MarketAxess Holdings Inc.

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

MarketAxess Holdings Inc. operates electronic trading platforms, primarily for fixed-income securities, connecting dealers and institutional investors, while providing data analytics and related services.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview: MarketAxess Holdings Inc. (MKTX) operates a leading electronic trading platform for fixed-income securities. The company’s core business facilitates trading in various fixed-income instruments, including U.S. high-grade, high-yield, emerging market, and other types of debt securities. They provide a connection point for institutional investors and dealers to execute trades, while offering related data and analytics services.

  • Electronic Trading Platforms: Their main revenue driver, facilitating trading in fixed-income securities.
  • Information and Analytics Services: Offering market data and analytical tools for trading decisions.
  • Post-Trade Services: Providing operational processing and workflow solutions for post-trade activities.

Financial Performance

Let’s start with an analysis of MKTX’s revenue distribution and growth. I will be incorporating the latest 10Q report from September 30, 2023, along with the most recent earning calls.

  • Revenue Distribution:
  • Commissions: Primarily driven by trading volumes on its platform.
  • Information Services: Subscription-based services.
  • Post-Trade Services: Fees generated from post-trade processing.
  • Revenue Growth: MKTX has experienced steady revenue growth in the past, largely due to increasing trading volume on its platform and expansion into new markets. However, the latest 10Q shows an 8% YoY decline in total revenues for the 9 months ended September 30, 2023. The company reported a slowdown in high-grade credit trading activity, which had a significant impact.

The YoY decline in total revenues is primarily due to decreased trading volume, but they have been successful in growing the electronic portion of their business.

Margins: MKTX has historically had robust profit margins, which have made the company appealing for investors. The company’s operating profit margin was 57% for the nine months ended September 30, 2023. While still quite strong, it represents a decline from prior periods, suggesting the pressure on their margins due to current financial conditions. MKTX’s EBIT has decreased by 11% compared to the same period last year.

  • Net Income: MKTX’s reported net income was 203.9 million in the latest report, a 14.4% decline YoY. This further signals margin pressure.
  • EBITDA margins: Management has been focusing on cost cutting measures to maintain good EBITDA margins.

The financial performance of MKTX shows a decline year-over-year in the latest 10Q and it is mainly attributed to lower trading volume in high-grade market.

Competitive Landscape:

The competitive landscape for MKTX is intense:

  • Inter-Dealer Brokers (IDB): These are traditional players with strong relationships with buy-side investors. However, these are mainly phone-based rather than electronic.
  • Direct Competitors: Other electronic trading platforms, and a few large banks that offer their own proprietary platforms are direct competitors. MKTX’s main competitors include Tradeweb and Bloomberg.
  • Exchange-Based Trading: Trading of fixed-income securities on exchanges is an increasing trend, which offers an alternative to MKTX’s trading platform.

What Makes MarketAxess Different?

MKTX differentiates itself from competitors through various means:

  • Focus on Client Diversity: Unlike its competitors that focus primarily on trading between dealers and large institutional investors, MKTX focuses on connecting a wide variety of players, including mid-sized and smaller investors.
  • Strong Network Effects: By providing a liquid and reliable electronic trading platform to several traders, the company benefits from a greater number of counterparties, which enhances the speed and reliability of trades.
  • Focus on Credit Markets: MKTX focuses on credit markets with high yield, emerging markets and municipal bonds, which tends to be very profitable and have seen increased institutional adoption, therefore driving volumes.

MKTX’s moat is primarily due to strong network effects, client diversity, and a specialty in credit markets, which make it a leading player in the industry.

Moat Analysis

Given this, let’s dive into the qualitative part of analysis by assessing MKTX’s moat.

  • Intangible Assets: The brand recognition of MKTX is strong within the credit markets, and they do have valuable patents to protect their electronic trading platform. However, these are somewhat easily replicable or circumvented. The impact is therefore moderate.
  • Switching Costs: They are reasonably high because there is high degree of integration and the costs of shifting away from a platform that is being used across a large part of a user’s operations and integrations can be very costly and time-consuming. MKTX has consistently maintained over 95% of its customers, so there’s very little churn. This is a good sign of the company having a strong moat.
  • Network Effects: MKTX benefits significantly from network effects: More buyers and sellers attract more participants to the platform, further enhancing liquidity and its value. MKTX is usually the platform where dealers go to achieve liquidity. However, their network isn’t as strong as that of financial exchanges.
  • Cost Advantages: MKTX’s cost advantage over its peers is debatable, it has low marginal costs and it has high operating margins but it does not really have an absolute cost advantage over its competitors.
  • Moat Rating: MKTX is primarily benefited by switching costs and network effect. They do not have enough moat in price premium power, innovative business or cost advantage. The company has a narrow moat, therefore. It has a score of 3/5.

Risks to Moat and Resilience:

Despite its strengths, MKTX faces several risks that could affect its future, these are:

  • Increased competition: New electronic trading platforms may take some of MKTX’s market share. Increased competition from large financial institutions with robust internal infrastructure and financial resources may impact its growth.
  • Economic Conditions: In recent months, MKTX has experienced a downtrend in revenue as a result of volatility in credit markets and a broader economic slowdown. Volatility in trading volumes, due to interest rate changes and broader macro factors, can significantly impact the company’s results.
  • Technological Shifts: It faces risk of tech obsolescence. The constant innovation in fintech and changing regulatory requirements may threaten their business if they cannot adapt quickly.
  • Regulatory Risks: Significant changes to regulation or regulatory pressure for electronic trading could drastically change the value proposition and competitiveness of the company. Regulations can often change, but can also open new areas of business.
  • Impact from Market Fluctuations: Stock market valuations are largely out of MKTX’s control.
  • Customer Dependence: The reliance on few big clients could hurt them if they decide to switch over.
  • Financial Health: Rising expenses could hurt the bottom line. The company’s resilience is relatively high, due to the nature of its market position as well as its strong operational efficiency, however, any big changes to market dynamics and a shift of trading away from electronic markets would be tough for the company.

Understandability: 3 / 5

MKTX is fairly easy to understand, though certain aspects may be confusing for lay investors:

  • Business Model: It primarily acts as a platform and middleman for trading various securities, which can be complex to many, along with other associated activities. The details in their financial statements are also a little complicated to understand.
  • Industry Specifics: They operate in a complex financial landscape and, to some extent, understanding the complexities of securities such as municipal and high-yield debt is necessary. Therefore, understanding the intricacies of the bond market and related trading terminologies is crucial.
  • Technological Aspect: While it’s not a core technology company, MKTX invests significantly in technology for its trading platforms, data and analytics, so some understanding of technology infrastructure helps.

Balance Sheet Health: 4 / 5

MKTX’s balance sheet is healthy and robust with a few points to consider:

  • Solid Cash Position: The company has a strong position of cash and cash equivalents in excess of its debt. Cash balances have grown from 371 million in December 2022, to 452 million as of September 30, 2023.
  • Minimal Debt: MKTX has low debt, with $113.5 million of liabilities as of September 30, 2023, giving them a great degree of safety and flexibility.
  • Strong Equity
    • MKTX has around 1.6 billion in total shareholders equity, which is a strong positive.
  • Investments: The company has a growing portfolio of investments of around 100 million dollars. Overall, its balance sheet is quite strong, providing stability and the capacity to grow further.

Recent Concerns, Controversies and Management’s Response

  • Slower Trading Activity: In the Q3 2023 earnings call, the management noted a decline in trading activity, especially in high-grade credits due to macro and credit market conditions. They said that the average trading volumes in those market were down.
  • Cost Reduction: Management has been actively working on cost reduction measures, including employee benefits and other operating expenses to mitigate the impact of lower revenue on profitability. This reflects a proactive approach in times of reduced trading activity.
  • Expansion into New Markets: MKTX continues to pursue growth through acquisitions and expansion into new markets. This approach is aimed at increasing the long-term growth potential of the business, mitigating over-reliance on any one market or geographic location.
  • Growth through Tech Investments: MKTX is investing more into technology, primarily cloud computing, for scalability.

The management recognizes the challenges caused by market dynamics and is actively taking steps to mitigate them. They are pushing ahead with strategic initiatives that are designed to increase the value and growth of their business, while also being cautious about costs.