Exchanges made nearly $30 billion in 2018, but a new report suggests their business could be at risk if they don't innovate in 3 ways

Hollis Johnson/Business Insider

NYSE president Stacey Friedman recently told Business Insider one of her key goals was to reduce the friction customers experience with the technology they use to trade.

• Exchanges generated nearly $30 billion in revenue globally in 2018 and have enjoyed a 12% increase in revenue annually since 2012.
• However, a recent Opimas report suggests exchanges need to explore new business lines in order to maintain double-digit growth in revenue.
• Alternative data, digital assets and improvements in the IPO process are all areas the report suggested exchanges are well-positioned to profit from.

Some of the best returns on Wall Street are coming from the ones facilitating the trades as opposed to those making them.

Exchanges had another banner year in 2018, with global revenue rising to just shy of $30 billion, according to a recent report by consultancy Opimas. Since 2012, global exchange revenue has risen at an annual rate of 12%. The largest venues also operate on profit margins that average above 60%, with some exchanges exceeding 70%, according to the report.

However, for trading venues to continue to enjoy such large profits, changes need to be made, the report suggests.

Exchange groups have benefited from a series of mergers or acquisitions that have allowed them to obtain larger market shares and reduce their cost of doing business. But those benefits will soon face diminishing returns, the report suggests.

"It would be charitable to say that exchanges have lacked a certain degree of creativity and innovation in their business models," the report said. "Greater operational efficiency can only be pushed so far ... exchanges will have to embrace a higher level of innovation in coming years in order to maintain their growth rates."

Read more: Nasdaq and NYSE are suing their regulator over a pilot they say could put some ETFs out of business

Opimas

Global exchange revenue from 2012-2018

One area where Opimas suggests exchanges should look to is alternative data. Usage of non-traditional data sets has exploded in recent years to grow to a $7 billion industry.

Of traditional exchanges, Nasdaq has been particularly aggressive, acquiring alt-data company Quandl in December 2018. Nasdaq CEO Adena Friedman has also pushed for usage of alternative data beyond trading strategies.

Exchanges are no strangers to selling data. For many it has become one of their most profitable revenue streams. However, trading venues have received an increasing amount of backlash from broker-dealers who feel the fees charged for their data is too high.

Some exchanges have even seen a decline in the revenue generated from their traditional market data, according to the report. CME Group, LSE and Deutsche Borse, all saw a drop in revenue from traditional market data in 2018 compared to the previous year, with Intercontinental Exchange, which owns NYSE, only seeing a small increase.

Opimas

Growth rate of exchange data revenues

Digital assets was another area the report suggested exchanges would be well suited to dive into.

In April 2018, ICE announced plans to launch its own digital asset platform, Bakkt. However, the venture is still pending regulatory approval. Nasdaq also sells its surveillance platform, SMARTS, to crypto exchanges.

"A lack of regulatory clarity in the area of trading cryptocurrencies such as bitcoin or ether has led traditional exchanges to avoid the digital asset market," the report said. "However, the very considerable profits being generated by crypto exchanges will lead more traditional exchanges to carefully consider this market."

See more: The Wall Street battle over skyrocketing market data fees could reach a boiling point in 2019

Finally, the report suggested exchanges aim to improve the how private companies are listed. IPO proceeds in 2018 were nominally higher than in the year prior. The report cited the success of Spotify's direct listing in April 2018 as a potential area for exchanges to explore.

"Dissatisfaction with the traditional IPO process and the large fees commanded by the underwriting investment banks have been contentious issues for years," the report said. "Exchanges could provide greater support in terms of advice, as well as systems to facilitate the process."