Trade Volumes Remain Muted in November For E*Trade Financial

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ETFC
E*TRADE Financial

Brokerage firm E*Trade (NASDAQ:ETFC) has experienced muted trading activity in every month this year (except August), resulting in a 7% year-over-year drop in daily average revenue trades (DARTs) from January through October to 157,000 trades per day. In line with this downtrend, the company reported a 9% annual decline in November trade volumes to 149,000 trades per day for the month. However, on a sequential basis trade volumes rose approximately 3% from 146,000 trades per day in October. [1] This could be driven by the Fed’s interest rate decision looming closer. Below we take a look at some key metrics for November and our full year forecasts for E*Trade.

We have a $24 price estimate for E*Trade’s stock, which is almost 20% lower than the current market price. E*Trade’s stock price has fluctuated between $22 and $31 this year.

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See our full analysis for E*Trade Financial

Weak Trading Activity In November

In addition to discontinuing its global trading platform in Q2, the company decided to shut down operations in Hong Kong and Singapore in the September quarter. [2] As a result, net new brokerage accounts added in September and October were at a meager 44 and 363, respectively. However, November saw a rebound with E*Trade adding about 7,300 new accounts through the month. Accordingly, the end of period brokerage accounts climbed up to 3.21 million, which was 2% higher than the year ago period. We currently forecast the total number of brokerage accounts at E-Trade to increase to 3.26 million by the end of 2015 and, subsequently, to over 4 million through the end of our forecast period.

Despite an increase in the total brokerage accounts, DARTs continued to remain repressed in November on a y-o-y basis. With over 3.21 million accounts at the brokerage, 150,000 trades a day roughly translates to about 0.9 trade per account on an average for the month, or 10.8 trades per account on an annualized basis. The brokerage has averaged about 156,000 revenue trades per day through the 11 months of 2015, leading to an implied average of about 12.2 trades per account for the full year.

Marginal Growth In Interest Earning Assets

E-Trade earns interest income by holding customer cash and deposits in addition to credit balances, which include margin, real estate and consumer loans. The brokerage’s average client balances were $41.2 billion for the nine month period ended in September, which was slightly lower than prior year periods. However, in October, total customer cash and deposits improved to $46.3 billion. [1] Continuing the momentum through November, brokerage related cash increased further by $0.7 billion, bringing the total to $47 billion. We forecast interest earning assets for the full year to be about $41.9 billion.

As much as 64% of E-Trade’s stock value is attributable to interest income it earns on credit balances. The net yield earned by the brokerage has been at historically low levels since the commencement of the 2008 sub-prime crisis, resulting in subdued interest revenue. However, post the FOMC’s decision to go forward with 0.25%-0.50% rate hike, we expect the yields to ascend from early next year. [3] Consequently, we forecast the yields to rise to over 3% over the next few years.

Margins To Fall In 2015, Strong Outlook For Coming Years

The brokerage has witnessed low trading activity in 2015 thus far, leading to a 5% decline in trading commission revenues through the nine month period ended September. Moreover, stagnant yield levels resulted in no meaningful rise in E-Trade’s interest revenues. Low revenues from both revenue streams combined translated into compressed adjusted EBITDA margin for the company at 38.6% in Q3, about 3 percentage points lower than the prior year period. We forecast E-Trade’s adjusted EBITDA margin to stand at 38.6% for the full year, down from about 40% last year. However, with the interest rate hike implemented by Fed, we expect margins to improve in the coming years. [4] As a result, we forecast the adjusted EBITDA margin to rise to over 45% by the end of the decade.

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Notes:
  1. E*Trade Monthly Metrics For November, E*Trade Investor Relations, December 2015 [] []
  2. Earnings Call Transcript for Q3 2015, E*Trade Investor Relations, October 2015 []
  3. At Last, Money-Fund Yields Should Rise Within Days, Wall Street Journal, December 2015 []
  4. The Fed’s New Normal, Bloomberg View, December 2015 []