* Both bourses on trading halts pending announcement
* ASX says in talks with third party on business combination
* SGX, ASX will have combined market value of $14 bln
* SGX trades at premium valuations to ASX - StarMine (Changes sourcing in lead paragraph; adds analyst comment)
By Saeed Azhar and Michael Smith
SINGAPORE/SYDNEY, Oct 22 (Reuters) - Singapore Exchange (SGX) and Australia's ASX Ltd are in talks to combine the two bourses, a source said, a move aimed at fighting growing competition from newer trading systems and cutting the Hong Kong bourse's widening, China-fuelled lead.
Shares of SGX and ASX, Asia's second- and third-largest listed bourses, were both placed on a trading halt on Friday pending an announcement. The ASX said it was in talks with another party about a possible business combination but declined to elaborate.
"They are talking to combine the two (bourses)," the source, who asked not to be named because the deal is not public, told Reuters, adding that the talks are yet to be concluded. "The boards haven't met yet."
An SGX spokeswoman declined to comment on the talks.
Both the Singapore Exchange and the ASX are under pressure to expand and find new business opportunities and counter the threat of alternative trading systems. ASX has also been looking at new business opportunities ahead of the end of its monopoly in 2011.
"It is possible that SGX may be taking advantage of its premium paper to buy a cheaper exchange," said Jaj Singh, a UBS analyst in a note to clients on Friday.
"We would not be surprised if ASX's shareholders asked for a premium to their existing valuation and this naturally could push SGX share price down."
The Australian newspaper said the Singapore Stock Exchange was expected to make a full takeover bid for the ASX on Monday.
UBS was advising ASX on the deal while Morgan Stanley was acting on behalf of the Singapore Exchange, the paper said. The banks declined to comment.
In March, the Australian government approved in principle a market licence for Europe's Chi-X Australia Pty Ltd, which is expected to begin operation in 2011.
"The ASX is aware that a proportion of its cashflow is at risk of drying up, so I don't think it's overly surprising that they're looking at a combination," Daniel Manley, a dealer at Burrell & Co, said."
"That Asian exposure is what everyone wants to get these days and stock markets are no different. That's the next big growth area for the next five to ten years, so it's a logical move."
DARK POOLS THREAT
Another source familiar with the matter told Reuters it was too early to assume a firm deal would be reached by Monday, suggesting both sides still had some talking to do.
If completed, it would come after large bourse deals seen globally before the financial crisis, including CME Group Inc's 2006 acquisition of CBOT Holdings for $11 billion and NYSE's Euronext NV buy for $10.2 billion in the same year, according to Thomson Reuters data, which includes debt.
ASX and other Asian exchanges are investing in new technology to counter the threat of "dark pools", or alternative trading systems, and are boosting their capacity to handle large trades while also lowering fees.
They are also stepping up alliances. On Friday, the Singapore Exchange and Nasdaq OMX Group, which teamed up to offer trading in American Depositary Receipts of 19 firms, extended their cooperation to offer companies the chance to list on both exchanges.
The Singapore Exchange has a market capitalisation of around $8 billion, while ASX, which operates Asia's third largest listed bourse, was valued at $5.9 billion at the close of trade in Sydney on Friday.
Both are smaller than Hong Kong Exchanges & Clearing Ltd, which on Friday hosted its biggest ever IPO when AIA Group, the Asian life insurance business of AIG, raised $17.9 billion in its float.
Any takeover of ASX would need clearance from the Australian government. A Singapore government-backed fund indirectly owns a 23 percent stake in SGX.
Sydney-based ASX said last month it was in talks with other parties on business opportunities.
"A party has recently re-activated confidential discussions with ASX concerning a possible business combination," ASX said in a statement on Friday, without giving more details.
ASX traded 2.5 percent firmer at A$34.96 before it was placed on a trading halt. SGX was down 2.8 percent at S$9.54 when trading in the shares were halted. (Additional reporting by Narayanan Somasundaram in Sydney, Adrian Bathgate in Wellington and Saeed Azhar in Singapore) (Editing by Muralikumar Anantharaman)