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Is Intercontinental Exchange Stock a Buy?

By Brent Nyitray, CFA - Dec 16, 2020 at 8:30AM

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It's a big bet on mortgages, but there is a new competitor.

This year has been rough on the financial stocks. The banks have been beaten up on fears of COVID-19 related write-downs, while the real estate investment trust (REIT) sector has had to contend with struggling tenants who have seen their businesses negatively affected by the pandemic. One of the few financial sectors that has held up reasonably well has been the exchanges, specifically the stock exchanges like Intercontinental Exchange ( ICE -0.79% ).

Volatility in the stock market has increased daily trading volume and boosted fee income. A timely bet on mortgage refinances seems to be paying off. Is the stock a buy? 

Intercontinental Exchange owns the venerable New York Stock Exchange

The Intercontinental Exchange is known mostly for its ownership of the New York Stock Exchange. However, there is more to the company's business than the NYSE. ICE also manages Euronext, which is the largest stock exchange in Europe, and the New York Board of Trade, a popular commodity exchange. The exchanges generate revenue from trading and clearing fees. This is a business that requires the company to take limited credit risk, which is a huge advantage in the current economic environment. Last year, 43% of Intercontinental Exchange's net revenue came from clearing and trading. The second biggest contributor was data services which come from selling trading data to media aggregators and trading terminals. 

Picture of the New York Stock Exchange and a trader

Image source: Getty Images.

Intercontinental Exchange is betting big on mortgages

Intercontinental Exchange has been building a presence in the mortgage space, purchasing the Mortgage Electronic Registration Systems (MERS), which is a database that tracks the ownership of mortgage loans and servicing. Intercontinental Exchange added Simplifile, which connects lenders, settlement agents, and county recording offices, which streamlines the local recording of residential mortgages.

Finally, earlier this year Intercontinental Exchange bought Ellie Mae, which is a major mortgage technology firm that helps originators manage the workflow for individual loans. The decline in interest rates this year has opened up an opportunity for possibly 32 million borrowers to refinance their loans. Provided that interest rates stay at these levels, the next couple of years should be strong for the mortgage origination sector. 

Intercontinental Exchange is expected to earn $4.76 per share next year, which gives the company a forward price-to-earnings (P/E) ratio of just under 23. If you look over the past five years, a 23 ratio right about in the middle of the range. 

ICE PE Ratio Chart

ICE PE Ratio data by YCharts

Competition could be increasing

There is one possible dark cloud on the horizon for the company and that is a new stock exchange. Member's Exchange (MEMX) is a new stock exchange that recently launched (after managing numerous COVID-19 delays). Members Exchange is owned by a consortium of major Wall Street Banks and some buy-side firms. These partners include JPMorgan Chase, Wells Fargo, Virtu Financial, BlackRock, and many others. Members Exchange promises to offer a stripped-down service with lower fees. Virtu is a major high-speed trading firm and we should expect Members Exchange to siphon off some volume from the New York Stock Exchange. It is still early days, but this will be something to watch. If Members Exchange can attract enough liquidity to draw meaningful volume from the New York Stock Exchange and Nasdaq Composite, then it will be a threat. 

So is Intercontinental Exchange a buy? Certainly, the company has some enviable assets, and its multiple is in the middle of its historical trading range. The stock does have a high earnings multiple relative to its earnings growth rate. The company trades at just under 23 times next year's earnings, which is expected to rise only 6.5%. It is possible that earnings growth will increase once Ellie Mae begins to be reflected in Intercontinental Exchange's numbers. The exchanges have been supported this year by heavy trading volumes and volatility, which probably won't be repeated next year. That said, the mortgage business should be in for a good run for the next several years.

I would like the stock more if it was a bit cheaper, but the assets of the company are second to none. Intercontinental probably has more things that can go right for it than it has downside risks. 

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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Stocks Mentioned

Intercontinental Exchange, Inc. Stock Quote
Intercontinental Exchange, Inc.
ICE
$130.19 (-0.79%) $-1.03

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