Tullett’s Bet on ICAP Shows Conversation Isn’t Dead

  • Purchase of ICAP broker business clears key regulatory hurdle
  • Deal creates world’s largest broker of trades by telephone

On the desks of algorithmic trader Optiver BV in Amsterdam sit banks of telephones. When Optiver’s computers can’t find someone to trade with, the firm’s humans start dialing. On the other end of the line: brokers from ICAP Plc and Tullett Prebon Plc.

“Is it the most efficient way?” asked Kjelle Blom, Optiver’s chief operating officer in Europe. “Probably not. But people are used to it. They are used to a certain way of trading.”

Tullett is betting that demand for voice broking, which accounts for as little as 11 percent of trading in some assets, will not just continue but grow. Its 1.1-billion-pound ($1.5-billion) purchase of ICAP’s name and its 1,400-broker workforce received final approval Thursday from U.K. competition regulators, removing the last substantial obstacle.

The company says that voice broking -- matching buyers with sellers over the telephone -- has a future in the era of electronic markets and computerized traders because many transactions in assets such as interest-rate swaps and credit-default swaps can’t be made any other way.

“There’s a big pool of revenues and we think it’s growing as other asset classes come on board,” said Mihiri Jayaweera, Tullett’s head of strategy. “There are some assets that will really not go electronic. The number of features you have to look at mean you just have to have a voice broker.”

The deal reshapes voice broking in the U.S. and Europe. Just 18 months ago, the market was split among five large brokers: ICAP, Tullett, BGC Partners Inc., GFI Group Inc. and Cie. Financiere Tradition SA. Now it will be dominated by just three firms: TP ICAP, as Tullett will be rebranded, BGC and Tradition.

TP ICAP will have more than 3,000 brokers, while BGC employs about 2,400 brokers following its 2015 takeover of GFI. With teams focused on everything from emerging-market equities to swaps, TP ICAP will be the world’s largest matchmaker for buyers and sellers of illiquid assets.

Michael Spencer
Michael Spencer
Photographer: Simon Dawson/Bloomberg

To mollify the U.K.’s Competition and Markets Authority, Tullett has promised that the former ICAP brokers will compete with its existing trading desks. Banks looking to trade a swap, for example, will get different quotes from the two sides. Tullett says cost reductions will come from the support and compliance areas.

Life for the brokers will barely change at first: Tullett doesn’t have enough space at its City of London offices to house the newcomers from ICAP. They will stay where they are on Bishopsgate, fewer than 500 meters away from ICAP’s headquarters in Broadgate Circle.

Not everyone shares Tullett’s faith that voice broking has a future. ICAP had planned to keep a 19.9 percent stake in TP ICAP. But ICAP Chief Executive Officer Michael Spencer changed his mind after the firm’s investors lobbied him to reduce the stake to zero.

Why Hold?

“When we went around visiting our shareholders, we kept being asked ‘Why are you holding on to the 20 percent stake?”’ Spencer said in July. “I’m a shareholder and I thought that was a pretty good point.” ICAP’s shareholders, rather than the company itself, will receive the stock to do with as they wish. As one of ICAP’s biggest investors, Spencer will be handed a 9.4 percent stake in TP ICAP.

ICAP’s owners may have wanted a company free from voice broking’s lackluster profit margins. The firm’s broking business had a 7 percent profit margin in the last financial year, compared with 33 percent for its electronic markets and 36 percent for post-trade services. Tullett shareholders appear to believe in the logic of the deal: The shares have climbed 15 percent since news of the deal emerged, more than the 10 percent rise in ICAP stock.

Voice broking was the core business of ICAP when Spencer founded the firm 30 years ago. But the rise of electronic markets and electronic traders over the last decade narrowed spreads across many asset classes. The likes of ICAP and Tullett -- known as inter-dealer brokers -- have reacted by tightening the difference between the buying price and the selling price. 

Shrinking Margins

They still need to pay their brokers, though, leaving them with shrinking margins.

“Management need to address the cost base for voice broking,” Barclays Plc analyst Daniel Garrod said in an Aug. 2 note. Tullett’s voice-broking focus has drawn criticism from other analysts as well. They want the company to find cost savings by firing brokers or at least paying them less. 

Tullett is doubling down on voice broking: Even before the ICAP deal, it bought Creditex’s voice-broking business in July. ICAP, by contrast, has been moving away from voice broking since at least 2004, developing its own electronic services and buying others.

The post-crisis scandals that rocked the investment banks also ensnared the inter-dealer brokers. ICAP was fined $88 million by U.S. and U.K. authorities in 2013 following an investigation into the manipulation of Libor. Three ICAP employees and one Tullett broker were charged, only for all four to be acquitted in January this year.

When John Phizackerley became Tullett’s CEO two years ago, he didn’t know whether voice broking had a future. So he hired McKinsey & Co. to find out. While the investment banks spent $8 billion on voice brokers last year, McKinsey estimated that total spending on the brokers was several times that sum, according to Jayaweera.

As for the near-doubling of Tullett’s workforce that will occur as soon as the deal completes, Jayaweera pointed to BGC’s purchase of GFI to show that brokers can compete with each other while working for the same employer.

“Consolidation will put broker compensation under pressure for the whole sector, but more specifically at the firms that are merging,” said Francois Brisebois, chief financial officer at Tradition.

Voice brokers also remain essential in some unexpected markets. Exchange-traded funds, despite their name, are mostly traded off-exchange in Europe. ETFs follow indexes of stocks or bonds at a fraction of the cost of traditional passive funds.

“Our preference as a company is electronic, but we are market makers,” said Tim Edwards, head of trading in Amsterdam for IMC, a speed trader. “I do not think inter-dealer brokers are going to die in the next five years.”

(Corrects to show Tim Edwards is IMC’s head of trading in Amsterdam and not head of trading at IMC.)
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