Business Breakdowns
· Jacopo Di Nardo
[00:00:00] S2: If you think about how financials businesses run into trouble, it's some sort of liquidity mismatch that exists between assets and liabilities. And I think in that, new investors to the company should take quite a bit of comfort. But most of the assets are really 30 days in duration. Now some of that is a function of how the yield curve has been looking for the past four or five years, which is flat to inverted. So there was no point in taking interest rate risk and duration risk in the capital of a business. But in general, I think the company has always taken a prudent approach to risk management. I think that again stems from probably Thomas's beginning as a market-making risk manager. And if you think about the mother of all stress tests, which was the great financial crisis when the business still owned a market-making business, one of the leading market-making businesses in options. The company decided quite early on in 2007 to stop making prices to customers in long-dated options, which eventually ended up being part of a market. But not a lot of people talk about today that was entirely illiquid and where losses just piled up. So I think analyzing the liquidity of the balance sheet and in general risk management choices is where one can get comfortable that downside risks are fairly well managed in terms of long-term risks. Freddie mentioned a little bit about competitive landscape and how it might evolve. I would add one to it which is, as you mentioned before, Zack, there has been a huge increase in participation in financial markets. Some of it is very healthy. New generations are learning earlier how to invest, and some of it is more akin to really gambling. And if you think about that and the ramifications it might have in terms of regulations in the future, or if losses actually pile up for retail investors, this is an area that is worth bearing in mind. You might have noticed that in the past 18 months they've been talking a little bit more about their new products called ForecastEx, which basically allows—it's almost like a sports betting platform on economic events—that allows customers to really express an opinion that is a yes or no on individual outcomes.
· Jacopo Di Nardo, Zack Fuss
It might be about inflation, about payrolls, and the simple fact that the CFTC initially didn't allow those products to go out because they were too akin to sports betting tells you that there is a component in financial markets today that goes through online brokerages that is more similar to gambling rather than what we would normally consider investing. [00:00:00] S0: And so a corollary to that last question is one that we always conclude with: lessons learned. When you guys evaluate this business, what can be applied to others? And from an operational perspective, what about the way that management runs this business do you think can be applied to other businesses to help drive better shareholder returns?
· Freddie Lait
[00:00:00] S1: When we're looking at what gives our businesses a competitive and strategic advantage over their industry and that will endure for the long term, one of the really best ones, and we've only got a handful of these that have this competitive advantage, is this low-cost, high-service model. And service in this case means better access to markets, quicker trading, neater valuations. Not yet someone on the end of the phone, but wait and see on that. But so this low-cost-to-serve, high-quality product, it's brilliant because it's so hard to compete with. This is one of the best examples that we have found and obviously others being things like Ryanair, Costco, and a few other businesses on our lists, and I think it leads to 10, 20, 30 years of potential advantage which will come through in this case through account growth. And so that's been the primary one, and I think when you've dug back as long as you can in the history—and there's quite a bit written about this business over the last 48 years—this obsession with technology, automation, and costs has been there from day one. And so that's a softer point, but it's around the culture of a business. It doesn't have to be founder-led, but it's often founder-led. But it's certainly got to be someone with skin in the game, and it's got to be someone who intrinsically demands that of a business. I don't think it's something that you can come through with an MBA and just say, "Oh, I'm going to go for a low-cost model." I think it's got to be something that's really in you. And I think the final thing that this business helped teach us is just how cheap very high-quality cyclical businesses can become because people misunderstand or fear cyclicality in what is otherwise a very strong growth business. This was trading on 12 or 13 times earnings, delivered earnings only 18 months ago. It's a little more expensive now, but it's still inexpensive the way we look at these things, which is with all cyclicals, you'll always get a good chance. You can find the great cyclical. You might have to wait three or five years, but you'll always get a great chance. And the great ones are worth waiting for.
· Zack Fuss, Freddie Lait
[00:00:00] S0: Well, Freddie, Jacopo, I appreciate you guys coming on so much to discuss IBKR. Around 50 years ago, Thomas Peterffy came here with effectively nothing and has built what is today, I believe, a $75 billion plus business of which he owns the vast majority. It's a really interesting story from both a business history but also business performance perspective. I really appreciate you guys coming on to help tell it. [00:00:00] S1: Great to speak to you.