NASDAQ’s Glitch Could Negatively Impact Its U.S. Listings Business

August 23rd, 2013 by Trefis Team
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For over three hours, trading was halted for thousands of stocks on August 22 due to a technical glitch in NASDAQ OMX’s (NASDAQ:NDAQ) platform. As a result, the exchange operator’s stock dropped by over 3.5% when markets reopened at around 3:25 p.m. EDT. While no official reason for the error has been provided yet, some experts have started discussing the possibility that the outage was due to hacker attacks. (see: Nasdaq outage resembles hacker attacks)

See our full analysis for NASDAQ OMX

It is not the first time NASDAQ has run into technology related troubles. In 2010, hackers were able to breach the networks of a company that runs the Nasdaq Stock Market. [1] Then in 2012, the exchange faced a major embarrassment when its computers malfunctioned during the initial hours of the highly anticipated Facebook IPO, and caused millions of dollars’ worth of trades to be wrongly placed. NASDAQ agreed to pay $10 million in fines earlier this year for its role in the Facebook fiasco. [2]

To be fair, NASDAQ is not the only exchange to have goofed up in recent years. NYSE Arca was widely blamed for the flash crash in 2010 and BATS Global had to withdraw its own IPO in 2012 due to a software error in its systems. [3] [4]

We believe that recurring technical glitches are a bad omen for the whole financial sector because they undermine the confidence that investors have in financial markets. At a company level, we believe that NASDAQ will not lose out much transaction-based revenue due to a disruption in trading activity on a particular day. However, its U.S. listings business is likely to face increased pressure from competitors who will use this opportunity to lure away potential clients.

Transaction Based Revenue To Be Unharmed

Assuming that industry wide trading volumes will not plummet due to Thursday’s technical error, NASDAQ’s transaction based revenue is unlikely to be impacted in a material way by the disruption it caused on that day. NASDAQ earned around $1.3 billion in transaction fees from its U.S. cash trading business. Assuming 251 trading days in a year, that amounts to just around $5.2 million per day – or 0.2% of the exchange operator’s total revenue in 2012.

NASDAQ’s U.S. Listings Business Could Face Increased Competition

The tech sector is one of the most heavily traded segments in the U.S., and traditionally NASDAQ dominates it with names like Apple, Cisco, Dell, EBay, Facebook, Google, Intel and Microsoft on its roster. However, NYSE has been gaining ground recently. According to Venture Beat’s analysis, the exchange attracted 16 of the top 20 most highly valued venture capital backed tech IPOs of 2012. [5] It also scored a big win this year in June when Oracle Corp (NASDAQ:ORCL) became the first major U.S. tech firm to transfer its stock listing from NASDAQ to NYSE. (see our article: NYSE Poses A Serious Threat To NASDAQ As It Grabs More Tech Listings)

With NASDAQ’s name surfacing in multiple technology issues recently, we believe that it will become easier for NYSE or other operators to take market share away from NASDAQ in this segment. As evident in this article, NYSE has been using the Facebook IPO as a talking point to lure prospective clients away from NASDAQ, and we see no reason why it wouldn’t exploit Thursday’s tech issue similarly.

At $171 million, U.S. Listings accounted for about 6% of NASDAQ’s total revenue in 2012. We project it to decline slightly over the next few years due to a drop in the number of firms that are listed on NASDAQ. Over the long term,  this trend could reverse as the Facebook IPO and recent technical glitches fade from memory and as the economy improves further.

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Notes:
  1. Hackers Penetrate Nasdaq Computers, WSJ, February 5, 2011 [↩]
  2. SEC Slaps Nasdaq With Record $10M Fine Over Facebook IPO Fiasco, Forbes, May 29, 2013 [↩]
  3. Understanding the Flash Crash, BlackRock [↩]
  4. Bats: The Epic Fail of the Worst IPO Ever, Bloomberg Businessweek, March 23, 2012 [↩]
  5. Look out, Nasdaq: NYSE proclaims itself the new king of tech IPOs, Venture Beat, May 31, 2013 [↩]