IntercontinentalExchange Earnings Preview: Post-Acquisition Derivatives Trading In Focus

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IntercontinentalExchange Group (NYSE:ICE) is scheduled to announce its earnings on May 8. In its earnings report for the March quarter, ICE will report earnings with the NYSE Euronext business fully integrated for the first time. In the previous quarter, the company included NYSE’s transactional revenues generated during only the last seven weeks of the period. [1]

While ICE’s trading business originally just comprised of derivatives trading, the company now has a cash equity operation with the acquisition of NYSE. With the acquisition of Singapore Mercantile Exchange earlier in the quarter, ICE is now the only operator in the world with exchanges across the U.S., Europe, Latin America (Brazil) and Asia (Singapore). With this global network, the company now has trading activity 24 hours a day. Derivatives trading, which contributes almost 60% to the company’s value according to our estimates, saw a 13% decline in activity during Q1 2014 compared to the combined NYSE Euronext and ICE volumes for the prior year quarter. Given the likely drop in revenues from derivatives trading over the quarter, following the earnings release we will revisit our $241 estimate for ICE’s stock, which is currently 20% higher than the market price.

See Our Full Analysis For IntercontinentalExchange

Derivative Trading Volumes Disappoint

Among the various derivative categories traded on the ICE platform, power and agricultural commodities were the only segments with year-over-year growth in trading activity during the quarter. Power derivatives, which include futures and options for U.S, Europe and U.K. markets, were exceptionally high both sequentially (35%) and y-o-y (50%), with significant growth coming from European power derivatives trading. Additionally, trading activity was up for agricultural commodities derivatives such as sugar, cocoa and coffee contracts, which witnessed an increase largely due to the sustained growth of agricultural commodity products in Latin America. [2]

As we noted in our previous article, natural gas derivatives trading was subdued during 2013, but the cold wave during the end of the year increased demand for natural gas. Consequently, there was some volatility in natural gas prices and derivatives trading picked up. However, the surge in trading lasted only for the months of January and February, and was substantially lower in March. Overall, the natural gas derivatives trading volumes for the full quarter were about 10% lower than the prior year quarter. [3]

Moreover, trading activity declined for foreign exchange products (-20%), equity derivatives (-25%) and short-term interest rate products such as Euribor, Eurodollar, Sterling combined (-27%) and long-term interest rate products such as U.S. bond and ultrabond, treasuries, swapnotes Yen combined (-5%) compared to the year-ago period.

Margins Could Continue To Improve

At the start of the year, ICE estimated the combined operating margins of NYSE Euronext and ICE to be around 42%. During the year, the company realized $95 million in synergies, bringing the margins up to around 45%. The company intends to have an IPO for Euronext and sell off stagnating businesses within NYSE’s technology division. [4] This should help the company achieve its expected margins of around 49% for 2014 as Euronext is a lower-margin business. According to management, if the company successfully maintains 70% of its targeted synergies on a run rate basis, it should generate margins of about 55% in 2015. [5]

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Notes:
  1. ICE Earnings Call Presentation Q4 2013, ICE Investor Relations, February 2014 []
  2. ICE NYX Merger To Boost Commodity Derivatives, Markets Media, September 2013 []
  3. ICE Combined Historical Monthly Volumes, ICE Investor Relations, April 2014 []
  4. ICE Group To Sell Stake In Euronext Before IPO, Bloomberg, January 2014 []
  5. ICE Earnings Call Transcript Q4 2013, Seeking Alpha, February 2014 []
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