KBW Earnings Outlook for Exchanges and Electronic Brokers

KBW analysts are out this morning with their updated estimates for the exchanges and electronic brokers in their coverage universe ahead of 2Q19 earnings. They have mostly adjust estimates higher for the 2Q19 specifically; however, are lowering 2020 estimates for the majority of their coverage universe, with specific emphasis on the e-brokers given the updated KBW Economic Baseline that calls for two rate cuts in 2H19 and a lower 10-year yield vs. our prior assumptions.
They also introduce 2021 EPS estimates for the exchanges, and move their price target derivations to discounted 2021 earnings. On ratings, they are downgrading SCHW and upgrading FOCS with more details on the rationale underlying these changes below. Looking to the quarter, they highlight four key areas outlined below.
Largest Stock Moves in 2Q19. MKTX, CME, ENX.FP, LSE.LN and ICE were all up over double-digit percent sequentially by quarter-end, up 30.6%, 17.9%, 17.8%, 15.5%, and 12.9%, respectively. GCAP, SCHW, ETFC, and AMTD, meanwhile, realized the largest share declines by quarter-end, down -34.2%, -6.0%, -3.9%, and -0.1%, respectively.
Adjusting 2Q19 EPS & Forward Estimates; Changes to Price Targets Mixed.KBW increased their 2Q19 EPS estimates for nine companies, decrease for four companies, and maintain for the other two companies under our coverage. However, they lower forward estimates for nine companies, raise for five companies, and maintain for the one remaining company under our coverage. This resulted in the same number of directional changes in price targets (although not to the same companies).
What to Watch in 2Q Earnings: 1) Operational Flexibility with Lower Interest Rates. The market currently expects a 100% chance of a rate cut at July’s Fed meeting, therefore, the e-brokers will likely be pressed to deliberate more specific details on plans related to expenses, deposit betas (on the way down), securities book duration and related reinvestment rates, and capital priorities in this environment.
What to Watch in 2Q Earnings: 2) Exchange Regulation in U.S. Cash Equity Markets. KBW thinks investor focus on U.S cash equities regulation has waned throughout the quarter without any major actionable negative headlines, and with investors needing to get defensive near term. However, there were some newsworthy items in 2Q including: (1) the SEC’s Division of Trading and Markets staff guidance on justification of exchange fee filings and (2) the U.S. District Court of New York’s denial of the exchanges’ motion to dismiss outstanding litigation on HFT-related services.
What to Watch in 2Q Earnings: 3) Exchange M&A and New Product Launches.As is typically the case, they believe investors will be interested in commentary around M&A, particularly ENX.FP’s closed acquisition of Oslo Bors, with synergy expectations potentially outlined alongside earnings. New/impending product launches like micro e-mini index futures (CME) and Live Markets (MKTX) may also be of focus given the strong start for the former and the imminence and potential opportunity surrounding the latter.
Adjusting Ratings with New Economic Baseline: Downgrading SCHW; Upgrading FOCS. KBW is downgrading SCHW and upgrading FOCS alongside their earnings preview. On SCHW, KBW’s updated Economic Baseline calls for two rate cuts in 2H19, which presents a negative for the entire e-broker universe; however, they prefer the company’s peers in the near term as SCHW continues to experience a client cash sorting issue to a greater degree than peers, pressuring balance sheet estimates. On FOCS, the risk-reward at the current share price is attractive, particularly as elevated market valuations coupled with uncertainty about the future economic outlook provide a solid backdrop for continued acquisition activity. With shares currently trading 15% below its IPO price, KBW sees limited liquidity risk as well.

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