Sandler O'Neill research report on the news:
04:09pm EDT 19-Jun-07 Sandler O'Neill & Partners LP (Richard Repetto, CFA) CME
Sandler: CME: The Response to the Russell Movement
Sandler O'Neill + Partners, L.P. EQUITY RESEARCH
Company Note
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Chicago Mercantile Exchange NYSE: CME - $545.99
eFinance RATING: BUY
12-Month Price Target: $630.00
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June 19, 2007
Richard Repetto, CFA, Principal
212-466-7906
rrepetto@sandleroneill.co m
Betsy Miller, Vice President
212-466-7962
bmiller@sandleroneill.com
Christopher R. Donat, Associate Director
212-466-8068
cdonat@sandleroneill.com
The Response to the Russell Movement
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EPS
Estimate
Mar Jun Sep Dec Year Growth Change P/E
------- ------- ------- ------- -------- -------- -------- -------- --------
2006A $2.61 $3.12 $2.95 $2.91 $11.60 31.7% -- 47.1x
2007E $3.69A $3.53 $3.68 $3.86 $14.76 27.2% -- 37.0x
2008E $4.26 $4.71 $4.50 $4.63 $18.10 22.6% -- 30.2x
* CME announces its competitive response to ICE's acquisition of Russell
Index rights. This morning, CME announced an expansion of its agreement
with Standard & Poors to include E-mini futures on the Small Cap S&P
Indexes. After CME's license to trade the Russell indices expires in
September 2008, CME stated that it would incent traders to transfer their
open interest from CME Russell 2000 futures to the new CME/S&P E-mini Small
Cap contracts.
* CME can trade Russell index futures until September 2008. We learned from
CME management today that the company has a license to trade Russell index
futures until September 2008, although ICE can trade it concurrently for
just over a year. Once ICE obtains Hart-Scott-Rodino approval, which should
be in roughly 30 days, it can begin trading the Russell.
* The product versus the platform. We will have to take a "wait and see"
approach as to where liquidity shifts for small cap E-mini indexes. The
pros for ICE (the product) include large funds that are specifically
indexed to the Russell. The pros for CME (the platform) include its
technology, clearinghouse and cross-margining benefits with CBOT contracts.
* Exclusive rights have not driven market for CME's main contracts. YTD in
2007, Eurodollar futures have accounted for 56% of CME's daily volume, and
CME has no exclusive trading agreement for those. FX products have
accounted for another 9% of CME's volume, and it has no exclusive licenses
for those contracts either. The takeaway here is that there is more to
driving volume than the exclusive right to trade a contract.
* June-to-date volumes are tracking above expectations. In June-to-date, CME
has traded an average of 8.73 million contracts per day, up 43.8%
sequentially. We note the early part of the month included the roll, and we
believe volume will drop off somewhat in the second half of June. Still,
over the last two years, the second part of June has been down 25.0% and
26.2% from the first part. Our 2Q07 estimate of 6.07 million contracts per
day implies the second part is down 41.9% from the first part. With open
intererst also at record levels in the roll cycle, we believe there is
upside potential to our 2Q07 EPS estimate of $3.53. The consensus is at
$3.56.
* Maintaining BUY rating. We are maintaining our BUY rating and our price
target of $630, which is based on a 30x multiple of our 2008 pro forma
earnings power EPS estimate of $19.87. We also add $30 for the discounted
value of the $0.88 we estimate that CME Reuters FXMarketSpace initiative
will earn in 2009.