Investors are getting their first chance to assess the implications of Jeff Sprecher’s global expansion plan after IntercontinentalExchange Group Inc. reported earnings that beat analyst expectations.
Profit excluding certain items rose 16 percent at the Atlanta-based exchange operator in 2013, a year in which the 58- year-old Wisconsonite completed the acquisition of NYSE Euronext, adding stock trading and interest rate derivatives to the energy and credit contracts offered by ICE’s London operations. ICE Chief Executive Officer Sprecher won an Asian trading and clearing license for derivatives with the purchase of Singapore Mercantile Exchange Pte. earlier this year.
It took ICE a little more than a decade to surpass rivals CME Group Inc., Hong Kong Exchanges & Clearing Ltd. and Deutsche Boerse AG in establishing clearinghouses in the U.S., Europe and Asia. The advantages were underscored in January, when Europe lawmakers weakened the quasi-monopoly of futures markets and dealt a blow to Sprecher’s potential profit in his main market.
“Our strategy here is to make sure to be where our customers may move their business,” Sprecher said today on an earnings conference call with analysts. While that may not happen immediately, “ICE positioned itself exactly for this eventuality” and is why he contacted the owners of the Singapore Mercantile last year to make the deal, he said.
For the quarter ended Dec. 31, the company had a net loss of $176 million versus net profit of $130 million a year earlier. That includes $131 million of costs related to the NYSE Euronext purchase and a $190 million charge on the devaluation of the Brazilian real related to its investment in Rio de Janeiro-based Cetip SA.
Excluding some costs, ICE earned $192 million, or $2 a share, beating the average analyst estimate of $1.95 a share. On that basis, ICE’s full-year growth rate was up from 6 percent in 2012. Profit had grown 24 percent in 2011.
Sprecher completed the purchase of NYSE Euronext on Nov. 13, briefly putting ICE atop rankings of the world’s biggest exchange owners by market capitalization. As of yesterday, ICE was worth $24.4 billion, now in second place behind CME Group’s $25.3 billion. The $150 million purchase of Singapore Mercantile Exchange closed Feb. 3.
“They are executing a thoughtful global strategy,” said Bruce Weber, dean of the Alfred Lerner College of Business and Economics at the University of Delaware. “They are establishing themselves in a very connected, global financial center” by expanding into Singapore, he said.
While ICE shares rallied 65 percent through yesterday since the NYSE deal was reported, the biggest decline of that stretch came Jan. 15, when they slipped 4.1 percent after the European Union opened up derivatives clearing and trading to increased competition with revisions to market legislation known as Mifid.
ICE rose 1 percent to $214.26 today at 11:23 a.m. New York time.
Unlike stock exchanges, futures markets have historically owned their own clearinghouse where trades are processed daily, meaning investors have to enter and exit their transactions at the same place. This has effectively given companies like ICE, CME Group and Deutsche Boerse exclusive rights to contracts they offer. European lawmakers are trying to loosen that grip.
The European rule revision may make it easier for investors to initiate transactions at one futures exchange and exit at another. Previously, investors who bought an oil contract at ICE had no other means of selling it than returning to that market.
The European change could lead to start-up venues taking trading fees that ICE currently collects. That money, along with what it charges traders to clear their transactions, accounted for 83 percent of the company’s revenue in the third quarter.
As requirements to clear more parts of the derivatives market spread around the globe, regulators have pushed to ensure there is open access to the service, Sprecher said today. In the move to clear swaps, for example, clearinghouses by law can’t limit where the contracts are traded.
ICE’s largest exchanges are in London, where it offers futures trading in Brent crude oil, natural gas and heating oil at ICE Futures Europe and bonds and interest-rates at Liffe, Europe’s second-largest financial futures exchange. It also owns ICE Futures U.S. in New York and ICE Futures Canada in Winnipeg.
With clearinghouses around the world, Sprecher has the flexibility to move his main products like interest rates and energy contracts to areas that offer the most favorable regulatory treatment, said Rich Repetto, an analyst at Sandler O’Neill & Partners LP in New York.
While Europe “is definitely a bit more complex” with the new regulations, ICE “bought a clearinghouse in Singapore, they have another one in the U.S., so they can direct trading to areas that don’t have an open access policy,” Repetto said.
He can also alter his pricing model, Repetto said. That’s because the prospect of competition from new clearinghouses, which rely on bank members to contribute billions of dollars in capital, is low compared with new trading venues, he said.
Clearinghouses aren’t easy to build from scratch as they rely on bank partners to provide cash and assets to hold on reserve in case of a member default. They’re meant to lessen systemic risk by requiring up-front margin to back every trade and monitoring prices throughout the day. When losing positions arise, clearinghouses demand cash so that risk doesn’t build.
The Dodd-Frank Act has placed additional burdens on traders in the U.S. and the new European regulations will do the same for investors there, Sprecher said in a telephone interview in November. The Singapore Mercantile Exchange will be a launching pad for the energy contracts ICE has long been known for, as well as the Liffe interest-rate complex, he said.
“We do want to grow the business with the types of contracts we’re familiar with and our customers know us for,” he said. “What we wanted was the license and the legal entities and some of the personnel and governance, but we’ll add to the content over time.”
CME Group, which approached NYSE Euronext before it agreed to be bought by ICE, set up its Asia office in 1984 and aims to boost its headcount there by as much as 27 percent by next year as trading increases. CME Group, whose chief executive officer, Phupinder Gill, was raised in Singapore, doesn’t have a clearinghouse or exchange in the region, though it does have several memorandums of understanding with Asian markets.
It’s so far been unable to open a London-based market. In September, the Chicago-based company delayed CME Europe for a second time, citing a “technical issue around the delivery of physical currencies.”
Eurex, Europe’s largest futures exchange, and parent Deutsche Boerse have also said they will focus on Asia for growth after European regulators blocked plans to merge with NYSE Euronext in 2012. Eurex, which is considering setting up a clearinghouse in the region in addition to the one it has in Frankfurt, already has an agreement with the Korea Stock Exchange to trade derivatives on the Kospi Index outside the local time zone and began a technology partnership with the Bombay Stock Exchange in March.
Hong Kong Exchanges & Clearing, the third-biggest bourse operator by market value, owns equity and futures exchanges as well as clearing operations. It gained access to Europe through its 2012 purchase of the London Metal Exchange.
Yet when it comes to clearinghouses that span the globe, ICE has jumped its competitors.
“ICE is now the first western exchange to buy an exchange out here,” said Bill Herder, Singapore-based executive director of the Futures Industry Association in Asia. “They want the clearing license because it takes so much time to get one.”
Changes to Mifid must still be formally approved by the assembly and by national governments to take effect. While the law is set to apply 2 1/2 years after it’s published, some individual measures have longer transition periods. The open access rules pertaining to clearinghouses may not be implemented for five years.
The change the Europeans have in mind would make some of the region’s futures markets resemble the U.S. options market, where several exchanges or trading venues connect to a single clearinghouse.
Among the various contracts ICE offer, its energy complex is used the most by traders around the world and may therefore be the easiest to move from London to Singapore, said Niamh Alexander, an analyst with KBW Inc. in New York. Brent crude oil sets prices for the commodity outside the U.S.
“The gas and the Brent do lend themselves to being more mobile,” she said. Alexander said ICE has already shifted its fees more heavily to clearing as the company saw its opportunity there in a business that is difficult to break into.
“It’s really tough to get into the clearing business,” Alexander said. Companies like ICE and CME Group have earned the trust and are familiar to derivatives users, she said. “Counterparty risk is so top of mind after the crisis, it’s really hard to imagine a new entrant getting up and running.”
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