NASDAQ’s Trading Volumes Decline After A Strong Start To 2014
Strong growth in trading volumes provided a solid start to 2o14 for exchange operator NASDAQ OMX Group (NASDAQ:NDAQ). There was a nearly 25% year-on-year increase in equity trading volumes in the U.S. during the March quarter. Consequently, there was an 11% increase in revenues derived from the equity trading business in the U.S. On the other hand, derivatives trading on NASDAQ’s platform was somewhat subdued during Q1, with flattish y-o-y growth in revenues. The company recently released its trading volume figures for May, which show a significant decline in trading volumes of equities and derivatives in both the U.S. and Europe. [1]
Our $32 price estimate for NASDAQ OMX’s stock is about 15% lower than the current market price.
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Trading Volumes Stagnate In Europe And The U.S.
Derivatives trading revenues generated by NASDAQ OMX’s European platform have remained nearly stagnant in 2014 thus far compared to the year ago period. On the other hand, trading volumes of options and futures in Europe have declined successively for every month in 2014, compared to the corresponding 2013 period. In four of the five months, the decline in trading volumes has been by double-digit percentages. The total decline in the number of contracts traded is down by almost 15% y-o-y to 37.5 million contracts. If the decline in derivatives trading continues in Europe at the same rate for the rest of the year, it could translate to a $30 million decline in revenues.
NASDAQ OMX posted encouraging figures for equity trading volumes in the U.S. at the start of the year. There was an 11% annual increase in the revenues generated by the U.S. equity trading business during the first quarter as trading volumes rose by 25% y-o-y in the first three months of 2014. However, volumes in April and May were 1% lower than the year ago period. This decline can be partially attributed to the skepticism in the market following the scrutiny surrounding the “payment for order flow” trading practice, by the Justice Department, the Commodity Futures Trading Commission and the SEC. [2] The practice involves brokerages selling orders to third-parties who trade with the customers of brokerage firms, making a profit as a result. Many of these middlemen are engaged in high-frequency trading (HFT), a practice that received further scrutiny due to the book Flash Boys by Michael Lewis, which suggested that markets are “rigged to benefit high-frequency traders.” [3] We currently forecast NASDAQ’s U.S. equity trading volumes in 2014 to be about flat relative to 2013 volume levels.
Additionally, derivatives trading volumes in the U.S. are down by 10% y-o-y so far in 2014. However, the average transaction fee per contract charged by NASDAQ during the March quarter was about 5% higher than 2013 levels. Despite the decline in trading volumes, a 2% increase in the transaction fee per contract for the full year could lead to a 3-4% revenue growth in the company’s derivatives trading business in the U.S. We forecast NASDAQ’s U.S. derivatives revenues for the year to remain relatively flat at about $470 million. The company could lose up to $20 million in revenues if volumes continue to decline at the present rate for the rest of the year.
Impact Of Declining Volumes
Equity trading is the low-margin business for NASDAQ OMX, with EBITDA margins as low as 7%. This is due to the additional clearing fees, exchange fees and transaction rebate expenses incurred by the company relative to derivatives trading or other non-transaction businesses. According to our estimates, the non-transaction businesses – including listing services, indexing services and the technology platforms – have significantly higher EBITDA margins of over 40% due to mainly fixed costs and a subscription-based revenue channel. While the continual decline in trading volumes could impact the company’s top line growth for the coming quarters, it is likely to push company-wide EBITDA margins up.
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Notes:- NASDAQ OMX Monthly Volumes, NASDAQ OMX Investor Relations, June 2014 [↩]
- Fallout From High-Frequency Trading Hits Brokerages, Wall Street Journal, April 2014 [↩]
- High-Frequency Trading Probe Spooks E*Trade Investors, 24/7 Wall Street, April 2014 [↩]