Five ways you can own the stock market

 

As the markets grow more volatile, many investors are rotating money into safer investments, or at least out of high risk sectors into lower risk ones. That makes sense, but it also makes sense to move some money in the direction of those companies that profit most directly from stock-market volatility: the companies that operate the stock exchanges. By so doing, you give yourself a hedge against market chaos, and perhaps even turn it to your advantage. As the scheming Littlefinger said on HBO's Game of Thrones, “Chaos isn't a pit. Chaos is a ladder.”

Stock exchange companies are generally publicly traded, which is unsurprising: we all do what we know, don't we? Because they trade themselves, they are simultaneously both agents and objects of their trades, both matter and medium. If that sounds entirely theoretical, consider the issue again in light of valuation. When the stock market retrenches, P/E ratios come down across the board, so the value of stock exchange companies drops as well. At the same time, they receive an immediate boost to their revenue from the increased trading.

So stock prices are falling, even while revenue is rising. Anyone else recognize that as a buy signal?

IntercontinentalExchange Group (ICE)

The history of the New York Stock Exchange in inextricably linked to that of the United States, and to investing. Its location at 11 Wall Street in Manhattan is spoken of symbolically, as if it were the entirety of the stock trading universe. Founded in 1798, it was initially a club for most well-off and was an oft used tool of the 19th century robber barons. The exchange has been blamed for numerous financial panics, including the Black Thursday crash of October 1929 that threatened to drag down America's entire financial system and possibly even its democratic system.

In 2007, the New York Stock Exchange merged with Euronext and traded, for a time, under the ticker NYX. Then, in December of 2012, the company was acquired by Intercontinental Exchange, an acquisition that surprised many. Intercontinental began as a partnership between energy companies and investment banks. It has since grown rapidly and today owns some 23 exchanges of various kinds. According to the company's CEO, Jeff Sprecher, his company has come under far greater scrutiny after having acquired the iconic New York Stock exchange.

Shares of ICE are trading at $208.20, down from $227.53 in mid January. If the stock was good then, it can only be better now that you can buy it at an 8.5% discount.

Chart courtesy of www.stockcharts.com.

The Nasdaq OMX Group (NDAQ)

Nasdaq was created by the NASD, the same group known today as FINRA, but it was quickly spun off to form its own financial entity. From small beginnings, it grew into a system of electronic trading, and eventually a stock exchange, or at least a virtual stock exchange, since unlike the iconic New York Stock Exchange, Nasdaq doesn't physically exist anywhere. The exchange showed up on the radar of most investors back in the 1980s, after it began listing prominent technology companies. The crash of 1987, blamed largely on systems in place at the New York Stock Exchange, also led to a rise in trading on Nasdaq.

Its greater weighting in technology issues came to be one of Nasdaq's defining features in the 1990s, but the blessing turned to curse in 2000 and 2001, when an precipitous collapse in the price of high-flying technology inflicted untold woe upon investors. The downturn was so serious that even now, the Nasdaq Composite index has not regained all its lost value.

Likewise, the value of Nasdaq itself has not returned to its old highs, but that may change in the not too distant future. Nasdaq's valuations and growth rate are now well within the “value” range. Shares of NDAQ are trading for $37.81, down 6% from mid January.

Chart courtesy of www.stockcharts.com.

CBOE Holdings (CBOE)

If owning a stock market provides a hedge against volatility, owning the CBOE does so doubly, because it actually trades in volatility. CBOE manages and trades the VIX Volatility index, which everyone watches during the market's choppy periods. Pundits discuss it endlessly, giving the CBOE free publicity.

Located in Chicago, the CBOE offers options on 2,200 companies, as well as indices and ETFs. The company's earnings and revenue growth have been steady and robust. Analysts are currently forecasting 14% annual earnings growth over the next three years, which is strong enough to support the company's P/E ratio of 27.2.

Shares of CBOE are trading at $51, only $1.02 below their high for the year, set in late January. The VIX, incidentally, began the year at 14.23, dropped to 12.14 in halcyon mid-January, then shot up to 21.44 when the recent trouble began, only to fall back to below 17.

Chart courtesy of www.stockcharts.com.

CME Group (CME)

The Chicago Mercantile Exchange, today known as the CME Group, owns several large futures, options and derivatives exchanges in Chicago and New York City. In 2010, the CME Group purchased the Dow Jones Indices, which it later sold to S&P, retaining a 24% stake. No index has garnered so much attention over the years as the Dow Jones Industrial Average, and the temporary acquisition caused a high degree of interest in the CME, which many investors, even professionals, had never heard of.

The CME group has a competitive advantage over other exchanges in that it operates its own clearing houses to guarantee every contract it makes a market in. That means it not only makes money from trading, but from clearing its products. Presently, the company receives 81% of its revenue from clearing fees. At the same time, this doesn't raise its overhead much. Though profit margins tend to be high in this sector, CME's profit margin of 32%, and its operating margin of 68% are truly extraordinary.

Shares of CME are trading at $75.50, having been in decline since they hit a high of $84.64 in mid-December, a drop of nearly 11%.

Chart courtesy of www.stockcharts.com.

Moody's Corporation (MCO)

Though not actually an exchange, Moody's is a company all exchanges make use of. As a credit ratings agency, and what is sometimes considered the credit ratings agency, Moody's is the company that makes sure traders know what it is they are trading, and how to value it. The business model is intrinsically wide-open to abuses of all kinds, both the subtle and the not so subtle variety, and investigations of the company’s role in the 2008 financial crisis seem to indicate that Moody's has not been able to steer entirely clear from the temptations its power affords it.

Nevertheless, times have been good for the company. Revenue has risen by 56% since the 2008 crisis, and the company maintains an operating margin of 40%—not quite what CME manages, but far from shoddy. Moody's is a corporation's corporation, and MCO stock is more than 96% held by institutions. That tends to insulate the stock from the temperamental gyrations of the Street. Shares of MCO are trading at $75.95, down only marginally since the beginning of the year.

Chart courtesy of www.stockcharts.com.

Julian Close has been a business writer since the first day of the twenty-first century, having written for PRA International and the United Nations Department of Peacekeeping. He graduated from Davidson College in 1993 and received a Master of Arts in Teaching from Mary Baldwin College in 2011. He became a stockbroker in 1993, but now works for Fresh Brewed Media and uses his powers only for good. You can see closing trades for all Julian's long and short positions and track his long term performance via twitter: @JulianClose_MIC.

Julian Close

Julian Close

Julian Close became a stockbroker in 1995. In his 20 years of market experience, he has seen all market conditions and written about every aspect of investing. Julian has also written extensively on corporate best practices and even written reports for the United Nations. He graduated from Davidson College in 1993 and received a Master of Arts in Teaching from Mary Baldwin College in 2011. You can see closing trades for all Julian's long and short positions and track his long term performance via twitter: @JulianClose_MIC.

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