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Intercontinental exchange(NYSE: ICE) has shown its strength in 2020. Its revenues and profits were both supported by increased market volatility, as well as historically low interest rates which increased mortgage lending activity and benefited the emerging segment of the company’s mortgage technology. This new segment – which it has spent the past four years developing – focuses on solving inefficiencies in the US residential mortgage market.

However, the company faces potential regulatory threats to its data services business, as well as growing competition from the new exchange on the block, Members Exchange. Here are a few things to know before you jump into ICE.

Price table and other financial data

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Long-term constant growth

ICE has done an amazing job growing its revenue at a constant rate. Since 2006, the company has achieved a compound annual growth rate of 17% in adjusted earnings per share (EPS). Its total revenue and diluted EPS both grew 16% in 2020, showing that its profit growth continues.

ICE operates three different segments. One is its trading activities, which include the New York Stock Exchange (NYSE), Euronext, and the New York Board of Trade. This segment grew 10% over the year to reach $ 3.6 billion. Another is fixed income and data services, which grew a modest 3% to $ 450 million.

Management is very optimistic about the company’s foray into the mortgage market. ICE’s mortgage technology business, a new reporting segment, saw revenue increase 324% year over year, to $ 595 million in 2020. At the end of the year he year, this new segment already represented nearly 10% of the company’s total turnover, after representing only 3% in 2019. ICE ventured into the mortgage market with its acquisitions of MERS in 2018, Simplifile in 2019 and Ellie Mae, which was her big acquisition for 2020. Ellie Mae is a company that processes mortgage applications and provides services using the Software-as-a-Service (SaaS) model. ICE paid $ 11 billion for Ellie Mae and expects a 10% internal rate of return on this investment.

Expansion in the mortgage market is certainly a good thing for ICE. However, the company faces uncertainty stemming from SEC regulations as well as growing competition that could affect its data services and trade revenue streams.

Regulatory and competition concerns

In December 2020, the Securities and Exchange Commission (SEC) issued a key ruling that will affect major exchanges like the NYSE and the Nasdaq. These exchanges charge clients for access to private data – something the SEC disputes, saying the public deserves access to increased data, such as detailed data and odd lot quotes, among others. The commission argues that its new rules modernize the regulatory structure of stock markets and that the new rules increase competition and transparency while improving data quality and access to data for all market participants.

The NYSE and the Nasdaq have sued the SEC over these rules. The stock markets argue that the SEC “has overstepped its authority” and that its plan “would make the stock market too complex and increase hidden costs for investors.” One of ICE’s biggest concerns would be threats to its data revenue. According to an analysis by the Committee on Capital Markets Regulation, the revenues that all exchanges derive from data services increased 62% from 2014 to 2019, reaching $ 2.4 billion. For ICE, its Fixed Income and Data Services segment generated $ 1.8 billion in revenue in 2020, or 30% of its total revenue.

The worst news for ICE: the plan is backed by the Members Exchange (MEMX), a new rival backed by a stable of big names in finance, including Bank of America, Charles Schwab, Citadel Securities, Fidelity Investments, Morgan stanley, and Virtu Financial. The exchange was approved by the SEC last May and launched in September, with a mission to provide a less expensive and more transparent exchange platform for its users.

The outcome of the SEC’s decision isn’t the only thing investors need to consider. Another factor to consider is the threat that MEMX could pose to ICE’s future revenues. Since ICE’s trading segment accounts for 60% of its total revenue, loss of business to MEMX is a significant potential threat, but only if the exchange is pulling sufficiently significant volume from NYSE and the market. Nasdaq.

ICE shareholders can take comfort in knowing that another potential disruptor – the Investors Exchange (IEX), which was featured in Michael Lewis’s 2014 book Flash Boys: A Wall Street Revolt – only collects around 2% of US trade volume despite its launch in 2016. However, support for MEMX by several big names in finance should worry ICE investors.

A good company facing threats with a relatively high valuation

The price of ICE relative to book value has been climbing steadily since 2015 and is currently near its five-year high. Its price-to-earnings (P / E) ratio is also expensive, also around its recent highs.

ICE has undoubtedly shown its ability to continuously increase its profits over the decades. It jumped at a great opportunity with its mortgage segment, in particular with mortgage rates close to historic lows. The mortgage backbone may have come out of necessity, but it will surely continue to offer great opportunities for growth. However, the competitive threat posed by MEMX, along with the SEC’s ruling on its data access and the threat to its data service revenues, are things I would weigh heavily. Ultimately, with the title looking expensive relative to its history, the risks outweigh the benefits at this time.



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