Cboe Global Markets, Inc - Stock Analysis

This Cboe Global Markets, Inc. (CBOE) stock analysis is the 9th in my series of analyses of Financial Data & Stock Exchanges industry participants. Previous posts within this series are accessible here.

I view the Financial Data & Stock Exchanges industry as an attractive industry in which to invest for the long term. I currently have exposure to the following in retirement accounts, for which I do not disclose details, and/or in the FFJ Portfolio:

These industry participants will release earnings on the following dates and I intend to review each company shortly following their respective earnings release.

  • FactSet Research Systems Inc. (FDS) - released September 28
  • Nasdaq, Inc. (NDAQ) - released October 20
  • S&P Global Inc. (SPGI) - released October 26
  • MSCI Inc. (MSCI) - released October 26
  • CME Group Inc. (CME) - released October 27
  • Morningstar, Inc. (MORN) - released October 27
  • Intercontinental Exchange, Inc. (ICE) - released October 28
  • Moody's Corporation (MCO) - released October 28
  • Cboe Global Markets, Inc. (CBOE) - released October 29
  • TMX Group Limited (X.to) - November 8

Value Line, Inc. (VALU) released its Q1 2022 results for the quarter ending July 31 on September 13, 2021. This is a small-cap company ($0.31B market cap). I do not invest in small-cap companies, and therefore, do not intend to review it.

CBOE - Stock Analysis - Industry Overview

Further commentary about the industry and how industry participants are expanding into adjacent lines of business is found in my recent FactSet Research post.

CBOE - Stock Analysis - Business Overview

CBOE was founded in 1973 by the Chicago Board of Trade and was member-owned for several decades. On March 11, 2010, it filed paperwork to launch an IPO and began trading on the NASDAQ stock exchange on June 15, 2010. Page 7 of 256 in the FY2020 10-K contains a graphic that provides a brief overview of its history.

MATCHNow Acquisition

On May 19, 2020, CBOE announced it had entered into a definitive agreement to acquire MATCHNow, the largest equities alternative trading system (ATS) in Canada. The rationale for this acquisition was to enable CBOE to expand into Canada and to build out a more complete North American equities business.

This transaction closed on August 4, 2020.

On February 24, 2021, CBOE provided an update on its plans to enhance its product offering in Canada with BIDS Trading technology and its distribution network in 2022. The plan is to create an enhanced market center for block-sized liquidity that will uncover new block trading opportunities for buy-side and sell-side trade desks.

EuroCCP Acquisition

On July 1, 2020, CBOE completed its acquisition of EuroCCP, a leading pan-European equities clearing house. The rationale for the acquisition was to enable CBOE to launch Cboe Europe Derivatives, a new Amsterdam-based futures and options market.

Following the receipt of the appropriate regulatory approvals, CBOE announced on September 7, 2021 the launch of Cboe Europe Derivatives, a new Amsterdam-based futures and options marketplace.

BIDS Holdings Acquisition

On October 26, 2020, CBOE announced that it entered into a definitive agreement to acquire BIDS Trading, a registered broker-dealer and the operator of the BIDS Alternative Trading System (ATS), the largest block-trading ATS by volume in the U.S. This acquisition provided CBOE with a foothold in the off-exchange segment of the U.S. equities market thus enabling it to expand its presence in the North American equities segment; this transaction closed on January 4, 2021.

Chi-X Asia Pacific Acquisition

On March 24, 2021, CBOE announced it entered into a definitive agreement to acquire Chi-X Asia Pacific Holdings, Ltd. (Chi-X Asia Pacific), an alternative market operator and provider of innovative market solutions, from J.C. Flowers & Co. LLC. This acquisition will provide CBOE with a single point of entry into two key capital markets – Australia and Japan – to help enable it to expand its global equities business into Asia Pacific, bring other products and services to the region, and further expand access to its unique proprietary product suite in the region.

This transaction closed on June 30, 2021.

ErisX Acquisition

In May 2016, CBOE announced that it had made a minority equity investment in its parent, Eris Exchange Holdings, LLC, the parent of Eris Exchange, LLC; Eris is a U.S.-based futures exchange group offering swap futures as a capital-efficient alternative to over-the-counter (OTC) swaps.

The rationale for this strategic partnership was to develop product solutions that are expected to address the impact of international regulatory reforms, including Basel III, European swap clearing and trading mandates, and margin for uncleared swaps. The CBOE S&P 500 Variance Futures listed for trading at CBOE Futures Exchange (CFE) are based on the Eris Methodology™, and the CBOE and Eris partnership will allow the two companies to develop new proprietary products and indexes across asset classes. The companies also announced their plan to collaborate to enhance the distribution of Eris Interest Rate Swap Futures and related market data.

Fast forward to October 20, 2021 and CBOE has announced it has entered into a definitive agreement to acquire Eris Digital Holdings, LLC (ErisX). ErisX operates a U.S.-based digital asset spot market, a regulated futures exchange and a regulated clearing house. Ownership of ErisX presents a unique opportunity for CBOE to enter the digital asset spot and derivatives marketplaces through a digital-first platform developed with industry partners to focus on robust regulatory compliance, data and transparency.

The recent launch of trading in the first bitcoin ETF in the U.S. equities market is evidence of the growing appetite for ownership in digital assets. CBOE believes it can play an important role in shaping the trajectory of this revolutionary market by bringing the knowledge, structure and transparency of its trusted markets to the digital asset space.

The deal is pending regulatory approvals and is expected to close in the first half of FY2022.

Increased retail participation has fueled record trading across the industry. Between the top four retail broker platforms, there are now more than 150 million retail brokerage accounts. Many of these accounts are too small to take advantage of the potential benefits certain options contracts can offer.

To address this opportunity, CBOE has recently announced its plan to launch its first Nanos on the S&P500 Index in Q1 2022. This is a first-of-its-kind options contract designed to simplify options trading. The intent is to make options trading accessible for retail traders.

Nanos will trade on CBOE as a micro-option (with 1/100th the value of a standard option) on the Mini-S&P 500 Index, which is 1/10th the value of the S&P 500 Index.

The rationale for creating this cash-settled Nanos S&P 500 contract is that it answers the growing demand for a simpler, cost-effective way to gain broad exposure to the U.S. equity market. The intent is to help simplify the process of trading options thus allowing traders to focus on understanding the market and refine their trading strategies.

To complement the launch of Nanos, the Cboe Options Institute plans to offer a new options introductory curriculum tailored to retail traders.

The following image shows where these various acquisitions fit within CBOE's expanding ecosystem of market infrastructure and tradable products.

CBOE - Expanding Ecosystem of Market Infrastructure and Tradable Products

Source: CBOE - Q3 2021 Earnings Presentation - October 29, 2021

Part 1 of CBOE's FY2020 10-K has a comprehensive overview of the company's history, business strategy, the competitive landscape, risk factors, and more.

CBOE - Stock Analysis - Financials

Q3 and YTD2021 Results

CBOE's Q3 and YTD2021 results were released on October 29, 2021 (refer to the Q3 Form 10-Q and Earnings Presentation).

Relative to Q3 2020, Q3 2021 witnessed:

  • $1.45 of adjusted diluted EPS was up 31%;
  • 27% increase in net revenue;
  • 39% increase in net transaction fees;
  • 21% increase in recurring non-transaction revenue;
  • 29% increase in adjusted operating expenses; and
  • adjusted EBITDA of $0.24B was up 25%.

The total adjusted operating expenses of ~$0.14B were up 29% compared to Q3 2020. Excluding the impact of acquisitions owned less than a year, adjusted operating expenses were up 17% or $19 million for the quarter. Most of the expense variance related to the acquisitions was compensation and benefits.

CBOE - Q3 2021 Financial Summary

Source: CBOE - Q3 2021 Earnings Presentation - October 29, 2021

 

 

CBOE - Capital Allocation to Create Long Term Shareholder Value

Source: CBOE - Q3 2021 Earnings Presentation - October 29, 2021

FY2022 Guidance

FY2021 expense guidance is being raised to $0.536B - $0.541B from $0.531B - $0.539B. The $4 million increase in the midpoint reflects higher incentive compensation costs. This is the result of the strong year-to-date operating results as well as CBOE's plans for increased hiring in Q4.

CBOE is raising guidance for depreciation and amortization to $38 - $42 million from $34 - $38 million due to the earlier timing of various projects.

Capital expenditures guidance is being reduced from $52 million to $47 million.

Q3 interest expense was $11.7 million and Q4 interest expense is forecast to be $11.5 - $12.0 million.

CBOE - Stock Analysis - Credit Ratings

CBOE's leverage ratio decreased slightly versus Q2.

Its senior unsecured long-term debt is currently rated as follows:

  • Moody's: A3 with a stable outlook
  • S&P Global: A- with a stable outlook

Both ratings are the lowest tier of the upper-medium grade category and are investment grade. These ratings define CBOE as having a STRONG capacity to meet its financial commitments. It is, however, somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligors in higher-rated categories.

For comparison purposes, I provide ratings for CME, ICE, and NADQ in my Nasdaq, Inc. - Stock Analysis.

CBOE's credit risk is acceptable for my purposes.

CBOE - Stock Analysis - Dividends and Share Repurchases

Dividend and Dividend Yield

CBOE's dividend history is accessible here.

Strong cash flow generation enabled CBOE to raise its quarterly dividend by 14%. This dividend increase marks the 11th straight year of dividend increases if we exclude the special dividends paid in 2012 and 2013.

CBOE returned $52 million to shareholders through dividends in Q3.

On October 26, 2021, CBOE declared its 2nd consecutive $0.48/quarterly dividend. With shares trading at ~$132, the dividend yield is ~1.50%.

Share Repurchases

In 2011, CBOE's Board approved an initial authorization for the repurchase of outstanding common stock of $0.1B and approved additional authorizations of $0.1B in each of 2012 - 2016.

The program was not utilized during the year ended December 31, 2017.

Additional authorization was also approved for the repurchase of $0.25B in each of 2018 - 2020 and $0.2B in February 2021.

As of September 30, 2021, CBOE had $318.9 million of availability remaining under its existing share repurchase authorizations.

Since the inception of the program through September 30, 2021, CBOE has repurchased 18,072,129 shares of common stock at an average cost per share of $68.12 for a total of ~$1.2B.

CBOE repurchased shares in Q1 and Q2 at an average cost of $96.97 and $101.57, respectively. It repurchased no shares in Q3.

Despite the repurchase of shares, the weighted average number of issued and outstanding shares (in millions) has increased in FY2011 - FY2020: 90, 87, 87, 85, 83, 81, 108, 112, 112, and 109. The diluted weighted average shares outstanding for the 9 months ending September 30, 2021 is 107.2.

The opportunistic repurchase of shares ranks in priority after:

  • Investing in the growth of the business;
  • Inorganic opportunities to facilitate growth strategy; and
  • Consistent dividend payments and growth.

CBOE - Stock Analysis - Valuation

CBOE has generated YTD diluted EPS of $3.38 consisting of $1.27, $0.98, and $1.12 in Q1, Q2, and Q3 respectively ($0.01 rounding error). If we conservatively estimate CBOE will generate $1.00 in Q4 then FY2021 diluted EPS should be ~$4.38. With shares trading at ~$132, the forward diluted PE is ~30.

By way of comparison, CBOE's FY2011 - FY2020 PE levels are 17.36, 16.55, 27.06, 29.64, 26.60, 31.71, 65.92, 20.05, 31.66, and 21.96.

YTD adjusted diluted EPS is $4.36 ($1.53, $1.38, and $1.45 in Q1 - Q3). If CBOE generates $1.40 in adjusted diluted EPS in Q4 then FY2021 should be ~$5.76. On this basis, the forward adjusted diluted PE is ~23.

The following earnings estimates are reflected in the 2 online trading platforms I use. The disparity in estimates is likely because some brokers are revising their estimates; I expect the disparity will narrow over the coming days. For now, however, CBOE's forward adjusted diluted PE valuations are:

  • FY2021: mean of $5.68 and a low/high range of $4.78 - $5.89 from 15 brokers. Using the mean estimate I get ~23.2 and ~22.4 if I use $5.89.
  • FY2022: mean of $5.85 and a low/high range of $5.14 - $6.32 from 15 brokers. Using the mean estimate I get ~22.6 and ~20.9 if I use $6.32.
  • FY2023: mean of $6.22 and a low/high range of $5.56 - $6.84 from 12 brokers. Using the mean estimate I get ~21.2 and ~19.3 if I use $6.84.

CBOE - Stock Analysis - Final Thoughts

Relative to the current valuation of its larger peers (NDAQ, ICE, and CME), CBOE's valuation is superior. It is not, however, my intent to initiate a position. I prefer to increase my exposure in CME and ICE and also think an investment in NDAQ will lead to superior long-term returns than an investment in CBOE.

I wish you much success on your journey to financial freedom!

Note: Please send any feedback, corrections, or questions to [email protected].

Disclosure: I am long SPGI, MCO, CME, and ICE. I do not currently hold a position in CBOE and do not intend to initiate a position within the next 72 hours.

Disclaimer: I do not know your circumstances and do not provide individualized advice or recommendations. I encourage you to make investment decisions by conducting your research and due diligence. Consult your financial advisor about your specific situation.

I wrote this article myself and it expresses my own opinions. I do not receive compensation for it and have no business relationship with any company mentioned in this article.