Tradefair, a subsidiary of online-betting exchange Betfair, plans to apply its parent company's matching engine technology to offer a trading venue for financial derivatives, extending the offering to retail customers. The company's application of an exchange ethos to CFDs will differentiate it from other players, while bringing more transparency and secondary-market liquidity to the asset class.
Betfair, via its majority-owned subsidiary Tradefair, is aiming to expand into financial derivatives, a contiguous market which, like sports betting, implies a contract with its result based on the performance of an underlying instrument. By applying an exchange ethos to contracts for difference (CFDs), Tradefair will open them up to retail customers, bringing more transparency and secondary-market liquidity to the asset class. It will also be able to operate on the basis of charging a facilitator's fee without assuming financial onus relating to the contracts, as its parent does in the sports gambling market.
Betfair operates a sports betting exchange with some two million registered customers around the world, of whom about half a million are active users. In applying exchange logic to that market, it brought something new to a sector previously served exclusively by bookmakers. The main benefits of Betfair's offering are transparency, as punters can compare prices and sizes of bet, and secondary-market liquidity, in that bets can be sold on up until seconds before an event begins. Betfair developed its own matching engine technology for this purpose and Tradefair will use a second more scalable generation.
A CFD is an agreement between two parties to settle, at the close of the contract, the difference between the opening and closing prices of the contract, multiplied by the number of underlying shares specified in the contract. The similarity between a CFD and sports betting is highlighted by the fact that the UK has a very active market in spread betting, which spans both the financial markets and the world of sport.
A spread bet is a bet on an unknown outcome made at odds set by someone else, in this case, a spread betting company. That company takes an instrument and quotes two prices, which it calls a spread, that are effectively a bid and offer price. The offer price is the price at which one can buy and the bid price is the price at which one sells.
The spread represents a prediction of a future outcome. And because it has an expiry date, it is a prediction of a future outcome within a set time frame, although punters can close out their position at any time before expiry. What they must decide is whether to buy or sell the spread betting company's prediction of the future outcome.
A spread bet can actually be considered a special kind of CFD because it comes with an expiry date, however, it is regulated differently. In the UK, the Gambling Commission controls spread betting, whereas CFDs are regulated by the Financial Services Authority (FSA).
This entails the necessity of two distinct licenses to operate and while Betfair is already licensed by the Gambling Commission, Tradefair will need to apply to the FSA for its service. It is already offering financial spread betting, however, as a white-labeled service from one of the UK's many specialist companies in that area. Through this offering it aims to learn about the market in preparation for its entry into CFDs.
Tradefair will, in fact, be applying for two licenses from the FSA, one to operate as a multilateral trading facility, like Chi-X or Turquoise, the other to become a complex securities firm, which will enable it to deal with retail customers directly, in the manner of a brokerage. The company is making these applications because it not only wants to operate an exchange, but also plans to let retail customers deposit funds on its system in an escrow account for the purposes of trading.
That is not to say that Tradefair has no plans to address the institutional side of the market, however. Indeed, it already intends to offer an application programming interface for algorithmic trading in CFDs and its location, in a Global Switch data center in London's Docklands area, puts it in the right place for a lot of the black box trading infrastructure maintained by the financial community in that vicinity. Furthermore, it seems reasonable to assume that there will be other classes of cash-settled derivatives to which Tradefair may be able to offer its matching engine technology in the future. Germany's Turbo certificates, also known as Hebelprodukte, are actually a larger market than CFDs and seem like a natural extension of Tradefair's business model.