Global investors are drooling with anticipation of a tie-up between the London Stock Exchange Group, (LSE: L) and Deutsche Bourse (DB1.DE). This merger of equals would create the largest exchange group in the world, and talks of the merger sent prices for both companies through the roof.

On the news, shares of LSE topped 19.6% in less than an hour, while DB1 shares climbed more than 8.5%. This immediate pop could be just the beginning for a big move higher. Cost savings and access to new markets will drive long-term profits.

#-ad_banner-#Of course, to have both sides of a merger surge higher to this degree means investors are super stoked about the deal.

A Global Powerhouse In The Making
Worth $28 billion, the merger would catapult the new company into “leading positions in equities, derivatives, indexes, and clearing, leaving it in competition with just a handful of market operators in the U.S. and Asia,” reports Bloomberg.

This is an all-stock merger, meaning no company is paying the other, or buying the other out. According to the talks, LSE shareholders would own 45.6% of the new company, while Deutsche Bourse investors would hold 54.4% of the company.

This makes sense, as Deutsche Bourse is the bigger company, with a market cap of EUR 15.2 billion ($16.75 billion), compared to LSE’s GBP 9.06 billion ($12.71 billion). But a quick calculation shows that LSE is getting a slightly bigger slice of the pie than it already has.

Based on current market capitalization, a straight-up merger would mean LSE should hold 43.1% of the company.

That’s why LSE share prices have climbed faster than DB1’s shares… Investors realize that the deal gives LSE shareholders a small premium.

On the flipside, though, LSE shareholders would get 0.4421 shares of the new company for every LSE share they own. DB1 shareholders will get one share of the new company for every DB1 share they hold.

But let’s put this deal into context. How will this merger change the investing world?

Stock exchanges around the world are no strangers to mergers and acquisitions. It’s become an increasingly competitive marketplace with global investors seeking access to more markets and exchanges seeking to stay relevant and operational.

By merging, LSE and Deutsche Bourse will become a global powerhouse, not just regional players.
The Guardian quotes David Cheetham, a market analyst at foreign exchange broker XTB.com, “If the deal were to go ahead it would create a clear market leader for Europe and one of the largest exchanges in the world for trading and risk managing derivatives.”

And that means big money and extra cost savings. For investors over the long-term, that means profits.
The folks over at the Wall Street Journal are a bit lack-luster about this deal. And they have a point. LSE and Deutsche Bourse have tried to merge before — twice — and have been unsuccessful.

The difference this time is the structure of the deal. Each company gets an equal share of board members and all major divisions will keep their brand names. At this stage in the talks, Deutsche Bourse seems to be treating LSE like an equal, which wasn’t the case before.

We don’t know how long a merger would take. And of course, the merger would need to be approved by shareholders and the EU Commission.

But in the meantime, share of both LSE and DB1 are popping. DB1 appears to have broken above its short-term downtrend, and could climb another EUR 5. LSE has popped more, but still has another 7-8% to climb before seeing resistance. Both are viable moves for a short-term play.

Over the past five and ten years, LSE has vastly outperformed Deutsche Bourse, and I expect that trend to continue. So while both stocks will benefit from this merger, investors may get a better return from LSE shares.

Risks to Consider: This merger is in the early stages of talks. That means it might not actually happen. In fact, these two firms have tried to merge twice before (in 2000 and 2004), and were unsuccessful. Also, back in 2012, Deutsche Bourse AG attempted to buy the NYSE Euronext, but the deal was rejected by the European Commission. If this deal does not go through, much of the gain LSE and DB1 shares have made could evaporate.

Another risk to consider is the cost of investing on an international exchange. Though many brokers offer access to global exchanges, it’ll cost you. Check with your broker about specific fees before you jump into LSE or DB1 to make sure the risk/reward is worthwhile for you.

And lastly, because these shares are traded in different currencies, the exchange rate will also have an effect on your return. The stronger the dollar, the cheaper the costs per share, but the returns will be lower as well.

Action to Take: LSE shares have since pulled back slightly from the initial pop. Investors can take advantage of this pause and pick up shares at or below GBP 2,655 to make the most of a potential move to GBP 3,300, for a gain of more than 24% over the next year or sooner.

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