While the COVID-19 pandemic has been rough for financial stocks in general, a few financials have managed to do well during the madness. Crises generally mean market volatility, which drives trading volumes. The exchange stocks are a good sector to focus on during crises since they have limited credit risk, at least compared to real estate investment trusts (REITs) and banks. Nasdaq (NDAQ -0.58%) recently reported strong second-quarter numbers, which were driven by the volatility in the market.
Nasdaq has other sources of revenue besides trading and clearing
Nasdaq is a global technology company that operates the Nasdaq exchanges, the Swedish OMX stock exchange, and several others. Nasdaq exchanges trade stocks, options, exchange-traded funds, and longer-term equity linked derivatives. The company has four main lines of business -- market services, corporate services, information services, and market technology. Market services involves the exchanges and trading/clearing revenue. Corporate services provides outsourced investor relations services and corporate governance services. Information services provides market data to consumers, professional investors, and the media. Finally, the market technology segment provides infrastructure services to clearing firms, exchanges, regulators, banks, and brokers.
Strong second-quarter results
In the second quarter, Nasdaq reported a 12% increase in revenue, driven by a 22% increase in market services revenue, which was the result of record volumes on the exchange. Earnings per share increased 39% to $1.45, compared to $1.04 in the second quarter of 2019. Margins improved as well, as operating margins increased 400 basis points to 45%. Nasdaq took some steps during the quarter to preserve cash and reduce its reliance on short-term financing. The company issued a $500 million 30-year bond and used the proceeds to pay down all of its commercial paper and borrowings under the revolving line of credit.
Increased volumes drive higher revenues
Volume and volatility go hand in hand, and Nasdaq sees elevated volumes for the rest of the year. On the earnings conference call, President and CEO Adena T. Friedman said, "We said last quarter that the volume outlooks set up constructively due to both this pandemic's uncertainties and the fact that 2020 finishes with the U.S. presidential election. A quarter later, we increasingly expect that the current economic and political backdrop will continue to support elevated volumes during the latter half of the year."
Market services is the foundation for Nasdaq, but the company envisions that future growth will come from the market technology segment and information services. Indexing is a longer-term growth story, especially as the company creates more specialized and niche indices, like cloud computing, biotech, or IT infrastructure. Ethical Social Governance (ESG) funds are another high-growth space that will be a source of all sorts of new index funds, which was discussed extensively on the earnings call.
Nasdaq is trading at 23 times expected 2020 earnings per share at midday Tuesday and has a dividend yield of 1.5%. The dividend was just increased by 4% in the latest quarter. The stock has been a stellar performer this year, rising 19% so far. This has outperformed the other competing exchanges: CME Group, Cboe Global Markets, and Intercontinental Exchange.