At first look, IG Group has all the attributes of a takeover target. The shares trade at bargain basement levels; the spread-betting group is highly cash generative and has net cash on the balance sheet, as the research outfit Canaccord Quest has noted. All of which are far more desirable now the cost of capital is more burdensome.
Investors don’t need to bet on a bid to force a re-rating in the shares. IG Group thrives on market volatility, which lures investors to speculate on movements in asset prices. Ructions in the market over the past month bode well for a stronger end to the year for the FTSE 250 group.
Calmer markets caused third-quarter revenue to come in weaker than some analysts’ expectations, down 7 per cent over the three months to the end of February. Its core over-the-counter business, which allows customers to make bets on a wide range of securities, commodities, currencies and indices not traded on major exchanges, recorded an 18 per cent dip in the top line. Lower revenue per client and an 8 per cent decline in the number of active clients were the result of more range-bound markets.
The lack of visibility in income is one reason IG Group is valued at a far lower earnings multiple than DIY investment platforms like Hargreaves Lansdown or AJ Bell. The group has cultivated a loyal base of wealthier clients. Around 15 per cent of its over-the-counter trading clients typically generate around 85-90 per cent of revenue a year.
At just seven times forward earnings, the shares are at their cheapest since 2009. A comedown from the trading frenzy among bored investors is one reason, but the $1 billion takeover of the US-based tastytrade.com, a platform focused on futures and options, has been a weight on the shares. Investors have questioned whether IG overpaid for a business bought at the height of the lockdown trading boom.
The deal was part of efforts to diversify away from its core UK spread-betting market. The clampdown on the marketing and sale of leveraged trading products to retail investors back in 2018 forced IG to look elsewhere for growth.
At the time of the deal, Vivek Raja, an analyst at Shore Capital, forecast that it would take until 2025 for the business to generate a double-digit return on invested capital and be value destructive until the current financial year. Not good enough.
Recent performance might help reassure shareholders on the rationale for the deal. This year, tastytrade has grown revenue by almost a fifth at constant exchange rates. Along with the European platform Spectrum, the burgeoning exchange-traded derivatives business is growing more quickly from a far lower base. It now accounts for almost a fifth of revenue.
But tastytrade’s revenue growth this year has been driven by interest income. IG benefits from interest earned on the client balances, which goes straight to the bottom line. As Shore Capital’s Raja puts it, with most of the increase in interest income likely to have come through in the second half of this year, the question is whether tastytrade can now demonstrate a return to meaningful growth in net trading revenue and, by implication, client numbers.
Group interest income came to £24.1 million in the first half, or just under 5 per cent of revenue.
If IG can capitalise on renewed oscillations in financial markets then that should have an outsized impact on the bottom line. High barriers to entry, a strong market position and relatively fixed costs have imbued the group with impressive pre-tax profit margins that nudged towards 50 per cent even during a more subdued first half of the year.
Those characteristics will continue to stoke takeover speculation, but a cheap price tag leaves the odds skewed in favour of IG surprising in a positive way.
ADVICE Buy
WHY The shares look too cheap given renewed volatility and takeover potential
PageGroup
The easy gains are gone for London-listed recruitment firms. PageGroup is tied more closely to global economies than peers, generating almost threequarters of its gross profit from placing job seekers in permanent positions.
Confidence among both employers and potential applicants has taken a hit, with gross profit in three out of four of its markets declining during the fourth quarter. One in three potential candidates for roles are being turned down, against one in five this time last year. The wage inflation that had averaged 20 per cent this time last year, has halved.
In the US, sentiment has taken a double hit from heavy layoffs in the technology sector and the failure of Silicon Valley Bank and other regional lenders. Staff headcount — a bellwether for recruiter confidence — has fallen just over 4 per cent, primarily in the US, UK and China.
Investors have been willing to look through the gloom, despite forecasts for global growth from some quarters, such as the International Monetary Fund, being downgraded. That is reflected in a forward price/earnings ratio of just under 17 times forward earnings, against a multiple of just under 11 last year. Guidance for operating profit of £140 million this year has been reiterated, against £196 million last year.
A more dramatic downturn in conviction among employers is the most obvious risk to Page hitting profit forecasts. Delay in the recovery in China is another. Gross profit in the market, which had accounted for about 9 per cent of the pre-pandemic total, was 46 per cent lower on the mainland and 36 per cent behind in Hong Kong. The rebound that had been anticipated in the second quarter of this year is now more likely to materialise during the second half, reckons Nicholas Kirk, chief executive.
What might keep investors interested? The possibility of more special returns to shareholders this year. Net cash stood at £105 million, some way higher than a target of £50 million. But at the current price, the shares could easily lose steam.
ADVICE Avoid
WHY Weakening hiring activity could derail the shares
