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Summary

  • IntercontinentalExchange now owns the NYSE.
  • That's just one piece of its action.
  • The play is a global transaction processor, dealing with all kinds of instruments, for volatile and smooth markets.

As great a business as it is to be a bookie, or rather an insurance company, and a loan shark, or rather a banker, there's a better business out there for a financial investor.

You can be the dealer.

Today, the master dealer is the IntercontinentalExchange (NYSE:ICE). They are based in Atlanta. They were launched only in 1999, but last year they climaxed a remarkable rise by buying NYSE Euronext.

ICE's main business is making futures markets. If you hear on the television that "Brent North Sea crude closed lower," that's one of the markets ICE makes. It bought the International Petroleum Exchange in 2001, then turned it into an all-electronic market and closed his trading floor in 2005.

You might think of ICE as a "roll up" of computerized futures markets. ICE bought the New York Board of Trade in 2007. It bought the Winnipeg Commodity Exchange, best known for its canola oil contract, the same year. It bought the European Climate Exchange in 2010, and so can trade carbon emissions credits.

ICE's purchase of the NYSE, in fact, wasn't really aimed at the stock market at all. Its main target was Liffe, a global derivatives market that was run by the Euronext side of the house. ICE swooped in only after other efforts to buy the NYSE Euronext - one involving ICE and the NASDAQ, the other involving the German Borse, were thwarted by the U.S. Justice Department.

The NYSE deal had a big impact on ICE's results, and not for the better. Profit margins and operating margins fell dramatically for the year ending in December. That's probably why the current price-earnings ratio (NYSE:PE) is so high - almost 52. Smart money knows that, once the new exchanges are integrated into ICE's computerized network, the whole thing is a license to print money.

That's what Omega Advisors sees. Leon Cooperman's investment group took 1.38% of the company during the fourth quarter of last year. That investment is probably already in the money. The stock started October at $184 and are currently trading at $206.

There is more than just the post-integration profits from the various exchanges to consider. As part of its deal to acquire NYSE-Euronext, ICE agreed to spin-out the European stock exchanges as a separately-traded entity. Now, along with the Singapore Mercantile Exchange, acquired in November, ICE will own a global network of exchanges covering futures, derivatives, stocks and commodity contracts in Europe, Asia and North America. While traders may be technically dealing with separate exchanges in separate places, the operations will actually be centralized, consolidated, and highly automated.

That's where the potential for big profits comes in. Futures markets, for commodities and currencies, are growing much faster than the public markets for stocks and bonds. Private equity, corporate treasuries, and sovereign wealth funds are all interested in hedging their bets. Speculators can tell this is where the action is.

Before the NYSE deal was completed, ICE was seeing profit margins of 33% and operating margins of over 50%. It was doing this on revenue that averaged about $337 million per quarter. With NYSE Euronext added, quarterly revenues nearly doubled, to $612 million, but operating income was cut in half and the company actually took a loss, $176 million or $1.88 per share.

That's a short term hiccup.

The point of having a global footprint, among many asset classes, is to smooth out volatility. In January, for instance, the company reported that its derivatives trading was down 8% from a year ago. But commodities trading was up 15%. Generally, the less volatility in a market, the more prices remain stable, the less action there is, and the more volatility it is, the better for the market.

So before worrying about the current valuation, consider what analysts following the stock are saying. Analysts' mean estimate for 2014 earnings is currently $11.23/share, and for next year it's $13.75. You're looking at a forward PE of about 15. That's why some smart money is piling into the stock.

You've got growth smoothed out by a global footprint and multiple asset classes. You've got a transaction company based in Atlanta, where programmers to do the heavy lifting are thick on the ground. (Atlanta transaction processors can make money on your cup of coffee at Starbucks - I think they can make money on your Brent futures contract.) You've got some money coming from the spin-off of Euronext.

That's why it pays to be the dealer. You don't worry about what the game is. You don't worry about who is making money or losing it. You're not playing the game. You're dealing the cards. You make money either way. And when you've got a lot of casinos seeking action just about everywhere commodities and derivatives are traded, then the whole New York Stock Exchange becomes just a tiny piece of the play.

Source: IntercontinentalExchange: Bet On The Dealer