.0% 3,915
2,465 1,176 na* na* 325 18 43.9 9,480 5,657 47.9% 2,934
83.6% 7.9% na* na* 2.9% 26.0% 9.1% 2.7% 6.4% -1.5% 5.2%
77.4% 46.0% na* na* 17.7% 523.6% 39.4% 11.2% -0.9% -4.3% -3.0%
43.8% 56.2% na* na* 17.7% 523.6% 46.3% 11.2% 1.7% -6.1% 33.4%
Cetip segment
Fixed income registration
For Q3 2011, interbank deposits grew by 83.6% q-oq and 77.4% y-o-y and bank deposit certificates grew by 7.9% q-o-q and 46% y-o-y. On a year-todate basis (9M 2011 versus 9M 2010), these grew by 43.8% and 56.2% y-o-y, respectively, well above our expectations for 2011 of 18.5% and 13.7%. The strong growth in these instruments, which reached historical peaks in the quarter, could be benefitting from their counter-cyclical nature, with funds migrating to safer investments during times of market volatility.
OTC derivatives registration
number of contracts). Currency forward contracts were up 14.7% q-o-q on the basis of notional value registered, despite the announcement on 26 July 2011 of government measures to impose a tax on short US dollar positions.
Custody
Debentures under custody as of Q3 2011 end grew by 2.9% q-o-q and 17.7% y-o-y, more than our full 2011 growth estimate of 13.7%. Letras Financeiras continued their strong momentum, growing by 26% q-o-q and 524% y-o-y. In Q3 2011, Cetip introduced a fee for swap custody services as part of the new swaps pricing policy. Investment fund quota volumes were down 2.7% q-o-q and for the first nine months were down 18.5% versus the same period a year ago.
The monthly volume of swaps and currency forwards registered fell slightly in September, down 4.9% and 5.5%, respectively, following a strong performance in the previous month (swaps up 67.1% and forward contracts up 44.1%). We cannot compare the registration data for swaps q-o-q as the company changed the basis on which it reports those operating data. This follows a new pricing policy for swaps, which we view positively, that took effect in Q3 2011, where registration fees are calculated as a percentage of the notional amount (instead of
GRV segment
Inclusion of liens
For Q3 2011, liens grew by 6.4% q-o-q but dropped slightly by 0.9% y-o-y. On a year-to-date basis the total grew by 1.7% y-o-y, slightly ahead of our expectation of a 2.0% decline for full year 2011.
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Contracts registered
Downside risks
For Q3 2011, it grew by 5.2% q-o-q but dropped by 3.0% y-o-y. On a year-to-date basis, the number grew by 33.4% y-o-y, in line with our estimate.
Valuation methodology
We reiterate our Overweight rating for Cetip. Our 12-month target price of BRL31 implies a 31.9% potential return from current levels (priced as at 21 October 2011). Under our research model, for stocks without a volatility indicator, the Neutral band is five percentage points above and below our hurdle rate for Brazilian stocks of 11.5%, or 6.5-16.5% above the current share price.
Discounted cash flow valuation
Downside risks, in our view, include: possible regulatory action that is detrimental to Cetip, in particular any that affects growth of auto financing; less efficient integration of GRV; economic turmoil in Brazil, which could impact consumption and investment patterns materially, thus hampering growth in private fixed income and OTC derivatives; and development of alternative distribution channels for the companys products.
Update on OTC derivatives regulations in Brazil

As of March 2011, the total notional value of derivatives outstanding in Brazil was BRL7.5trn, or roughly 2.3x 2010 GDP. The market is dominated by exchange-traded derivatives, at 92%, with OTC trading accounting for only 8%. In contrast, OTC derivatives constitute almost 89% of the global total notional value of derivatives, according to BIS data as shown on page 12 of this report.
Notional values of OTC and exchange-traded derivatives outstanding as number of times of GDP Brazil vs Global
We discount the estimated free cash flow to equity (and not to the firm and thus we discount it by the cost of equity) generated by Cetip over an eight-year period, 2011-2018, to derive our 12month target price. Cetip is a strong generator of cash with low capital expenditure increases are mainly associated with new product development and working capital requirements. Until the partly debt financed acquisition of GRV, Cetip was debt free, but now it has covenant constraints related to dividend payments and minimum debtservicing coverage parameters. We arrive at our target price with a cost of equity of 12.1% for Cetip and a long-term rate of 5.0%, which, in our opinion, is conservative, given the long-term inflation and real GDP growth trends in Brazil. We use a country risk premium of 2.0% and a US risk-free rate of 4.0%. We include a 2.0% inflation differential between Brazil and the US to adjust for the fact that we are discounting expected cash flow-to-equity in BRL. As for beta, we use a 0.9 rate based on Bloomberg data adjusted for Cetips capital structure and for its increased earnings exposure to the consumer credit market through the integration of GRV.
12 10 8 6 4 2 0 ETD Brazil
Source: BIS, Cetip, BM&F Bovespa, HSBC
9.8x
11.1x
2.1x
1.3x
2.3x 0. 2x OTC World Total
In Brazil, a concentration of government debt in floating rate instruments, market instability, high inflationary periods, and lower credit penetration have hindered the development of a OTC derivatives market in the past. We do not believe that growth of this market depends mainly on a replacement for exchange-traded derivatives, but
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rather on the popularisation of the use of derivatives by non-financial companies, lower systemic risk perception (supported by collateralisation management, the new product), and clients demand for customised products. It is important to note that the tax treatment of derivatives means that OTC derivatives are taxed more heavily, thus moving trading volume onto the exchanges. Additionally, OTC derivatives trading was not authorised until 1994, while a market for exchange-traded derivatives has been in place for a significantly longer time.
Financial regulations in Brazil for OTC derivatives have favoured more controls and transparency, leading to the systematic registration of most of these financial assets at a central securities depository such as Cetip. Cetip is ideally positioned to benefit from continued stringent regulations. As a custodian and clearing chamber, Cetip is regulated by the National Monetary Council (CMN), the central bank, and Securities and Exchange Commission (CVM). The table on the next page summarises Brazils responses by local regulator (Comisso de Valores Mobilirios - CVM) to a survey conducted by the Financial Stability Board (FSB) to assess the progress made in the implementation of the OTC derivatives markets reforms as agreed by the leaders of the G20 countries in September 2009. The comments give an idea about where Brazil stands on the various issues which the reforms aim to address. This report by FSB is the second progress report and was released on 11 October 2011.
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Brazils responses to FSB survey on implementation of OTC derivatives market reforms
Standardisation
Central Clearing
Exchange or electronic platform trading
Transparency and trading
Reporting to trade repositories
Application of central clearing requirements
Additional legislative and/or regulatory steps needed for a central clearing requirement for standardised OTC derivatives to be effective? No Pre-existing legislation in No (note that mandatory place requires all exchange- clearing requirement applies traded derivatives to be only to exchange-traded centrally cleared; nonderivatives) exchange traded derivatives may be bilaterally risk managed or centrally cleared at the option of counterparties Law and/or regulation in Legislative and/or regulatory Additional legislative and/or force by end-2012 requiring steps completed toward regulatory steps needed for all or any subset of implementing a trading a trading requirement for standardised derivatives to requirement for standardised derivatives to be traded on exchanges or standardised derivatives? be effective? electronic trading platforms? No Capital incentives for use of No exchange-traded derivatives Multi-dealer functionality Pre-trade price and volume Post-trade price and volume required to fulfil trading transparency required for all transparency required for all requirement or single-dealer exchange or electronicexchange or electronicfunctionality permitted? platform-traded and OTC platform-traded and OTC derivatives? derivatives? Multi-dealer functionality No (pre-trade price and Yes (all derivatives, required volume transparency including OTC, must be required for the 90% of the reported to a TR) market that is exchangetraded; no pre-trade requirements for the 10% of the market that is OTC) Law and/or regulation in Legislative and/or regulatory Additional legislative and/or force by end-2012 requiring steps completed toward regulatory steps needed for all OTC derivatives implementing a reporting a reporting requirement to transactions to be reported requirement? be effective? to trade repositories? Yes Pre-existing rules enacted No by the Central Bank and CVM require all OTC derivatives trades to be reported to a TR Coverage of all asset Coverage of all types of Intra-group transactions classes? financial entities? No; central clearing No No requirement pertains only to exchange-traded derivatives (not OTC)
Proportion of OTC derivatives composed of standardised derivatives substantially increased by end-2012? No (market already highly standardised) Law and/or regulation in force by end-2012 requiring all standardised OTC derivatives to be cleared through CCPs?
Legislative and/or regulatory steps completed toward increasing the use of standardised products and processes? No Legislative and/or regulatory steps completed toward central clearing of standardised OTC derivatives?
Additional legislative and/or regulatory steps planned toward increasing the use of standardised products and processes? No
Source: FSB, HSBC
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P&L statement* BRLm

CETIP GRV GROSS REVENUES Taxes & Deductions NET REVENUES CETIP Opex GRV COGS GRV SG&A OPERATING EXPENSES EBTIDA EBITDA Margin (%) Depreciation Amortization of Intangibles - GRV EBIT Financial Result EBT Income Taxes Social contribution Net Income
*some less significant line items have been omitted for sake of conciseness Source: Cetip, HSBC estimates
2009
243 187 429 (56) 373 (68) (38) (33) (138) 235 63% (12) 0 223 19 (13) (69) (2) 127
2010
338 298 636 (78) 558 (93) (42) (34) (169) 388 69.7% (9) 0 379 22 (9) (49) (53) 269
2011e
403 380 782 (93) 689 (106) (56) (47) (208) 481 69.8% (14) (52) 416 (190) (6) (8) (13) 199
2012e
516 459 975 (116) 859 (120) (67) (56) (243) 616 71.7% (17) (52) 547 (165) (3) (44) (13) 322
2013e
634 565 1,200 (143) 1,057 (139) (82) (68) (289) 767 73% (23) (52) 693 (111) (1) (90) (13) 479
Balance Sheet* BRLm

Cash & equivalent Accounts receivable Anticipated expenses Other short-term assets Short-term assets Judicial deposits Anticipated expenses Deferred taxes Acquisition goodwill - CETIP Other long-term assets Long-term assets Investments Investment (GRV) Investment (earn-out) Acquisition goodwill (GRV) Net PP&E Intangible Other LT investments GRV Intangible assets - GRV TOTAL ASSETS Accounts payable Accounts payable (earn-out) Accruals (employees) Short term debt Taxes payable Dividends & JCP Short term liabilities Taxes payable Acquisition debt (GRV) Provisions Long-term liabilities Paid in capital Paid in capital (GRV share issue) Paid in capital (market capital call) Capital reserve Legal reserve Accumulated profits Acquisition goodwill - CETIP Shareholders equity TOTAL LIABILITIES
*some less significant line items have been omitted for sake of conciseness Source: Cetip, HSBC estimates
2009
240 45 4 27 318 0 1 3 68 1 73 4 0 0 0 37 18 3 0 453 9 0 24 15 5 58 113 1 0 2 9 210 0 0 31 2 17 71 331 453
2010
111 60 4 9 184 0 1 7 55 1 64 4 255 0 815 47 29 4 930 2,332 7 0 32 7 7 0 53 1 1,455 3 1,459 275 445 0 41 4 0 55 820 2,332
2011e
157 71 6 9 243 0 1 10 42 1 54 4 254 0 815 70 41 4 879 2,363 8 0 37 1 9 0 55 1 1,271 3 1,275 284 445 0 48 19 196 42 1,033 2,363
2012e
200 80 7 9 296 0 1 14 28 1 45 4 254 0 815 87 58 4 827 2,390 9 0 41 0 11 0 60 1 1,105 3 1,109 284 445 0 51 31 382 28 1,221 2,390
2013e
173 97 8 9 287 0 2 19 15 1 36 4 254 0 815 105 77 4 775 2,358 10 0 49 0 17 0 76 1 921 3 925 353 445 0 52 63 428 15 1,356 2,358
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Financials & valuation: CETIP SA

Financial statements Year to 12/2010a 12/2011e 12/2012e 12/2013e Valuation data Year to 12/2010a 12/2011e
Overweight
12/2012e 12/2013e
Profit & loss summary (BRLm)
Revenue EBITDA Depreciation & amortisation Operating profit/EBIT Net interest PBT HSBC PBT Taxation Net profit HSBC net profit
Cash flow summary (BRLm)
558 388 -9 379 22 371 371 -102 269 269
689 481 -65 416 -190 210 210 -11 199 199
859 616 -69 547 -165 370 370 -47 322 322
1,057 767 -75 693 -111 572 572 -93 479 479
12.6 18.1 3.7 21.8 7.2 5.4 5.5
9.9 14.2 3.6 29.7 5.7 4.9 1.0
7.7 10.7 3.5 18.4 4.9 7.1 2.1
6.1 8.4 3.5 12.5 4.4 9.9 6.7
Issuer information
Share price (BRL) 388 0.0 0.0 -321 1,576 308 481 0.0 0.0 -61 -235 280 616 0.0 0.0 -124 -211 404 767 0.0 0.0 -402 -157 563 Reuters (Equity) Market cap (USDm) Free float (%) Country Analyst
23.50 Target price (BRL) CTIP3.SA 3,344 60 Brazil Paulo E Ribeiro
31.9%
Balance sheet summary (BRLm)
Bloomberg (Equity) CTIP3 BZ Market cap (BRLm) 5,962 Enterprise value (BRLm) 6815 Sector Diversified Financial Services Contact +1 212 525 4430
Price relative
Intangible fixed assets Tangible fixed assets Current assets Cash & others Total assets Operating liabilities Gross debt Net debt Shareholders funds Invested capital
1,829 56 184 111 2,332 48 1,462 1,351 820 1,911
1,776 82 243 157 2,363 55 1,272 1,116 1,033 1,889
1,729 103 296 200 2,390 62 1,105 905 1,221 1,866
1,682 126 287 173 2,358 78 921 748 1,356 1,845
33 28 23 18 13 8 2009
CETIP S.A
33 28 23 18 13 8 2010
Rel to BOVESPA INDEX
2011
2012
Source: HSBC

Ratios (%)
49.5 65.6 70.2 87.2 111.9
23.6 23.9 9.7 -43.4 -26.4
24.6 28.0 31.6 76.3 61.1
23.0 24.6 26.7 54.6 47.3
Per share data
0.5 26.6 46.7 19.3 69.7 68.0 164.7 3.5 28.8
0.4 23.3 21.4 8.5 69.8 60.3 2.5 108.0 2.3 43.1
0.5 27.8 28.6 13.6 71.7 63.7 3.7 74.1 1.5 68.1
0.6 33.6 37.2 20.2 72.6 65.6 6.9 55.2 1.0 102.6
1.08 1.08 1.29 3.29
0.79 0.79 0.24 4.11
1.28 1.28 0.49 4.81
1.88 1.88 1.57 5.30
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Deutsche Brse
Despite being the most diversified exchange group globally, and
potential synergies of EUR11.77 per share from its proposed merger with NYSE Euronext, Deutsche Brses shares have not performed
The macroeconomic environment and fears about the possible
introduction of the FTT have weighed heavily on the share price performance
Although we cut our target price from EUR73 to EUR55 to factor
in a 25% discount for FTT risk, we see 34% potential return and stay Overweight
Investment case
Deutsche Brse has a presence across the entire exchange value chain, from the trading of European bonds and equities, and European and US derivatives, to the clearing and settlement and international custody business. Despite being the most diversified exchange group globally and benefiting from the prospective merger with NYSE Euronext, for which we estimate the synergies to be
worth up to EUR11.77 per share, the shares have not performed. The adverse macroeconomic environment and fears about the possible introduction of the FTT have weighed heavily on the share price performance in the last months. Using our equity value model, we now arrive at a reduced target price of EUR55 (down from EUR73). As at 21 October, the stock was trading on a PE of 9.3x for 2011e and 7.7x for 2012e. This means
Johannes Thormann* Analyst HSBC Trinkaus & Burkhardt AG, Germany + 49 211 910 3017 johannes.thormann@hsbc.de
*Employed by a non-US affiliate of HSBC Securities (USA) Inc, and is not registered/ qualified pursuant to FINRA regulations

Other 2%
Trends in EBITA margin and ROE after taxes

70% Xetra 12% ISE 5% 60% 50% 40% 30% 20%
MD&A 10% NIFB 3%
Clear s tream 34%
Eurex 35%
10% 0% 08a 09a 10a 11e 12e 13e
EBIT margin
Source: Company data, HSBC estimates Source: Company data, HSBC estimates
RoE after tax es
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Deutsche Brse is trading at what we consider to be an unjustified discount to the HSBC global exchanges sector, with its adjusted PEs of 14.1x for 2011e and 12.3x for 2012e. In our view, Deutsche Brse should trade at a premium to its European und US peers, as it offers above-average growth potential and good diversification. The dividend of EUR2.1 has been stable for the past four years, despite the financial crisis, and we think it should stay at least at that level in 2011. Factoring in the proposed special dividend of EUR2.0 on top of the normal dividend after the closing of the planned merger with NYSE Euronext would imply a total yield of 10.0% another reason to buy the stock, in our view, despite the risk related to the introduction of a FTT.
They could offer additional price cuts for derivatives trading and clearing which is almost as likely, because the combination of volume rebates would already have such an impact and, historically, price reductions have always been offered when exchanges merged. The licensing of Eurostoxx and Bund derivatives could be likely as well, because Deutsche Brse would still get some fees, and liquidity is still in favour of trading on Eurex. However, the main point would be the level of fees. At EUR0.30 per Eurostoxx 50 contract, the competition could offer few savings after adding own trading and clearing costs, but at EUR0.15, competition could increase and could force Eurex to lower trading costs (which could be another reason for pursuing the second option). The opening of clearing operations would be more difficult to accept. It clearly depends on conditions, but we assume that Deutsche Brse and NYSE Euronext would accept this if there were reciprocity from other clearing houses. Furthermore, the question of full fungibility of products has not been answered either. However, regulators might still have some concerns about interoperability and could block this. Deutsche Brse and NYSE Euronext could offer the sale of German cash clearing operations to form non-profit utility with Clearnet. Although this does not really have anything to do with the derivatives business, it could offer an opportunity to appease politicians because this Eurozone clearing house would clearly make Eurozone listings more attractive. The final remedy is the sale of NYSE Liffe; we still believe this to be the most unlikely one, because this is one of the main reasons for the merger.
Merger update
Deutsche Brse and NYSE Euronext are now in the second stage of a European Commission review. The European Commission seems to have three major points in its statement of objections according to Dow Jones Newswires on 13 October. These are the opening up of derivatives clearing, the licensing of index products and the merged entitys market share in European exchange traded derivatives of more 93% versus an estimated market share of less than 15-20% if we include the European OTC products. (However, at the global level, the market share of exchange traded derivatives would be 21%.) A redacted copy of the statement of objections was circulated last week. An oral hearing will be held by the European Commission on 27 October according to Reuters. We think that Deutsche Brse and NYSE could offer different remedies for the European Commissions concerns, which we rank below by what we consider to be the likelihood that they will be proposed. 1 Both companies could offer price caps for derivatives trading and clearing (or even other product categories) at current levels, which seems very likely as trading prices normally trend downwards. 4
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Cash trading volumes on Xetra (m trades)

80 60 40 20 0 Q1 Q2 2009a
Monthly average trading activity on Eurex

12. 50 10. 00 7. 50 5. 00 2. 50 0. 00 Jan Mar Jul May Sep
Q3 2010a 2011e
Q4
Mtl avrg '09

M tl av rg '10
Mtl av rg '11
Dow Jones stated that both companies could send their proposals to the European Commission on 8 November at the earliest. The European Commission has pushed back the review deadline from 13 December to 22 December 2011.
Trading volume update

Xetra recorded a record quarter in terms of number of trades in Q3 2011. The value traded is the other important driver for revenues and Q3 showed very good trend in this respect as well. As market cap has declined, the volume risks are more to the upside. As anticipated, Eurex volumes are growing again y-o-y after showing some weakness in growth during Q2 2011. But a very strong Q3 more than compensated for this. Even more important, the
Daily average options trading volumes (m) per quarter on ISE
4.50 4.00 3.50 3.00 2.50 2.00 1.50
product mix shifted to high-margin index derivatives (average margin per contract in H1 2011 was EUR0.46) whereas Q2 saw much more low-margin index options (average margin in H1 2011 at EUR0.10). On the next page, we have tried to model the sensitivity of Eurex trading volumes to ECB interest rate changes to get a feeling for the outlook. The trading activity on ISE in the US also recovered, with Q3 2011 clearly above the previous quarter and year. The market share for ISE is now at 17.1% for Q3 2011, 17.1% for 9M 2011 versus 19.1% for 2010. Clearstreams assets under custody showed no growth during the summer as a positive trend in international assets was offset by decline of domestic assets due to slump in markets. We find
Development of assets under custody (EURtrn)

15.0 12.5 10.0 7.5 5.0 2.5
1.00 0.50 0.00 Q1 09 Q2 09 Q4 09 Q1 10 Q4 10 Q4 11e Q3 09 Q2 10 Q3 10 Q2 11 Q1 11 Q3 11e
0.0 2006a 2008a 2011e 2013e 2007a 2009a 2010a 2012e
intl
domestic
Nov
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Quarters selected for our correlation analysis 2000 to 2011

250 200 150 100 50 0 Q3 2006 Q3 2000 Q4 2001 Q1 2006 Q1 2007 Q1 2009 Q2 2001 Q1 2004 Q3 2008 Q2 2011 Q1 2000 5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0
Correlation analysis from 2008 to 2011

4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 Q3 2008 Q4 2008 Q1 2009 Q2 2009 Q2 2011 180 160 140 120 100 80 60 40 20 0
ECB benchmark rate (RH)
Eurex contracts (LH)

EC B benc hmark rate (LH) Eurex contracts (RH)
Source: Company data, ECB, HSBC estimates
it remarkable that total assets under custody have barely moved in the last five years despite all the market turbulence. It shows the stability of this business line. Nevertheless, the number of transactions settled benefited from increased trading activity.
correlation over the entire period was affected negatively by these quarters. However, taking into account only the quarters since Q4 2008, correlation stood at 0.95 in the last three years. If we perform the same analysis for 2001 to H1 2011, the correlation would be much lower, just 0.248. The low correlation between rate and fixedincome derivative volume changes in the long run can at least partly be explained by the growth of the interest rate derivative market in the early 2000s. While rate levels decreased, derivative volumes went up due to the increase of banks balance sheets. During four of the seven quarters considered in our analysis, between 2001 and 2004, rate levels and derivative volumes moved in opposite directions, especially in 2001. Rates were lowered during each of the first three quarters while fixed-income derivative volume increased in all three quarters. Thus one uncertainty is whether future deleveraging of banks balance sheets will impact trading volumes.
Eurex interest rate sensitivity

In the current market environment, in which the direction of future interest rates is uncertain, we decided to analyse the sensitivity of Eurex trading volumes to interest rate changes. To analyse the drivers, we used the quarterly volume data for fixed-income derivatives traded on Eurex and ECBs benchmark interest rate decisions.
Correlation analysis of ECBs benchmark interest rate and fixedincome derivatives traded on Eurex 2000-2011 2004-2011 2008-2011
All Qs IR change Qs only

0.130 0.248
0.211 0.531
0.268 0.950
Although we only took into account the quarters in which interest levels changed and cleaned the data for quarters in which ECB rates remained unchanged, we came to a correlation of 0.53 in the period between Q4 2005 and H1 2011(with 13 quarters in the specified period). However, we note that during five of these 13 quarters, fixedincome derivative volume moved inversely to interest rate changes. Consequently, the
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Quarterly results for Deutsche Brse EURm Q3 2010a Q2 2011a Q3 2011e 605 76 275 59 195 20 645 320 330 402 315 1.69 Q3 2011e diff. q-o-q y-o-y
Net sales Xetra Eurex Market Data & Analytics Clearstream Net income from banking Total revenues Total costs EBIT Pre tax result Net result EPS (EUR)
504 63 196 55 190 16 532 287 245 226 161 0.87
529 66 219 59 185 19 560 289 277 259 179 0.96
580 79 254 60 188 19 612 304 310 288 205 1.10
4% -4% 8% -2% 4% 5% 5% 5% 6% 39% 54% 54%
14% 16% 26% 0% 5% 8% 15% 11% 19% 55% 76% 76%
20% 20% 40% 7% 3% 27% 21% 11% 35% 78% 95% 95%
Preview of Q3 results
After releasing some preliminary results on the evening of 19 October, Deutsche Brse will release its full Q3 report on the evening of 27 October. The preliminary Q3 results were much better than expected. The company showed better operational performance, leading to stronger-thanexpected EBIT. The net profit was inflated by a one-off effect. Still, operating profit and net profit were both better than market expectations. Looking at sales in detail, we assume Xetra fees should be up q-o-q and y-o-y due to strong rise in trading volumes despite average margin per trade falling to EUR1.00 (versus EUR1.26 in Q2 2011 and EUR1.40 in Q3 2010). Thus Xetra should be tick weaker than we had initially estimated.
Eurex has also seen higher trading volumes q-o-q and y-o-y. The margin should rise q-o-q to EUR0.36 from EUR0.28 in Q2, while declining slightly y-o-y from EUR0.34 due to a shift in the product mix away from low-margin equity options towards high-margin index contracts. Clearstreams revenues should be affected by a decline in the assets under custody q-o-q as well as y-o-y. However, the number of transactions settled increased q-o-q as well as y-o-y. We also saw increased GSF volumes at an average of EUR619bn in Q3 2011, leading to better-thanexpected revenues in this business line. Net income from banking should be slightly up, owing to higher money market rates in the Eurozone, but impacted by lower average cash balances.
Changes to HSBC forecasts for Deutsche Brse EURm ____________2011e ____________ New Old Diff. ___________ 2012e ____________ New Old Diff. ___________ 2013e ____________ New Old Diff.
Net sales Xetra Eurex Market Data & Analytics Clearstream Net income from banking Other income Total revenues Total costs EBIT Pre tax result Tax charge Net income EPS (EUR)
2,228 279 943 236 770 76 48 2,352 1,212 1,160 1,122 280 817 4.40
2,218 283 933 238 764 75 48 2,341 1,168 1,191 1,111 300 787 4.23
0% -1% 1% -1% 1% 1% 0% 0% 4% -3% 1% -6% 4% 4%
2,505 301 1,131 250 823 90 16 2,611 1,174 1,458 1,370 356 987 5.31
2,494 301 1,124 252 817 90 16 2,600 1,174 1,446 1,358 353 979 5.27
0% 0% 1% -1% 1% 0% 0% 0% 0% 1% 1% 1% 1% 1%
2,674 325 1,217 264 868 106 18 2,798 1,210 1,610 1,522 396 1,099 5.91
2,666 325 1,211 266 864 106 18 2,790 1,210 1,602 1,514 394 1,092 5.88
0% 0% 1% -1% 0% 0% 0% 0% 0% 1% 1% 1% 1% 1%
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We expect administrative costs to be up q-o-q due to seasonal trends. The company flagged EUR25m of merger-related costs which should lead to a q-o-q as well as y-o-y increase. The financial result for Q3 2011 included a gain of EUR94m which is non-cash and non-taxable. This results from the mark-to-market valuation of liabilities relating to the share component of the Eurex acquisition from SIX Group. The gain is based on a share price of EUR37.98 at end-Q3 2011 versus EUR53.50 at deal closing on 7 June 2011. If the shares recover by year-end, Deutsche Brse will have to book a loss again. We expect a tax rate of 20%, below company guidance of 25-27%, after the headquarters were moved to Eschborn, due to the above mentioned one-off.
Changes to our forecasts
HSBC EPS versus consensus

HSBC EPS versus consensus EPS (EUR) on 20 October 2011
7.00 6.00 5.00 4.00 3.00 2.00 1.00 0.00 2011e HSBC EPS
5. 91 5. 31 4.40 4. 29 4. 81 5.27
2012e Cons ens us EPS
2013e
Our stand-alone forecasts are 2% above the median consensus for 2011e, as shown in the chart above. Furthermore, we are 10% and 12% above consensus for 2012e and 2013e. The main reason is likely to be that our sales forecasts are higher, driven by trading volumes expectations.
For FY 2011 and the following years, we have made minor adjustments to our forecasts, as shown in the table on the previous page. We increased our forecasts for Eurex to factor in better margin per contract. Clearstream is driven by better GSF revenues. We slightly reduced our expectations for Xetra and MD&A. Furthermore, we factored higher costs into our FY 2011e numbers. We assume a 50% reversion of the oneoff effect booked in Q3 2011 because this is the mid-value of the possible range. The FY 2011 tax rate is expected to be 25%, below the guidance due to the above-mentioned one-off effect.
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Deutsche Brse valuation model 2011e Mix 11/12e 2012e 29.9% 8.1% 3.68 19.37 71.2 2.10 73 -18.32 55 34% Mix 12/13e 2013e 2014e
Adj. RoE CoE Multiplier Equity capital per share (EUR) Business value (EUR) Dividend estimate (EUR) Fair value (EUR) 25% Discount Fair value (EUR) Potential return
27.4% 8.1% 3.38 16.16 54.6 2.10 57 -14.16 42 3%
28.7% 8.1% 3.53 17.77 62.6 2.10 65 -16.18 49 18%
28.8% 8.1% 3.55 21.27 75.4 2.10 78 -19.38 58 42%
27.8% 8.1% 3.41 23.18 79.1 2.10 81 -20.31 81 98%
25.4% 8.1% 3.12 27.51 86.0 2.10 88 -22.01 88 114%
Valuation
We cut our target price for Deutsche Brse to EUR55 (from EUR73), based on our unchanged 2012e forecasts but now assigning a 25% discount to the fair value. We divide our adjusted ROE estimate of 29.9% by our cost of equity of 8.1%, which is calculated using the CAPM approach, and use a risk-free rate of 3.5%, a beta of 0.93 and the HSBC risk premium of 5.0%. We multiply this value by the estimated book value of EUR19.16 and add the 2011 dividend estimate of EUR2.10. (The 2011e dividend could be even higher if the proposed special dividend of EUR2.00 is paid after the closing of the merger with NYSE Euronext.) From this we derive a fair value of EUR73. We then introduce a 25% discount for the risk of the potential introduction of the FTT in either the Eurozone or Europe to arrive at our new target price of EUR55. Under our research model, for stocks without a volatility indicator, the Neutral band is five percentage points above and below the hurdle rate for Europe ex-UK stocks of 8.5%. This translates into a Neutral band of 3.5% to 13.5% above the current share price. As our new 12-month target price of EUR55 implies a potential return of 34%, based on the price at close on 21 October, which is above this band, we reiterate our Overweight rating. Our sensitivity analysis yields a fair value range of EUR45-EUR72 per share, which suggests that with more cautious standard assumptions than
in our base case, the stocks potential return would be 9%, leading to a Neutral rating. Applying a lower risk premium and interest rate, the potential return could be higher (74%) than in our base case.
Sensitivity analysis _______ Risk premium (%) ________ 4.0 4.5 5.0 5.5 6.0 Risk free rate (%) 2.50 3.00 3.50 4.00 4.50
72 66 62 58 54
67 62 58 55 52
62 58 55 52 49
59 55 52 49 47
55 52 50 47 45
Investment risks
The most significant downside risk to our Overweight rating for Deutsche Brse is that the proposed merger with NYSE Euronext fails. Another risk is the introduction of a FTT in Europe or the Eurozone. Furthermore, renewed fears about the state of the global economy could affect market sentiment and drive back down trading volumes, which are currently recovering. Additionally, margin pressure on cash trading could increase again, owing to increased competition from MTFs (multilateral trading facilities). Last but not least, upcoming new EU and US regulations on trading and post-trade services could have a negative impact on the revenues of the new group.
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Deutsche Brse P&L with pro forma estimates for the merged entity EURm DB1 09a DB1 10a DB1 11e DB1 12e PF 2012e DB1 13e PF 2013e
Net sales thereof Xetra % Eurex % Market Data & Analytics % Information Technology % Clearstream % Net income from banking % Other income % Total revenues % Personnel expenses % Other administrative costs % Depreciation % Total costs % Income from associates % EBIT % Financial result % Operating profit % Goodwill % Extraordinaries % Pre tax profit % Taxes Tax rate Minorities Net income % Earnings per share (EUR) %
2,061.7 -16.0% 251.0 -37.2% 804.0 -20.4% 188.5 4.4% 97.4 1.8% 720.8 -6.3% 97.4 -58.9% 163.5 72.7% 2,322.6 -16.7% 405.9 -3.7% 705.0 -2.8% 569.1 315.1% 1680.0 30.8% -4.8 -182.8% 637.8 -57.7% -79.7 101.8% 558.1 -62.0% 0.0 0.0% 0.0 0.0% 558.1 -62.0% 86.9 15.6% -24.9 496.1 -52.0% 2.67 -50.8%
2,106.3 2.2% 262.3 4.5% 858.7 6.8% 224.6 19.2% 0.0 -100.0% 760.7 5.5% 59.4 -39.0% 61.0 -62.7% 2,226.7 -4.1% 502.0 23.7% 625.6 -11.3% 583.0 2.4% 1,710.6 1.8% 12.2 -354.2% 528.3 -17.2% -108.2 35.8% 420.1 -24.7% 0.0 0.0% 0.0 0.0% 420.1 -24.7% 24.5 5.8% -22.7 418.3 -15.7% 2.25 -15.7%
2,227.8 5.8% 279.0 6.4% 942.8 9.8% 236.0 5.1% 0.0 n/a 770.0 1.2% 76.0 27.9% 48.0 -21.3% 2,351.8 5.6% 396.0 -21.1% 724.0 15.7% 92.0 -84.2% 1,212.0 -29.1% 20.0 63.9% 1,159.8 119.5% -38.0 -64.9% 1,121.8 167.0% 0.0 0.0% 0.0 0.0% 1,121.8 167.0% 280.5 25.0% 24.0 817.4 95.4% 4.40 95.4%
2,504.6 12.4% 301.0 7.9% 1130.6 19.9% 250.0 5.9% 0.0 n/a 823.0 6.9% 90.0 18.4% 16.0 -66.7% 2,610.6 11.0% 440.0 11.1% 636.0 -12.2% 98.0 6.5% 1174.0 -3.1% 21.0 5.0% 1,457.6 25.7% -88.0 131.6% 1,369.6 22.1% 0.0 0.0% 0.0 0.0% 1,369.6 22.1% 356.1 26.0% 26.0 987.5 20.8% 5.31 20.8%
4,506.4 102.3% 1037.1 271.7% 1788.0 89.6% 576.3 144.2% 282.0 n/a 823.0 6.9% 90.0 18.4% 171.1 256.4% 4,767.5 102.7% 814.3 105.6% 1141.0 57.6% 256.0 178.3% 2,211.3 82.4% 21.0 5.0% 2,577.2 122.2% -161.3 324.5% 2,415.9 115.4% 0.0 0.0% -450.0 0.0% 1,965.9 75.2% 572.4 29.1% 11.2 1,382.2 69.1% 4.48 1.9%
2,674.5 6.8% 325.0 8.0% 1217.5 7.7% 264.0 5.6% 0.0 n/a 868.0 5.5% 106.0 17.8% 18.0 12.5% 2,798.5 7.2% 460.0 4.5% 656.0 3.1% 94.0 -4.1% 1210.0 3.1% 22.0 4.8% 1,610.5 10.5% -88.0 0.0% 1,522.5 11.2% 0.0 0.0% 0.0 0.0% 1,522.5 11.2% 395.8 26.0% 28.0 1098.6 11.3% 5.91 11.3%
4,876.1 8.2% 1107.4 6.8% 1988.9 11.2% 601.6 4.4% 310.2 n/a 868.0 5.5% 106.0 17.8% 181.6 6.1% 5,163.6 8.3% 795.5 -2.3% 1115.1 -2.3% 227.7 -11.1% 2,138.3 -3.3% 22.0 4.8% 3,047.3 18.2% -150.9 -6.4% 2,896.4 19.9% 0.0 0.0% -300.0 0.0% 2,596.4 32.1% 649.4 25.0% 12.5 1,934.6 40.0% 6.27 40.0%
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Deutsche Brse balance sheet EURm 2009a 2010a 2011e 2012e 2013e
Non-current assets Intangible assets Property, plant and equipment Financial assets Miscellaneous and deferred taxes Current assets Receivables and securities from banking business Other receivables and other assets Financial instruments of Eurex Clearing Restricted bank balances Other cash and bank balances Total assets % Subscribed capital Share premium Legal reserve and other retained earnings Revaluation surplus Unappropriated surplus Shareholders equity % Minorities Non-current provisions Current provisions Non-current liabilities Financial instruments of Eurex Clearing Other current liabilities Total shareholders equity and liabilities %
3,432 99 1,710 10 7,192 433 143,178 4,746 560 161,361 11% 195 1,247 -588 125 1,887 2,866 8% 473 111 384 1,983 143,178 15,232 161,361 11%
3,090 138 1,806 35 7,585 389 128,824 6,186 797 148,851 -8% 195 1,247 -587 125 1,971 2,951 3% 459 108 480 1,763 128,824 17,218 148,851 -8%
2,988 140 1,700 50 8,100 440 144,000 6,500 2,082 166,000 12% 195 1,247 -580 119 2,026 3,007 2% 202 130 350 2,100 144,000 19,218 166,000 12%
2,988 160 2,100 55 8,600 490 160,000 7,000 2,607 184,000 11% 195 1,247 -580 119 2,623 3,604 20% 202 150 450 2,400 160,000 20,798 184,000 11%
2,988 180 2,500 60 9,100 540 176,000 7,500 3,132 202,000 10% 195 1,247 -580 119 3,331 4,312 20% 202 170 500 2,700 176,000 22,428 202,000 10%
Key figures for Deutsche Brse 2009a 2010a 2011e 2012e 2013e
EBITA (in EURm) EBIT (in EURm) Dividend (in EUR) Dividend ratio Book value (in EURm) Net tangible equity (in EURm) Net tangible equity per share (in EUR) Equity ratio Adjusted equity ratio RoE before taxes RoE after taxes Adj. ROE Cost/Income Ratio EBIT margin Interest coverage ratio
637.8 637.8 2.10 79% 15.41 55 0.30 1.8% 45.9% 20.2% 18.0% 25.8% 72.3% 27.5% 15.1
528.3 528.3 2.10 93% 15.86 320 1.72 2.0% 47.2% 14.4% 14.4% 28.7% 76.8% 23.7% 16.8
1,159.8 1,159.8 2.10 48% 16.16 222 1.19 1.8% 40.6% 37.7% 27.4% 27.4% 51.5% 49.3% 36.6
1,457.6 1,457.6 2.10 40% 19.37 818 4.40 2.0% 42.9% 41.4% 29.9% 29.9% 45.0% 55.8% 19.6
1,610.5 1,610.5 2.10 36% 23.18 1,526 8.20 2.1% 45.9% 38.5% 27.8% 27.8% 43.2% 57.5% 19.4
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Financials & valuation: Deutsche Brse

Financial statements Year to P&L summary (EURm) 12/2010a 12/2011e 12/2012e 12/2013e Core profitability (% RWAs) and leverage Year to 12/2010a 12/2011e
Overweight
12/2012e 12/2013e
Net interest income Net fees/commissions Trading profits Other income Total income Operating expense Bad debt charge Other HSBC PBT Exceptionals PBT Taxation Minorities + preferences Attributable profit HSBC attributable profit
-48.8 2106.3 0.0 61.0 2118.5 -1710.6 0.0 12.2 420.1 0.0 420.1 -24.5 22.7 418.3 418.3
38.0 2227.8 0.0 48.0 2313.8 -1212.0 0.0 20.0 1121.8 0.0 1121.8 -280.5 -24.0 817.4 817.4
2.0 2504.6 0.0 16.0 2522.6 -1174.0 0.0 21.0 1369.6 0.0 1369.6 -356.1 -26.0 987.5 987.5
18.0 2674.5 0.0 18.0 2710.5 -1210.0 0.0 22.0 1522.5 0.0 1522.5 -395.8 -28.0 1098.6 1098.6
Net interest income Trading profits Other income Operating expense Pre-provision profit Bad debt charge HSBC attributable profit Leverage (x) Return on average tier 1
-1.1 0.0 1.4 -40.1 9.6 0.0 9.8 1.5 28.8
0.9 0.0 1.1 -28.0 25.5 0.0 18.9 1.5 65.3
0.0 0.0 0.3 -24.4 28.0 0.0 20.5 1.5 53.4
0.3 0.0 0.3 -22.8 28.3 0.0 20.7 1.3 43.0
Balance sheet summary (EURm)
Ordinary equity HSBC ordinary equity Debt securities holdings Total assets
Capital (%)
2951.4 2951.4 128823.7 148850.5
3007.1 3007.1 144000.0 166000.0
3603.9 3603.9 160000.0 184000.0
4311.8 4311.8 176000.0 202000.0
PE* Pre-provision multiple P/NAV Equity cash flow yield (%) Dividend yield (%)
18.1 18.6 5.5 5.1
9.3 6.9 390.0 9.9 5.1
7.7 5.6 12.3 12.0 5.1
6.9 5.1 5.7 13.4 5.1
Issuer information
RWA (EURm) Total capital
4093.4 20.9
4565.0 18.9
5060.0 17.0
5555.0 46.0
Share price (EUR)
41.08 Target price (EUR)
55.00 Potentl return (%) 33.9 63DU GR 8010.6
Ratio, growth & per share analysis Year to Year-on-year % change 12/2010a 12/2011e 12/2012e 12/2013e
Reuters (Equity) DB1Gne.DE Market cap (USDm) 11109.9 Free float (%) 100 Country Germany Analyst Johannes Thormann
Notes: price at close of 21 Oct 2011
Bloomberg (Equity) Market cap (EURm)
Sector Diversified Financial Services Contact +49 211 910 3017
Total income Operating expense Pre-provision profit EPS HSBC EPS DPS NAV (including goodwill)
Ratios (%)
-5.5 1.8 -27.5 -15.7 -15.7 0.0 3.0
9.2 -29.1 170.1 95.4 95.4 0.0 1.9
9.0 -3.1 22.4 20.7 20.7 0.0 19.8
7.4 3.1 11.3 11.3 11.3 0.0 19.6
Price relative
67 62 57 52 47 42 37 32
Oct-1 0 Deutsche Boerse Apr-11 Rel to D AX-100
67 62 57 52 47 42 37 32
Oct-11
Cost/income ratio ROE (including goodwill)

Per share data (EUR)
80.7 14.4
52.4 27.4
46.5 29.9
44.6 27.8
EPS reported (fully diluted) HSBC EPS (fully diluted) DPS NAV NAV (including goodwill)
2.25 2.25 2.10 -0.74 15.87
4.40 4.40 2.10 0.10 16.17
5.31 5.31 2.10 3.31 19.37
5.91 5.91 2.10 7.12 23.18
Source: HSBC
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Dubai Financial Market

Near-term revenue outlook remains challenging as the continued
market sell-off impacts DFMs trading-based fee income

We see little room for cost efficiency gains, which would further
constrain its short-term profitability

We maintain our Neutral rating but cut our target price to AED1.15
from AED1.40 due to changes in our fee income estimates
Investment case
The near-term outlook for DFMs business remains challenging as subdued market activity and poor investor sentiment is likely to impact its trading-based fee income, and there is limited room for the company to achieve cost efficiency gains as the bulk of its costs are fixed. We maintain our Neutral rating on the stock but cut our target price to AED1.15 from AED1.4 due to changes in our revenue estimates. The stock has lost 34% y-t-d and 45% y-o-y, and currently trades at a 2012e PE of 60.6x compared to a global peer average of 15.5x or adjusted for DFM
12.3x. We highlight that there are only a few potential catalysts that could lead to our most positive view on the stock. These include a potential inclusion of UAE in the MSCI Emerging Markets Index (an announcement is expected in November 2011) and a possible merger with the Abu Dhabi Stock Exchange (ADX), which could benefit DFM in terms of additional revenue and cost synergies.
Shirin Panicker* Analyst HSBC Securities (Egypt) S.A.E. + 202 2529 8439 shirinpanicker@hsbc.com Aybek Islamov*, CFA Analyst HSBC Bank Middle East Ltd +971 4423 6921 aybek.islamov@hsbcib.com Vikram Viswanathan* Analyst HSBC Bank Middle East Ltd. +971 423 6931 vikramviswanathan@hsbc.com
Changes to our estimates

Trading values on DFM totalled AED28bn during 9M 2011, down 52% y-o-y. With no sign of improvements in sentiment on global and regional
Revenue breakdown 2011e for DFM
Fee from Nasdaq Dubai 4%
100%
8% 6% 4% 2% 0% 2009a 2010a 2011e 2012e 2013e 2014e EBITDA Margin (LHS) ROE (RHS)
Trading Comm fee 58%
80% 60% 40% 20% 0%
Other fee 24%

Brokerage fee 14%
Source: DFM, HSBC estimates
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equity, we are cutting our trading estimates for 2011e-13e. We estimate total trading values will reach AED40bn for 2011e (down from a previous forecast of AED62bn), AED90bn in 2012e (down from AED172bn) and AED175bn (versus our old estimate of AED250bn). We note that our trading value estimate for 2011e is based on the current volumes run-rate. Consequently, our revised earning forecasts for 2011e reach AED28m (down 36% from our previous forecast), AED131m in 2012e (down 49% versus our previous estimate) and AED302m in 2013e (down 27%). The table below summarises our key estimate changes.
Key changes to our estimates for DFM Year end Dec. AEDm __ CAGR 2010-13e (%) _ Actual New Old New Old New Old New Old 2010 2011e _2012e 2013e
Stress-testing DFMs core estimates under different market scenarios 2011e-16e Bull Base Bear
Market Cap (CAGR) Trading velocity (Av.) Trading values (CAGR) Total fee income (CAGR) Cost/fee income (Av.) Investment mark-to-market
Fair values (AED/share) Market price (AED/share) Upside/downside potential
21% 82% 67% 48% 32% 1.2x

1.46 1.02 43%
17% 66% 59% 43% 38% 1x

1.15 1.02 13%
8% 46% 44% 31% 60% 0.8x

0.65 1.02 -36%
Bull case
Under this scenario, we expect a faster recovery in trading values for DFM driven by stronger investor appetite for UAE equities, and the issuance of some IPOs in 2013. We estimate that trading values will increase to AED172bn in 2012e (above our base-case estimate of AED90bn) and AED307bn in 2013e (versus our base-case estimate of AED175bn) from AED40bn in 2011e. We also expect trading velocity on the DFM exchange to reach 85% in 2012e (versus our base-case estimate of 45%) and 125% in 2013e (compared with our base-case estimate of 80%). In addition, we pencil in a 20% increase in value of its investments including Islamic deposits. Our valuation under this scenario reaches AED1.46 per share (versus the AED1.15 target price in our base case), implying a 43% potential return from the latest market price.
Total fee income Net fee income Margins (%) Other Income Other Cost Net Income
189 154 177 254 406 430 572 75 40 75 -72 79 36 23 68 -76 28 52 29 69 -77 44 126 261 50 64 75 71 -71 -75 131 257 290 406 67 71 84 85 -71 -75 302 416
31 57 27 3 0 57
45 75 31 4 1 74
Average daily trading values (ADTV) and trading velocity estimates for DFM
200 150 AEDbn 100 40% 50 2009 ADTV(LHS)
100% 80% 60%
20% 0% 2010 2011e 2012e 2013e
Trading v elocity (RHS)
Bear case
Stress-testing core estimates

We also stress-test our core assumptions for DFM under a bull and a bear market scenario, as indicated in the table below.
Here we predict that trading velocities will remain poor, averaging 20% throughout 2012 to 2013 similar to what we estimate for 2011 as we assume that the global and regional markets turmoil will prolong negative investor sentiment for the UAE markets and delay the launch of various IPOs to beyond 2013. This translates into a total trading value of AED38bn in 2012e (down
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from our base-case estimate of AED90bn) and AED56bn in 2013e (vs. our base-case estimate of AED175bn). We also write off 20% of its investments given poor market conditions. Our valuation under this scenario reaches AED0.65 per share (versus the AED1.15 target price in our base case), implying a negative potential return of 36% versus the current market price.
return of 16.3%, within the Neutral band; therefore, we are reiterating our Neutral rating. Potential return equals the percentage difference between the current share price and the target price, including the forecast dividend yield when indicated. The stock is currently trading at a relatively expensive 2012e PE multiple of 60.6x versus a global exchange peer average of 15.5x or adjusted for DFM 12.3x. Our Neutral rating reflects continued weak trading levels on its exchange and its expensive valuation relative to its global peers. The following table summarises our new sum-ofthe-parts valuation estimates.
DFMs sum-of-the-parts valuation estimates AEDm (except share data) New Old

Our EPS estimates for 2011e are lower than consensus, most likely due to our lower tradingbased fee income estimates. However, we are slightly ahead of consensus for 2012e and 2013e as we expect UAE markets to recover starting H2 2012e due to stable economic conditions.
2011e-13e EPS estimates by HSBC vs. consensus
0.04
Franchise value Net cash & inv Equity value Number of shares (m) Value per share (AED)
6,814 2,377 9,191 8,000 1.15
11,078 2,201 10,917 8,000 1.4
AED
0.02
Investment risks
2011e HSBC EPS 2012e Consensus EPS 2013e
Source: HSBC estimates, Bloomberg
Valuation
We value DFM using a sum-of-the-parts (SOTP) analysis, where we first discount its net fee income using a COE of 12% and then add cash, cash equivalents and investments at book value (estimated as at end-2011e) as we roll over our base year to 2012. Under our DCF, we calculate the COE of 12% using CAPM where the risk-free rate is 3.5%, equity risk premium is 10% and beta is 0.9x. Under our research model, for stocks with a volatility indicator, the Neutral band is 5ppts above and below the hurdle rate for UAE stocks of 13.5%. Our target price implies a potential
The main upside risks to our valuation include a faster-than-expected recovery in global and regional markets, leading to a greater-than-expected rise in trading volumes, the revival of its IPO pipeline or additional company listings that boost its tradingbased fee income, as well as an upward revaluation of the companys investment holdings. The main downside risks to our valuation include: the effects from continued unrest in the MENA region spilling over into UAE markets leading to continued lacklustre market activity and negative investor sentiment, resulting in lower-thanforecast trading-based revenues for DFM; earnings deterioration owing to higher expenses and/or higher impairment charges on the companys available-for-sale (AFS) investments.
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DFM: income statement AEDm 2009 2010 2011e 2012e 2013e 2014e
Trading commission fee Brokerage fee Ownership transfer and other fee Other fee Total fee income General and administrative expenses
Net fee income
375 21 6 5 406 -69

337
159 21 7 3 189 -114

75
96 21 25 12 154 -119
36
197 22 21 14 254 -128

126
367 24 22 18 430 -141

290
598 26 22 20 666 -158

508
Net investment revenue Gain in revaluation of investments in marketable securities held for trading Other income Depreciation & amortization of intangible assets Other expenses Net profit for the year before extraordinary income Initial public offering Income Minority interest Net profit for the year
92 0 6 -87
347 0 0 347
73 1 1 -76 -2 73 0 -5 79
65 1 2 -78 -9 17 0 -11 28
72 2 1 -82 0 119 0 -11 131
80 2 1 -82 0 291 0 -11 302
93 2 1 -83 0 521 0 -11 533
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DFM: balance sheet AEDm Assets Cash and bank balance Islamic investment deposits Prepaid investment and other receivable Other financial assets Due from related parties Total current assets 2009 2010 2011e 2012e 2013e 2014e
33 1,482 27 0 4 1,546 1,042 30 2,723 2,879 6,674

8,221
248 1,133 24 10 3 1,417 932 40 2,647 2,879 6,498

7,915
129 1,416 31 10 3 1,589 852 38 2,571 2,879 6,340

7,929
113 1,629 51 12 3 1,807 852 37 2,496 2,879 6,263

8,070
266 1,792 86 14 3 2,160 852 35 2,420 2,879 6,186

8,346
366 1,971 133 17 3 2,489 852 38 2,344 2,879 6,113

8,602
Other financial assets Property and equipment Intangible assets Goodwill & and other net assets acquired Total non-current assets
Total assets Liabilities Payable and accrued expenses Due to related parties Dividend payable Total current liabilities
22 49 123 194 3 0 3
197
41 49 206 296 6 58 64
360
231 49 0 280 6 59 65
345
241 49 0 290 6 59 65
355
323 49 0 371 6 59 65
436
333 49 0 382 6 59 65
447
Provision for employees end of service indemnity Deferred income government grant Total non-current liabilities
Total liabilities Shareholders equity Share capital Treasury shares Net initial public offering surplus Investment revaluation reserve Statutory and other reserve Retained earnings Total shareholders equity Minority interest Total liabilities and shareholders equity
8,000 -56 32 -1,163 239 972 8,023

8,221
8,000 -4 32 -945 247 194 7,523 31 7,915
8,000 -4 32 -945 250 232 7,564 20 7,929
8,000 -4 32 -945 263 361 7,706 9 8,070
8,000 -4 32 -945 293 537 7,912 -2 8,346
8,000 -4 32 -945 346 741 8,169 -14 8,602
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Financials & valuation: Dubai Financial Market

Financial statements Year to 12/2010a 12/2011e 12/2012e 12/2013e Valuation data Year to 12/2010a 12/2011e 12/2012e
Neutral
Profit & loss summary (AEDm)
12/2013e
Balance sheet summary (AEDm)
189 75 -76 0 -2 73 73 0 79 79
154 36 -78 -43 -2 17 17 0 28 28
254 126 -82 44 0 119 119 0 131 131
430 290 -82 207 0 291 291 0 302 302
EV/sales EV/EBITDA PE* P/Book value Dividend yield (%)
40.5 101.7 100.6 1.1 0.0
50.5 218.2 283.5 1.0 0.0
30.7 61.9 60.6 1.0 1.4
17.8 26.4 26.2 1.0 3.6
Issuer information
Share price (AED) 5,450 890 1,589 129 7,929 345 -129 7,564 5,375 889 1,807 113 8,070 355 -113 7,706 5,299 887 2,160 266 8,346 436 -266 7,912
0.99 Target price (AED)
1.15 Potentl return (%) 16.3
Intangible fixed assets Tangible fixed assets Current assets Cash & others Total assets Operating liabilities Net debt Shareholders funds
5,526 972 1,417 248 7,915 154 -248 7,523
Reuters (Equity) DFM.DU Market cap (USDm) 2,154 Free float (%) 20 Country United Arab Emirates Analyst Shirin Panicker
Bloomberg (Equity) DFM UH Market cap (AEDm) 7,912 Enterprise value (AEDm) 7783 Sector DIVERSIFIED FINANCIAL SERVICES Contact +202 2 5298439
Price relative
3.5 3.5 3 2.5 2 1.5 1 0.5 0 2010 2011 2012
Dubai Financial Market Source: HSBC Rel to DUBAI FINANCIAL MARKET INDEX
3 2.5 2 1.5

Ratios (%)
-53.4 -77.6 -100.2 -78.9 -77.5
-18.6 -52.7 -77.3 -64.5
64.8 253.4 617.4 368.2
69.4 129.7 371.6 143.7 131.3
1 0.5 0 2009
ROE ROA EBITDA margin Operating profit margin Net debt/equity Net debt/EBITDA (x) Per share data (AED) EPS Rep (fully diluted) HSBC EPS (fully diluted) DPS Book value
1.0 0.9 39.8 -0.2 -3.3 -3.3
0.4 0.2 23.1 -27.6 -1.7 -3.6
1.7 1.5 49.6 17.3 -1.5 -0.9
3.9 3.5 67.3 48.1 -3.4 -0.9
0.01 0.01 0.00 0.94
0.00 0.00 0.00 0.95
0.02 0.02 0.01 0.96
0.04 0.04 0.04 0.99
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Hellenic Exchanges
Declining trading activity adversely affects profitability; we forecast a
29% y-o-y drop in volumes for 2012e (to EUR60m)

Key merits are appealing valuation (2012e ex-cash PE of 5.0x, deep
discount to peers) and cash-rich balance sheet (54% of market cap); current price discounts 40% WACC and 2012e ADT of EUR45m
We reiterate Overweight (V) rating, but cut our target price to EUR4,
(EUR6.7) on volume forecasts down 55% for 2012e and 2013e, a higher WACC estimate and a 10% discount for the potential FTT
Investment case
Appealing valuation and cash-rich balance sheet the key investment attractions
We believe stock outperformance against the local market (-33% vs -45% for the Athens General index in the year to 21 October) has been driven by HELEXs deep value characteristics, namely its cash-rich balance sheet (solid net cash of EUR118m or EUR1.8 per share at the end of 2011 on our estimates, at 54% of current market cap). Valuation multiples have troughed, in our view, with shares
currently trading at 10x 2012e trough EPS, which is a c20% discount to peers (12.3x for 2012e, excluding DFM). On an ex-cash basis, shares currently trade at 5.0x trough 2012e EPS. Compared with our assumptions, we believe the current price is discounting 40% WACC (compared with our 15.6% base-case forecast) and 2012e average daily trading (ADT) volumes of cEUR45m (versus 9M 2011 average of EUR94m and our 2012 forecast of EUR60m).
Dimitris Haralabopoulos* Analyst HSBC Securities SA + 30 210 6965214 dimitris.haralabopoulos@hsbc.com
Other Deriv ativ es 19% 15%
Data v endors 9% OTC 3%
80% 60% 40% 20%
Listed cos & IPOs 19%

0% Cash mkt 35% 05a 06a 07a 08a EBIT margin %

Source: company data, HSBC estimates
09a 10a 11e
12e 13e
ROE after tax es %
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ATHEX cash & derivatives market trading volumes
ATHEX foreign investor participation & turnover velocity
70,000 60,000 50,000 40,000 30,000 20,000 10,000 0 2005 2006 2007 2008 2009 2010 2011e 2012e Q1-11 Q2-11 Q3-11
600 500 400 300 200 100 0
60% 50% 40% 30% 20% 10% 0% Jun-11 2005 2006 2007 2008 2009 2010 Sep-11
155.0 70.5 2.9 21.9 45.7 48.6 36.0 0.55 0.27
150% 120% 90% 60% 30% 0% Mar-11

-29% -6% -22% -1% -23% -21% -27% -27% -25%
Deriv ativ es
Source: Company data
Cash market (EURm) (rhs)
Foreign inv estors

Turnov er Velocity (rhs)
Subdued trading activity has adversely impacted HELEXs profitability. Tellingly, recurring H1 2011 group EAT dropped 33% y-o-y (EUR12m), fuelled by a 41% y-o-y decline in volumes. We do not anticipate that at the end of the year there will be a pick-up in risk appetite for Greek stocks, which could in turn support trading activity. We project ADT of EUR50m for the rest of 2011 versus EUR94m average in 9M 2011.
Forecast changes
On the back of a dismal outlook for trading activity, we cut our group net profit estimates by 9% for 2011, 39% for 2012 and 34% for 2013. In more detail: We reduce our group revenue projections by 14% for 2011, 27% for 2012 and 28% for 2013e, as we have slashed our average daily turnover (ADT) forecasts (notably by 55% for both 2012e and 2013e). Our new ADT assumptions are EUR85m for 2011e (implying EUR50m for the remainder of the year), EUR60m for 2012e and EUR70m for 2013e. We have assumed a slight pick-up in trading activity for the next couple of years on the back of planned privatisations and a tepid risk appetite for Greek stocks.

HSBC vs consensus estimates __ 2011e ___ EAT EPS __ 2012e ____ __ 2013e____ EAT EPS EAT EPS
HSBC Consensus difference
21.8 21.9 0%
0.33 0.34 0%
16.0 24.6 -35%
0.24 0.38 -35%
23.8 31.8 -25%
0.36 0.49 -25%
Source: HSBC estimates, FactSet consensus (October 2011)
HELEX forecast changes (EURm) _________________2011e ________________ _________________ 2012e _________________ _________________2013e ________________ old new chg y-o-y old new chg y-o-y old new chg y-o-y
ADT* Revenues HCMC fee Operating costs EBITDA EBT Net profit EPS (EUR) DPS (EUR)
120.0 60.1 2.4 21.6 38.6 40.5 24.0 0.37 0.17
85.0 51.4 1.8 20.8 33.9 36.6 21.8 0.33 0.15
-29% -14% -24% -3% -12% -10% -9% -9% -11%
-39% -17% -33% -6% -8% -6% 3% 3% 2%
140.0 65.9 2.6 21.7 41.6 44.0 26.0 0.40 0.19
60.0 48.2 1.4 20.7 26.1 28.9 16.0 0.24 0.11
-57% -27% -47% -4% -37% -34% -39% -39% -40%
70.0 50.8 1.6 20.9 28.3 31.4 23.8 0.36 0.17
-55% -28% -45% -4% -38% -35% -34% -34% -35%
17% 5% 12% 1% 8% 9% 49% 49% 53%
* Average daily turnover in the cash market Source: HSBC estimates
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We fine-tune our opex estimates, as we now look for another year of cost containment for 2012e (-1% y-o-y vs our -6% projection for 2011e), followed by modest cost growth for 2013e (+1% y-o-y). We now include in our 2011 earnings forecasts EUR2.7m in one-off income (booked in Q2 2011) related to a claim on taxes paid for dividends received from ATHEX. One-off income booked in H1 2011 aggregated to EUR5.1m.
We now use a cost of equity (CoE) of 14.5% (versus 12% before) to reflect historically high Greek sovereign spreads (risk-free rate of 3.5% and a sector asset beta of 1.1 remain unchanged, while we raise equity market risk premium forecast to 11% from 8.5%). Hence our higher WACC forecast of 15.6% (from 12.8% before). Under our research model, for stocks with a volatility indicator, the Neutral band is 10pp above and below the hurdle rate for Europe ex-UK stocks of 8.5%. Our target price implies a potential return of c19%, so we maintain our Overweight (V) rating. HELEX currently trades at 5.0x 2012e ex-cash, trough EPS (a deep discount to its peers). We continue to like HELEX for its solid (net) cash position of EUR118m at end-2011e (EUR1.8 per share or 54% of market cap), on our forecasts, which leaves plenty of room for extra cash returns to shareholders (a key catalyst, in our view). Note that since 2005 HELEX has returned aggregate special dividends of EUR2.13 per share (including the EUR0.10 per share paid on 6 October 2011). We have not assumed any more special dividends but do expect the payout ratio to increase gradually to 50% by 2015e from 46% in 2010.
Valuation
We reiterate our Overweight (V) rating although we have cut our DCF-based target price to EUR4.0 (from EUR6.7), following our sizeable earnings estimates cuts, higher WACC and CoE assumptions and application of 10% discount to accommodate for the potential introduction of the financial transaction tax (FTT). Before applying the 10% discount, our fair value estimate is EUR4.4 per share. We apply a 10% discount to our base-case valuation because: a) a stamp duty of 0.20% on stock transactions booked during 2011 is already in place in the Athens Stock Exchange (raised from 0.15% previously); and b) high-frequency trading activity is virtually non-existent in the market (in stark contrast to all other European markets), so the introduction of a relevant tax would have no impact on trading activity. We note that the stamp duty will be abolished as of 1 January 2012 and replaced by a capital gains tax (it is still unclear whether foreign investors will be subject to this tax).
Stress testing our target price

We stress-test our target price against: 1) various levels of trading volumes; 2) trading/clearing tariff cuts; and 3) a potential market share loss in volumes and post-trading monopoly to emerging foreign competition.
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Sensitivity of base-case valuation to a loss of trading activity to a rival platform in 2012e (EURm) Average daily turnover Total ATHEX income Central security depository income Total transaction revenues difference vs base case Non-transaction revenues Total group revenues difference vs base case Valuation per share (EUR) difference vs base case (EUR)
Base case 60.0 3.7 6.0 9.7
___________________________% drop in trading volumes from base case____________________________ 5% 10% 15% 20% 25% 30% 57.0 3.5 6.0 9.5 -2% 38.6 48.1 0% 4.38 (0.02) 54.0 3.3 6.0 9.3 -4% 38.6 47.9 -1% 4.37 (0.03) 51.0 3.1 6.0 9.1 -6% 38.6 47.7 -1% 4.35 (0.05) 48.0 2.9 6.0 8.9 -8% 38.6 47.5 -2% 4.33 (0.07) 45.0 2.8 6.0 8.8 -9% 38.6 47.3 -2% 4.32 (0.08) 42.0 2.6 6.0 8.6 -11% 38.6 47.1 -2% 4.30 (0.10)
38.6 48.2
4.40
Every 20% drop from our 2015e volume forecast lowers our target price by EUR0.20 per share
Sensitivity analysis to fee reductions in 2012e (EURm) Sales EBITDA EAT TP (EUR)
Our sensitivity analysis suggests that every 20% reduction to our 2015e average daily turnover forecast of EUR110m would cut our target price by EUR0.20 per share.
A 20% cut in non-block trading fees and a 25% drop in clearing fees would shave EUR0.30 off TP
(1) non-blocks fees (2) clearing fees (1) + (2)

-0.7 -1.5 -2.2
-0.6 -1.4 -2.0
-0.5 -1.0 -1.5
-0.09 -0.21 -0.30
A 30% market-share loss in volumes to a rival platform would reduce our TP by EUR0.10
A 20% decline in non-block trading fees, to 1bp from 1.25bp currently, could shave EUR0.09 off our basecase valuation. A potential 25% drop in clearing fees to 1.5bp (currently at 2bp) would take EUR0.21 from our base-case valuation. If both scenarios unfold, this could lower our target price by EUR0.30.
A potential loss of up to 30% of 2012e trading volumes versus our base-case forecast of EUR60m to a rival foreign platform would lower our basecase valuation by up to EUR0.10 per share. However, even in this scenario, HELEX would retain its post-trading monopoly. This is because Greece requires all transactions, irrespective of point of execution, to be registered with HELEXs Central Security Depository.
Sensitivity analysis of HELEXs target price ______________________________________________________ATHEX 2015e average daily turnover (EURm) _______________________________________________________ 10 22 44 66 88 110* 132 154 176 198 220 9.6% 12.6% 15.6%* 18.6% 20.0% 25.0% 30.0% 35.0% 40.0%
4.10 3.90 3.70 3.60 3.50 3.30 3.20 3.10 3.00
4.20 4.00 3.80 3.70 3.60 3.40 3.20 3.10 3.00
4.30 4.10 3.90 3.80 3.70 3.50 3.30 3.20 3.00
4.50 4.30 4.10 3.90 3.80 3.60 3.40 3.20 3.10
4.70 4.40 4.20 4.00 4.00 3.70 3.50 3.30 3.20
4.90 4.60 4.40 4.20 4.10 3.80 3.60 3.40 3.20
5.10 4.80 4.50 4.30 4.20 3.90 3.70 3.50 3.30
5.20 4.90 4.70 4.40 4.30 4.00 3.70 3.50 3.40
5.40 5.10 4.80 4.50 4.40 4.10 3.80 3.60 3.40
5.60 5.20 4.90 4.70 4.60 4.20 3.90 3.70 3.50
5.80 5.40 5.10 4.80 4.70 4.30 4.00 3.70 3.50
* Highlighted in grey are our base-case assumptions Source: HSBC estimates
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WACC
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Sensitivity of 2011e-12e profit to various levels of average daily trading volumes in the cash market ___________________________ 2011e ____________________________ ___________________________ 2012e ____________________________ Base case Base case 34 51 68 85 102 119 136 24 36 48 60 72 84 96
Sales (EURm) EBITDA (EURm) EBT (EURm) Net profit (EURm) EPS (EUR) PE (x) EV/EBITDA (x) Ex-cash PE (x)
vs base case
43.1 26.4 24.0 17.0 0.26 13.6 3.9 5.7 -60% -16% -22% -24% -25% -25%
45.8 28.9 26.5 18.9 0.29 12.1 3.5 5.1 -40% -11% -15% -16% -17% -17%
48.6 31.4 29.0 20.8 0.32 11.0 3.2 4.6 -20% -5% -7% -8% -8% -8%
51.4 33.9 31.5 22.7 0.35 10.0 2.9 4.2
54.2 36.4 34.0 24.6 0.38 9.2 2.7 3.8 20% 5% 7% 8% 8% 8%
56.9 38.9 36.5 26.5 0.41 8.5 2.5 3.5 40% 11% 15% 16% 17% 17%
59.7 41.4 39.0 28.4 0.43 8.0 2.3 3.3 60% 16% 22% 24% 25% 25%
42.4 20.9 23.7 18.0 0.28 18.3 4.3 6.4 -60% -12% -20% -18% -18% -18%
44.4 22.7 25.4 19.3 0.30 16.5 3.9 5.9 -40% -8% -13% -12% -12% -12%
46.3 24.4 27.1 20.6 0.32 15.0 3.7 5.4 -20% -4% -7% -6% -6% -6%
48.2 26.1 28.9 22.0 0.34 13.7 3.4 5.0
50.2 27.9 30.6 23.3 0.36 12.7 3.2 4.6 20% 4% 7% 6% 6% 6%
52.1 29.6 32.4 24.6 0.38 11.8 3.0 4.3 40% 8% 13% 12% 12% 12%
54.0 31.4 34.1 25.9 0.40 11.0 2.8 4.0 60% 12% 20% 18% 18% 18%
ADT Sales EBITDA EBT Net profit EPS
0% 0% 0% 0% 0% 0%
0% 0% 0% 0% 0% 0%
Source: HSBC estimates, price at close of 21 October 2011
A 30% market share loss in trading activity and the post-trading monopoly would cut EUR0.26 per share from our base-case valuation
Catalysts
Higher than currently expected trading volumes, buoyed by rejuvenated risk appetite for the Greek market, would boost profitability. As it is no longer seeking acquisitions, HELEX should continue to return excess cash to shareholders (net cash at c60% of market cap). Planned privatisations for 2012e together with potential rights offerings from banks, as part of their recapitalisation plans, could boost trading activity. The privatisation agenda includes the sale of a 34% stake in OPAP (gaming monopoly), a 17% stake in Public Power Corporation (electricity incumbent) and a 34% stake in Hellenic Postbank.
We also perform a sensitivity analysis to address a potential (and more serious) loss of the post-trading monopoly. We believe this is more of a medium- to longer-run theme and would require regulatory changes at the domestic or international level. Our analysis suggests a potential market share loss of up to 30% of both volumes (versus our 2012e central case of EUR60m) and the post-trading monopoly to emerging competition could shave up to EUR0.26 off our base-case valuation.
Sensitivity of base-case valuation to loss of trading activity and post-trading monopoly in 2012e (EURm) Average daily turnover Total ATHEX income Central security depository income Total transaction revenues difference vs base case Non-transaction revenues Total group revenues difference vs base case Valuation per share (EUR) difference vs base case (EUR)
Base case 60.0 3.7 6.0 9.7
___________________________________ % loss in trading volumes____________________________________ 5% 10% 15% 20% 25% 30% 57.0 3.5 5.7 9.2 -5% 38.6 47.8 -1% 4.36 (0.04) 54.0 3.3 5.4 8.7 -10% 38.6 47.3 -2% 4.31 (0.09) 51.0 3.1 5.1 8.2 -15% 38.6 46.8 -3% 4.27 (0.13) 48.0 2.9 4.8 7.7 -20% 38.6 46.3 -4% 4.22 (0.18) 45.0 2.8 4.5 7.3 -25% 38.6 45.8 -5% 4.18 (0.22) 42.0 2.6 4.2 6.8 -30% 38.6 45.3 -6% 4.14 (0.26)
38.6 48.2
4.40
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An M&A premium could come into play as consolidation remains a potential medium-tolonger term theme. Abolition (as of 1 January 2012) of the 1520bps stamp duty could fuel high-frequency traders volumes (the revenue contribution from such investors is currently zero).
Investment risks
Downside risks to our rating, in our view, include the following: The (pending) introduction of capital gains tax on stock transactions could deal a blow to Greek retail trading volumes (it is still unclear whether foreign investors will be subject to this tax). A significant downturn in trading volumes would weigh on HELEXs earnings (see our sensitivity analysis on lower trading activity). Rising competitive pressures could lead to a further cut in HELEXs (admittedly high) trading/clearing fees (see our sensitivity analysis on the combination of market share losses in both transaction volumes and the post-trading monopoly).
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HELEX: group P&L (EURm) Year-end 31 December Sales y-o-y Capital Markets Commission fee Net sales y-o-y Operating costs % of sales Personnel costs % of total EBITDA y-o-y EBITDA margin HSBC EBITDA Depreciation EBIT y-o-y EBIT margin Net financials Extraordinary income/(costs) EBT (pre-tax profit) y-o-y EBT margin Taxes Effective tax rate Net profit y-o-y Net margin HSBC net profit y-o-y Net margin
2009a
2010a
2011e
2012e
2013e
78.3 -28% -3.7 74.7 -27% -23.1 30% -13.2 57% 51.0 -33% 65% 51.5 -2.6 48.4 -34% 62% 4.9 1.8 55.1 -38% 70% -25.6 24.5% 29.5 -55% 38% 40.6 -33% 52%
61.7 -21% -2.7 59.0 -21% -22.2 36% -12.6 57% 36.6 -28% 59% 36.7 -2.4 34.2 -29% 55% 0.0 0.5 39.1 -29% 63% -17.8 25.3% 21.3 -28% 35% 28.9 -29% 47%
51.4 -17% -1.8 49.6 -16% -20.8 41% -12.1 58% 33.9 -8% 66% 28.8 -2.2 31.6 -7% 62% 5.0 0.0 36.6 -6% 71% -14.8 24.0% 21.8 3% 42% 22.7 -21% 44%
48.2 -6% -1.4 46.8 -6% -20.7 43% -11.9 58% 26.1 -23% 54% 26.1 -2.3 23.9 -25% 49% 5.0 0.0 28.9 -21% 60% -12.9 24.0% 16.0 -27% 33% 22.0 -3% 46%
50.8 5% -1.6 49.3 5% -20.9 41% -12.0 57% 28.3 8% 56% 28.3 -2.3 26.0 9% 51% 5.3 0.0 31.4 9% 62% -7.5 24.0% 23.8 49% 47% 23.8 9% 47%
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HELEX: consolidated balance sheet (EURm) Year-end 31 December Fixed assets Accumulated depreciation Net fixed assets Participations Deferred tax assets Current assets: -Inventories -Trade debtors -Cash & equivalents -Other Total current assets Total assets 2009 45.4 -11.7 33.7 4.8 1.9 2010 46.5 -14.1 32.4 1.5 1.7 2011e 47.6 -16.3 31.3 1.5 2.0 2012e 48.5 -18.6 30.0 1.6 1.9 2013e 49.5 -20.8 28.7 1.6 1.8
0.0 7.0 125.4 9.2 141.6 182.1 71.9 94.3 -15.6 150.6 0.0 0.5 3.0 3.5 0.0 13.9 10.9 3.2 28.0 182.1
0.0 5.6 124.3 6.1 136.0 171.6 63.4 94.3 -9.0 148.7 0.0 0.5 2.9 3.4 0.0 7.7 8.7 3.2 19.6 171.6
0.0 6.1 118.9 8.9 133.8 168.6 56.9 94.3 2.8 153.9 0.0 0.5 2.4 2.9 0.0 8.1 0.5 3.2 11.8 168.6
0.0 6.2 129.3 8.4 143.8 177.2 56.9 94.3 11.2 162.4 0.0 0.5 2.4 2.9 0.0 8.3 0.5 3.2 12.0 177.2
0.0 6.3 142.6 8.8 157.7 189.8 56.9 94.3 23.6 174.8 0.0 0.5 2.4 2.9 0.0 8.4 0.5 3.2 12.1 189.8
Share capital Share premium Reserves & retained earnings Shareholders funds Long-term liabilities -Bank loans -Other long-term liabilities -Provisions Long-term liabilities Current liabilities -Bank loans & L-T loans payable next FY -Trade creditors -Taxes & social sec. contributions -Other Total current liabilities Total equity & liabilities
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Financials & valuation: Hellenic Exchanges SA

Financial statements Year to 12/2010a 12/2011e 12/2012e 12/2013e Key forecast drivers Year to 12/2010a
Overweight (V)
12/2011e 12/2012e 12/2013e
Profit & loss summary (EURm)
Cash flow summary (EURm)
62 37 -2 34 4 39 39 -18 21 29
51 29 -2 27 5 37 32 -15 22 23
48 26 -2 24 5 29 29 -13 16 22
51 28 -2 26 5 31 31 -8 24 24
ADT (EURm) Avg market cap (EURbn) Turnover velocity (%) Avg daily derivatives contracts (k)
139.4 65.5 54% 43.8
85.0 42.1 51% 49.4
60.0 31.0 48% 50.9
70.0 32.6 54% 52.9
Balance sheet summary (EURm)
24 0 -90 -10 1 24
15 -1 -2 -10 5 14
7 -1 -1 -7 -10 6
27 -1 -1 -11 -13 26
1.5 2.6 4.3 7.6 1.5 11.2 4.5
1.9 3.4 3.1 9.6 1.4 6.5 4.6
1.8 3.4 2.9 10.0 1.3 2.8 3.4
1.5 2.7 2.6 9.2 1.3 11.8 5.2
Issuer information
0 32 136 124 172 22 1 -124 149 22
0 31 134 119 169 14 0 -119 154 32
0 30 144 129 177 14 1 -129 162 30
0 29 158 143 190 14 1 -142 175 29
Share price (EUR)
3.35 Target price (EUR)
19.4
Reuters (Equity) EXCr.AT Market cap (USDm) 304 Free float (%) 100 Country Greece Analyst Dimitris Haralabopoulos
Bloomberg (Equity) EXAE GA Market cap (EURm) 219 Enterprise value (EURm) 99 Sector Diversified Financial Services Contact +30 210 6965214
Price relative
13 11 13 11 9 7 5 3 1 2010
Rel to ATHENS SE
9 7 5

Ratios (%)
-21.3 -28.7 -29.9 -29.1 -23.3
-16.6 -21.7 -22.6 -6.3 -21.4
-6.1 -9.1 -10.0 -21.1 -3.4
5.4 8.3 9.0 8.6 8.6
3 1 2009
Hellenic Exchanges SA Source: HSBC
2011
2012
Per share data (EUR)
3.0 126.3 19.3 10.7 59.6 55.6 -83.3 -3.4
1.9 75.2 15.0 11.1 56.0 51.6 -77.2 -4.1
1.6 58.4 13.9 7.6 54.2 49.5 -79.3 -4.9
1.7 66.6 14.1 10.8 55.7 51.2 -81.3 -5.0
Stated accounts as of 31 Dec 2006 are IFRS compliant
0.33 0.44 0.15 2.27
0.33 0.35 0.15 2.35
0.24 0.34 0.11 2.48
0.36 0.36 0.18 2.67
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HKEx
Concerns about a sharp fall in cash turnover may be misplaced,
given our expectation of a rapid market recovery

While RMB deposit-gathering has slowed, the growth story is
intact and RMB stock trading remains a credible theme

We remain OW with an unchanged HKD190 target price; we see
current market weakness as an opportunity to accumulate the stock
Investment case
Double whammy
The HKEx share price has fallen nearly 30% since August. We think this is attributable to two factors: The dismal stock market performance, driven by macro fears: HKEx is a high-beta play and is broadly seen as a market proxy. Slowdown in RMB business: The pace of RMB deposit-gathering has diminished sharply in recent months, leading to concerns about deterioration in RMB business prospects.
As macro concerns about the Eurozone sovereign crisis and a possible hard landing in China continue to haunt the Hong Kong market, HKExs share price performance may remain volatile near term. Investors also seem greatly concerned about a looming bear market, which would affect the earning prospects of HKEx. Our analysis of the change in turnover before and after stock market crashes shows that turnover usually falls or slows sharply following a poor stock market performance: in 9 of the last 10 market crashes (defined as a 20% decline in the Hang Seng index in two months), turnover has decreased over
York Pun*, CFA Analyst The Hongkong and Shanghai Banking Corporation Ltd (HK) + 852 2822 4396 yorkkypun@hsbc.com.hk Todd Dunivant* Analyst The Hongkong and Shanghai Banking Corporation Ltd (HK)
+852 2996 6599 tdunivant@hsbc.com.hk *Employed by a non-US affiliate of HSBC Securities (USA) Inc, and is not registered/ qualified pursuant to FINRA regulations
HKEx revenue breakdown 2012e (YE December 2012)

Net investment 8% Market data 7% Listing 11% Depository 8% Clearing settlement 22%
HKEx EBITA margin and ROE after taxes

100 % 80 %
Other 5% Trading fees & tariff 40%
60 % 40 % 20 % 0% FY09a FY1 0a FY 11e FY12e ROE FY13e
EBITA marg in
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the following six-month period. The only exception was after July 2009, when a strong market rally pulled the cash turnover back from low levels. We believe there is a good chance that we will see a repeat of the roller-coaster trends of 2009, given that our strategists believe the market has overreacted to the bad news and the sell-off in Hong Kong market is overdone. We remain positive about the prospective market performance in 2012 and believe cash turnover growth is still achievable.
Moreover, despite the recent slowing in monthly RMB deposit growth, issuance of offshore RMB bonds (dim-sum bonds) has accelerated. On 14 October 2011, the Ministry of Commerce in China and Peoples Bank of China (PBOC) published final rules regarding the RMB foreign direct investment (FDI) scheme, which would allow foreign companies to raise offshore RMB in Hong Kong and invest back into China. This should encourage the issuers to issue RMB stocks, in our view. On 12 October 2011, HKEx also announced that it was entering into a BRICS alliance with five other emerging market exchanges from Brazil, India, South Africa and Russia. The initiatives outlined included the cross-listing of each others equity index derivatives in local currencies by June 2012. We believe the direct effects on HKEx are limited given muted investor interest in foreign products in Hong Kong. Nonetheless, this move confirmed our belief that HKEx, a representative of China in the exchange alliance, is a trusted intermediary for the Chinese government. This is vital if it is to push forward its offshore RMB business. In a nutshell, we remain positive about the growth outlook of HKEx. Although market conditions may delay some developments, the underlying business dynamics remain strong and RMB internationalisation is still forging ahead.
Growth story is intact

One key factor supporting the high valuation multiple of HKEx is the growth prospects of offshore RMB business. In our in-depth report titled RMB stands for Real and Material Benefits in 5 years, published on 28 July 2011, we portrayed strong growth in RMB stock trading, which we expect to reach 20% of total stock turnover by 2015, supporting high-teen earning growth for HKEx. Deteriorated market conditions and slower growth in RMB deposits in Hong Kong have since raised questions about RMB growth prospects. New IPOs (including prospective RMB listings) have generally been halted by the poor market conditions but this could change swiftly if our forecast for a quick market turnaround proves correct.
Change in 6M cash turnover before and after past stock market crashes
20% 10% 0% -10% -20% -30% -40% -50% -60% S ep-0 1 Mar-9 4 Mar-0 1 May-00 Se p-11 Jan -95 Oct-0 8 Oct-97 Ju n-98 Jan-99 Jul-09
60% of Chinas FDI is through HK, and conversion into RMB is on the way, potentially driving the RMB IPO
120 70 % 60 % 50 % 40 % 30 % 20 % 10 % 0% 20 06 20 07 200 8 2009 2010 1H11
100 80 60 40 20 0
Ch ina total FDI (USDb n, lhs)
Via HK (%, rhs)
Source: HSBC
Source: Bloomberg, HSBC
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HSBC EPS versus consensus forecasts (HKD)
10 8 6 4 2 0 FY11 HSBC EPS FY1 2 Consensus EP S FY 13
has a strong impact on near-term earnings but a smaller impact on valuation. On our calculation, every 10% change in the ADT assumption for 2012 will affect revenue by 6% and net profit by 7%. Since our target price of HKD190 represents a potential return of 71% (including the prospective dividend yield for 2012e) which is above the Neutral band of 3.5% to 13.5% for non-volatile Hong Kong stocks, we maintain our Overweight rating on HKEx.
Investment risks
Change in regulations: HKEx is the only authorised stock exchange in Hong Kong. However, that might change, especially if the HKSAR government wants to further liberalise the industry. The resulting big bang could quickly distort HKExs pricing power and reduce its profitability. Exchange M&A: Although we believe that the environment for exchange M&A has not yet matured in emerging Asia and that it is not wise for HKEx to join the battle over the European/American exchanges, things can change and vary from our expectations, leading to upside or downside risks to HKEx. Political uncertainty is the biggest risk to HKExs RMB business, in our view. The policymakers view about RMB internationalisation could change, slowing offshore RMB development. This is made more probable by the fact that stocks are regarded as a more risky investment than bonds, and the regulators may be more conservative, leading to a delay in the growth pattern we are forecasting. For example, in 2007 a plan to allow domestic Chinese investors to bypass existing barriers and buy Hong Kong stocks directly (dubbed the through train) fuelled the market. However, the plan was shelved after being deemed too controversial.
Source: Bloomberg consensus, HSBC estimates
Our earnings forecasts for HKEx are 3%, 23% and 34% above consensus forecasts for 2011, 2012 and 2013, respectively. We believe this is mainly because of our higher turnover growth assumptions, driven partly by our positive market views and partly by RMB stock growth. The market seems to have a more conservative view on macro and monetary conditions than we do.
Valuation
We calculated our target price for HKEx using our three-stage residual income valuation approach, which discounts HKExs income in excess of cost of equity (the residual income, or economic valueadded) back to the present. We adopted this approach because HKEx has a sizeable investment portfolio driven mainly by margin deposits, which makes its cash flow unpredictable. The second stage of our three-stage valuation approach makes the greatest contribution to the total value. This is because we believe HKEx is still in the growth stage and that its economic advantages will preserve long-term competitiveness. Our valuation is highly sensitive to the assumptions made in the second stage (including revenue growth and cost of equity, see sensitivity analysis on the next page). Our 10% cost of equity is derived from a 3.5% risk-free rate, 5.0% risk premium and 1.3 beta. The turnover assumption (expressed as average daily turnover)
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Valuation of HKEx (HKDm unless otherwise specified) _____________________________ 1st stage __________________________ 2011e 2012e 2013e 2nd stage 2014 to 2039 3rd stage terminal growth
Expected NAV (yr-begin) 8,677 Expected profits 5,514 ROE 64% COE 10.00% Residual income 4,646 PV of residual income 4,646 Total value (Total PV of residual income plus net worth) Total shares (end-2012) Implied valuation (HKD) Implied PE (2012) Implied yield (2012)
Source: HSBC estimates.
9,341 7,109 76% 10.00% 6,175 5,613
10,063 8,682 86% 10.00% 7,675 6,343
1,057,761 181,140
140,666 8,061 205,804 1,081 190 29.0 3.1%
HKEx: Sensitivity of valuation to change in revenue growth and COE assumption in second stage (HKD) __________________________________________ Revenue growth (%)___________________________________________ 7.0 8.0 9.0 10.0 11.0 12.0 13.0 14.0 8.5% 9.0% 9.5% 10.0% 10.5% 11.0% 11.5% 12.0%
COE (%)
153 142 133 124 117 109 103 97
170 158 147 137 129 120 113 106
190 176 164 153 142 133 124 117
214 198 183 170 158 147 138 129
241 222 206 190 177 164 153 143
273 251 232 214 198 184 171 159
310 285 262 241 223 206 191 177
353 324 297 273 252 233 215 199
Source: HSBC estimates.
HKEx: Sensitivity of revenue/profits to ADT for 2012e
ADT (HKDbn) Revenue (HKDm) Profit (HKDm) EPS (HKD) Notional TP (HKD)*
73.0 8,644 5,739 5.31 154
81.1 9,127 6,149 5.69 165
90.1 9,664 6,603 6.11 177
100.1 10,260 7,109 6.58 190
110.1 10,857 7,614 7.04 204
121.1 11,513 8,170 7.56 219
133.2 12,235 8,782 8.12 235
*Notional target price was calculated by using the corresponding EPS to multiply by 29x P/E Source: HSBC estimates
HKEx: PE trading band since 2006

300 HKEx share p rice (HKD) 40x 30x 20x 10x 60
240
180
120
0 Jan-06
Jan -07
Jan-08
Ja n-09
Jan-1 0
Ja n-11
Jan- 12
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Income statement of HKEx (HKDm) 2009 2010 2011e 2012e 2013e
Trading fees and trading tariff Clearing and settlement fees Depository, custody and nominee Listing fees Sale of information Net investment income Other income Total revenue Staff costs and related expenses IT and computer maintenance expenses Premises expenses Product marketing and promotion expenses Legal and professional fees Depreciation Others Total expenses Operating profit Non-operating profit/loss Pre-tax profit Tax Net profit
2,586 1,425 563 728 695 621 417 7,035 -794 -246 -219 -13 -13 -101 -107 -1,493 5,542 0 5,542 -838 4,704
2,843 1,569 612 945 670 472 455 7,566 -892 -265 -210 -15 -16 -107 -107 -1,612 5,954 0 5,954 -917 5,037
3,172 1,765 580 972 701 556 516 8,263 -1,006 -297 -211 -14 -20 -102 -118 -1,767 6,495 0 6,495 -981 5,514
4,120 2,168 805 1,086 764 781 537 10,260 -1,102 -329 -220 -16 -16 -101 -112 -1,897 8,363 0 8,363 -1,254 7,109
4,998 2,592 978 1,222 827 1,060 701 12,378 -1,217 -380 -229 -20 -20 -168 -120 -2,153 10,226 0 10,226 -1,544 8,682
Balance sheet of HKEx (HKDm) 2009 2010 2011e 2012e 2013e
Accounts receivable, prepay. and deposits Margin funds Clearing house funds Corporate funds Cash mark and cash collateral Fixed assets Lease premium for land Deferred tax assets Others Total assets Participants contributions to clearing funds Other financial liabilities of clearing funds Margin deposits on derivatives Accounts payable, accruals and other lia. Financial liabilities at fair value through P&L Participants admission fees received Deferred revenue Taxation payable Provisions Deferred tax liabilities Financial guarantee contract Cash marks and cash collateral Total liabilities Share capital Share premium Shares held for share award scheme Employee based compensation reserve Revaluation reserves Designated reserves Retained earnings Total shareholders equity
11,325 20,243 1,742 8,281 3,432 303 4 3 45,332 999 42 20,243 11,827 424 261 59 18 3,432 37,305 1,076 376 -52 43 563 6,021 8,027
9,199 22,702 2,644 9,422 3,594 295 25 3 47,884 2,039 58 22,702 9,946 473 320 57 18 3,594 39,207 1,078 416 -219 56 580 6,766 8,677
10,896 26,262 2,014 9,893 7,428 305 25 4 56,827 806 83 26,262 11,931 453 436 58 29 7,428 47,486 1,076 372 -71 67 581 7,316 9,341
12,906 31,618 2,385 10,388 8,942 304 25 4 66,572 954 83 31,618 13,761 537 527 58 29 8,942 56,509 1,076 372 -71 79 581 8,026 10,063
15,538 38,037 2,872 10,907 10,758 1,935 25 4 80,077 1,149 83 38,037 17,639 655 657 58 29 10,758 69,064 1,076 372 -71 93 581 8,961 11,012
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Financials & valuation: Hong Kong Exchanges & Clearing Limited

Financial statements Year to P&L summary (HKDm) 12/2010a 12/2011e 12/2012e 12/2013e Valuation Year to 12/2010a 12/2011e
Overweight
12/2012e 12/2013e
Total revenue Trading fees and trading tariff Clearing and settlement fees Depository, custody&nominee Listing fees Market data fees Net investment income Other income Total expenses Staff related expenses Other expenses Operating profit Non-operating profit/loss Pre-tax profit Tax Net profit
Balance sheet summary
7,566 2,843 1,569 612 945 670 472 455 (1,612) (892) (720) 5,954 0 5,954 (917) 5,037
(HKDm)
8,263 3,172 1,765 580 972 701 556 516 (1,767) (1,006) (762) 6,495 0 6,495 (981) 5,514
10,260 4,120 2,168 805 1,086 764 781 537 (1,897) (1,102) (795) 8,363 0 8,363 (1,254) 7,109
12,378 4,998 2,592 978 1,222 827 1,060 701 (2,153) (1,217) (936) 10,226 0 10,226 (1,544) 8,682
PE PB Dividend yield
Growth rates (y-o-y)
24.5 14.2 3.7% 7.5% 8.0% 7.4% 7.1% 5.6% 8.1%
22.4 13.2 4.0% 9.2% 9.6% 9.1% 9.5% 18.7% 7.7%
17.4 12.3 5.2% 24.2% 7.3% 28.8% 28.9% 17.2% 7.7%
14.2 11.2 6.3% 20.6% 13.5% 22.3% 22.1% 20.3% 9.4%
Total revenue Total expenses Operating profit Net profit Total assets Shareholders equity
Key drivers and ratios
ADT (cash, HKDm) ADT (derivatives, contracts) Turnover velocity Net investment return Cost to income ratio ROA ROE
69,117 465,412 57.9% 1.45% 21.3% 10.8% 60.3%
77,469 547,556 57.5% 1.53% 21.4% 10.5% 61.2%
100,112 676,090 70.2% 1.89% 18.5% 11.5% 73.3%
122,363 816,688 78.6% 2.20% 17.4% 11.8% 82.4%
Total assets AR, prepayment and deposits Margin funds Clearing house funds Corporate funds Cash mark and collateral Others Total liabilities Margin deposits on derivatives AP, accruals & other liabilities Participants contributions to clearing house funds Other liabilities Shareholders equity
Per share data (HKDm)
47,884 9,206 22,702 2,644 9,422 3,594 316 39,207 22,702 9,946 2,039 4,520 8,677
56,827 10,896 26,262 2,014 9,893 7,428 334 47,486 26,262 11,931 806 8,487 9,341
66,572 12,906 31,618 2,385 10,388 8,942 333 56,509 31,618 13,761 954 10,176 10,063
80,077 15,538 38,037 2,872 10,907 10,758 1,964 69,064 38,037 17,639 1,149 12,240 11,012
Issuer information
Share price (HKD) Price target (HKD) Potential return Free float Analyst
114.40 190.00 71% 94% York Pun
No. of shares (m) Market cap (HKDm) Bloomberg (Equity) Reuters (Equity) Contact
1,079 123,421 388 HK 0388.HK +852 2822 4396
Price relative
216 196 176 156 136 116 96 76 56 36 2009 2010 2011
Rel to HANG SENG INDEX Hong Kong Exchanges and C Source: HSBC
EPS (basic) EPS (diluted) DPS NAV

ROAA deconstruction
4.68 4.67 4.19 8.04
5.11 5.10 4.60 8.64
6.58 6.58 5.92 9.31
8.03 8.03 7.23 10.19
216 196 176 156 136 116 96 76 56 36 2012
Total revenue Total expenses Operating profit Non-operating profit Profits before tax Tax Net profit
16.2% -3.5% 12.8% 12.8% -2.0% 10.8%
15.8% -3.4% 12.4% 12.4% -1.9% 10.5%
16.6% -3.1% 13.6% 13.6% -2.0% 11.5%
16.9% -2.9% 13.9% 13.9% -2.1% 11.8%
Note: Priced at close of 21 October 2011
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ICAP
Increased volatility in financial markets to benefit volumes While e-broking is doing well, Brazil remains a concern We maintain our Neutral rating and target price of 470p
Investment case
ICAP is one of the worlds largest inter-dealer brokers (IDB), providing voice and electronic broking services. In FY 2011 (year-end March), revenues were split as follows by segment: core voice 71%, electronic broking 18% and post-trade at 11%. The major drivers of performance for ICAP are: high volatility in financial markets, growth in electronic broking and the Brazil operation.
Though it is not possible to forecast volatility, we expect it to remain at currently elevated levels for some time due to uncertainty about growth in the worlds big economies and instability in the Eurozone. This might indicate a good trading environment for ICAP. In its recent trading update, ICAP highlighted that the recent highly volatile environment has resulted in very strong volumes in voice broking with a marked increase in August. Volumes in rates, EM and commodities have been particularly strong
Nitin Arora * Analyst HSBC Bank plc. + 44 20 7991 6844 nitin2.arora@hsbcib.com
Increased volatility to support volumes

The recent turmoil in the financial markets has resulted in an increase in volatility in all asset classes including FX, credit, commodities and equities. This increased volatility is likely to have translated into strong trading volumes for ICAP.
Good growth in electronic broking

Fears of the Eurozone sovereign debt crisis spreading from Greece to Spain and Italy have triggered big moves in the euro against various currencies. Also, the debate around the slowing of the US economy and the US dollars reserve currency status has resulted in strong demand for
Post Trade 11% Electronic 19% Voice broking 70%

30.0% 20.0% 10.0% 0.0% 2009 2010 2011 2012e ROE 2013e 2014e
EBITDA Margin
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ICAP trading volumes( ADV USDbn)
ICAP revenue and broker cost per broker (GBP000)
1200 1000 800 600 400 200 0 Jan-08 May-08 Sep-08 J an-09 M ay -09 Sep-09 Jan-10 May-10 Sep-10 J an-11 M ay -11 Sep-11 J an-07 M ay -07 Sep-07
200,000.0 150,000.0 100,000.0 50,000.0 H 1'10 H 1'08 H 2'08 H 2'10 H 1'11 H 2'11 H1'09 H2'09
Brok etTec
EBS
Staff C os t/broker
Rev enue/Broker
perceived safe havens like US treasuries and the Swiss franc. ICAPs main electronic platforms EBS (trades spot FX) and BrokerTec (trades US Treasuries and European government bonds) would have been the biggest beneficiaries. Given that ebroking platforms carry an operating margin of 40% compared with 15% for voice broking, the impact on operating margins should be positive. In the three months to end September, total average daily volumes on the EBS and BrokerTec platforms reached USD881.8bn, compared with USD878bn in Q1 2011. Though BrokerTec volumes showed a slight decline in September, with an average trading volume of USD673.5bn as compared to USD710bn for July and August, FX trading volumes in EBS continued to surge, with average trading volume of USD183.1bn in September compared to USD83.7bn for July and August.
iSwaps
Brazil remains an issue

Despite ICAPs strong growth in revenue and market share in Brazil, the path to profitability has been longer than expected. According to management, losses in FY 2012 are expected to be similar to FY 2011 (GBP12-13m). However, data from Central bank of Mexico indicates that ICAP Brazil made a loss of GBP19m in H1 2011. This implies that the full-year loss is likely to be about GBP30m. In order to control costs, ICAP cut its 250-strong team in Brazil by 54. However, we understand that the Brazilian operation is facing some structural issues including: 1 Shortage of skilled labour: A severe shortage of qualified brokers in Brazil has led to higher compensation costs, resulting in lower operating margins. Pressure on commissions: Competition is high as there are more than 80 brokerages, and this has led to a lower average transaction price, making it difficult for the brokerages to break even.
iSwaps is ICAPs electronic trading platform for euro-dominated IRS. Currently it transacts close to 20% of ICAPs total euro interest rate swap volumes. However, ICAP saw some shift back to voice broking in July and August, due to significant volatility in European financial markets.
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The chart below shows we are 2.7% below the median of Bloomberg consensus for FY 2012e, 3.1% below for FY 2013e and 2.6% below FY 2014e
HSBC EPS versus consensus (pence)
60 40 20 0 2012e HSBC
Under HSBCs research model, for stocks without a volatility indicator, the Neutral band is 5pp above and below the hurdle rate for UK stocks of 7.5%, or 2.5% to 12.5% above the current share price. Since our 12-month target price of 470p implies a 9.6% potential return (excluding dividend yield). We remain Neutral. The stock also offers a dividend yield of 4.8%. Potential return equals the percentage difference between the current share price and the target price, including the forecast dividend yield when indicated.
Investment risks
2013e Consensus 2014e
The key upside risk is an increase in volatility. The key downside risks include a reduction in volatility and regulators introducing regulations that lead to a reduction in trading volumes.
Valuation
At 429p, ICAP is trading at a PE of 11x and EV/ EBITDA of 6.1x on our FY 2012 estimates. Given that short-term earnings are driven by volatility, which is difficult to predict, we use a DCF-based valuation to arrive at the intrinsic value of this business. We use a three-stage DCF model to value ICAP. In stage 1, we explicitly model the cash flows for the next three years. In stage 2, we model a fade in revenue growth and in stage 3 we increase the cash flows at 2% pa until perpetuity. Using a risk-free rate of 3.5%, an equity market risk premium of 4% and a beta of 1.6, we arrive at a cost of equity of 10% to arrive at a valuation of 468p. We round this up to arrive at our unchanged target price of 470p
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ICAP, Key summary data, all figures in GBPm except per share data Income statement FY 2010 FY 2011 FY 2012e FY 2013e FY 2013e
Core voice New business Electronic broking Post trade + information Other income Total revenues Staff costs Salaries (including bonuses) Fixed Bonus Social security costs Total operating expenses
Operating profit norm (excluding excep) Core voice New business Electronic broking Post trade + information PBT norm Core voice New business Electronic broking Post trade + information
1,036 175 252 142 19 1,624 (950) (879) (253) (626) (54) (1,270)
354 196 (11) 100 69 334 185 (10) 94 65
1,183 72 302 184 21 1,762 (1,001) (925) (281) (644) (61) (1,387)
375 194 (21) 123 79 350 168 (18) 106 68
1,217 86 326 199 8 1,851 (1,060) (986) (306) (680) (58) (1,452)
399 194 (15) 134 86 373 182 (14) 125 80
1,278 95 349 215 14 1,960 (1,117) (1,040) (314) (726) (60) (1,522)
438 212 (5) 143 88 413 200 (4) 135 83
1,342 105 373 232 22 2,077 (1,171) (1,092) (323) (769) (61) (1,590)
486 226 5 153 103 463 214 5 146 98
PAT reported Profit on ordinary activities after taxation PAT attributable to equity holders of the parent EPS Norm Dil DPS Book value/share (pence)
134 277
116 34.7 17.6
183 306
187 39.5 20.0
197 282
197 39.1 20.7
225 315
225 44.0 22.6
256 352
256 49.2 25.6
186
190
200
214
231
Performance ratios Growth Revenue Operating profit PBT EPS, norm Ratios Staff cost/revenues Operating margin PBT margin RoE
Source: Company reports and filings, HSBC estimates
1.0% -3.0% -4.0% -2.3%
8.5% 5.9% 4.8% 13.9%
5.0% 6.3% 6.6% -1.0%
5.9% 9.8% 10.7% 12.3%
5.9% 11.1% 12.0% 12.0%
59.2% 21.8% 20.6% 11.0%
57.5% 21.3% 19.9% 11.4%
58.0% 21.5% 20.2% 14.9%
57.7% 22.3% 21.1% 16.0%
57.1% 23.4% 22.3% 16.9%
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Financials & valuation: ICAP

Financial statements Year to 03/2011a 03/2012e 03/2013e 03/2014e Valuation data Year to 03/2011a 03/2012e 03/2013e
Neutral
03/2014e
Profit & loss summary (GBPm)
Cash flow summary (GBPm)
1,762 429 -54 375 -48 233 350 -50 183 306
1,851 452 -54 399 -29 313 373 -116 197 282
1,960 495 -57 438 -28 349 413 -124 225 315
2,077 547 -60 486 -27 395 463 -139 256 352
1.6 6.6 2.2 10.8 2.3 7.5 4.7
1.5 6.1 2.1 11.0 2.1 10.2 4.8
1.4 5.4 2.1 9.8 2.0 11.4 5.3
1.2 4.7 2.0 8.7 1.9 12.8 6.0
Issuer information
Share price (GBPp) 256 -45 -97 -90 -60 206 311 -27 -114 -129 -68 281 346 -29 -121 -134 -91 314 384 -31 -128 -146 -110 350 Reuters (Equity) Market cap (USDm) Free float (%) Country Analyst
429 Target price (GBPp) IAP.L 4,473 82 United Kingdom Nitin Arora
470 Potentl return (%)
9.6
Balance sheet summary (GBPm)
Bloomberg (Equity) IAP LN Market cap (GBPm) 2,805 Enterprise value (GBPm) 2764 Sector Diversified Financial Services Contact 44 20 7991 6844
Price relative
1,421 87 75,171 477 76,771 74,900 565 88 1,231 1,302
1,421 87 75,239 545 76,839 74,900 565 20 1,299 1,302
1,421 87 75,330 636 76,930 74,900 565 -71 1,390 1,302
1,421 87 75,439 745 77,039 74,900 565 -180 1,499 1,302
611 561 511 461 411 361 311 261 211 161 2009
ICAP
611 561 511 461 411 361 311 261 211 161 2010
Rel to FTSE ALL-SHARE
2011
2012
Source: HSBC

Ratios (%)
8.5 7.5 5.9 13.1 13.9
5.0 5.5 6.3 34.3 -1.0
5.9 9.3 9.8 11.6 12.3
5.9 10.5 11.1 13.1 12.0
Per share data (GBPp)
1.3 26.3 11.4 0.4 24.3 21.3 8.9 7.0 0.2 290.9
1.4 22.6 14.9 0.4 24.4 21.5 15.8 1.5 0.0 1530.1
1.5 25.1 16.0 0.4 25.2 22.3 17.8 -5.0 -0.1
1.6 27.8 16.9 0.5 26.3 23.4 20.3 -11.9 -0.3
27.82 39.53 19.95 189.68
29.97 39.15 20.66 200.10
34.25 43.97 22.56 214.14
38.93 49.23 25.65 231.04
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London Stock Exchange

LSE has changed from a simple UK cash-trading company into
diversified European exchange running a with customers model

The plan to acquire a stake in LCH.Clearnet, which could lead to
promising synergies, marks a switch from prey to predator again

However, we cut our target price from 1,200p to 1,080p to reflect
risk of FTT, while reiterating our Overweight rating
Investment case
In the past decade the LSE has transformed itself from a simple UK cash-trading venue for maximising profits into a European exchange group with diversified revenue streams all along the process chain. Now, with a strategy LSE describes as a with customers model, the business model is becoming a kind of hybrid between a for profit and a mutual. The proposed acquisition of a 51% stake in LCH.Clearnet would add to product diversification while also creating some new growth opportunities in OTC derivatives clearing. Furthermore, it would create
some cost synergies, which we estimate at GBP28-70m (see our 29 September report: OW: Trading statement slightly above expectations; LCH.Clearnet deal could make sense, in our view). The revenue synergies, though harder to track, could come from improving the treasury business and, potentially, harmonising UK cash trading and clearing schedules. Using our equity value model, we calculate a target price for LSE of 1,080p (down from 1,200p) based on our stand-alone forecasts for FY 2013e (year-end March), which implies a potential return of 17% from the current share
Revenue breakdown FY 2012e

Other / NII 14% Techno logy 7% Pos t trade Serv ices 14% Information 24%

80% Listing 11% Cash trading 18% Other trading 13% 60% 40% 20% 0% -20% -40% EBITA margin
FY 09a FY 10a FY 11a F Y 12e FY 13e FY 14e
RoE after tax es
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Trend in the number of listings in Italy and UK

4000 3500 3000 2500 2000 1500 1000 500 Dec-07 Sep -11 0 Mar-07 Jun -07 Sep-07 Mar-08 Sep -08 Mar-09 Mar -10 Jun-10 Sep -10 Mar-11 Dec-09 Dec-10 Jun-08 Jun-09 Sep-09 Dec-08 Jun-11
UK cash-trading volumes (GBPbn)

600 500 400 300 200 100 0 1Q FY 2009a 2Q FY 2010a 3Q FY 2011a 4Q FY 2012e
London markets
Italian market
price. As at 21 October, the stock was trading at a PE of 10.7x for FY2012e (ending March 2012) and 9.8x for FY 2013e, compared with an adjusted global exchange sector average of 14.1x for 2011e and 12.3x for 2012e. We believe this discount to the global exchange sector is still too large, because LSEs business model continues to improve in many ways. Moreover, the proposed acquisition of LCH.Clearnet could add more value, which compensates for the risk of the potential introduction of a financial transaction tax (FTT) in Eurozone/Europe.
listings on LSEs main market has fallen less than 1%. However, as we saw some bigger IPOs, fees should have developed quite well. UK cash trading performed better in the second quarter (months July to September) after making a weak start to FY 2012e and we expect this recovery to continue. The only worrying aspect is the re-emergence of market share losses with the rise in volumes seen in the past two months. Italian cash trading activity also picked up. The post-trade business in Italy is partly benefiting from a rise in settlement activity caused by higher trading activity in Italian bonds, derivatives and equities. Assets under custody have risen slightly, too. As the majority are fixedincome assets that are priced at nominal values, the revenue outlook is positive as well.

The listings business in UK has done quite well over the past year. Although the number of listings has shrunk, this was mainly on AIM, which has very little revenue impact. The overall number of
Italian cash trading volumes in number of trades

25, 000,000 20, 000,000 15, 000,000 10, 000,000 5, 000,000 0 1Q FY 2009a 2Q FY 2010a 3Q FY 2011a 4Q
Trend in main indicators of the post-trade business

3500 3000 2500 2000 1500 1000 500 0 1Q 08 3Q 08 1Q 09 3Q 09 1Q 10 3Q 10 1Q 11a 3Q 11e 16 14 12 10 8 6 4 2 0
Assets under custody in EURbn (LH)
Settlement instructions in m (RH)
FY 2012e
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Preview of LSEs half-year results GBPm H1 2010a H2 2010a 1H 2011e 159.4 90.2 22.6 51.9 53.8 384.2 194.0 219.2 172.2 115.4 h-o-h y-o-y
Capital markets Information services Technology services Post trade services NTI through CCP Total income Operating costs EBITA Profit on ord. activities before taxes Net profit
136.9 90.2 24.5 48.3 16.7 321.2 192.2 152.7 103.0 65.0
144.6 94.5 24.1 51.0 34.6 353.7 202.8 198.4 135.2 86.6
10% -5% -6% 2% 55% 9% -4% 10% 27% 33%
16% 0% -8% 7% 222% 20% 1% 44% 67% 77%
Preview for interim results

LSE will release its interim results on 16 November 2011 and host an analyst conference on the same day. Capital market revenues come from two sources: primary and secondary markets. We expect primary markets to be up slightly on higher listing fees. Secondary revenues are positively driven by higher trading volumes and negatively driven by slightly lower margins. The number of terminals in information services declined, but this was partly offset by high demand for data products. Technology services is still struggling, because delivery of Millennium IT trading technology to other exchanges will take some time as contracts have only just been signed. Post-trade services is showing higher clearing and settlement volumes on a y-o-y comparison. We also see higher assets under custody y-o-y. Net treasury income through the CCP business should increase significantly thanks to better processes and higher money market rates. The company flagged this quite recently. Operating costs should stay relatively stable y-o-y as no major cost savings can be realised. However, they benefit from seasonal trends.

Looking at the consensus forecasts in the chart below, we are in line for current FY 2011e. In subsequent years, we are 5% ahead for FY 2012e and 12% for FY 2013e. We believe the main reason for this is higher sales forecasts.
HSBC EPS versus consensus EPS (p)
120 100 80 60 40 20 0 FY 2012e FY 2013e FY 2014e 82.5 82.5 90.4 86.2 102. 6 91.4
HSBC EPS
cons ens us EPS
Valuation
We use our equity value model to calculate our reduced target price of 1,080p (1,200p before) based on our stand-alone FY 2013 forecasts. We divide our ROE estimate of 19.1% by our cost of equity (COE) of 8.2%, which we calculate using the CAPM approach, and use a risk-free rate of 3.5% for UK stocks, a risk premium of 4.0%, and a beta of 1.18. We then multiply this by the estimated book value of 503p and add the FY 2011 dividend proposal of 26.8p to arrive at our normal 1,200p fair value. Finally, we apply a 10%
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LSE valuation model FY 2012e Mix 12/13e FY 2013e 19.1% 8.2% 2.33 5.03 11.69 0.27 -1.20 10.8 22% Mix 2013/14e FY 2014e
RoE CoE Multiplier Equity capital per share Business value Dividends 10% Discount Fair value (EUR) Potential return
19.9% 8.2% 2.42 4.41 10.68 0.27 -1.10 9.9 12%
19.5% 8.2% 2.37 4.72 11.20 0.27 -1.15 10.3 17%
19.1% 8.2% 2.32 5.39 12.50 0.27 -1.28 12.8 45%
19.0% 8.2% 2.31 5.76 13.31 0.27 -1.36 13.6 54%
discount for the risk of the potential introduction of the FTT in either Eurozone or Europe to arrive at our new target price of 1,080p. Under HSBCs research model, the Neutral band for non-volatile UK stocks is a potential return of 2.5% to 12.5%. As our new target price of 1,080p implies a potential return of 22% from the price at the close on 21 October, we reiterate our Overweight rating. Potential return equals the percentage difference between the current share price and the target price, including the forecast dividend yield.
Sensitivity analysis (GBP) ________Risk premium (%) _________ 3.0 3.5 4.0 4.5 5.0 Risk-free rate (%) 2.50 3.00 3.50 4.00 4.50
Investment risks
Following the failed merger with TMX, the downside risks to our Overweight stance on LSE include another failure of M&A activity, this time in not winning LCH.Clearnet. Second, a Eurozone/European FTT could be negative for the shares. Furthermore, renewed concerns about the US and world economy could push market sentiment down again, with adverse effects on trading volumes. Margin pressure and market share losses in equity trading could increase, owing to competitors such as Chi-X and BATS. EU regulation on post-trade services could hurt Monte Titolis revenues. A possible sell-off by the major shareholders could put pressure on the share price. Last but not least, LSE still has negative net tangible equity.
14.6 13.5 12.5 11.7 11.0
13.3 12.4 11.6 10.9 10.3
12.2 11.4 10.8 10.2 9.6
11.3 10.6 10.1 9.5 9.1
10.5 10.0 9.4 9.0 8.6
Our sensitivity analysis, based on a fair value range of 860p-1,460p, shows that if we adopted more conservative assumptions than in our base case, the stock would offer a negative potential return (-3%), leading to an Underweight rating. If we used a lower risk premium and interest rate, the potential return would be much higher (65%).
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LSE P+L in GBPm FY 2009a FY 2010a FY 2011a FY 2012e FY 2013e FY 2014e
Capital markets % Information services % Technology services % Post-trade services % Other revenues % Total revenues % Net treasury income through CCP business % Other income % Total income % Personnel costs % Other administrative costs % Depreciation % Goodwill amortisation % Operating costs % Exceptional items % Admin expenses % Operating profit % Share of op. profit on JV % EBIT % Net interest receivable/payable % Profit on ord. activities before taxes % Taxes Tax rate Minorities Net profit % Dividend sum % Retained profit % Dividend per share % EPS in GBp %
341.50 -1.6% 173.50 20.8% 34.00 n/a 91.60 114.0% 4.10 -68.2% 644.70 18.0% 20.80 n/a 5.90 n/a 671.40 22.9% 113.30 19.0% 183.70 32.7% 35.80 51.2% 49.40 0.0% 382.20 37.0% 499.20 0.0% 881.40 213.4% -210.00 -179.2% 4.10 86.4% -205.90 -177.0% -44.90 37.3% -250.80 -206.9% 82.00 -32.7% -5.20 -338.00 -294.5% 65.47 1.7% -403.47 -468.8% 0.244 1.7% -126.0 -275.2%
287.40 -15.8% 169.30 -2.4% 47.30 39.1% 100.00 9.2% 1.60 -61.0% 605.60 -6.1% 16.20 -22.1% 6.50 10.2% 628.30 -6.4% 110.90 -2.1% 170.80 -7.0% 67.90 89.7% 54.30 0.0% 403.90 5.7% 43.70 0.0% 447.60 -49.2% 180.70 -186.0% 1.60 -61.0% 182.30 -188.5% -38.00 -15.4% 144.30 -157.5% 52.60 36.5% -1.30 90.40 -126.7% 66.54 1.6% 23.86 -105.9% 0.248 1.6% 33.7 -126.7%
281.50 -2.1% 184.70 9.1% 48.60 2.7% 99.30 -0.7% 1.80 12.5% 615.90 1.7% 51.30 216.7% 7.70 18.5% 674.90 7.4% 117.40 5.9% 175.50 2.8% 44.00 -35.2% 58.10 7.0% 395.00 -2.2% 10.00 0.0% 405.00 -9.5% 269.90 49.4% 13.10 718.8% 283.00 55.2% -44.80 17.9% 238.20 65.1% 81.70 34.3% -4.90 151.60 67.7% 71.90 8.1% 79.70 234.0% 0.268 8.1% 56.5 67.7%
326.20 15.9% 179.00 -3.1% 50.00 2.9% 105.80 6.5% 4.00 122.2% 665.00 8.0% 96.00 87.1% 8.80 14.3% 769.80 14.1% 120.00 2.2% 175.00 -0.3% 45.00 2.3% 54.00 -7.1% 394.00 -0.3% 0.00 0.0% 394.00 -2.7% 375.80 39.2% 3.50 -73.3% 379.30 34.0% -39.92 -10.9% 339.38 42.5% 112.00 33.0% -6.00 221.38 46.0% 74.59 3.7% 146.80 84.2% 0.278 3.7% 82.5 46.0%
355.00 8.8% 189.00 5.6% 56.00 12.0% 113.00 6.8% 4.20 5.0% 717.20 7.8% 82.00 -14.6% 9.60 9.1% 808.80 5.1% 123.00 2.5% 180.00 2.9% 46.00 2.2% 54.00 0.0% 403.00 2.3% 0.00 0.0% 403.00 2.3% 405.80 8.0% 4.00 14.3% 409.80 8.0% -37.43 -6.3% 372.38 9.7% 122.88 33.0% -7.00 242.49 9.5% 77.27 3.6% 165.22 12.6% 0.288 3.6% 90.4 9.5%
383.00 7.9% 201.00 6.3% 62.00 10.7% 120.60 6.7% 4.40 4.8% 771.00 7.5% 84.00 2.4% 10.40 8.3% 865.40 7.0% 126.00 2.4% 185.00 2.8% 47.00 2.2% 54.00 0.0% 412.00 2.2% 0.00 0.0% 412.00 2.2% 453.40 11.7% 4.50 12.5% 457.90 11.7% -34.93 -6.7% 422.97 13.6% 139.58 33.0% -8.00 275.39 13.6% 79.95 3.5% 195.44 18.3% 0.298 3.5% 102.6 13.6%
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LSE balance sheet in GBPm FY 2009a FY 2010a FY 2011a FY 2012e FY 2013e FY 2014e
Property, plant and equipment Intangible assets Available for sale investments Investment in joint venture & associates Trade and other receivables Deferred tax assets Non-current assets % Trade and other receivables Cash and cash equivalents Assets held at fair value Current tax Financial assets of CCP clearing business Current assets % Total assets % Trade and other payables Current tax Borrowings Provisions Financial liabilities of CCP clearing business Current liabilities % Borrowings Retirement benefit obligations Provisions Other non-current liabilities Non-current liabilities Total liabilities % Share capital Retained earnings Equity capital Equity minority interest Total Equity % Equity and liabilities %
79.9 1,584.9 0.4 3.6 5.4 5.7 1,679.9 1063% 114.5 143.7 5.0 0.0 35,674.5 35,937.7 24314% 37,617.6 12800% 114.5 7.6 2.3 3.8 35,679.2 35,807.4 10435% 622.5 8.3 22.9 103.3 653.7 36,461.1 5815% 18.7 938.2 956.9 96.3 1053.2 -424% 37,617.6 12800%
74.9 1,484.1 0.4 8.6 5.3 6.2 1,579.5 -6% 135.0 223.1 9.5 0.0 84,250.0 84,617.6 135% 86,197.1 129% 137.1 10.5 0.9 9.0 84,254.8 84,412.3 136% 605.8 7.3 30.2 110.6 753.9 85,166.2 134% 18.8 909.1 927.9 102.9 1030.8 -2% 86,197.1 129%
62.4 1,394.4 0.4 17.9 38.1 12.2 1,525.4 -3% 165.8 267.0 8.6 21.2 116,107.2 116,569.8 38% 118,095.2 37% 156.8 49.9 0.1 3.7 116,104.5 116,315.0 38% 499.0 6.4 27.8 110.0 643.2 116,958.2 37% 18.8 1018.1 1036.9 100.1 1137.0 10% 118,095.2 37%
70.0 1,394.4 0.4 19.0 41.0 13.0 1,537.8 1% 174.0 290.0 9.0 23.0 124,966.2 125,462.2 8% 127,000.0 8% 165.0 55.0 0.0 5.0 124,833.2 125,058.2 8% 499.0 8.0 31.0 120.0 658.0 125,716.2 7% 18.8 1164.9 1183.7 100.1 1283.8 13% 127,000.0 8%
80.0 1,394.4 0.4 20.0 44.0 14.0 1,552.8 1% 183.0 310.0 9.5 24.0 132,920.7 133,447.2 6% 135,000.0 6% 174.0 60.0 0.0 6.0 132,639.0 132,879.0 6% 499.0 9.0 34.0 130.0 672.0 133,551.0 6% 18.8 1330.1 1348.9 100.1 1449.0 13% 135,000.0 6%
90.0 1,394.4 0.4 21.0 47.0 15.0 1,567.8 1% 192.0 330.0 10.0 26.0 140,874.2 141,432.2 6% 143,000.0 6% 183.0 65.0 0.0 7.0 140,414.5 140,669.5 6% 499.0 10.0 37.0 140.0 686.0 141,355.5 6% 18.8 1525.6 1544.4 100.1 1644.5 13% 143,000.0 6%
Key figures 2008/09 2009/10 2010/11 2011/12e 2012/13e 2013/14e
Net debt Book value per share (in GBP) Net tangible equity (in GBPm) Net tangible equity per share (in GBP) Equity ratio Adjusted equity ratio Return on equity before taxes Return on equity after taxes Costs/Income ratio after XO EBITA margin
-481.1 3.57 -628.0 -2.34 3% -32% -23.5% -31.7% 131.3% 51.0%
-383.6 3.46 -556.2 -2.07 1% -29% 15.3% 9.6% 71.2% 44.6%
-232.1 3.86 -357.5 -1.33 1% -18% 24.2% 15.4% 60.0% 52.0%
-909.0 4.41 -210.7 -0.79 1% -10% 30.6% 19.9% 51.2% 56.3%
-189.0 5.03 -45.5 -0.17 1% -2% 29.4% 19.1% 49.8% 57.3%
-169.0 5.76 150.0 0.56 1% 6% 29.2% 19.0% 47.6% 59.2%
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Financials & valuation: London Stock Exchange

Financial statements Year to P&L summary (GBPm) 03/2011a 03/2012e 03/2013e 03/2014e Valuation data Year to 03/2011a 03/2012e
Overweight
03/2013e 03/2014e
6.5 614.1 0.0 9.5 630.1 -336.9 0.0 -45.0 248.2 -10.0 238.2 -81.7 -4.9 151.6 161.6
56.1 661.0 0.0 12.8 729.9 -340.0 0.0 -50.5 339.4 0.0 339.4 -112.0 -6.0 221.4 221.4
44.6 713.0 0.0 13.8 771.4 -349.0 0.0 -50.0 372.4 0.0 372.4 -122.9 -7.0 242.5 242.5
49.1 766.6 0.0 14.8 830.5 -358.0 0.0 -49.5 423.0 0.0 423.0 -139.6 -8.0 275.4 275.4
14.6 8.1 6.8 3.0
10.7 6.1 9.3 3.2
9.8 5.6 10.1 3.3
8.6 5.0 15.8 11.5 3.4
Issuer information
Share price (GBPp)
882 Target price (GBPp) 1,080 Potentl return (%) 22.4 Bloomberg (Equity) Market cap (GBPm) LSE LN 2391.2
Reuters (Equity) LSE.L Market cap (USDm) 3813.5 Free float (%) 53 Country United Kingdom Analyst Johannes Thormann
Ordinary equity HSBC ordinary equity Debt securities holdings Total assets
1036.9 1036.9 116107.2 118095.2
1183.7 1183.7 124966.2 127000.0
1348.9 1348.9 132920.7 135000.0
1544.4 1544.4 140874.2 143000.0
Price relative
1122 1072 1022 972 922 872 822 772 722 672
Oct- 10 London Sto ck Exchange Apr-11 Rel to FT SE ALL -SHARE
Ratios (%)
6.7 -3.6 21.8 67.7 20.5 8.1 11.7
15.8 0.9 33.0 46.0 37.0 3.7 14.2
5.7 2.6 8.3 9.5 9.5 3.6 14.0
7.7 2.6 11.9 13.6 13.6 3.5 14.5
1122 1072 1022 972 922 872 822 772 722 672
Oct-11
Source: HSBC

53.5 16.4
46.6 19.9
45.2 19.1
43.1 19.0
56.50 60.23 26.80 -133.25 386.47
82.51 82.51 27.80 -78.53 441.18
90.38 90.38 28.80 -16.95 502.76
102.64 102.64 29.80 55.89 575.61
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NYSE Euronext
NYSE Euronext will benefit greatly from proposed Deutsche Brse
merger as its dependence on trading business will be reduced

Fears about the macroeconomic background have affected the
share price performance, and potential FTT in Europe or in the Eurozone have also affected the shares
We cut our target price from USD47 to USD35 but stay
Overweight, albeit adding a volatility flag; NYSE Euronext seems the better of the two stocks for playing the merger
Investment case
The companys management team has diversified revenue streams in recent years by reducing dependency on US cash trading, building up the growing US derivatives business and launching an offensive in the technology services arena. But as it still lacks critical post-trade capacities, the company should benefit strongly from the merger with Deutsche Brse. Furthermore, the estimated synergies of EUR11.77 per Deutsche Brse or NewCo share translate into USD7.8 per NYX
Other Techno logy 13% US deriv ativ es 6. 6% European deriv ativ es 22.7%
share. However, the stock has not performed in the past few weeks due to the macroeconomic environment and fears about the possible FTT introduction in Europe. Our valuation model yields a reduced target price of USD35. We still base the target price on our 2012 forecasts but now apply a 25% discount for a possible FTT. (Please see main section for further details.) As at close on 21 October, the stock was trading at PEs of 10.9x for 2011e and 8.3x for 2012e, compared with adjusted global
US cash 8.3%
European c ash trading 11. 3%
30% 25% 20% 15% 10% 5% 0% -5% -10% 2008a 2009a 2010a 2011e 2012e ROE 2013e
7.6%
Market data 15%
Listing 16%
EBITA margin
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European cash trading volumes in number of trades (m)

600 500 400 300 200 100 0 0% -10% -20% 30% 20% 10%
US cash trading volumes (bn shares handled)
1,000 800 600 400 200 0
30% 20% 10% 0% -10% -20% -30%
2010a
2011e
2008a
2009a
2012e
2013e
2008a
2009a
2010a
2011e
2012e
Number of trades in m (LH)

Grow th rate (RH)
Handled v olume (LH)

Grow th rate (RH)
exchange sector averages of 14.1x for 2011e and 12.3x for 2012e. As the potential return to our reduced target price of USD35 is 31%, we maintain our Overweight rating, albeit adding a volatility flag. The dividend yield is already a healthy 4.5% but the proposed special dividend of EUR2.0/USD1.31 to gain the shareholder support necessary for the proposed merger with Deutsche Brse would imply more than doubling this. NYSE Euronext seems the better stock for playing the potential merger with Deutsche Brse.
year and now expect 17% growth in 2011e after 8% in 2010. However, US cash trading has seen another downturn in 2011 in year-on-year terms. Nearly every month from January to July was at, or close to, lows. This led us to lower our volume forecasts in the last three quarters. The spike of activity in August helped to mitigate the decline but we still expect an 8% decline for 2011e after a 21% decline in 2010. After decoupling in 2009 and 2010, the US options business was partly affected by difficult cash equities markets. Q2 showed no growth in average daily volume (ADV) but Q3 showed strong growth again. We see 20% growth in ADV for 2011e after 40% in 2010.

European cash trading has clearly benefited from current market environment. We have increased our volume forecasts since the beginning of the
European derivatives trading activity (m contracts traded)
2,000 1,600 1,200 800 400 0 2009a 2011e 2013e 2008a 2010a 2012e 20% 15% 10% 5% 0% -5%
US derivatives: Average daily options traded (m)
2013e
50% 40% 30% 20% 10% 0% Grow th rate (RH) 2013e
7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 2008a 2009a 2012e 2010a 2011e
Number of traded contracts (LH)

Grow th rate (RH)
Av rg. no.of contracts (LH)

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Quarterly results for NYSE Euronext USDm Q3 2010a Q2 2011a Q3 2011e 499 81 418 253 178 75 111 92 94 682 1101 -861 240 211 160 0.61 0.67 q-o-q y-o-y
Cash Trading of which European of which US Derivatives of which European of which US Listing Market data Software & Technology Net revenues Total revenues Total expenses Operating income Pre tax result Net income EPS (USD) Adjusted EPS (USD)
426 59 367 223 165 57 105 94 82 597 973 -819 153 126 126 0.48 0.46
401 72 329 252 187 65 112 92 89 661 1003 -779 224 193 154 0.59 0.61
24% 12% 27% 0% -5% 15% -1% 0% 6% 3% 10% 11% 7% 9% 4% 4% 10%
17% 37% 14% 14% 8% 31% 6% -2% 15% 14% 13% 5% 56% 67% 27% 27% 46%
The European derivatives business is struggling to reach last years level and we expect a 2% decline y-o-y instead of the increase we forecast at the beginning of this year.
Preview of Q3 results
Cash trading revenues will be driven by improved volumes in Q3 2011. The US cash equities business recovered in August and September after a very weak July. Net revenues per 100 shares handled should be fairly stable. Euronext cash trading is performing quite well, Q3 being the best quarter so far in terms of trades (125.9m). However, the net revenue per transaction should decline. In terms of derivatives, we expect the US options business to continue to grow q-o-q as well as y-oy, while the European business at Liffe should show a small decline q-o-q but be up y-o-y. The average margin for Q3 was indicated to be down q-o-q for both units. Listing fees and market data should stay relatively stable. The software and technology business should be up, as previous quarters were slightly disappointing and new service offerings are now operating.
We expect total expenses to reflect FX effects owing to shifts in the US dollar. We also expect that the fixed cost base of USD423m will increase from the previous quarter, as guided by company. The expected tax rate of 26.5% is in line with the companys full-year guidance.

HSBC EPS versus consensus (USD)
4.00 3.00 2.00 1.00 0.00 2011e HSBC EPS
Source: Factset consensus, HSBC estimates
3. 21 2.45 2. 60
3. 77 2. 95
3.30
2012e Consensus EPS
2013e
For 2011e, we are 6% below the median of Factset consensus on EPS. However, for 2012e and 2013e we are 9% and 14% ahead of market expectations, respectively.
Valuation
We reduce our target price for NYX from USD47 to USD35, which is still based on stand-alone
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NYSE Euronext valuation model 2011e Mix 11/12e 2012e 23.3% 7.6% 3.08 14.75 45.5 1.20 -11.66 35 31% Mix 12/13e 2013e
Adj. RoE CoE Multiplier (x) Net tangible book per share (USD) Business value (USD) Dividends (USD) 25% Discount Fair value in USD Potential return
21.0% 7.6% 2.77 12.75 35.3 1.20 -9.12 27 2%
22.1% 7.6% 2.92 13.75 40.2 1.20 -10.35 31 16%
23.4% 7.6% 3.09 16.04 49.6 1.20 -12.69 38 42%
23.5% 7.6% 3.10 17.32 53.7 1.20 -13.73 41 54%
2012 forecasts. We divide our adjusted ROE estimate of 23.3% by our cost of equity (COE) estimate of 7.6%, which is calculated using the CAPM approach based on a risk-free rate of 3.5%, the HSBC risk premium of 3.5% for US stocks and a beta of 1.16. We then multiply this by the estimated tangible book value of USD14.75 and add our annual dividend expectation of USD1.20. We do not include the proposed special dividend of approximately USD1.30 based on current FX rates that will be paid if the merger with Deutsche Brse succeeds, as we value the company on a stand-alone scenario. Last but not least, we introduce a 25% discount for the risk of the potential introduction of the FTT in either the whole of Europe or just the Eurozone, to arrive at our new target price of USD35. Under our research model, for stocks with a volatility indicator, the Neutral band is ten percentage points above and below the hurdle rate for US stocks of 7.0%. This translates into a Neutral band of -3% to 17% relative to the current share price. Our target price of USD35 implies a potential return of 31%; we therefore have an Overweight (V) rating. Potential return equals the percentage difference between the current share price and the target price, including the forecast dividend yield. A fair value range of USD27 to USD49 per share yielded by our sensitivity analysis shows that if we used more cautious standard assumptions than those in our base case, the stock would offer a
potential return of 2%, which would imply a Neutral (V) rating. If we used a lower risk premium and risk-free rate than in our base case, the potential return (82%) would be even higher than in the base case, also implying an Overweight (V) rating.
Sensitivity analysis (USD) ________ Risk premium % _________ 2.5 3.0 3.5 4.0 4.5 Risk-free rate % 2.50 3.00 3.50 4.00 4.50
49 45 41 38 36
44 41 38 35 33
40 37 35 33 31
37 35 33 31 29
34 32 30 29 27
Investment risks
Downside risks to our Overweight (V) rating on NYSE Euronext include, most importantly, the failure of the merger with Deutsche Brse. Second is the introduction of a FTT in Europe or the Eurozone. There are a number of other risks. Renewed fears about the state of the US and world economies could push market sentiment down again and hurt trading volumes. Market share losses could resume in the US, while margin pressure and market share losses could increase in the European equity trading operations as a result of greater competition. A continued strengthening of the US dollar could reduce revenues from the European operations. Regulation and changes in legislation are additional risks.
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NYSE Euronext P+L (USDm) 2008 2009 2010 2011e 2012e 2013e
Cash Trading % of which European % of which US % Derivatives % of which European % of which US % Listing % Market data % Technology % Regulatory % Licensing, facility and other % Total revenues % Compensation % Liquidity payments, routing and clearing % Systems and communications % Professional services % Depreciation and amortisation % Selling, general and administrative % Merger related costs % Regulatory fine income % Total expenses % Operating income % Financial result % XO % Pre tax result % Income tax provision Tax rate Minority interest % Net income % Earnings per share % Shares outstanding % DPS %
2,388 51.6% 628 51.7% 1,760 51.6% 919 39.0% 768 33.6% 152 76.7% 395 2.6% 428 15.4% 325 2.2% 49 -67.8% 135 -3.6% 4,639 28.8% -783 8.1% -1,592 67.4% -337 14.6% -170 38.2% -263 4.4% -330 -12.9%
3 -90.0% -3,472 28.9% 1,167 28.4% -64 -633.3% -1,684 n/a -581 -163.1% 103 -17.7% -8 -68.0% -692 -207.6% -2.65 -200.2% 261.0 7.4% 1.20 20.0%
2,192 -8.2% 332 -47.1% 1,860 5.7% 845 -8.1% 652 -15.1% 193 27.0% 406 2.8% 402 -6.1% 201 -38.2% 43 -12.2% 226 67.4% 4,315 -7.0% -649 -17.1% -1,829 14.9% -225 -33.2% -223 31.2% -266 1.1% -320 -3.0% -517 n/a 0 -100.0% -4,029 16.0% 286 -75.5% -110 71.9% 29 -101.7% 205 -135.3% -7 -3.4% 7 -187.5% 219 -131.6% 0.84 -131.8% 260.0 -0.4% 1.20 0.0%
1,808 -17.5% 265 -20.1% 1,542 -17.1% 1,005 18.9% 741 13.7% 263 36.5% 422 3.9% 373 -7.2% 318 58.2% 0 -100.0% 184 -18.6% 4,110 -4.8% -613 -5.5% -1,599 -12.6% -206 -8.4% -282 26.5% -281 5.6% -296 -7.5% -88 -83.0% 0 0.0% -3,365 -16.5% 745 160.3% -114 3.6% 55 89.7% 686 234.4% 128 18.7% 19 171.4% 577 163.3% 2.21 162.3% 261.0 0.4% 1.20 0.0%
1,820 0.7% 308 16.1% 1,512 -2.0% 1,064 5.9% 780 5.2% 284 7.8% 444 5.2% 376 0.8% 360 13.2% 0 0.0% 208 13.0% 4,272 4.0% -632 3.1% -1,553 -2.9% -200 -2.9% -288 2.1% -280 -0.4% -282 -4.7% -78 -11.4% 0 0.0% -3,313 -1.6% 959 28.8% -116 2.0% 0 -100.0% 843 23.0% 223 26.5% 20 5.3% 640 10.9% 2.45 10.9% 261.0 0.0% 1.20 0.0%
2,074 14.0% 338 9.8% 1,736 14.8% 1,212 13.9% 896 14.9% 316 11.3% 466 5.0% 392 4.3% 400 11.1% 0 0.0% 220 5.8% 4,764 11.5% -616 -2.5% -1,794 15.5% -208 4.0% -296 2.8% -288 2.9% -296 5.0% -44 -43.6% 0 0.0% -3,542 6.9% 1,222 27.4% -104 -10.5% 0 0.0% 1,118 32.6% 302 27.0% 21 5.0% 837 30.9% 3.21 30.9% 261.0 0.0% 1.20 0.0%
2,319 11.8% 367 8.6% 1,952 12.4% 1,336 10.3% 992 10.7% 344 8.9% 488 4.7% 408 4.1% 440 10.0% 0 0.0% 232 5.5% 5,223 9.6% -632 2.6% -2,026 12.9% -216 3.8% -304 2.7% -296 2.8% -308 4.1% -36 -18.2% 0 0.0% -3,818 7.8% 1,405 15.0% -89 -14.2% 0 0.0% 1,316 17.7% 355 27.0% 22 4.8% 983 17.4% 3.77 17.4% 261.0 0.0% 1.20 0.0%
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NYSE Euronext balance sheet USDm 2008 2009 2010 2011e 2012e 2013e
Cash and cash equivalents Accounts receivable, net Deferred income taxes Other current assets Total current assets Property and equipment, net Goodwill Other intangible assets, net Investment in associates and others Deferred income taxes Total assets in % Accounts payable and accrued expenses Deferred revenue Short-term debt Deferred income taxes Total current liabilities Accrued employee benefits Deferred revenue Long-term debt Deferred income taxes Other liabilities Total liabilities Minority interest Stockholders equity Total liabilities and stockholders equity in %
1,013 744 113 156 2,026 695 3,985 5,866 705 671 13,948 -16% 1,081 113 1,350 38 2,582 576 360 1,787 2,002 67 7,374 18 6,556 13,948 -16%
490 660 100 270 1,520 986 4,210 6,184 656 802 14,358 3% 1,328 163 616 18 2,125 504 362 2,166 2,090 176 7,423 18 6,917 14,358 3%
379 526 81 149 1,135 1,021 4,050 5,837 663 593 13,299 -7% 823 184 366 2 1,375 499 366 2,074 2,007 134 6,455 18 6,826 13,299 -7%
450 650 80 230 1,410 1,100 4,232 6,139 619 700 14,200 7% 900 450 0 30 1,380 453 400 2,000 2,050 87 6,370 272 7,558 14,200 7%
500 700 110 260 1,570 1,200 4,232 6,139 759 800 14,700 4% 950 500 0 35 1,485 500 420 1,800 1,900 240 6,345 272 8,083 14,700 4%
550 750 140 290 1,730 1,300 4,232 6,139 899 900 15,200 3% 1,000 550 0 40 1,590 550 440 1,600 1,750 246 6,176 272 8,752 15,200 3%
Key figures for NYSE Euronext 2008 2009 2010 2011e 2012e 2013e
Book value per share (EUR) Average equity (EURm) Net tangible book (EUR) Net tangible book per share (EURm) Average net tangible equity (EURm Equity ratio Return on equity (pre-tax) Return on equity (after tax) Adjusted RoE after taxes Cost/Income ratio EBITA margin Net debt (EURm
25.12 7,970 2,571 9.85 3,471 47% -7.3% -8.7% 25.9% 74.8% 25.2% 2,124
26.60 6,737 2,707 10.37 2,639 48% 3.0% 3.3% 7.5% 93.4% 6.6% 2,292
26.15 6,872 2,776 10.64 2,742 51% 10.0% 8.4% 21.0% 81.9% 18.1% 2,061
28.96 7,192 3,326 12.75 3,051 53% 11.7% 8.9% 21.0% 77.5% 22.5% 1,550
30.97 7,821 3,851 14.75 3,589 55% 14.3% 10.7% 23.3% 74.3% 25.7% 1,300
33.53 8,417 4,520 17.32 4,185 58% 15.6% 11.7% 23.5% 73.1% 26.9% 1,050
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Financials & valuation: NYSE Euronext

Financial statements Year to P&L summary (USDm) 12/2010a 12/2011e 12/2012e 12/2013e Valuation data Year to 12/2010a 12/2011e
Overweight (V)
12/2012e 12/2013e
0.0 3234.6 0.0 875.0 4109.6 -3365.0 0.0 -114.0 630.6 55.0 685.6 -128.0 19.0 576.6 521.6
0.0 3328.0 0.0 944.0 4272.0 -3312.7 0.0 -116.3 843.1 0.0 843.1 -223.4 20.0 639.7 639.7
0.0 3752.1 0.0 1012.0 4764.1 -3541.8 0.0 -104.0 1118.3 0.0 1118.3 -301.9 21.0 837.3 837.3
0.0 4143.4 0.0 1080.0 5223.4 -3818.0 0.0 -89.3 1316.2 0.0 1316.2 -355.4 22.0 982.8 982.8
13.4 9.4 7.4 4.5
10.9 7.3 9.1 4.5
8.3 5.7 11.9 4.5
7.1 5.0 0.8 14.0 4.5
Issuer information
Share price (USD)
26.78 Target price (USD)
35.00 Potentl return (%) 30.7 NYX US 7011.0
Reuters (Equity) NYX.N Market cap (USDm) 7011.0 Free float (%) 100 Country United States Analyst Johannes Thormann
Bloomberg (Equity) Market cap (USDm)
Price relative
44 44 39 34 29 24 19
Apr-11 Rel to S&P 500 O ct-11
Ratios (%)
-4.8 -16.5 160.3 163.3 174.5 0.0 -1.7
4.0 -1.6 28.8 10.9 22.6 0.0 10.7
11.5 6.9 27.4 30.9 30.9 0.0 6.9
9.6 7.8 15.0 17.4 17.4 0.0 8.3
39 34 29 24 19
Oct-1 0 NYSE Euronext

Per share data (USD)
81.9 7.6
77.5 8.9
74.3 10.7
73.1 11.7
Source: HSBC
2.21 2.00 1.20 -11.73 26.15
2.45 2.45 1.20 -10.78 28.96
3.21 3.21 1.20 -8.77 30.97
3.77 3.77 1.20 33.53 33.53
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Singapore Exchange
Given the flexibility available to SGX, it is premature to assume a
potential deal with LME will be value destructive, in our view

Growth in stock turnover is likely to resume with a prospective
market recovery, and technology costs are set to peak soon

Fundamentals are still on the mend and the market has overreacted
to the M&A news; we reiterate Overweight and SGD8.2 target price
Investment case
In the spotlight (again)
Singapore Exchange (SGX) was linked to bidding for London Metal Exchanges (LME) alongside the London Stock Exchange (LSE) in a Reuters report on 30 September 2011. This led its share price to underperform the broader market index (FSSTI) by nearly 10% in the following two weeks. We understand that the market is sceptical about a potential deal. Many investors still have bitter memories of SGXs failed merger with ASX earlier this year. The hefty valuation for LME mentioned in
some news media reports (potential bidding price to exceed GBP1bn versus earnings of less than GBP10m in 2010, source: Telegraph) has also aroused some concerns about the deals returns. We do, however, believe it is too soon to reach any conclusion about the deal, due to the absence of any detail. It is also worth noting that every deal is unique in nature, and were SGX to pursue it, it would be different from the proposed ASX merger. There is also no urgency for SGX to compete for LME. This leaves it with plenty of flexibility for bargaining should it ever join the bidding.
York Pun*, CFA Analyst The Hongkong and Shanghai Banking Corporation Ltd (HK) + 852 2822 4396 yorkkypun@hsbc.com.hk Todd Dunivant* Analyst The Hongkong and Shanghai Banking Corporation Ltd (HK) +852 2996 6599 tdunivant@hsbc.com.hk
SGX revenue breakdown FY 2012e*

Issuer services 9% Depository 13% Member services 7% Market data 5% Derivatives 20% Securities 46%
SGX EBITA margin and ROE after taxes

70% 60% 50% 40% 30% 20% 10% 0% FY10 a FY11a FY12e FY1 3e ROE FY 14e
EBITA margin
* Year end June Source: Company data, HSBC estimates
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In fact, we believe SGX has little chance of becoming directly involved in the deal, although it might be a potential partner for the candidates that do compete for LME, in view of its Asian franchise and experience of cooperating with LME on minimetal contracts, which might help to strengthen their chance of success. The right strategy for SGX, in our view, is to cherry-pick among the possible partners and proposals. It might simply play a supportive role in the potential deal, in return for product offering opportunities in the future. If this is the case, it would help to reduce the execution risks and avoid overstretching of management resources.
September and the volatile market performance has also raised questions about the possibility of a dramatic turnover slowdown ahead. However, we remain positive about the turnover growth outlook because: Our regression study shows that the current SADV is below trend against the levels implied by the FSSTI (see our flashnote published on 17 October 2011 for details). Our strategy team believes the Singapore market is attractively priced and the risk of disappointment is low. While it is logical to believe a weakening market will be followed by poor stock turnover, this did not happen in 2009, when the market quickly turned around from the crisis. We believe a similar trend (to 2009) could be seen this time. In terms of valuation, SGX is currently trading at around 20x FY 2012 PE, which is at the lower end of its historical range (2006 to the present) and is lower than the average of 23x. We also believe SGX will adhere to a high payout policy, unless it aggressively participates in a cross-border acquisition. In light of this, we believe the 4.5% prospective yield for FY 2012e provides good downside protection for investors.
Fundamentals are still on the mend

SGX reported a solid set of Q1 FY 2012 results on 17 October 2011, with the quarters earnings beating Reuters consensus by 7%. One of the positive surprises in the results is a decline in technology expenses, which stopped the upward trend of the previous four quarters and confirmed our belief that technology expenses are peaking. This should alleviate some of the cost pressures facing the company and improve its operating leverage. One other key concern about SGX is a possible slowdown in stock market turnover. The securities average daily value (SADV) has registered healthy q-o-q growth in the last quarter, but over 40% of total turnover in Q1 FY 2012 was concentrated in August 2011. Stock turnover turned weak in
Cost breakdown: technology costs have started to plateau
35 30 25 20 15 10 5 0 3Q CY10 4QCY1 0 1Q CY11 Technology 2QCY11 Others 3QCY11
Comparing 6M turnover between pre- and post- market crashes

60% 40% 20% 0% -20% Sep-1 1 Feb-00 Ja n-98 Apr-01 Mar-09
Staff co sts
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HSBC EPS versus consensus forecasts (SGD)
0.50 0.40 0.30 0.20 0.10 0.00 FY11 e HS BC EP S FY12e Consensus EP S FY13e
target price implies a potential return of 36.6% (including the dividend of SBD0.28 for 2011e), which is above the Neutral band; thus, we maintain our Overweight rating. Despite the volatile market and uncertainties about M&A, we see good long-term value at the current price. On our estimates, every 10% change in average daily turnover for securities will have an impact of around 5% on revenue and 7% on profit in FY 2012e.
Investment risks
Change in regulations: SGX has benefited from a stable regulatory environment and its self-regulatory role. However, regulations could change, with adverse effects for the exchange. In particular, any big bang, like the MiFID in the EU, could change the competitive landscape and its business outlook. Market sentiment: We have assumed an SADV of SGD1.78bn for FY 2012e, increasing to SGD2.2bn in FY 2013e. However, this reading is affected by a number of factors, including the exchange rate and market sentiment. The market turnover trend could be worse than we have forecast, leading to lower earnings than we currently forecast. Policy risks: We assume moderate growth in money supply (and hence market liquidity) for several years. However, monetary conditions are affected by a number of factors. The attitude of MAS towards monetary tightening could be more or less aggressive than we have assumed, causing deviations to our forecasts. M&A risks: SGX has been linked to a number of potential acquisitions, including LCH.Clearnet and LME, according to the media news reports (for example, Reuters on 30 September 2011). While we believe every deal is different and should be analysed independently, market sentiment toward a deal could be negative.
Source: Bloomberg consensus, HSBC estimates
Our earnings forecast is in line with the consensus forecast for FY 2012e, but is 12% higher than the consensus forecast for FY 2013e and 15% higher for FY 2014e. We note that the market has been slashing forecasts aggressively in recent months our forecasts were previously below consensus in part because they are overreacting to volatile market movements, in our view. We remain positive about the macro growth outlook in Singapore and continue to expect volume growth in SGX.
Valuation
Our SGD8.20 target price was derived using our three-stage residual income valuation approach. The majority of value under our three-stage valuation approach is derived from the second stage, and our valuation is highly sensitive to the assumptions made in that stage, including revenue growth (6%) and cost of equity (9%). A sensitivity table is provided on the following page. For stage three, we have set the terminal ROE at 9% (equal to its cost of equity), as competition is likely to intensify, squeezing profitability. Under our research model, for Singapore stocks without a volatility indicator, the Neutral rating band is 5pp above and below the hurdle rate of 8.5%. This translates into a Neutral band of 3.5% to 13.5% potential return from the current share price. Our
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SGX: valuation (SGDm unless otherwise specified) _______________________ 1st stage __________________ FY 2012e FY 2013e FY 2014e 2nd stage FY 2015-40e 3rd stage terminal growth
Expected NAV (year-beginning) Expected profits ROE COE Residual income PV of residual income Total value Total shares (end-FY 2012) Implied valuation (SGD) Implied PE (FY 2012) Implied dividend yield (FY 2012)
824 335 39% 9% 261 261
884 403 44% 0% 324 297
963 461 50% 0% 375 316
29,079 6,813
4,432 311 8,821 1,071 8.20 26.2 3.4%
SGX: sensitivity of valuation toward the change in revenue growth and COE assumptions in second stage ____________________________________ Revenue growth (%)______________________________________ 2% 3% 4% 5% 6% 7% 8% 9% 7.5% 8.0% 8.5% 9.0% 9.5% 10.0% 10.5% 11.0%
COE (%)
6.7 6.3 5.9 5.6 5.3 5.0 4.8 4.5
7.3 6.9 6.5 6.1 5.8 5.5 5.2 4.9
8.1 7.6 7.1 6.7 6.3 6.0 5.6 5.3
9.0 8.4 7.9 7.4 6.9 6.5 6.2 5.8
10.1 9.4 8.7 8.2 7.7 7.2 6.8 6.4
11.3 10.5 9.8 9.2 8.5 8.0 7.5 7.0
12.8 11.8 11.0 10.3 9.5 8.9 8.3 7.8
14.5 13.4 12.4 11.6 10.7 9.9 9.3 8.7
SGX: sensitivity of revenue/profit to ADT for FY 2012
ADT (SGDm) Revenue (SGDm) Profit (SGDm) EPS (SGD) Notional fair value (SGD)*
1,298 619 268 0.25 6.5
1,442 645 288 0.27 7.0
1,602 674 310 0.29 7.5
1,780 706 335 0.31 8.2
1,958 739 359 0.34 8.8
2,154 774 386 0.36 9.4
2,369 813 416 0.39 10.1
Note: *Notional fair value was derived by using EPS and 26x forward PE. Source: HSBC estimates
PE trading band of SGX since 2006

20 18 16 14 12 10 8 6 4 2 0 Ja n-06 Jul-06 Jan-07 Jul-0 7 Jan- 08 Ju l-08 Ja n-09 Jul-09 Jan-1 0 Jul-1 0 Jan -11 Jul-11 Jan-12 10x 20x S GX sh are price (S GD) 40x 30x
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SGX: income statement (SGDm) FY 2010 FY 2011 FY 2012e FY 2013e FY 2014e
Securities Derivatives Market data Member Services and connectivity Depositary services Issuer services Others Total revenue Staff costs (excluding variable bonus) Share-based payment expense Variable bonus (including CPF) Technology Processing and royalties Premises Professional charges Others Total expenses Operating profit Total non-operating profit/loss Pre-tax profit Tax
Net profit
296 131 32 30 82 64 4 640 -56 -17 -38 -18 -55 -24 -24 -29 -261 378 7 383 -63
320
289 142 32 39 91 66 2 661 -65 -7 -35 -18 -67 -36 -27 -32 -287 373 -15 356 -61
295
322 141 33 48 95 66 2 706 -68 -8 -39 -19 -76 -39 -24 -48 -321 386 13 399 -64
335
398 152 34 51 98 67 2 802 -70 -8 -44 -20 -81 -39 -24 -52 -338 464 16 479 -77
403
460 162 35 53 101 69 2 883 -73 -8 -49 -21 -86 -39 -24 -55 -355 528 21 549 -88
461
SGX: balance sheet (SGDm) FY 2010 FY 2011 FY 2012e FY 2013e FY 2014e
Total investment assets Trade and other receivables Property, plant and equipment Software Others Total assets Trade and other payables Taxation Provisions Securities clearing funds - members contributions Total current liabilities Deferred tax liabilities Total liabilities Share capital Derivatives clearing fund reserve Securities clearing fund reserve Share-based payment reserve Treasury shares Cash flow hedge reserve Currency translation reserve Fair value reserve Retained profits Proposed dividends Total shareholders equity
776 464 10 121 31 1,402 500 71 7 0 578 7 586 410 34 25 31 -42 0 -1 -4 195 168 816
797 564 30 118 9 1,518 607 66 8 0 681 12 694 420 34 25 19 -31 1 -1 -4 201 160 824
787 631 73 144 9 1,644 673 66 8 0 747 12 759 420 34 25 19 -31 0 -1 -4 235 188 884
843 779 102 147 9 1,880 831 66 8 0 905 12 917 420 34 25 19 -31 0 -1 -4 275 226 963
905 901 131 142 9 2,088 961 66 8 0 1,035 12 1,048 420 34 25 19 -31 0 -1 -4 321 257 1,040
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Financials & valuation: Singapore Exchange Ltd

Financial statements Year to P&L summary (SGDm) 06/2011a 06/2012e 06/2013e 06/2014e Valuation Year to 06/2011a 06/2012e
Overweight
06/2013e 06/2014e
Total revenue Securities Derivatives Market data Member services & connect. Depository services Issuer services Other revenue Total expenses Staff related expenses Technology expenses Other expenses Operating profit Non-operating profit/loss Pre-tax profit Tax Net profit
Balance sheet summary (SGDm)
661 289 142 32 39 91 66 2 (287) (108) (107) (73) 373 (15) 356 (61) 295
706 322 141 33 48 95 66 2 (321) (114) (119) (87) 386 13 399 (64) 335
802 398 152 34 51 98 67 2 (338) (123) (124) (92) 464 16 479 (77) 403
883 460 162 35 53 101 69 2 (355) (130) (128) (96) 528 21 549 (88) 461
PE PB Dividend yield
Growth rates (y-o-y %)
22.5 8.0 4.3%
19.8 7.5 4.5%
16.5 6.9 5.5%
14.4 6.4 6.3%
Total revenue Total expenses Operating profit Net profit Total assets Shareholders equity
Key drivers and ratios
3.3% 10.0% -1.3% -7.9% 8.3% 1.0%
6.9% 11.5% 3.4% 13.6% 8.3% 7.3%
13.5% 5.5% 20.1% 20.3% 14.4% 8.9%
10.1% 5.0% 13.8% 14.5% 11.1% 8.0%
Securities ADT (SGDm) Derivatives ADT (contracts) Turnover velocity Cost to income ratio ROA ROE
1,622 260,623 51.4% 43.5% 20.2% 36.0%
1,780 273,203 47.4% 45.4% 21.2% 39.2%
2,198 304,783 56.2% 42.2% 22.9% 43.6%
2,543 334,230 62.5% 40.2% 23.2% 46.0%
Total assets Cash and cash equivalents Trade and other receivables Others Total liabilities Current liabilities Non-current liabilities Shareholders equity
Per share data (SGDm)
1,518 693 564 261 694 681 12 824
1,644 682 631 331 759 747 12 884
1,880 736 779 365 917 905 12 963
2,088 796 901 390 1,048 1,035 12 1,040
Issuer information
Share price (SGD) Target price (SGD) Potential return (%) Free float (%) Analyst
6.21 8.20 36.6 72 York Pun
Shares outstanding (m) Market cap (SGDm) Bloomberg (Equity) Reuters (Equity) Contact
1,071 6,651 SGX SP SGXL.SI
+852 2822 4396
EPS (Basic) EPS (Diluted) DPS NAV

ROAA deconstruction
0.28 0.28 0.27 0.77
0.31 0.31 0.28 0.83
0.38 0.38 0.34 0.90
0.43 0.43 0.39 0.97
Price relative
12 11 10 9 8 7 6 5 4 3 2009
Singapore Exchange Ltd Source: HSBC
Total revenue Total expenses Operating profit Non-operating profit Profits before tax Tax Net profit
45.3% -19.7% 25.6% -1.0% 24.4% -4.2% 20.2%
44.7% -20.3% 24.4% 0.8% 25.2% -4.0% 21.2%
45.5% -19.2% 26.3% 0.9% 27.2% -4.4% 22.9%
44.5% -17.9% 26.6% 1.1% 27.7% -4.4% 23.2%
12 11 10 9 8 7 6 5 4 3 2010 2011 2012

Rel to STRAITS TIMES INDEX
Note: Priced at close of 21 October 2011
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Tullett Prebon
Increased volatility in financial markets is likely to result in higher
trading volumes
Launch of tpSWAPDEAL will strengthen its e-Broking revenue We maintain Overweight rating with a target price of 450p
Investment case
Tullett Prebon is an inter-dealer broker providing voice and electronic broking services. Revenues by product category for 2011e are expected to be in line with last year, as shown below fixed income 28%, treasury products (28%), interest rate derivatives (23%), energy (12%), equities (5%) and information sales & risk management services (4%). The major drivers of performance for Tullett are: high volatility, electronic broking, focus on its broker hiring strategy, and rebuilding its North American operations.
With volatility increasing, focus is again shifting towards voice broking and, as Tullett is predominantly a voice broker, we expect increased trading volumes with higher revenue per broker at least in H2 2011.
Nitin Arora* Analyst HSBC Bank plc. + 44 20 7991 6844 nitin2.arora@hsbcib.com
Electronic broking
Given that the regulatory environment is changing rapidly with requirements to migrate OTC trades to trading platforms, inter-dealer brokers such as Tullett, ICAP and Tradition have launched their own platforms in the hope of gaining market share from the OTC volumes moving to trading platforms. Tullett Prebon confirmed the launch of tpSWAPDEAL, its hybrid interest-rate swap trading platform, on 21 September. This is the third such platform, the others being ICAPs
Volatility
The turmoil of the past two months has led to severe volatility in the European financial market.

Interest rate Treasury products 28% derivatives 23% Equities 5% Energy Fixed income 28%
40% 30% 20% 10% 0% 2009 2010 2011E 2012E R oE 2013E
12% Information sales 4%
Operating m argin
Source: Company data, HSBC Estimates
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Tullett trends in turnover and operating profit (GBPm)
Tullett revenue and broker cost per broker (GBP000)
600 500 400 300 200 100 0 H 2' 11e H1' 06 H2' 06 H1' 07 H2' 07 H1' 08 H2' 08 H 1' 09 H 2' 09 H1' 10 H2' 10 H1' 11
300.0 200.0 100.0 H1' 06 H2' 06 H 1' 07 H2' 07 H1' 08 H 2' 08 H1' 09 H2' 09 H1' 10 H2' 10 H 1' 11
Turnover
Op Profit
Rev enue per brok er

Brok er cost per broker
iSWAP and Traditions TRAD-X. Given that the notional amount outstanding on interest rate swaps (IRS) is about two-thirds of the total outstanding notional of the OTC derivative market, it is a big potential market for tpSWAPDEAL, which will initially support trading in euro-denominated IRS. It has also received the support of seven banks for this platform, including Royal Bank of Scotland, BNP Paribas, Nomura, Citigroup, Commerzbank, HSBC and Socit Gnrale.
operations. With the broker number back to 466 at the end of June the level before the BGC raid Tullett is now focusing on increasing broker productivity and improving its currently low operating margin.
Strong cash-generating abilities

Tullett is currently trading at a 2011e PE of 8.5x and EV/EBITDA of 4.6x on our 2011 estimates. Given its cash-generating abilities, we would expect net cash on the balance sheet to be GBP149m by December 2012, implying that 19% of the current market cap will be in cash.
Hiring of brokers
Tulletts strategy has been to focus its broker hiring mainly on Europe and North America in order to build its sub-scale desks mainly in credit and energy. In the six months ending June 2011 Tullett increased its broker headcount by 4% to 1,666. As the average revenue per broker is GBP500k+, these brokers are expected to add GBP33m to revenues at full capacity. Tullett plans to continue the hiring process in H2. Management had highlighted that, given the increasing cost of regulation, there is increased opportunity for some small bolt-on acquisitions and/or picking up brokers from smaller players.

The chart below shows we are 2.2% below the median of Bloomberg consensus for 2011e. We are 1.7% ahead for 2012e, and 4.2% ahead for 2013e.
HSBC EPS versus consensus (pence)
60.0 50.0 40.0 30.0 20.0 10.0 2011 HSBC

North American operation

After losing brokers to BGC in August 2009, Tullett has been rebuilding its North America
2012 Consensus
2013
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Valuation
We use a three-stage FCFE model to value Tullett. In the first stage, we explicitly model the cash flows for the next three years. In the second stage, we model a fade in revenue growth, and in stage three, we increase the cash flows at 2% pa until perpetuity. Using a risk-free rate of 3.5%, an equity market risk premium of 4%, and a beta of 1.6, we arrive at a cost of equity of 10%. We discount the cash flows using a cost of equity of 10% to arrive at a valuation of 448p. We round this to set our 12month target price at 450p.
Under our research model, for stocks without a volatility indicator, the Neutral band is 5pp above and below the hurdle rate for UK stocks of 7.5%, or 2.5-12.5% above the current share price. Our target price of 450p implies a potential return of 22.7% (including dividend yield of 4.3%); therefore, we reiterate our Overweight rating on the stock. Potential return equals the percentage difference between the current share price and the target price, including the forecast dividend yield when indicated.
Investment risks
The key downside risks, in our view, are: reduction in volatility higher-than-expected IT expenditure regulatory risks
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Tullett Prebon: key summary data Year ending December GBPm unless otherwise specified 2010 2011E 2012E 2013E
Turnover - Fixed income Turnover - Treasury products Turnover - Interest rate derivatives Turnover - Equities Turnover - Energy Turnover - Information sales Turnover - Total Other Op income Brokers cost Other admin cost Total Admin Expenses Amortisation and depreciation Total Opex
Op profit excl. exceptional Op. Profit incl exceptionals
249.3 248.4 205.0 67.2 105.8 32.8 908.5 8.3 (531.2) (223.8) (755.0) (9.4) (764.4)
152.4 152.4
254.3 255.9 205.0 47.0 105.8 37.7 905.7 21.2 (534.4) (235.5) (769.8) (9.4) (779.2)
147.7 147.7
267.0 268.6 215.3 49.4 111.1 39.6 951.0 5.0 (561.1) (228.2) (789.3) (9.4) (798.7)
157.3 157.3
280.4 282.1 226.0 51.9 116.6 41.6 998.5 5.0 (589.1) (234.7) (823.8) (9.4) (833.2)
170.3 170.3
Net finance costs PBT excl exceptionals

PAT excl exceptionals
(12.7) 139.7
99.8
(15.6) 132.1
95.9
(12.7) 144.6
104.9
(11.0) 159.4
115.5
EPS - basic adjusted (p) EPS - diluted and adjusted (p) DPS (p) Net Debt
y-o-y growth rates Turnover - Fixed income Turnover - Treasury products Turnover - Interest rate derivatives Turnover - Equities Turnover - Energy Turnover - Information sales Turnover - Total Key ratios Op margins excl. exceptionals Tax rate ROE excl exceptionals Broker costs as a % of total turnover Other admin costs/ Turnover
46.4 46.3 15.8 (67.8)
45.0 44.9 16.2 (83.9)
49.1 49.0 17.2 (148.5)
54.0 53.9 18.9 (220.1)
-21% 4% 7% -9% 5% 31% -4%
2% 3% 0% -30% 0% 15% 0%
5% 5% 5% 5% 5% 5% 5%
5% 5% 5% 5% 5% 5% 5%
16.8% 29.2% 27.6% 58.5% 24.6%
16.3% 28.5% 21.6% 59.0% 26.0%
16.5% 28.5% 20.6% 59.0% 24.0%
17.1% 28.5% 19.9% 59.0% 23.5%
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Financials & valuation: Tullett Prebon

Financial statements Year to 12/2010a 12/2011e 12/2012e 12/2013e Valuation data Year to 12/2010a 12/2011e
Overweight
12/2012e 12/2013e
Profit & loss summary (GBPm)
Cash flow summary (GBPm)
909 162 -9 152 -11 141 140 -34 108 100
906 157 -9 148 -14 134 132 -38 96 96
951 167 -9 157 -13 145 145 -41 103 105
999 180 -9 170 -11 159 159 -45 114 115
0.8 4.6 2.1 8.2 2.0 12.7 4.1
0.8 4.6 1.8 8.5 1.7 7.1 4.3
0.7 4.0 1.6 7.8 1.5 13.3 4.5
0.6 3.3 1.4 7.1 1.3 14.6 5.0
Issuer information
Share price (GBPp) 96 -5 -15 -33 -90 103 70 -5 -12 -34 -17 58 114 -5 -12 -37 -65 108 125 -5 -12 -41 -72 118 Reuters (Equity) Market cap (USDm) Free float (%) Country Analyst
380 Target price (GBPp) TLPR.L 1,304 94 United Kingdom Nitin Arora
450 Potentl return (%) 18.4
Bloomberg (Equity) TLPR LN Market cap (GBPm) 818 Enterprise value (GBPm) 728 Sector Diversified Financial Services Contact 44 20 7991 6844
Price relative
389 24 4,613 390 5,046 4,276 358 -67 409 359
397 23 4,523 320 4,963 4,211 265 -84 472 411
401 21 4,781 370 5,224 4,420 250 -149 540 414
406 20 5,057 427 5,503 4,639 235 -220 615 417
441 391 341 291 241 2009

Tullett Prebon
441 391 341 291 241 2010

Rel to FTSE ALL-SHARE
2011
2012
Source: HSBC

Ratios (%)
-4.1 -9.6 -10.8 -9.7 -4.8
-0.3 -2.9 -3.1 -5.5 -3.0
5.0 6.1 6.5 8.3 9.2
5.0 7.8 8.3 10.2 9.9
2.6 34.4 27.6 1.8 17.8 16.8 14.6 -16.6 -0.4
2.4 28.1 21.6 1.9 17.3 16.3 11.1 -17.9 -0.5
2.3 27.8 20.6 2.0 17.5 16.5 13.2 -27.7 -0.9
2.4 29.8 19.9 2.1 18.0 17.1 16.4 -36.0 -1.2
50.2 46.3 15.7 190.3
44.2 44.9 16.1 218.2
47.6 49.0 17.2 249.4
52.5 53.9 18.9 283.9
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Notes
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Disclosure appendix
Analyst Certification
The following analyst(s), economist(s), and/or strategist(s) who is(are) primarily responsible for this report, certifies(y) that the opinion(s) on the subject security(ies) or issuer(s) and/or any other views or forecasts expressed herein accurately reflect their personal view(s) and that no part of their compensation was, is or will be directly or indirectly related to the specific recommendation(s) or views contained in this research report: Johannes Thormann, Nitin Arora, Dimitris Haralabopoulos, Shirin Panicker, York Pun and Paulo Ribeiro
Important disclosures
Stock ratings and basis for financial analysis
HSBC believes that investors utilise various disciplines and investment horizons when making investment decisions, which depend largely on individual circumstances such as the investors existing holdings, risk tolerance and other considerations. Given these differences, HSBC has two principal aims in its equity research: 1) to identify long-term investment opportunities based on particular themes or ideas that may affect the future earnings or cash flows of companies on a 12 month time horizon; and 2) from time to time to identify short-term investment opportunities that are derived from fundamental, quantitative, technical or event-driven techniques on a 0-3 month time horizon and which may differ from our long-term investment rating. HSBC has assigned ratings for its long-term investment opportunities as described below. This report addresses only the long-term investment opportunities of the companies referred to in the report. As and when HSBC publishes a short-term trading idea the stocks to which these relate are identified on the website at www.hsbcnet.com/research. Details of these short-term investment opportunities can be found under the Reports section of this website. HSBC believes an investors decision to buy or sell a stock should depend on individual circumstances such as the investors existing holdings and other considerations. Different securities firms use a variety of ratings terms as well as different rating systems to describe their recommendations. Investors should carefully read the definitions of the ratings used in each research report. In addition, because research reports contain more complete information concerning the analysts views, investors should carefully read the entire research report and should not infer its contents from the rating. In any case, ratings should not be used or relied on in isolation as investment advice.
Rating definitions for long-term investment opportunities

Stock ratings
HSBC assigns ratings to its stocks in this sector on the following basis: For each stock we set a required rate of return calculated from the cost of equity for that stocks domestic or, as appropriate, regional market established by our strategy team. The price target for a stock represents the value the analyst expects the stock to reach over our performance horizon. The performance horizon is 12 months. For a stock to be classified as Overweight, the potential return, which equals the percentage difference between the current share price and the target price, including the forecast dividend yield when indicated, must exceed the required return by at least 5 percentage points over the next 12 months (or 10 percentage points for a stock classified as Volatile*). For a stock to be classified as Underweight, the stock must be expected to underperform its required return by at least 5 percentage points over the next 12 months (or 10 percentage points for a stock classified as Volatile*). Stocks between these bands are classified as Neutral. Our ratings are re-calibrated against these bands at the time of any material change (initiation of coverage, change of volatility status or change in price target). Notwithstanding this, and although ratings are subject to ongoing management review, expected returns will be permitted to move outside the bands as a result of normal share price fluctuations without necessarily triggering a rating change.
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*A stock will be classified as volatile if its historical volatility has exceeded 40%, if the stock has been listed for less than 12 months (unless it is in an industry or sector where volatility is low) or if the analyst expects significant volatility. However, stocks which we do not consider volatile may in fact also behave in such a way. Historical volatility is defined as the past months average of the daily 365-day moving average volatilities. In order to avoid misleadingly frequent changes in rating, however, volatility has to move 2.5 percentage points past the 40% benchmark in either direction for a stocks status to change.
Rating distribution for long-term investment opportunities

As of 24 October 2011, the distribution of all ratings published is as follows: Overweight (Buy) 55% (26% of these provided with Investment Banking Services) Neutral (Hold) Underweight (Sell) 35% 10% (21% of these provided with Investment Banking Services) (13% of these provided with Investment Banking Services)
Information regarding company share price performance and history of HSBC ratings and price targets in respect of its longterm investment opportunities for the companies the subject of this report,is available from www.hsbcnet.com/research.
HSBC & Analyst disclosures

Disclosure checklist Company Ticker Disclosure
BM&F BOVESPA DEUTSCHE BOERSE HELLENIC EXCHANGES SA HONG KONG EXCHANGES AND CLEARING ICAP LONDON STOCK EXCHANGE NYSE EURONEXT TULLETT PREBON
Source: HSBC
BVMF3.SA DB1Gn.DE EXCr.AT 0388.HK IAP.L LSE.L NYX.N TLPR.L
7, 11 1, 2, 6, 7, 11 6 4, 7, 11 1, 2, 4, 5, 6, 7, 11 4, 6, 7, 11 6, 7, 11 4, 6, 7, 11
1 2 3 4 5 6 7 8 9 10 11
HSBC* has managed or co-managed a public offering of securities for this company within the past 12 months. HSBC expects to receive or intends to seek compensation for investment banking services from this company in the next 3 months. At the time of publication of this report, HSBC Securities (USA) Inc. is a Market Maker in securities issued by this company. As of 30 September 2011 HSBC beneficially owned 1% or more of a class of common equity securities of this company. As of 31 August 2011, this company was a client of HSBC or had during the preceding 12 month period been a client of and/or paid compensation to HSBC in respect of investment banking services. As of 31 August 2011, this company was a client of HSBC or had during the preceding 12 month period been a client of and/or paid compensation to HSBC in respect of non-investment banking-securities related services. As of 31 August 2011, this company was a client of HSBC or had during the preceding 12 month period been a client of and/or paid compensation to HSBC in respect of non-securities services. A covering analyst/s has received compensation from this company in the past 12 months. A covering analyst/s or a member of his/her household has a financial interest in the securities of this company, as detailed below. A covering analyst/s or a member of his/her household is an officer, director or supervisory board member of this company, as detailed below. At the time of publication of this report, HSBC is a non-US Market Maker in securities issued by this company and/or in securities in respect of this company
Analysts, economists, and strategists are paid in part by reference to the profitability of HSBC which includes investment banking revenues. For disclosures in respect of any company mentioned in this report, please see the most recently published report on that company available at www.hsbcnet.com/research.
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* HSBC Legal Entities are listed in the Disclaimer below.
Additional disclosures
1 2 3 This report is dated as at 26 October 2011. All market data included in this report are dated as at close 21 October 2011, unless otherwise indicated in the report. HSBC has procedures in place to identify and manage any potential conflicts of interest that arise in connection with its Research business. HSBCs analysts and its other staff who are involved in the preparation and dissemination of Research operate and have a management reporting line independent of HSBCs Investment Banking business. Information Barrier procedures are in place between the Investment Banking and Research businesses to ensure that any confidential and/or price sensitive information is handled in an appropriate manner. HSBC is Corporate Broker to: TULLETT PREBON As of 30 September 2011, HSBC and/or its affiliates (including the funds, portfolios and investment clubs in securities managed by such entities) either, directly or indirectly, own or are involved in the acquisition, sale or intermediation of, 1% or more of the total capital of the subject companies securities in the market for the following Company(ies): TULLETT PREBON , HONG KONG EXCHANGES AND CLEARING, ICAP, LONDON STOCK EXCHANGE
4 5
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Disclaimer
* Legal entities as at 04 March 2011 Issuer of report UAE HSBC Bank Middle East Limited, Dubai; HK The Hongkong and Shanghai Banking Corporation HSBC Trinkaus and Burkhardt AG Limited, Hong Kong; TW HSBC Securities (Taiwan) Corporation Limited; CA HSBC Securities (Canada) Knigsallee 21/23 Inc, Toronto; HSBC Bank, Paris Branch; HSBC France; DE HSBC Trinkaus & Burkhardt AG, Dsseldorf; D-40212 Dsseldorf 000 HSBC Bank (RR), Moscow; IN HSBC Securities and Capital Markets (India) Private Limited, Mumbai; JP HSBC Securities (Japan) Limited, Tokyo; EG HSBC Securities Egypt SAE, Cairo; CN HSBC Germany Investment Bank Asia Limited, Beijing Representative Office; The Hongkong and Shanghai Banking Telephone: +49 211 910-0 Corporation Limited, Singapore Branch; The Hongkong and Shanghai Banking Corporation Limited, Seoul Fax: +49 211 910 33 20 Securities Branch; The Hongkong and Shanghai Banking Corporation Limited, Seoul Branch; HSBC Website: www.research.hsbc.com Securities (South Africa) (Pty) Ltd, Johannesburg; GR HSBC Securities SA, Athens; HSBC Bank plc, London, Madrid, Milan, Stockholm, Tel Aviv; US HSBC Securities (USA) Inc, New York; HSBC Yatirim Menkul Degerler AS, Istanbul; HSBC Mxico, SA, Institucin de Banca Mltiple, Grupo Financiero HSBC; HSBC Bank Brasil SA Banco Mltiplo; HSBC Bank Australia Limited; HSBC Bank Argentina SA; HSBC Saudi Arabia Limited; The Hongkong and Shanghai Banking Corporation Limited, New Zealand Branch This document has been issued by HSBC Trinkaus and Burkhardt AG (HSBC) for the information of its customers only. If it is received by a customer of an affiliate of HSBC, its provision to the recipient is subject to the terms of business in place between the recipient and such affiliate. This document is not and should not be construed as an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. HSBC has based this document on information obtained from sources it believes to be reliable but which it has not independently verified; HSBC makes no guarantee, representation or warranty and accepts no responsibility or liability as to its accuracy or completeness. Expressions of opinion are those of the Research Division of HSBC only and are subject to change without notice. The information and opinions contained within the research reports are based upon publicly available information at the time of publication which are subject to change from time to time. Past performance is not necessarily a guide to future performance. The value of any investment or income may go down as well as up and you may not get back the full amount invested. Where an investment is denominated in a currency other than the local currency of the recipient of the research report, changes in the exchange rates may have an adverse effect on the value, price or income of that investment. In case of investments for which there is no recognised market it may be difficult for investors to sell their investments or to obtain reliable information about its value or the extent of the risk to which it is exposed. HSBC Securities (USA) Inc. accepts responsibility for the content of this research report prepared by its non-US foreign affiliate. All U.S. persons receiving and/or accessing this report and wishing to effect transactions in any security discussed herein should do so with HSBC Securities (USA) Inc. in the United States and not with its non-US foreign affiliate, the issuer of this report. In the UK this report may only be distributed for the information of its Clients (as defined in the Rules of FSA) and those of its affiliates only. It is not intended for Retail Clients in the UK. The protections afforded by the UK regulatory regime are available only to those dealing with a representative of HSBC Bank plc in the UK. In Singapore, this publication is distributed by The Hongkong and Shanghai Banking Corporation Limited, Singapore Branch for the general information of institutional investors or other persons specified in Sections 274 and 304 of the Securities and Futures Act (Chapter 289) (SFA) and accredited investors and other persons in accordance with the conditions specified in Sections 275 and 305 of the SFA. This publication is not a prospectus as defined in the SFA. It may not be further distributed in whole or in part for any purpose. The Hongkong and Shanghai Banking Corporation Limited Singapore Branch is regulated by the Monetary Authority of Singapore. Recipients in Singapore should contact a "Hongkong and Shanghai Banking Corporation Limited, Singapore Branch" representative in respect of any matters arising from, or in connection with this report. In Korea, this publication is distributed by either The Hongkong and Shanghai Banking Corporation Limited, Seoul Securities Branch ("HBAP SLS") or The Hongkong and Shanghai Banking Corporation Limited, Seoul Branch ("HBAP SEL") for the general information of professional investors specified in Article 9 of the Financial Investment Services and Capital Markets Act (FSCMA). This publication is not a prospectus as defined in the FSCMA. It may not be further distributed in whole or in part for any purpose. Both HBAP SLS and HBAP SEL are regulated by the Financial Services Commission and the Financial Supervisory Service of Korea. In Australia, this publication has been distributed by The Hongkong and Shanghai Banking Corporation Limited (ABN 65 117 925 970, AFSL 301737) for the general information of its wholesale customers (as defined in the Corporations Act 2001). Where distributed to retail customers, this research is distributed by HSBC Bank Australia Limited (AFSL No. 232595). These respective entities make no representations that the products or services mentioned in this document are available to persons in Australia or are necessarily suitable for any particular person or appropriate in accordance with local law. No consideration has been given to the particular investment objectives, financial situation or particular needs of any recipient. This publication is distributed in New Zealand by The Hongkong and Shanghai Banking Corporation Limited, New Zealand Branch. In Japan, this publication has been distributed by HSBC Securities (Japan) Limited. In Hong Kong, this document has been distributed by The Hongkong and Shanghai Banking Corporation Limited in the conduct of its Hong Kong regulated business for the information of its institutional and professional customers; it is not intended for and should not be distributed to retail customers in Hong Kong. The Hongkong and Shanghai Banking Corporation Limited makes no representations that the products or services mentioned in this document are available to persons in Hong Kong or are necessarily suitable for any particular person or appropriate in accordance with local law. All inquiries by such recipients must be directed to The Hongkong and Shanghai Banking Corporation Limited. It may not be further distributed in whole or in part for any purpose. HSBC Trinkaus and Burkhardt AG is regulated by the Federal Financial Supervisory Authority ("BaFin"). Copyright. HSBC Trinkaus and Burkhardt AG 2011, ALL RIGHTS RESERVED. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, on any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of HSBC Trinkaus and Burkhardt AG. MICA (P) 208/04/2011 and MICA (P) 040/04/2011
[310882]
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Johannes Thormann* Global Head of Exchanges HSBC Trinkaus & Burkhardt AG, Germany +49 211 910 3017 johannes.thormann@hsbc.de Johannes joined the HSBC global banks team in January 2008 and was appointed global head of exchanges in January 2010. After reaching the Top 5 in the Specialty Finance sector in the 2010 Extel survey, he led the team to the No. 3 position in the 2011 Extel survey. In May 2011, Starmine named him the No. 2 stock picker in Europe for banks. Before joining HSBC, Johannes worked for more than seven years as a sell-side analyst covering German and Italian banks, and European specialty finance stocks. Nitin Arora* Analyst HSBC Bank plc (London) +44 20 7991 6844 nitin2.arora@hsbcib.com Nitin Arora is a member of the HSBC UK mid-cap team, covering UK diversified financials. Nitin joined HSBC in December 2010. Before that, he covered diversified financial stocks at a boutique investment house for six years. In May 2011, Starmine named him the No. 2 stock picker in Europe in diversified financials. He is a CFA charter holder and has an MBA, specialising in finance. Dimitris Haralabopoulos* Analyst HSBC plc (Athens) +30 210 6965 214 dimitris.haralabopoulos@hsbc.com Dimitris Haralabopoulos joined the Greek Equity research team in September 2008, covering Greek banks. Prior to joining HSBC, he worked at Deutsche Banks Central & Eastern Europe M&A and European Securitisation teams in London. He has also three years of Equity Research experience, of which two years he spent covering Greek Banks at a leading sell-side firm in Greece. He has earned an MSc in Investment Management from Cass Business School in London. Shirin Panicker* Analyst HSBC Bank Egypt S.A.E., Cairo +202 2529 8439 shirinpanicker@hsbc.com Shirin Panicker works as a financial analyst, and is based out of HSBC, Cairo. Prior to joining HSBC, she worked with a Cairo-based Egyptian broker as a financial analyst from 2005. York Pun* Analyst The Hongkong and Shanghai Banking Corporation Limited (HK) +852 2822 4396 yorkkypun@hsbc.com.hk York joined HSBCs banking research team in January 2007 after working as a buy-side analyst and consultant. Prior to that, he completed his bachelor studies at the University of Hong Kong and postgraduate studies at the University of Newcastle upon Tyne, England. York is a CFA charter holder. Paulo E Ribeiro Analyst HSBC Securities (USA) Inc. (New York) +1 212 525 4430 paulo.e.ribeiro@us.hsbc.com Paulo Ribeiro joined HSBC in February 2010 as an analyst covering the Latin American non-bank financials sector. He has covered Latin American markets for more than 12 years in a variety of roles, including as part of an Institutional Investor-ranked Latam financials team at a major investment bank and as as a member of the Latam sales team at another investment bank. Paulo has a Masters of Business Administration from Cornell University and a Bachelors of Science degree in Mechanical Engineering from Universidade Federal de Minas Gerais in Brazil.
*Employed by a non-US affiliate of HSBC Securities (USA) Inc, and is not registered/qualified pursuant to FINRA regulations.

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FIG/Diversified Financials Services 26 October 2011

FIG Diversified Financial Services 26 October 2011

Issue 1: Financial transaction tax (FTT)

FIG Diversified Financial Services 26 October 2011

Issue 2: OTC derivatives trading

FIG Diversified Financial Services 26 October 2011

Rating OW OW OW N OW(V) OW N OW OW(V) OW OW(V)

73.0 1.40 6.70

Dubai Financial Markets (DFM)

Hellenic Exchanges (HELEX)

FIG Diversified Financial Services 26 October 2011

Hong Kong Exchange (HKEx)

London Stock Exchange (LSE)

NYSE Euronext (NYX)

Singapore Exchange (SGX)

FIG Diversified Financial Services 26 October 2011

Disclosure appendix Disclaimer

FIG Diversified Financial Services 26 October 2011

EU wants to introduce a transaction tax by 2014

FIG Diversified Financial Services 26 October 2011

Europe 591,573.6 59.2

Europe 10,094 13,094 23,187 23.2

Eurozone only 4,868 8,679 13,547 13.5

FIG Diversified Financial Services 26 October 2011

Estimating the FTT impact

Development of velocity for equity trading at selected European markets

145% 135% 94%

124% 79% 72%

Germany 2009a 2010a

Source: Company data, FESE data, HSBC estimates, WFE data

FIG Diversified Financial Services 26 October 2011

10% 9% 30% -30%

10% 9% 40% -23%

10% 9% 50% -18%

10% 9% 50% -15%

FIG Diversified Financial Services 26 October 2011

Impact on our valuation models

FIG Diversified Financial Services 26 October 2011

FIG Diversified Financial Services 26 October 2011

What will happen to derivatives trading?

and cluster risks

The global derivatives market

61.26 598.1 472.3 771% 57.7 94%

58.11 603.9 447 769% 73.1 126%

63.05 601.0 418.9 664% 67.9 108%

64.20 705.3 480.3 748% 85.3 133%

66.50 719.4 454.4 683% 90.9 137%

Source: BIS, HSBC estimates

FIG Diversified Financial Services 26 October 2011

2006a 0% 10% 20% Asia Pacific

70% Latin America

Exchange traded derivatives

Exchange-traded derivatives market share by region (segregated by notional amounts outstanding)

Turnover of exchange-traded derivatives (USDtrn)

115.9 20.9 2009 North America

175.0 36.6 2010 Other Markets

Asia & Pacific

Source: BIS, HSBC estimates

FIG Diversified Financial Services 26 October 2011

Market share of selected exchanges in derivatives trading by contracts traded

Source: World Exchanges Federation, FIA, HSBC estimates

FIG Diversified Financial Services 26 October 2011

NYSE Liffe National Stock Exch ange of Ind ia 60% 90%

FIG Diversified Financial Services 26 October 2011