Value Line has initiated coverage of CBOE Holdings, Inc. (CBOE) in its flagship product, The Value Line Investment Survey. It is the first and largest U.S. options exchange, with annual trading volume over one billion contracts. As the company’s acronymic name stands for Chicago Board Options Exchange, it’s headquartered out of the Windy City.
CBOE was founded in 1973 by the Chicago Board of Trade and employs approximately 650 employees. It engages in strategic relationships with a handful of prominent providers of market indices, which are generally longer-term agreements and run well into the next decade. The Chicago firm offers options on more than 2,200 companies, 22 stock indices, and 140 exchange-traded funds (ETF). As the nation’s original options exchange, CBOE boasts premiere brand equity and a strong market position. Through its ever-evolving proprietary platforms and indices (roughly 40% of its workforce is devoted to developing its technological offerings), the company hopes to maintain a competitive advantage over its industry counterparts. The company owns and operates three standalone exchanges. Its cornerstone exchange is the CBOE, an integrated electronic trading platform. It offers C2, a digital exchange program, as well as CFE, a futures exchange. The company develops proprietary indices as well. The recently released series focus on quantifying and, thus, protecting investors in a time of heightened level of market volatility. CBOE expects to gain regulatory approval for a new index in late 2014.
The global value of derivatives markets is massive, and currently hovers above one quadrillion dollars. CBOE’s business prospects are accordingly bright. In 2013, it experienced an 11% revenue increase and grew profits by about 12%. As the company derives the majority of its business from transaction fees (69.4% in 2013), an important metric for growth is daily trade volume. CBOE’s total average daily volume increased nearly 4% in 2013 on a year-over-year basis. The rest of its top line is filled out by access charges, exchange services, as well as market data and regulatory fees. The growth prospects for the company are by-and-large directly tied to its ability to innovate new products and leverage them into better brand awareness.
With the high stakes in this lucrative marketplace comes significant risk. For one, the industry is under constant scrutiny from lawmakers and activists alike. Despite regulatory fees jumping nearly 75% in 2013 (from $21 million to $36.7 million), we believe CBOE and others will be able to navigate these murky waters through strong managerial vision and the clout of industry lobbyists. It also bears mentioning that the company’s market value is considerably lower than many of its competitors. IntercontinentalExchange Group (ICE) boasts a market capitalization more than five times that of CBOE, while CME Group (CME) is among the many with a better dividend yield. Still, most investors interested in a company whose business revolves around the trading of risks should be willing to look past the inherent volatility.
All told, investors interested in owning a piece of America’s original options exchange are advised to consult Value Line’s quarterly reports for CBOE Holdings, as well as any supplemental reports and relevant articles as important news items arise
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.