ICAP started out in business in 1986 with four blokes and four phones. Today it is the number one dealer broker in the world and crucially it is no longer just blokes and phones. It matches buyers and sellers of a whole swathe of financial instruments utilising a mix of aggressive voice-brokers, trading screens and fully-fledged exchange platforms. It has been a leader in financial technology and has expanded its services into the plumbing of the financial system by providing post-trade services and risk management. In a nutshell, it is an owner-managed business which has gained global leadership by constantly evolving. We suspect it is about to evolve again but why?
It’s not just the share price falling by almost 30% in the last 12 months or the fact that revenues in the 6 months to the end of September are expected to be 14% lower than the same period a year ago. ICAP is the middle-man for banks who trade and there are two big problems right now:
1. Markets activity is paralysed for long periods waiting for the latest QEasy central bank interventions.
2. Regulators, politicians and increasingly bank executives want to reduce trading done by banks on their own account. We could mention Dodd-Frank but frankly even Ken Dodd would be unable to add to the comedy value of its creation.
However, there still appears to be lots of debt(and its derivatives) out there and lots of capital earning very low returns on Planet ZIRP. It strikes us as a reasonable proposition that reality and volatility will return and a different set of players will take the field. Derivatives may not recover to the halcyon days of old but markets are expanding with a whole new set of opportunities in emerging markets which are now developed capital markets with excess capital. Whatever happens it is worth paying attention to history and noting ICAP evolved its business model each time the world changed.
It has coped with voice broking declines, the internet, competing technology platforms, the established exchanges trying to eat its lunch and the credit crisis. Many of its competitors have long left the stage and it continues to churn out 20% profit margins. Even better, these reported profits generate real cash. The company is valued at £2.2 billion but is chucking off more than £250m of free cash per annum. Yep, that’s a free cash flow yield of over 11% – that’s real LBO or private equity radar territory but for now WealthiFi will focus on your dividends.
The dividend yield today is close to 7.5%. Think UK Gilt yields under 2% and ask yourself who you’d give capital to over the next 5 years – Michael Spencer or George Osborne? The nice thing is Michael still owns a big chunk of ICAP and he likes dividends too. Over the last 10 years the dividend has grown by 16% per annum. The share has just left the FTSE 100 which behaviourally means the lemmings and index-huggers will have sold out and left you with an opportune contrarian bet on this entrepreneurial franchise.
Finally, volatility is ICAP’s friend. How do you feel about the last 24 hours? ECB bazooka meets Helsinki rebuff, Greece meets new protests, Spain the same but potentially minus its key region and China at a new Shanghai low despite all the stimulus whoopla. Buy the VIX at 15 or digest history and bank ICAP’s generous cash incentives? Your advisor will be calling…. or maybe not!
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