CME’s Q1 Driven By Interest Rate Products, Positive Outlook For FX And Metals

May 5th, 2014 by Trefis Team
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CME Group (NASDAQ:CME) announced its Q1 earnings on May 1, registering growth in its transaction-based revenues as expected. Continuing the trend from 2013, interest rate derivatives trading was up by 19% year-on-year (y-o-y) to 6.7 million average daily trades during the quarter. [1] The company reported net revenues of $777 million for the quarter, with a 10% y-o-y increase in both of its two largest revenue streams – clearing & transaction fees and market data. Revenues generated by clearing and transaction fees (or the transaction-based business) grew to over $650 million from about $590 million in the year ago period.

CME’s operating margins improved by over 150 basis points compared to the prior year quarter to 58%, which management attributed to expenses only growing at low single-digit rates. Going forward, the company expects to contain the increase in expenses to similar levels and stay around $1.3 billion for the full year. We forecast a continued increase in interest rate derivatives volumes this year as well as volume growth for other asset classes such as foreign exchange, energy and metals. Consequently, the company’s margins could stay higher than 2013 levels.

Our $69 price estimate for CME’s stock is about in line with the current market price.

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Interest Rate Derivative Trading To Keep Growing

CME’s average daily volume (ADV) for interest rate derivatives during Q1 2014 was up by 19% y-o-y, and the revenue realized per traded contract was up by around 2% by the end of the quarter. Management said that the growth was driven by a 46% surge in Eurodollar futures and options trading in Q1 compared to the year-ago period. This trend is likely to continue for the June quarter as well, especially because the company typically faces strong demand for interest rate products in April. A key driver for the increase in Eurodollar options was the announcement of the tapering of quantitative easing late last year. [2]

Interest rate products constituted nearly half of CME’s trading volumes but only about 30% of transaction-based revenues due to the lower average rate per contract (RPC) of these derivatives. Interest rate products have a significantly lower RPC (about $0.50 per contract), compared to other derivatives such as energy (around $1.30), metals ($1.60), agricultural commodities ($1.30) and foreign exchange ($0.80). [3] The company hiked transaction fees by 2-3% at the beginning of the year to balance out the decrease in rate per contract due to an increasing mix of interest rate products. However, the average rate still declined to $0.767 per contract from the year ago rate of $0.785. Starting April, the company eliminated fee waivers to improve average rates, but mentioned a possible increase in attrition rates going forward. [1]

Strong Outlook For Declining Foreign Exchange And Metals Derivatives

The global foreign exchange (FX) markets have suffered of late due to the benchmarking scandal and low levels of volatility. [4] The company reported a 19% y-o-y decline in FX traded products during the quarter, attributing the decline to aforementioned reasons. However, the company has a positive outlook for the coming quarters as it launched CME Europe last week. According to CME estimates, the FX market is likely to be driven by the increasing adoption of exchange-traded FX futures, which CME Europe is in a position to offer.

A similar trend was seen in metals derivatives trading as well. The company reported a 10% decline in average trading volumes of metals derivatives. The launch of CME Europe is likely to be beneficial for metals volumes as well, since the London-based exchange offers aluminum contract trading in addition to foreign exchange products.

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Notes:
  1. CME Group Q1 2014 Earnings Call Transcript, Seeking Alpha, May 2014 [↩] [↩]
  2. Eurodollar Spread Gets Interesting, Futures Magazine, April 2014 [↩]
  3. CME Monthly Reports, CME Investor Relations, April 2014 [↩]
  4. The FX Fixing Scandal, Reuters, March 2014 [↩]