Changing the exchange

Finance | Wed 3 Nov | Author – Business & Finance
Duncan L. Niederauer

Chief executive of the New York Stock Exchange (NYSE) Duncan Niederauer talks to John Walsh about regulation and what needs to be done to get the economy back on track.

Duncan Niederauer holds one of the most important positions in the US economy. And it is about to become a  lot more important. The recovery depends on companies of all sizes getting access to capital but the US faces the same problem as most other western economies: banks are not lending. In the credit boom, banks’ balance sheets grew disproportionately big. They will spend the foreseeable future shrinking these balance sheets, meaning that a critical source of credit for firms will be severely curtailed.

“You cannot engineer a robust recovery without a well functioning capital market,” says Niederauer. “What happens in the wake of any crisis is that the pendulum swings too far. For a number of years, banks were not charging enough for risk and now one could argue that they are not willing to price risk at all. So we hear consistently from the small-to-medium enterprise sector that the traditional route of raising capital is very challenging. The banks would argue that because of regulatory changes and capital charges, it is more challenging to make loans, so rather than price they are choosing not to make loans.”

It is now up to capital markets to “step up to the plate” and provide the capital funding needed for a recovery, says Niederauer.

What is certain is that the US economy needs to start growing again and adding millions of jobs to the national payroll before a path is cleared for a durable global economic recovery. The Obama administration has to contend with a number of external issues, not least a potential trade war with China. And while a rebalancing of global growth is essential if there is to be a sustainable growth model in the future, the US economy is too big to rely on export growth alone. The domestic consumer sectors, which have been on life support since the credit crisis erupted, will not see an upturn until there is healthy job creation.

To this end, there are some encouraging signs, says Niederauer. “There are certainly a lot of reasons to be optimistic. [US] Multinationals are performing. Earnings are up. Balance sheets are quite healthy. The challenge is we have to do more than that, but job creation does not happen without a well functioning capital market. You just cannot get there without making sure that capital is accessible to entrepreneurs and businesses. You also need policies that encourage long-term investment.

“We have also learned first hand that the underlying micro-market has to work properly for confidence. The good news is that America knows how to create jobs. We consistently created a few million jobs every year. We need to remember our role as an exchange which is to connect entrepreneurs with capital.”

The US and many western economies face the same challenge: the recovery is going to be led by indigenous industry and that means mid-cap size firms. But such firms do not have a history of plumping for initial public offerings [IPOs] to raise capital. There are financial and regulatory constraints. For example, for a full listing, companies have to produce quarterly audited accounts. That is beyond the financial reach of some companies. In the US, there is the Sarbanes Oxley Act which puts very onerous obligations on company directors.

But there is also a cultural barrier that has militated against midcaps going down the public route.

“There was definitely a mindset that saw exchanges as a place for large caps only. I have worked very hard in my tenure to rethink the listings standards. Particularly in the wake of the crisis, we have worked very hard to ensure that we are an available route for companies who might not have considered that before. For many smaller companies, the debt-capital markets are just not open to them so the equity markets can be a sensible alternative. But the majority of exchanges are not positioned to get the message out to these companies. That is what we have to do now.”

Niederauer’s team at NYSE Euronext are looking into the possibility of opening a small cap exchange. It would be aimed at companies with a market cap of $50m and over. “If there is no other way for these companies to get access to capital. Then we have to look into a micro exchange here in the US that would give them a route. More news on this to follow.”

The London Stock Exchange created a small cap exchange called the Alternative Investment Market (AIM) with less stringent listing requirements. It attracted many IPOs but the criticism was that when the companies listed, there was very little liquidity particularly further down the index. Niederauer says these companies may have to accept that this is the reality. “The liquidity on secondary markets is unlikely to be there for these companies regardless of where they list. A lot of these companies will have to accept that an IPO will almost feel like a private placement.”

There is an average of two-to-three Chinese firms listing on the NYSE every week. These firms, which do not list in China, have a market cap of between $500m and $1bn. “The Chinese government gives companies a stipend to defray costs of an IPO because they understand that up to 90% of job creation happens after a company goes public. Other countries would be well advised to do the same.”

Regulatory conundrum

The moves towards deregulation were at the heart of the financial crisis that blew up over the past few years. Putting in place a regulatory framework that ensures a meltdown of this magnitude is never repeated is underway. Niederauer says that what has been proposed so far is “directionally correct”.
“But at the same time we don’t know where the next crisis is going to come from. It is impossible to say if what has been implemented and proposed is enough to prevent the next crisis.”

What is essential is that the more opaque products that existed mostly in the shadow banking system are brought into a more transparent and risk managed environment. “We have to recognise that the creation of a shadow market for large asset classes is dangerous. It was probably the root cause of the crisis. If we are smart then when these products develop, a small dose of regulation early is better than a heavy dose of regulation after a calamity,” says Niederaurer.

Some jurisdictions may introduce frameworks that enable the use of certain types of products. That is why it is crucial that the G20 adopts a uniform approach to regulation, says Niederauer. “Most financial services companies want to operate in G20 countries. But it is inevitable that there is opportunity for jurisdictions to be less than co-operative. I don’t think anyone has figured that out yet.”

Northern Ireland

NYSE Euronext is one of the biggest private sector employers in Northern Ireland. It originally acquired the financial software company Wombat a few years back. It then chose Belfast as a base to expand its operations. Why? “Because the government has been very stable and supportive. It has been very business friendly. We have been able to create a centre of excellence and become an employer of choice, which is hard to do elsewhere in Europe. We got an excellent real estate footprint as well.”

Niederauer was at the Northern Ireland Investment Conference in Washington on October 19th, which was chaired by Secretary of State Hilary Clinton. “The challenge I gave the conference organisers was that those sitting around the table had already made the decision to invest in Northern Ireland. It was preaching to the converted. We have to reach out to those that haven’t invested.

“That is why I am going to host an open day here [NYSE] in 2011 either for Northern Ireland or all of Ireland. We will bring in government leadership, companies that have invested in Ireland, entrepreneurs from Ireland and companies that have not yet invested in Ireland. The Washington conference was great but a bit of a missed opportunity.”

Duncan L. Niederauer: Chief executive officer

Duncan L. Niederauer is chief executive officer and a director of NYSE Euronext. He is a member of the company’s management committee. Prior to his current position, Niederauer was president and co-chief operating officer of NYSE Euronext with responsibility for US cash equities. Before joining NYSE Euronext in April 2007, he was managing director and co-head of the equities division execution services franchise at Goldman Sachs. His career at Goldman Sachs spanned 22 years.

Niederauer has served on the board of Archipelago Holdings, LLC and Colgate University, and now serves on the board of Operation Hope. His current memberships include the G100, the British-American Business Council International Advisory Committee, the Partnership for New York City, the Committee Encouraging Corporate Philanthropy, the Shanghai International Financial Advisory Committee, the Museum of American Finance, and Fundacao Dom Cabral in Brazil. He earned an MBA from Emory University and a BA from Colgate University. He and his wife have three children and reside in New Jersey.