The founder of Interactive Brokers may now be preparing a challenge to the nation’s biggest banks.
Forget about Dow 23,000. What matters more than milestones is identifying investments that can prosper in a low-volatility market and thrive when high volatility returns.
It isn’t easy to unearth those opportunities, which is probably why Interactive Brokers Group (ticker: IBKR) isn’t better known. The company reported strong earnings last week, and though the stock is up some 35% this year, investors arguably don’t fully appreciate the strength of the business.
For the first time, the company’s operations are free of a capital-intensive, market-making unit that should let investors more clearly see the company’s power. In late September, Two Sigma Securities, part of a giant hedge fund, completed the deal to buy Timber Hill. Interactive Brokers is now essentially a muscular, electronic brokerage firm that offers, among other attributes, a pure play on higher volatility.
If stocks drop, and the CBOE Volatility Index, or VIX, reverts from about 10 to its long-term average of about 19, Interactive Brokers should perform exceedingly well as most other stocks struggle. Higher volatility usually encourages investors to trade more, which means Interactive Brokers should make more money during a crisis.
“Investors view IBKR as a play on higher volatility with somewhat limited downside,” said Sandler O’Neill’s Richard Repetto.
During the third quarter, Interactive Brokers reported revenue of $426 million, up from $345 million in the year-ago quarter. Earnings per share of 44 cents exceeded the consensus estimate of 38 cents.
We have recommended Interactive Brokers stock since it traded in the $20s. Our view remains animated by respect for Thomas Peterffy, the company’s founder, chairman and chief executive. A self-made Hungarian immigrant, Peterffy long ago harnessed technology so he could better trade options for himself when he just owned and operated the Timber Hill trading firm. He then used what he had learned to build Interactive Brokers, which delivers institutional-quality trading technology to investors at essentially wholesale prices.
We think Peterffy is preparing to seriously challenge major banks, including Bank of America (BAC), JPMorgan Chase (JPM), and Wells Fargo (WFC), in the same way he used technology and low fees to disrupt the businesses of traditional brokerage firms.
On the investor call after the earnings release, Peterffy offered a hint of the future. He talked about the firm’s just-released debit card, and noted that clients can now borrow, save and invest without leaving the Interactive Broker’s platform. The card is available in America, and will be introduced in Europe and Canada in the next six months, then Asia.
THE INTEREST RATE on the Interactive Brokers debit card is simply astounding. Investors can borrow money at interest rates of 1.41% to 2.66%. This foray into banking isn’t fully appreciated by investors and, arguably, neither is it reflected in the stock price.
Investors have three primary choices in situations like this. They can simply buy stock; sell puts and hope to buy stock on a decline; or they can use the “half-and-half” strategy to build positions. If investors want to hold 1,000 shares, they would buy 500 shares and sell five puts.
With the stock at $49.05, the December $48 put could be sold for about $1.10. If the stock declines below the put strike price, investors are obligated to buy shares. If the stock advances, investors can pocket the put premium, and do the trade yet again.
Regardless of the chosen approach, it’s likely investors will find that Interactive Brokers is a company with a lot of blue sky in front of it.
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