Exchange operators want volatility, just not too much
By Aparajita Saxena
March 2 (Reuters) - Wall Street analysts wasted no time in raising forecasts for exchange operators CME Group Inc and Nasdaq Inc after last month's historic stock market volatility, but industry watchers warned the companies may suffer if the selloff becomes deeper and more prolonged.
The stock, currency and commodity trading platform providers who make more money the more times investors trade on their systems have been struggling for years with decreased volumes driven by persistently low volatility, which keeps traders out of markets.
When volatility rises, as it did in a U.S. stock market selloff at the start of February, it pulls up the return banks, brokers and investors make on individual transactions because the spreads between where they bought and sold in the market become wider.
"High volumes directly translates into revenue for exchange operators," said Stephen Biggar, an analyst with Argus Research Corp, who raised his first-quarter earnings estimate for CME by 30 percent for the first quarter of 2018, attributing a third of that change to the selloff.
"Companies such as CME, (and other exchange operators) will definitely see some positive effects of the February volatility in their first quarter earnings."
However, Biggar and others say that more prolonged periods of volatility tend in the end to hurt operators as skittish investors get scared out of the market where trades carry too much risk.
"When there is a protracted sell-off, there is a lot of fear about the future," says Matthew Granski, an analyst with Miracle Mile Advisors based in Los Angeles, California.
"In 2008, there were many investors who thought that the market would never recover. When expectations are diminished, stocks suffer because investors think their future earnings will be lower."
CME and Cboe trading volumes hit record highs of 1.35 million contracts and 10.47 million contracts, respectively, on Feb. 6 when Wall Street's fear gauge - the CBOE VIX index surged to its highest since April 2015.
The Dow Jones Industrial Average index also recorded its highest trading volumes ever on the same day and CME said on Friday that February was its biggest ever month of trading with volumes reaching 27.3 million contracts - up from 19 million in January.
The comparison with 2008 is striking. At that time, volumes of equities trades doubled as the collapse of Lehman Brothers blew the starting whistle on a global market meltdown.
Volumes stayed high in October in that year, but thereafter fell back steadily and by August 2009 were lower than they had been a year earlier. (http://tmsnrt.rs/2F7jXlZ)
"For exchange operators, the higher volatility and trading volume in 2008 was beneficial for their current revenue stream," Granski said.
"But investors are forward looking and thought that the market would not recover and that trading volumes would decline for good, therefore, lowering the future earnings expectations of exchange operators."
(Reporting By Aparajita Saxena in Bengaluru; Editing by Patrick Graham, Bernard Orr)
