Nymex IPO: not another bubble

What a week for publicly listed financial markets. On Tuesday and Wednesday, November 14 &15, European exchanges, which had been outperforming the broader market for months, fell substantially: Euronext by 8.9%; Deutsche Börse by 6.25%, and LSE, by 5.7%. The immediate catalyst for the fall was the announcement by seven international banks that they plan to set up a competitor to the European exchanges (see our blog dated November 17 below). Many analysts interpreted as the end of exchanges’ bull ride.

And then, on Friday, Nymex went public in a most spectacular IPO of 2006. On the first day of trading it gained 125%, the biggest daily increase in an IPO since 2000. Its market capitalisation stands at $11.59. Some analysts, Jim Kramer for instance, consider this price excessive, compared say to NYSE, which has a market cap of 14 billion. It also has a (much) slower growth, lower operating margin and more precarious competitive position. A better comparison is with Intercontinental Exchange (ICE), which owns the only competitor to Nymex, International Petroleum Exchange (IPE). However, Nymex has a market share of over 60% market share in energy futures, its revenue are double that of ICE. And its market cap is slightly under 200% of ICE’s market cap ($5.9 billion). So, in relative terms, compared to its peers, and in light of its growth prospects, NMX is not overpriced. However, as many observers noted, the IPO process was completely botched, crowding out retail investors and forcing selling shareholders to leave substantial money on the table. Underwriters, who represented a cream of Wall Street did not cover themselves with glory.

In this week issue of Barron’s, Andrew Bary asserts that exchange stocks are the new Internet stocks. I think the argument is overdone for the following reasons:

• All listed exchanges have good track records and are profitable. Moreover, many of them generate substantial cash

• The exchange play is a consolidation play and there is no reason to believe that the consolidation will not continue. Indeed it barely started. And so far, announced deals (CME-CBOT, NYSE – Euronext) make both strategic and financial sense

• The relative ranking of valuation is rational, with derivatives valued more highly than cash markets and bigger markets worth more than smaller markets. The discrepancy between multiples of US and EU exchanges (a weighted P/E for the former is over 40 and for the later is 25) is less justified (and based on broader historical precedents, which may not apply in this case) but it creates arbitrage opportunities.