CME Earnings Preview: Derivatives Trading Volume In Focus
The CME Group (NASDAQ:CME) is scheduled to release its Q1 2013 earnings on May 2nd. The company is the world’s largest futures market operator and over 80% of its total revenue comes from clearing and transaction fees. Since clearing and transaction fees are assessed on a per-contract basis, the level of trading volumes is the most important growth driver for the company.
Trading volumes tend to be cyclical in nature and have witnessed significant fluctuations in the last few years due to ongoing uncertainty in the financial markets. In 2012, a very low volatility environment prevailed and caused the company’s aggregate average daily volume (ADV) to drop by 15% year-on-year. This resulted in a drop in its annual revenue by 11% on a year-on-year basis. [1]
The situation looks a little better in Q1 2013 as CME’s aggregate trading volumes were up by around 1.4% on a year-on-year basis. Leading the trend were the company’s FX contract volumes, which were up by 21%, 26% and 15% respectively in the first three months of the year and continue to remain elevated due to the Bank of Japan’s surprise announcement of a large monetary easing program. The company’s metal complex also performed well in Q1 and continues to do so as it recently created a new record in trading volumes on heightened volatility. Equity and interest rate contract volumes were also up in Q1 due to increased volatility. [2]
See our full analysis for CME Group
Regulations Are A Secular Tailwind For Trading Volumes
A more secular trend that will shape the industry’s course over the next few years is that regulations will make centralized clearing of standardized over-the-counter (OTC) derivatives mandatory worldwide. OTC derivatives are a large market segment ($639 trillion) and were until now traded bilaterally without any major reporting requirements. However, in the wake of the credit crisis, regulations around the globe have mandated that standardized OTC derivatives be centrally cleared.
In the U.S., the Dodd-Frank Act mandates that all market participants should transfer to the centralized clearing channel by September 9, 2013. [3] This is likely to bring a large chunk of OTC derivative volumes that were previously traded over-the-counter to the centrally cleared channel and boost trading volumes for the whole industry.
As the world’s largest derivatives marketplace and the owner of a clearinghouse, the CME Group stands to gain a lot from this industry tailwind and could capture a major chunk of such volumes. Realizing the huge opportunity, the CME Group is already pushing ahead with the expansion of its clearing capabilities in Europe and is also focusing on developing new products to satisfy the unmet needs of its various clients. The company is also going to launch a new derivatives exchange in London during the second half of this year to compete with entrenched rivals like NYSE Euronext (NYSE:NYX) and Deutsche Borse in the derivatives marketplace.
We are looking forward to more insights on these trends and initiatives during the upcoming conference call on May 2nd. Our current price estimate for the company’s stock is around $58 per share, almost in line with its current share price. We will update our estimate after the company releases its Q1 performance figures.
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Notes:- SEC Filings, CME Group, February 28, 2013 [↩]
- Company website, CME [↩]
- OTC Interest Rate Swaps Mandatory Clearing Summarized, LCH.Clearnet, December 7, 2012 [↩]