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GFI Group (GFIG) Reports Loss in Murphy’s Law Quarter

Posted on | October 31, 2008 Time: 9:39 am |

Investors weren’t expecting much in the way of good news as inter-dealer broker GFI Group reported earnings after the bell Thursday. Shares are down 80% YTD and over 60% in the past month, as several of the company’s core markets - OTC derivatives trading - experienced massively lower volumes, and many industry watchers wonder if OTC derivatives are going the way of the dodo bird.

General de-leveraging activities have reduced the amount of money sloshing around the derivatives markets, so it’s impossible to tell just what the new average trading volumes will be for credit derivatives, forex, and equity derivatives. I was going in expecting the worst for the third quarter; while volumes in certain areas have been high (such as equity derivatives) the “work stoppage” in the credit markets was too steep to ignore.

Is There 80% Business Deterioration Here?

All in all, I was pleasantly surprised that total brokerage revenues were only down 8% in the third quarter, to $226 million. GFI reported a net loss of $.06/share, but several one-time charges affected the results. Management is cutting 55 brokers to help cut costs (some of their isolated credit products may never get back to prior volumes), which added a pre-tax expense of $14.5 million. Also, the company recorded $9.6 million of charges related to the Lehman bankruptcy. Non-GAAP EPS came in at $.17, 2 cents below estimates.

The growth trends within GFI’s brokerage business speaks volumes about our market. Credit market revenues were down 32% YoY, while equity market revenues were up 18%. Commodity product revenues were up 5%, and the company’s nascent data/analytics segment posted strong growth of over 200%, adding $14 million to the top line during the quarter.

Even more telling was how volatile derivatives trading has become for the institutions. Within the third quarter months, July was roughly flat, while August saw trading revenues down 29% year-over-year. But then in September (when the financial crisis first struck blood) trading revenues were up 30% YoY. If uncertainty in the markets continues to lead to higher hedging activity, GFI should see overall growth in equity, forex, and commodity-based revenues. Credit product revenues will continue to fall, and many will likely end up on a regulated exchange by this time next year.

Guidance & Prospects

For now, management is guiding towards total 4th quarter revenues down 1% - 4% from 2007’s $243 million. I see this quarter as proof that the company can stabilize itself in any environment, and absent further restructuring charges the company should be able to deliver between $.10 and $.15 EPS in the 4th quarter. The current estimates are closer to $.20, but these will be coming down swiftly as the analyst community digests the quarterly guidance and results.

If I can draw up any reasonable earnings run-rate from the current (depressed) levels, I can get to annual EPS of $.50 to $.75 pretty easily. That puts the forward P/E of GFI at between 6 and 8 times with a lot of upside potential (God forbid the speculators come back - this company was chugging along at 30% growth before the credit collapse of the past year). There is ample downside protection with a 0.8 Price/Book ratio and a dividend yield over 5%, making this a compelling growth/value hybrid stock.

More on this topic (What's this?)
GFI Group: Not Your Typical Brokerage (Prudent Speculations, 6/11/08)
Read more on GFI Group at Wikinvest
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Category: Financials, Fundamental Analysis, Secular Trends Portfolio
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