GFI Group Inc. Q4 2008 Earnings Call Transcript

GFI Group Inc. (GFIG)

Q4 2008 Earnings Call Transcript

February 20, 2009 8:30 am ET

Executives

Chris Giancarlo – EVP, Corporate Development

Michael Gooch – Chairman and CEO

James Peers – CFO

Analysts

Dan Fannon – Jefferies

Daniel Harris – Goldman Sachs

Rob Rutschow [ph] – Deutsche Bank

Niamh Alexander – KBW

Chris Donat – Sandler O’Neill

Don Fandetti – Citigroup

Jonathan Casteleyn – Wachovia Securities

Mark Lane – William Blair

Chris Matus [ph] – Morgan Stanley

Daniel Harris – Goldman Sachs

Presentation

Operator

Good day, ladies and gentlemen, and welcome to GFI Group Incorporated fourth quarter and full year 2008 earnings conference call. My name is Shane, and I will be your operator for today. At this time, all participants are in a listen-only mode. (Operator instructions) I would now like to turn the presentation over to your host for today’s call, Mr. Chris Giancarlo, Executive Vice President of Corporate Development of the GFI Group. Please proceed sir.

Chris Giancarlo

Thank you Shane. Good morning and welcome to the GFI Group’s fourth quarter and full year 2008 earnings conference call. We issued a press release yesterday providing the financial results of our fiscal quarter ended December 31, 2008, which is available on our website at www.gfigroup.com. We have also posted monthly revenue information for the quarter on our website under Supplementary Financial Information.

To begin this morning’s call, Michael Gooch, our Chairman and Chief Executive Officer will review our business performance in the fourth quarter, and consider expectations for the current period. Next Jim Peers, our Chief Financial Officer, will review in greater detail the financial results for the quarter. After Jim, Mr. Gooch will conclude with a few remarks. Thereafter, we will open up the call for your questions. So that we can respond to questions from as many of you as possible, we would be grateful if questioners would limit themselves to one question, and return to the queue for any follow-up questions.

Our discussions during this conference call will include certain forward-looking statements. These statements are not guarantees of future performance. Actual results may differ materially from those expressed or implied from such forward-looking statements. More detailed information about the risks, uncertainties and other factors that may cause actual results to differ from such forward-looking statements are discussed in our filings with the SEC, including our most recent annual report on form 10-K.

Also, the discussions during this conference call may include certain financial measures that were not prepared in accordance with U.S. Generally Accepted Accounting Principles. Reconciliations of non-U.S. GAAP financial measures to the most directly comparable U.S. GAAP financial measures were included in the company’s earnings press release furnished on a current report on Form 8-K dated February 20, 2009. These reports are available on our web site at www.gfigroup.com under the Investor Relations section.

I will now turn the call over Michael Gooch, Chairman and Chief Executive Officer of GFI Group.

Michael Gooch

Thank you Chris. Good morning. Thank you for joining us today. Our brokerage revenues for the fourth quarter of 2008 were $194 million, which was 19% lower than the fourth quarter of 2007, and below the forecast I gave in October of a decline of 4% to 7%.

At the time of our last earnings call on October 31, we saw across-the-board strength in equities, good activity in some cash bonds and CDS, and strength in certain commodities. In fact, US equities did well throughout the fourth quarter, as did fixed income in Europe. However, market conditions for many derivatives and energy products worsened more than we anticipated. While our brokerage revenues were 8% lower in October compared with October 2007, they fell 31% in November and 17% in December compared to these months in the prior year.

Our revenues were further impacted by substantial declines in global share prices and asset and index values, which reduced revenues in certain European products, where our commissions are based on notional values rather than volume. And the dollar strengthened significantly in the quarter reducing the dollar value of our European revenue.

Our last earnings call came on the heels of significant turmoil triggered by the Lehman bankruptcy that impacted financial markets worldwide. As the quarter progressed, credit markets remained virtually frozen, although CDS and secondary corporate fixed income continued to trade, governments around the world introduced aggressive fiscal and monetary policies, and the health of certain global banks and insurers came under increased scrutiny.

Some dealers in hedge funds consolidated and deleveraged. Equity and commodity prices plummeted as worldwide economic challenges deepened. In certain instances, high volatility, which normally benefits GFI gave way to market dislocations and led to dealers scaling back their trading operations. On that October call, I said that I expected the disruptive conditions would present GFI with both challenges and opportunities, and described our restructuring initiative that included closing underperforming desks and reducing headcount to strengthen our position given market uncertainty. That plan was implemented in the fourth quarter.

Our challenges in the fourth quarter of 2008 were substantial. Brokerage revenues were lower in each product category compared with the fourth quarter of ‘07 with the exception of equity products, which is where I will begin my review of operations.

At 38% of fourth-quarter 2008 brokerage revenues, equity products represented our largest product category for the second consecutive quarter. Revenues from equity products increased 3% over the fourth quarter of 2007 and 4% sequentially. For the full year, equity products rose 22% compared with 2007. We have made a determined investment in this segment over the past few years adding both desks and brokers in cash equities and equity derivatives.

Our revenues from credit products represented 30% of total brokerage revenues in the fourth quarter of 2008. Credit product revenues decreased 21% from the fourth quarter of ‘07 and 4% sequentially. Full year revenues declined 4% from 2007 on a GAAP basis, while revenues were flat on a non-GAAP basis, after excluding the Lehman loss recognized in the third quarter.

The bright spot in the fourth quarter of 2008 was a 61% increase in revenues from fixed-income products, primarily corporate bonds and sovereign debt. However, this growth was more than offset by a 47% decline in credit derivative revenues.

Our revenues from financial products represented just 14% of total brokerage revenues in the fourth quarter of 2008. Financial product revenues decreased 37% from the fourth quarter of 2007 and 38% sequentially. While the Asian Pacific region has been an important source of growth in financial product revenues for us for the past few years, it is where we are currently seeing the biggest cutbacks by dealers that reduced their trading operations in the region.

In the fourth quarter of 2008, we saw less trading in emerging market interest-rate, currency, and exotic derivatives. Full-year revenues from financial products were down 7% from 2007 due in part to the transfer of our global US dollar interest rate swap business in March, and the restructuring initiative implemented in the fourth quarter.

Revenues from commodity products represented 18% of brokerage revenues for the fourth quarter of 2008. Commodity product revenues decreased 30% sequentially and 30% from the fourth quarter of 2007. The global recessionary environment in the fourth quarter of 2008 led to a substantial decline in the Baltic Dry Freight Index, which reduced our dry freight revenues in Europe and Asia compared to the fourth quarter of 2007. That index has subsequently recovered significantly.

Volatile market conditions and customer deleveraging drove energy trading activity to the short end of the curve in the fourth quarter further negatively impacting our energy product revenues. Full-year revenues from commodity products matched the record levels achieved in 2007.

Looking at our performance by geography, in the fourth quarter of 2008 brokerage revenues decreased in all regions with Asia-Pacific down 44%, Europe, Middle East and Africa down 22% and Americas down 8% compared with the fourth quarter of ‘07. Once again, the significant strengthening of the US dollar negatively impacted the value of our overseas revenues.

Revenues from our software, analytics and market data business, including the contribution of our Trayport subsidiary acquired in January of 2007, increased 164% from the fourth quarter of 2007 and represented approximately 6.5% of our total revenues in the fourth quarter.

Trayport’s continued strong performance in the fourth quarter of 2008, up 29% in British pounds year-over-year, was masked by the negative effect of foreign currency translation, which led to a 10% sequential decline in their total revenues on a US dollar basis.

In British pounds, Trayport’s total revenues are up 6% sequentially. In acquiring Trayport, we saw the opportunity to build upon its highly regarded global vision platform to streamline the introduction of new trading platforms and products. In November, Trayport announced new functionality on its GlobalVision trading system developed specifically for GFI, but also available to other inter-dealer brokers.

GlobalVision now has the capability to cross currency basis swaps, complementing other non-energy sectors that Trayport now supports. The transparency and regulation of the OTC credit derivatives market has become the central focus of Congress, and I recently had the opportunity to testify before the House Agricultural Committee to express GFI’s views and hopefully to correct misconceptions.

Let me underscore our belief that GFI will be a beneficiary of structural changes in the OTC derivatives markets, including greater transparency, appropriate centralized clearing, and effective regulatory oversight, and GFI supports well grafted legislation in furtherance of these objectives.

Controlling employee compensation and other costs continues to be a major focus for us and was the main driver behind the restructuring initiatives we announced in October. However, a number of factors prevented us from showing tangible results for the fourth quarter, and caused employee compensation and benefit expenses to increase as a percentage of total revenues from the fourth quarter of 2007.

These included the reduced level of our revenues due to the difficult trading environment and unfavorable foreign exchange rates in the 2008 fourth quarter and a $14.6 million non-cash mark-to-market unrealized loss on forward currency hedges. In addition, we continue to expense the cost of the sizeable investment made in the middle of last year in staffing our New York credit and other brokerage operations.

While we benefited from the strength in our cash equity and fixed income businesses in the quarter, compensation costs increased because of the shift in the mix of our revenues towards these lower margin brokerage products. In addition, there was a lag between rapid revenue decline and our ability to restructure and lower certain costs of operation.

Non-compensation costs also increased as a percentage of revenues in the fourth quarter of 2008, mainly due to the lower level of revenues. While we expect employee compensation costs to return to more satisfactory levels in the second half of the year, non-compensation expenses will continue to be impacted by higher clearing costs due to the shift in our product mix towards cash equities and fixed income products.

Turning to our outlook for the first quarter of 2009, we are forecasting total revenues to decline about 32% to 35% and brokerage revenues to decline approximately 34% to 37% for the first quarter of 2008. January brokerage revenues were down 42% with one less trading day. February’s preliminary brokerage revenues are down approximately 35% to date, and March will have two additional trading days over last year.

Additionally, we have almost a full quarter of revenue comparisons year-over-year for Trayport, which we acquired at the end of January last year. As I said in our earnings release, trading volumes appear to be establishing a sustainable base, and if extreme volatility subsides, as I suspect it inevitably will, I believe that our brokerage revenues will rebound and will benefit especially from our increased focus on cash fixed income and equities.

The year-over-year decline in brokerage revenues has been extreme by any measure and compounded by the rapid strengthening of the dollar. We do not expect the level of change that we have had to deal with to be the norm going forward. As we manage the business in this environment, we will make adjustments to our model. Accordingly, we don't expect to see such violent swings in FX rates going forward, but we have hedged a significant portion of our exposure.

If the dollar continues to strengthen, we will react accordingly. We remain ready to face the challenges known and unknown over the coming months. At the same time, we are positioned well with the diversity of our revenue stream and the strength of our balance sheet and cash flow to contend with the difficult environment, and to take advantage of market conditions.

Our management team has both deep experience and full focus to navigate our course. We have established a seat at the table in the market structure evolution and we expect to be a beneficiary of change. And despite the current environment, we remain committed to moving forward and building value.

I would now like to turn the call over to Jim Peers, our CFO, for his report, and then will offer my concluding remarks.

James Peers

Thank you Mickey. Good morning everyone. On a GAAP basis, total revenues decreased in the fourth quarter of 2008 compared to the fourth quarter of ‘07 by $51 million to $196.2 million compared to $247.4 million for the prior year, which was a record Q4. Negatively impacting other income in the fourth quarter was a $14.6 million unrealized loss on FX forward hedging contracts in our European operations related to certain cash flows in 2009 and 2010. I will discuss this in more detail later in my remarks.

On a non-GAAP basis, our revenues for the fourth quarter of ’08 were $210.9 million compared to $248 million in the fourth quarter of last year.

Our brokerage revenues totaled for the fourth quarter $193.8 million and included growth from the US equities group. Also total revenues for Trayport were $7.5 million.

For 2008, revenues increased by $45 million or 4.6% compared to 2007 and reached a record $1 billion. On a non-GAAP basis, the fourth-quarter net income was $200,000 compared to $25.2 million in the fourth quarter of ‘07. After backing out the unrealized FX loss and intangibles, our non-GAAP Q4 ’08 net income was $10.7 million compared to $26 million for the same period in 2007.

For 2008, net income decreased to $94.7 million compared to $100.3 million for the same period in 2007 on a non-GAAP basis.

Our diluted earnings per share for the fourth quarter of ‘08 was $0.00 compared to $0.21 in the fourth quarter of 2007. On a non-GAAP basis for the fourth quarter, our earnings per share was $0.09 compared to $0.22 in the fourth quarter of last year.

And for the full year of 2008, diluted earnings per share on a non-GAAP basis decreased to $0.79 compared to $0.84 in the same period in 2007.

Our non-GAAP brokerage revenues decreased by $44.4 million or 18.6% in the fourth quarter compared to the fourth quarter of last year. Credit was down approximately 21%, made up of CDS desks down 47%, which was offset by an increase of 61% in fixed income desks.

Financials were down 37%, commodities were down approximately 29.5% and equities were up 3.1%. Brokerage revenues for the year increased by $26.5 million or 2.8% with credit being down 4.2%, financials down approximately 7%, commodities roughly 5%, and equities up 21.6%.

Our brokerage sign on bonuses paid in the fourth quarter of ’08 were $23.8 million compared to $10.6 million in the fourth quarter of ‘07. Brokerage sign on bonus expensed in the fourth quarter of ‘08 were $10.4 million compared to $7 million for the same quarter in ‘07.

On a yearly basis, the brokerage sign on bonuses paid in 2008 were $79 million compared to $33 in ’07, and the brokerage sign on bonuses expensed in ‘08 were $42.4 million compared to $25.7 million in 2007.

Our brokerage personnel headcount at the end of the fourth quarter stands at 1,037, flat to the end of 2007. The change in broker headcount at the end of the year compared to the third quarter of ’08 is a decrease of 45 people, reflecting the restructuring initiatives announced in the last quarter.

The year-to-date broker productivity has decreased 2.6% to $910,000 for 2008 from $934,000 in 2007.

The pre-tax margin for the fourth quarter of ‘08 was negative 0.2% compared to 14.3% for the same quarter last year on a GAAP basis. On a non-GAAP basis, our pre-tax margin for the fourth quarter of ‘08 was 7.4% compared to 15.7% for the same quarter last year.

For 2008, our pre-tax margin was 8.2% compared to 15.5% for 2007 on a GAAP basis, and on a non-GAAP basis, the pre-tax margin for ‘08 was 14.2% compared to 16.7% for the last year.

In summary, our key performance drivers on a non-GAAP basis are as follows

Revenues for the fourth quarter in ’08 are down $37 million from the fourth quarter in 2007, and Trayport total revenues for the fourth quarter of ’08 were $7.5 million. Our comp costs are at 65.2% for the fourth quarter of ’08 compared to 60.9% for the fourth quarter of ’07. For 2008, our comp costs are 62.4% compared to 62.2% for 2007. We currently estimate that our compensation ratio will be in the high 60s in the next few quarters due to a lower revenue base, the continuing impact of our second quarter 2008 restaffing of our credit team in New York, and increased sign on bonuses related to new teams in each of the regions.

The non-compensation expenses in the fourth quarter of ’08 as a percentage of revenues were 27.3% compared to 23.4% for the same quarter in the prior year, mainly due to lower revenues. The non-comp ratio for the year of 2008 was 23.4% compared to 21.1% for 2007. The increase was mainly attributed to increased clearing fees, legal costs, and interest expense.

GFI’s effective tax rate for 2008 was 36% compared to 38% for the full-year 2007.

I would like now to highlight some other areas that will be of interest to you. The number of diluted shares at the end of the fourth quarter were 119.6 million shares. As I highlighted on previous calls, we are long euros [ph] on the revenue side, and short Sterling on the cost side in Europe. Accordingly, in Q4 GFI entered into a number of FX forward contracts, which server as an economic hedge of our exposure to certain euro and Sterling cash flows in 2009 and 2010. These hedges were mark-to-market at year end and resulted in unrealized non-cash pre-tax loss of $14.6 million with no accounting offset for future cash flows.

At the end of January, the unrealized loss had decreased by $8.5 million on a pre-tax basis. There has not been a change in our process for hedging our FX exposures, but with the volatility in euros and dollars in the fourth quarter, the mark-to-market is significantly higher than normal.

Trayport's fourth-quarter ‘08 revenue growth in Sterling, its reporting currency, was 29% compared to the fourth quarter of ’07.

In 2008, GFI increased its cash position by over $100 million from better managing its working capital, while funding significant sign on bonus payouts, moving to our new premises in New York, and paying out $30 million in dividends.

The effective tax rate for 2008 has improved to 36% versus 38% in 2007. The catch up benefit related to the first nine months of the year that was booked in the fourth quarter was $400,000 on a GAAP basis.

In light of the current environment, we are actively working to continuously lower our cost base. We are presently reviewing our headcount both in the front and back office, our compensation levels, and our variable cost or operational costs.

That concludes my remarks and I will turn the presentation back to Mickey for some closing comments.

Michael Gooch

Thank you Jim. In conclusion, the fourth quarter of 2008 was an exceedingly challenging period by any measure. And despite it, we achieved record revenues for 2008, which exceeded $1 billion for the first time, and we were profitable for the full year. Our diversity across product categories and geographies has served us well.

There is no doubt that more challenges lie ahead over the coming months. We believe we are ready to face them. Changes are taking place in the structure of the OTC derivatives market, and we seek to benefit from them. We support well crafted legislation and regulation in furtherance of greater transparency, appropriate centralized clearing, and effective regulatory oversight. As these and other changes unfold, we believe we will be well served by our managerial experience, our durable business model, our strong balance sheet, and our track record and commitment to building value.

We were pleased to declare a cash dividend again this quarter.

Thank you for your time and attention today and we are now ready to take your questions.

Question-and-Answer Session

Operator

Thank you. (Operator instructions) And your first question comes from the line of Dan Fannon from Jefferies.

Dan Fannon – Jefferies

Good morning guys.

Michael Gooch

Good morning Dan.

James Peers

Good morning.

Dan Fannon – Jefferies

Mickey, as you look at the CDS market and some of the solutions that are being discussed for, you know the cleared product. Can you give us an update on your thoughts with regards to timing from both a regulatory perspective and when you actually think some of these products might go live? And then what are your thoughts – can you give us some color on what the dealers are talking about as you guys are obviously in constant contact with them and, you know, how they – do you think they are going to act post, you know, more transparency in kind of a different environment for trading, you know, CDS contracts.

Michael Gooch

Okay. I think that may be the, you know, the credit environment of the sort of last quarter of last year and also, you know, September naturally and the sort of reaction immediately by various regulators and politicians and things. In some respects, it might have actually slowed the process down of getting to a centralized clearing mechanism because the dealer community was prior to that, you know, really diligently moving towards introducing such and I think it was somewhat derailed by the environment and then the sudden announcements of various other efforts like CME, et cetera. And the Fed getting involved in the process and now obviously the uncertainty that comes from the different constituents in Washington that are, you know, thrown their hat into the ring, you know, the Agricultural Committee is the main CFTC regulator, I don’t think they regulate it, but they control the CFTC and so you know, they are looking to be involved with the regulation of credit derivatives, even though the underlying instrument is a security. The financial, Barney Frank’s committee, I think wants to retain that regulatory oversight with the SEC.

So there is a little bit of a potential political battle on the horizon in that respect. Meanwhile in Europe, you know, there is two different situations happening between the UK and then a more pan-European effort to have essential clearing mechanism and there is definitely something of a turf war between Europe and North America in that respect, in that I think both sides somehow want to be the one most responsible. Now, in terms of launching there already is now live clearing for indexes in Europe that would be cleared by Bclear, which is part of Liffe, NYSE Liffe and cleared on LCH, but as far as I understand other than maybe one or two test trades nothing is being put into that at this point in time.

And that is not really influenced by us as brokers, that is influenced by the dealer community and it is my impression that the dealer community really wants to have their solution be the solution and as such, you know, don't want to end up with multiple solutions and therefore are not embracing the Liffe solution at this point. And so, I think that the most likely outcome is going to be that the dealer solution, which is a sort of DTCC process as well and there is obviously some confusion now with the possibility of DTCC and LCH not being able to come together because of a competing interest in (inaudible) in Europe, but I do believe that the dealer community is moving this forward.

In terms of when the first trades will be cleared in that respect, I think, we are probably getting fairly close. I think the ICE Trust clearing mechanism is fairly close to some regulatory approval, but it is going to have to get past this hurdle of the Agricultural Committee, because part of the bill in the agricultural committee somewhat takes away the authority of the Fed to regulate such a clearing mechanism. So, I would say there is still a lot of uncertainty, which is one of the reasons that the volumes in credit derivatives are lower.

I think that the buy-side community is reluctant to significantly use new credit derivatives without some certainty about what the regulatory landscape is going to be. In the meantime, of course, there is still the buying and selling of, you know, existing product that is out there and there are, you know, there is activity in the credit derivatives market, but certainly what we are seeing now is a pickup in the cash volume, which was, you know, very evident in the fourth quarter, where we saw that 61% year-over-year increase in our cash activity relative to a 47% decrease in the derivative activity. So, I don't have a real timetable.

I think it is not going to get any worse for us at this point. I think we are at the base of the trading activity. We're starting to see some life creeping back into some of the tranche [ph] sectors. I believe that the dealer community’s effort to introduce a clearing mechanism that would effectively sort of make the credit derivative look like a photographic negative of a bond with an upfront cash payment and then allowances for coupons and maturities that would match the bond is where this thing is going to go, and when it does I think it is going to be a very, very successful product. And I think it will also extend into the tranche sector, and I think that the index business could very well end up with some success on the CME and on the Liffe, and those transactions we would naturally be crossing at GFI as well as the single name CDS stuff. But that is how I think it is going to unfold and it is going to, you know, begin to get a little clearer in the next three or four months.

Dan Fannon – Jefferies

Great, that is helpful. Thank you very much.

Operator

And your next question comes from the line of Daniel Harris from Goldman Sachs.

Daniel Harris – Goldman Sachs

Hi Mickey, how are you?

Michael Gooch

Good Dan, how are you?

Daniel Harris – Goldman Sachs

Good. You know, I was hoping I could maybe just take it up a level and talk a little bit more about your views of the industry. Clearly you’ve been in this space a long time and have seen a number of different dislocations. But with what we are seeing with credit worthiness being a problem, you've got alternative assets down, you know, what could be up to 50% and brokers balance sheets down probably something similar, and the financial market at least on the banking system here in the US and Europe a complete disaster. How do you, I mean, what is the timeframe you look at to see the OTC markets, you know, if at all in the next few years sort of get back to operating in a similar environment to where they were, and I know that is a broad question but, you know, we continue to hear from clients that this is a market that will be smaller for maybe ever, and ever is a long way, but at least for the next five years and I love to get your views on them.

Michael Gooch

I mean, I tend to agree. I mean this is really in terms of even my experience in the business since 1978. Probably, the most significant change in the environment that we have seen. I mean, in the early 1980s when I first got involved with derivatives, you know, that was really the big growth area of the inter-dealer space and you know, it is the reason that GFI came to exist. It was the reason that ICAP came to exist at the time. And in that respect I think that, you know, we're going to, turn the clock back a bit in terms of the degree of leverage and the degree of complexity of the derivative market and in terms of you know, the banking system and it really is, you know, I don't have a crystal ball here.

I mean, you know, we are looking at uncertainty as to whether certain banks could be as they say nationalized, which wouldn't be the end of the world and, you know, it would be for their common shareholders, but it wouldn't be the end of the world for the inter-dealer business as such. But if you look at the way we are positioning ourselves. I mean as we stand today, 62.5% of our business, if you take the equities, the energy which is already broadly centralized cleared and then our data analytics and trading platform business. So, 62.5% of our business goes beyond just pure dealer-to-dealer OTC markets. They are markets that are cleared and we have a broader customer base and I think from our perspective, you know, we are going to be – and we move fairly quickly. I mean as a company I would say that you know, inter-dealer brokers do react very quickly to change and one of the things I have done is kept the balance sheet healthy, so that we are in a good position to weather this storm.

And as I mentioned, I think we are seeing a base here to build from and I would say that yes, you know, we're not going to get back to the heady heights of trading volumes in all sorts of exotic structured credit products and things, you know, I would say 3 to 5 years is the interest, is probably an accurate measure but I would tell you that things like equity derivatives and currency options and interest-rate swaps and emerging markets, and all of these things will rebound in due course. I mean foreign exchange is still a very profitable area for the banks, you know, even if they get restructured by the government, you know, they're still going to be active in those areas.

The dealer community – the investment banking community is less committed now to, you know, maybe just through some of – the environment has forced upon them. There is definitely changes going on in the way that business is being transacted in the equities and corporate fixed income business, and to that extent companies like GFI, and probably companies like Jefferies and other sort of middle market companies that are, you know, positioned to expand their customer base in that environment. You know, I don't like to say the word benefit because it is going to be a difficult environment, but to some degree benefit from the dislocation in the market place. So, we're going to be in a different world, but it is going to stabilize in my opinion over the next few months. I think as I said in our earnings call here, I think that we – it looks to me like we are at a stabilized base at this point and it is going to grow the business. I don’t mean necessarily grow year-over-year at this point but grow from where we are at right now as we go forward.

Daniel Harris – Goldman Sachs

Thanks very much.

Operator

Your next question comes from the line of Rob Rutschow [ph] from Deutsche Bank.

Rob Rutschow – Deutsche Bank

Hi, good morning.

Michael Gooch

Good morning.

Rob Rutschow – Deutsche Bank

I guess, I have a sort of two-part question, and I guess you sort of spoke to it just now a little bit, but the first part is you know, where exactly are you most optimistic that we will see, you know, second half rebound in volumes which will, you know, hopefully drive revenues and if that doesn't occur are there levers that you can pull to reduce the cost base further. Are should we think about, you know, something in the 7% to 10% pre-tax margin ranges, you know, a go forward type of number if revenues are going to stay depressed.

Michael Gooch

If nothing changed from this point on, I mean, we've done some preliminary look at January but you know, what right now, I would see if I wasn't comfortable actually putting anything specific out there because there could be quarter-end adjustments that need to be made, but if we were to sort of just remain at where we are and not make significant greater changes to our cost structure, I think that kind of 7% to 9% pre-tax profit margin would probably be a pretty accurate forecast for the business, and I think you'd be looking at, you know, revenues of maybe $700 million for the year. So I look at that where we sit today is possibly out, you know, possibly our worst-case scenario. I mean naturally, you know, there is always the possibility that something awful happens in the banking system, but at this stage of the game I think that we are at back pace and moving from there.

So, if nothing shifts and we don't see increased activity in, I would say, you know, equities and corporate fixed-income business where we plan to gain market share even if the market itself is slower. We plan to gain market share. If we didn't see increases in that then I think that that would be the base that we would be looking at for 2009. What I think is going to happen is there will be some recovery in a number of areas. First of all, I think, you know, the foreign exchange will stabilize, we're not going to see as big a swing in a quarter that we saw in the fourth quarter where the pound, you know, dropped precipitously. I think, we will see more stable foreign exchange environment.

Volatility, right now, is still at extremely high implied levels and the marketplace is trading in the short end, and so that is partly because of the volatility and also partly because of the credit risk that you mentioned. So, any efforts to neutralize the credit risk with clearing mechanisms is going to help the business and then any level of reduced volatility, so that, you know, we don't want zero volatility. We are not going anywhere near that in the near future but volatility that is, I know, implied volatility in the high teens will be quite good for business.

So I would say that – I'm fairly optimistic that we will also see a recovery in our base business of, you know, the energy market, the emerging markets, the various interest rate derivatives businesses and financial products that we do that we could see a 20% to 30% recovery in our revenues in that sector just from markets getting a little more stabilized, and then more certainty as to where clearing mechanisms might be and what counterparty risk might look like. So, I think that the, you know, I'm sitting here today in spite of the – you know I'm sitting here, so I don't know the futures markets are doing but, in spite of the Dow Jones being at the six-year historical low. I'm actually quite confident that we are at a bottom in terms of trading volumes in our marketplace for our purpose that is, you know, not for the purpose of where the Dow might go but for the purpose of where our businesses in the inter-dealer and institutional space.

James Peers

I just like to add to that. I think that I agree with your comment and Mickey that you know, the fourth quarter is a pretty good proxy of sort of where the – where we think the base is from a margin point of view but at the same time, we are looking at every cost line and see how we can get costs out. And so, hopefully that will have a benefit as we go forward.

Michael Gooch

We've done some additional cost restructuring, may be restructuring is the one word but you know, we have continued to reduce cost in certain areas including middle office and back office and even technology. You know, at a certain point if markets just did not rebound at all, I know, there are certain initiatives that we are still developing in technology that you know, that we could scale back if we wanted to. But at this point in time, you know, we are still continuing to pursue broadly most of the technology initiatives that we've been pursuing. We think that when markets stabilize and recover that we will be very well positioned as a result of that investment.

Rob Rutschow – Deutsche Bank

Thank you.

Operator

Your next question comes from the line of Niamh Alexander from KBW.

Niamh Alexander – KBW

Hi, thanks for taking my question. And I guess if I could just go back to the expenses, Mickey, I'm just – I guess I am trying to understand with the environment that we have and you know, the you guided to like high 60s compensation ratio and, you know, the sign on bonuses last year were much, much higher than the prior year. And I know you had to kind of turnover the credit team but you know, help me understand is there not some scope for you to may be move that payout ratio or, you know, is it still very competitive for staff or you know, what kind of flexibility can we expect or maybe some changes as a result of this market structure there.

Michael Gooch

Well, we can’t change the payout structure in any significant way quickly because a lot of the payout structure is already in the contractual agreements we have with our brokers. Also the fact that we are paying a specific defined payout structure is actually making us an attractive place right now for some of the displaced people on the street or people on the street that are concerned about how the discretionary bonus structure works in the banking system now going forward. And so, I would say that what we did in 2008 in terms of paying signing bonuses was, you know, part of the environment – of the marketplace at that time, and one of the reasons we lost our credit team is because we were trying to hold the line on compensation and, you know, one or two competitors were still out there putting large amounts of money on the street and my impression is that there are still one or two that are leaning towards that way.

I'm not really quite sure what their business model is, maybe it's a model of hiring people in a down market, because you are the only guy bidding or something, but I would say that the environment of competition of signing bonuses has subsided substantially. So, we do not anticipate to be spending the top signing bonuses, and the total payout structure that we are anticipating for the next six months or so is driven partly by the business mix and is driven by, you know, amortization of signing bonuses that we paid and there is nothing we can do about. They are already in the numbers, but going forward, as we go out further into the back half of the year, as things have stabilized and moves up then that number should come back down into the low 60s.

But it is not possible to definitively say that we are going to be able to massively adjust the brokerage payout right now because the IDBs, you know, largely haven't lost money, right. We've not lost money, we might have seen significant downturns in our business, but we have all had pretty good years and we're making money, and so we are all looking at opportunity right now to actually, you know, gain market share against our competition and, you know, the ones of us that have money in the bank are well positioned to do that.

Niamh Alexander – KBW

Okay. That is helpful. Thanks Mickey, I appreciate the color and especially on the amortization. I guess, maybe just one other follow-up on that is just, you know, with respect to re-ops. Is there a lot of that due this year? Is it maybe you think you are better positioned there? Is there some more flexibility than you had a year ago.

Michael Gooch

Yes, and we don't have a lot of re-ops. I mean, we didn't suddenly grow our business in one big final swoop with, you know, massive amounts of hires over a two-year period. Our business has been grown over a period of time, over 20 years and so, you know, we've got rolling contracts all the time. We are renewing stuff with people substantially not with signing bonuses at this point in time, and so there isn't any, you know, big re-op issue coming at GFI.

Niamh Alexander – KBW

Okay, and then any change in his stock cash mix part of the compensation.

Michael Gooch

You know, I couldn't really tell you right now on the phone whether we –

Niamh Alexander – KBW

Okay.

Michael Gooch

You know, that’s something that we're just doing on a case-by-case basis with individuals.

Niamh Alexander – KBW

Okay, fair enough. Thanks for taking my questions.

Operator

The next question comes from the line of Chris Donat with Sandler O’Neill.

Chris Donat – Sandler O’Neill

Hi, good morning everyone.

Michael Gooch

Good morning.

Chris Donat – Sandler O’Neill

Mickey, can you give us a little contrast here. It looks like we saw a lot of strength in the equity business and in the clear part of fixed income or the underlying part of fixed income, which suggests the clearing is good and volatility in those elements has been good for activity, but then energy at least on a year-on-year basis or commodities was relatively weak. What was different there is just different players –

Michael Gooch

No, I think that as we pointed out in the past, we tend to be more involved in the longer end of the market and the shorter end of the market had gone electronic. You know, we are introducing certain electronic components now that are getting some decent traction. So, we'd like to think that we are going to gain some additional market share in the short end, but the commissions are lower in the short end. And we don't have as good a market share. So, the high volatility actually shifted volumes into the shorter end of the market, which means that were not doing, you know, the one-year and two-year deals and the six-month deals with the higher commission structure. So, that negatively impacted energy. I would expect that to stabilize and improve as we go forward now.

Then on the cash equity and credit side, yes, you know, it is not just that the volatility is benefiting us. It is the dislocation in the rest of the market. It is the fact that, you know, people are getting laid out at Citibank and UBS and various other places, and that algorithmic trading has taken a side line because of the level of volatility, and some customers are, you know, heading back to the phone to get caller and get execution and you know, the spreads in the corporate fixed income business, you know, finding the buyers and finding the sellers, you know, requires some intermediation. It's not an electronic environment in that respect. Now, some of that will also change as we go forward but right now, you know, as an inter-dealer broker with a sort of clean sheet if you like, we stand to benefit to some degree from the dislocation in the dealer community.

Chris Donat – Sandler O’Neill

Okay, that's helpful. And then just one philosophical follow-up here, with all the dislocations in the dealer community, does that give you any reason to think about expanding customer bases and products that had been traditional IDB products out a little bit, which could potentially antagonize dealers but might somehow generate more business from new customers.

Michael Gooch

Yes, I would just say – I am going to very quickly answer this question and then we go to move on to the next question. I will just say the answer is yes to that question. So, yes, we will expand our customer base.

Chris Donat – Sandler O’Neill

Okay, thank you.

Operator

Your next question comes from the line of Don Fandetti from Citigroup.

Don Fandetti – Citigroup

Hi good morning. Jim, can you just remind us where you stand in terms of how much cash you need or what's free of your cash balance and an update on any debt covenant.

James Peers

Yes the, you know, at the end of the year our cash was $342 million, approximately I would say about $150 or $160 million of that is regulatory, okay. And therefore the remaining is available cash to manage our operations, payout our bonus pools in the near term. So, we are in a strong cash position as with regards to the loans outstanding have not changed, they have been flat. Basically, we still have an unused borrowing capacity of after letters of credit of over $90 million, and we still are in compliance with all of our covenants.

Don Fandetti – Citigroup

And what is the key task there, anything that we should be watching?

Michael Gooch

There is the – the one that we always focus on is the EBITDA and leverage ratios, okay. And then those are the major ones. The others are fixed charge ratio, which is not usually an issue and equity we have to be greater than $325 million with our equity at $480 million. I don't think that is an issue.

Don Fandetti – Citigroup

Okay, all right. Thank you.

Operator

Your next question comes from the line of Jonathan Casteleyn from Wachovia Securities.

Jonathan Casteleyn – Wachovia Securities

Hi, good morning. I'm just wondering if you can talk about the year-over-year revenue decline in terms of volume and pricing. Is it both that are coming down or is it just one? Can you give us kind of a macro perspective of, you know, what comprises the revenues?

Michael Gooch

It is not really the commission rights. So the volume decline is first of all the year-over-year or for the quarter was down quite substantially as a result of just lower trading volumes with the highly volatile market, but also the foreign exchange translation. If you actually – some of our competitors operate in British pounds and they talked about their year-over-year results and maybe looked as if their revenues didn't shrink as much or stayed flat. If you're going to take out year-over-year revenues and measure them in British pounds, we actually were slightly up year-over-year. So, it also is foreign exchange translation and it's also in the UK where some of the stuff we do is – the commission is based on the notional value of the transaction. So if we trade 100,000 shares of a stock at $100 or we trade 100,000 shares of a stock at $50, we make half as much money on the transaction of $100,000 of $50. And so, with the big drop in the stock market and other assets and indexes that had a direct impact on the commission rate that we're collecting in Europe on those transactions, and then compound that with the foreign exchange translation and that is why we had, you know, significantly bigger drop in revenues in Europe than we did in north America.

Jonathan Casteleyn – Wachovia Securities

Okay, so pricing generally you're saying is – was flat in the quarter.

Michael Gooch

Yes, pricing is flat other than the fact that in Europe it fluctuates in certain markets with the notional value. So, if the notional value is down, the commission is down, but the actual pricing agreement we have with our customers has stayed relatively stable. There has not been any – it is not like our customers are coming in and demanding significant brokerage cuts. I mean we are in one negotiation with one large customer about potentially doing something on a global basis, but generally speaking most of our customers are more interested in getting good execution than reducing the commission rate at this point.

Jonathan Casteleyn – Wachovia Securities

Okay, understood. Thank you. That's helpful.

Michael Gooch

Okay.

Operator

And your next question comes from the line of Mark Lane from William Blair.

Mark Lane – William Blair

A question for Jim, and actually our first quick question on foreign exchange. So what was brokerage revenue growth in constant currency if it was down 19%, what was it in constant currency?

James Peers

Well, if you – we just sort of did it quick and dirty. So, if you took the overall revenue using 2007 as your constant, the Q4 ‘08 revenues would have improved by approximately $5 million and the year revenues would decrease by approximately $17 million, almost $18 million.

Mark Lane – William Blair

We're talking about brokerage revenue up $5 million.

James Peers

It is brokerage revenues, yes.

Mark Lane – William Blair

A positive growth in a constant currency basis.

James Peers

In the fourth quarter, but a negative on the year, yes. And then the other major impact is in Trayport and that is 29% year-over-year and 6% sequentially, but they are – because they are notional currency.

Mark Lane – William Blair

Okay, and then just, back on expenses, so Mickey, you mentioned kind of worse, if things didn't improve from here, you're looking at $700 million of brokerage revenue or whatever, but if – Jim do you think with the $750 million brokerage revenue base this year, you can generate 5% to 10% operating margins without cutting expenses really aggressively more than what you have laid out?

James Peers

Well, if you look at the – I can't predict all hidden cost but other cost that may come our way that we can't anticipate, but if you look at the fourth-quarter as a proxy, we did make money and we did make sort of in that range. Let us not say that the fourth-quarter necessarily will quite do everything in the next four quarters, but I think it shows at a reasonable base that we can make money at those levels. But at the same time I think, we are going to act – not going to, we are actively trying to manage and get our costs down in a number of fronts.

Mark Lane – William Blair

Okay.

James Peers

And I think you'll hear more about that then we have our first quarter call.

Mark Lane – William Blair

Thank you.

Operator

Your next question comes from the line of Chris Matus [ph] from Morgan Stanley.

Chris Matus – Morgan Stanley

Hi, there. Good afternoon everyone, and thanks very much for taking the time. I just had a question, again I mean, it is just more on the penetration of electronic trading, I mean one thing that we picked up over here in the UK that we heard is that actually the ability of a voice broker to find liquidity versus trading on a hybrid system is becoming more valuable. And so you are actually seeing more trades being done directly by voice rather than on a hybrid platform. Is that a trend that you will see in GFI as well, or is that something that is maybe specific to the company that told me this? Thank you.

Michael Gooch

I mean certainly that is true. I mean, we don't operate things like these really high-powered algorithmic trading platforms for foreign exchange and government bonds, which have definitely seen a significant drop-off in algorithmic trading because of the price dislocation. But even in our credit derivative business, where the European markets are 60% odd electronic, we have seen that drop down to about 50%. It has been about a 10 percentage point change in the amount that is electronic. And then when we talk about the cash corporate fixed income, you know, a lot of that growth is coming from salesmen getting on the phones and negotiating trades, because it is very difficult to find the bids in the office. So, I would say that we are in that environment, but that isn't going to be the case for the long period of time. That is just a fallout from the immense volatility that is there right now with the uncertainty. But that will stabilize between now and the end of the year, and I think that you will see the electronic component regain footage.

Chris Matus – Morgan Stanley

Okay, so there is not a renaissance of voice broking as it were it is just in the time of great uncertainty people revert to using the phone, and obviously that sort of technological march will continue.

Michael Gooch

Yes, that is the reason – that is the reason we always subscribe to the hybrid model of having the electronics and the brokers, because at any given time the market requires both types of service and it happens to be a period of time where the guy on the phone is very valuable. And we are glad we got those really good brokers on board.

Chris Matus – Morgan Stanley

Perfect. Thank you very much.

Operator

And our last question comes from the line of Daniel Harris with Goldman Sachs.

Daniel Harris – Goldman Sachs

Hi, guys, just a follow up here and just a quick one on the dividend policy, I mean, how much do you guys review that with the board, and how safe do you feel that dividend is for 2009. And Mickey, what you really – what is a worst-case scenario if it comes to fruition?

Michael Gooch

Well, I think it is very safe. The board is – we are now attracting value investors in the company. I think we are very well positioned to come out of this financial storm very well. If you look at our balance sheet, we got significant cash balances, and as you saw from the fourth-quarter, we didn't actually lose money. Those foreign-exchange hedges that were non-cash bookkeeping item, that is just a thing about the way the – we are not allowed to use hedge accounting for some reason. But if you look at where I think we are, I think that we are making money. I believe we are making money. I can't tell you for certain because my CFO won’t commit right now on January, but I believe we are making money. And so on that basis, I can tell you that we will continue to pay a dividend. Certainly, I know that the largest shareholder in the company is quite keen to see that dividend policy to continue.

Daniel Harris – Goldman Sachs

Okay, great. Thanks Mickey.

Chris Giancarlo

Thank you everyone. This concludes GFI Group’s fourth-quarter 2008 earnings conference call. Thank you all for joining in.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a good day.

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