Buy NASDAQ and NYSE

Alvin is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The outlook for an industry is one of the most important factors to consider before making an investment. If the future of an industry is bleak, then a company that is in that industry is most likely a bad investment and its competitive advantage is irrelevant. In the case of NASDAQ OMX Group (NASDAQ: NDAQ) and NYSE Euronext (NYSE: NYX), which operate financial exchanges (e.g. stock exchanges, futures exchanges, etc), the future of their industry is long and bright. As long as human society exists, there will always be a need for financial exchanges. Financial exchanges are crucial to the modern world.

There are four main ways NYSE Euronext and NASDAQ OMX make money. First, NYSE Euronext and NASDAQ OMX charge fees to companies who are listed on their stock exchanges. NYSE Euronext and NASDAQ OMX charge companies an initial listing fee and an annual fee. Second, the companies provide their data to third parties. NYSE Euronext and NASDAQ OMX have access to quotes, volumes, etc. They provide this data to third parties for a fee. Third, they charge transaction and clearing fees for trades that occur on their exchanges. Thus, the higher the trading volume the better it is for both companies. Fourth, NYSE Euronext and NASDAQ OMX provide technology solutions to third parties.

Currently, NYSE Euronext and NASDAQ OMX both operate in three business segments. NYSE Euronext operates in Derivatives; Cash Trading and Listings; and Information Services and Technology Solutions. The Derivatives business runs its derivatives trading markets (e.g. options); Cash Trading and Listings runs its stock exchanges; and Information Services and Technology Solutions provides trading technology to third parties. In 2011, Cash Trading and Listings; Derivatives; and Information Services and Technology Solutions accounted for 65%, 25%, and 11% of NYSE Euronext’s total revenue, respectively.

NASDAQ OMX operates in Market Services, Issuer Services, and Market Technology. Market Services runs its exchange markets and provides market data, Issuer Services runs its listing business (i.e. IPOs), and Market Technology provides trading technology. In 2011, Market Services, Issuer Services, and Market Technology accounted for 67.4%, 21.8%, and 10.8% of NASDAQ OMX’s revenue, respectively. For both companies, most of their revenue is generated from the trades that occur on their exchanges and from listing fees.

In terms of competition, the business of operating financial exchanges is highly competitive. In its 2011 Annual Report, NASDAQ OMX states, “We face intense competition from other exchanges and markets for market share of trading activity and listings...This competition includes both product and price competition and has continued to increase as a result of the creation of new execution and listing venues in the United States and Europe.” While competition is fierce, NASDAQ OMX and NYSE Euronext control the largest stock exchanges in the world. The NYSE is the largest stock exchange in the world and NASDAQ is the second largest stock exchange in the world. These are huge advantages. This provides them with some of the largest publicly traded companies in the world and increases their brand values, which should attract future IPOs and investors. Also, the financial exchange industry is heavily regulated. This makes the barriers of entry into the industry high and helps prevent rises in competition. It should be noted that there are uncertainties on the effects on trading by the Dodd-Frank Wall Street Reform and Consumer Protection Act. However, these uncertainties are overshadowed by the long-term need for financial exchanges.

In summary, financial exchanges are crucial to the modern world. Currently, NYSE Euronext and NASDAQ OMX have PE ratios of 12.6 and 12.1, respectively. These are cheap valuations for two companies that have huge shares in the financial exchange industry. Also, NYSE Euronext and NASDAQ OMX have dividend yields of 4.74% and 2.16%, respectively. While both companies list the other as a main competitor, owning both of them seems like a good idea because they are both well entrenched, have strong brands, and they control the two largest stock exchanges in the world, the NYSE and NASDAQ. Overall, both companies are good long-term investments.


Alvin has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend NYSE Euronext. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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