TP Icap is stuck on repeat and investors are getting bored. Shares in the interdealer broker formed by the merger of Tullett Prebon and Icap have fallen by more than two thirds since the rivals’ deal was completed in 2016.
The FTSE 250 constituent has been struggling to generate sustainable earnings under pressure from Brexit disruption, currency fluctuations and weak trading in the fixed-income and swaps markets. Costs incurred in efforts to diversify its client base and shift towards electronic trading have further hampered profitability.
Last year’s trading figures told a familiar story, as pre-tax profit shrank by just over 80 per cent to £24 million. The group, which acts as a middleman matching institutional buyers and sellers of complex financial products, is heavily reliant on transaction activity. Low interest rates have hobbled revenue for its core global broking operations, with the proportion of the higher-margin rates franchise suffering the largest decline. On an underlying basis, group revenue was 1 per cent lower.
Rising inflation and interest rates are a positive for TP Icap’s revenue stream and, on a like-for-like basis, revenue so far this year is 4 per cent higher than the same time last year. However, it’s little wonder that the company was loath to extrapolate that to anything near bullish guidance for the rest of the year, not least because of the inherent unpredictability of markets.
The group needs a goldilocks situation when it comes to volatility: as Robin Stewart, the finance chief, noted, movements too extreme can also reduce risk-taking appetite.
The group is in the middle of a five-year turnaround to diversify its client base and shift more business from voice and hybrid broking to electronic. Shifting more trading volumes on to its “Fusion” electronic platform is part of that strategy, with roughly 20 per cent on board moved since it was launched last year.
Yet it also has a lot riding on its $700 million acquisition of Liquidnet last year, one of the world’s largest managers of electronic trading venues known as dark pools. The hope was to gain greater access to buy-side clients, such as asset managers, as well as equities trading. The prize was using Liquidnet’s technology to lead a push into the electronic trading of bonds and swaps. Progress on the latter is likely to be slow.
The company also has initiated a cost-savings programme, including synergies from integrating Liquidnet, which last year totalled £35 million. However, it is also incurring costs to achieve those savings. It flagged those costs as £43 million over three years, much of that associated with downsizing its property footprint, against anticipated cuts of £38 million. In addition, inflationary pressures this year, particularly around wages and Brexit transition costs, could eat into the net benefit of savings.
Those costs might be classed as one-offs, but it could still take the shine off profitability over the next few years. Any hint of overruns will lesad to the group being punished even more severely by the market.
A forward price-to-earnings multiple of just over five leaves investors as pessimistic about TP Icap’s prospects as they were in March 2020. To win back confidence, it must demonstrate that its core rates franchise can capitalise on a steady increase in the yield curve and boost the top line. It also needs to prove the benefit of its Liquidnet purchase, in connecting the business’s “pipes to Tcap’s sell-side liquidity pools”, as Vivek Raja, an analyst at Shore Capital, put it. Investors are right to be sceptical.
ADVICE Avoid
WHY Cost pressures and inherently unpredictable markets mean TP Icap could well disappoint on earnings later in the year
Close Brothers
For investors thinking about getting behind Close Brothers, its racy valuation compared with its challenger bank peers was seen as prohibitive. With the shares now offering a much slimmer premium to the tangible book value forecast by analysts for the end of July this year, that’s less of a problem now.
Yet that encouraging sign comes with caveats. It’s down to a steady derating in the FTSE 250 constituent since the start of this year, one exacerbated by a further slide in the share price on the back of half-year trading figures and — with Close Brothers being far from alone in this regard — market turmoil caused by the crisis in Ukraine.
How might Close, which provides asset and invoice financing for businesses, feel that impact? First, with a pullback in expansion plans among smaller companies nervous about the broader economic backdrop; and second, from a rise in defaults from businesses under the cosh from rising operating costs and disrupted trading.
Half-year numbers might have been broadly in line with consensus expectations, but the market was still less than impressed. Tepid loan book growth for its core banking division might be one reason. Against the end of last year, the rate of 1.9 per cent points towards a slowdown from the 10.9 per cent loan book growth over the course of last year. Progress on the margin could help to offset any further weakness in lending growth.
Unlike many other lenders, a rising base rate won’t be a benefit to Close Brothers. Its loans are charged at a fixed rate, matched by wholesale and deposit-based funding sources, which are also cemented; and it doesn’t offer current accounts, either.
In its favour, the bank has a beefy regulatory capital ratio of 15.1 per cent, a way above the minimum required and one that encouraged a return in dividends to pre-pandemic levels. That interim payment of 22p a share is forecast by analysts to increase to almost 64p for the full year, which would equate to a dividend yield of 5.8 per cent at the present share price.
That might be enough to retain the loyalty of some investors, but it is difficult to see catalysts for the shares rerating in the near term.
ADVICE Hold
WHY Worth holding for generous dividend
