Based on our optimism about the index business opportunity from
CME Group Inc.
) joint venture (JV) with
), we have upgraded our recommendation on the former to Neutral
from Underperform. The JV should improve CME Group's operating
leverage, while also offering it the benefits of
However, we remain concerned about the volume growth, owing to
the ongoing macro-economic volatility.
CME Group reported its first-quarter 2012 operating earnings per
share of $4.02, which stood at par with the Zacks Consensus
Estimate, but lagged the year-ago quarter's earnings of $4.36 a
share. Lower volumes, clearing and transaction fees and higher
operating, non-operating and tax expenses deteriorated the top line
and margins. However, rate per contract improved marginally.
CME Group's diversified product portfolio is significantly
exposed to extreme interest rate volatility, strict government
regulations and limited credit availability. Moreover, the trading
activity is inherently variable, both seasonally and cyclically,
whereas many of CME Group's costs are fixed. The regulatory reforms
implemented in the exchange industry have also exposed the company
to severe competition.
The lingering weakness in derivative markets and widening of
spreads are also nibbling into the top line and earnings of CME
Group, which witnessed a year-over-year decline in the first
quarter of 2012, even as operating margin fell below the 60%
benchmark after several quarters. The near-term outlook appears
grim and may continue to dampen the company's operating leverage
until the derivative markets gain traction.
However, recent acquisitions, alliances and divestments bode
well for CME Group's long-term growth. The company continues to
execute its global growth strategy in the key emerging markets of
Europe, Asia and Latin America.
Going forward, the successful launch of S&P-Dow Jones
Indices under the CME Group-McGraw Hill JV will help CME Group to
tap about $6 trillion of assets that are benchmarked against the
leading Dow Jones and S&P indices, thereby generating ample
Alongside, the company's own initiatives to outgrow and reach
out through the launch of new over-the-counter (OTC) products and
technological innovations such as CME Direct, Swapstream, BM&F
and FXMarketSpace are also supporting volumes across CME Group's
entire product spectrum. We expect this increasing trend to bear
fruit in the long run along with substantial leverage from over 200
products launched in 2010, 2011 and so far in 2012.
Hence, based on the pros and cons, the Zacks Consensus Estimate
pegs earnings for the second quarter of 2012 at $4.09 per share,
which is about 6.5% lower than the year-ago quarter. Of the 14
firms covering the stock, five revised their estimates upward in
the last 30 days, while one downward revision was witnessed.
Currently, CME carries a Zacks Rank #3, implying a short-term
Hold rating, in line with the long-term Neutral recommendation.
CME GROUP INC (CME): Free Stock Analysis Report
MCGRAW-HILL COS (MHP): Free Stock Analysis
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