Interactive Brokers Group, Inc. (IBKR) Earnings Call Transcript & Summary

Good morning, and welcome to Piper Sandler's Global Exchange and Financial Technology Conference. It's a pleasure and the first time in 17 years to bring it virtually. But we're excited about all the speakers we have, and we've tried to mimic the entire agenda virtually as well. First, my pleasure to introduce Thomas Peterffy. He's the Chairman of Interactive Brokers. Interactive Brokers is an $18 billion market cap company that he took public in May of 2007. And Thomas is really a pioneer of the online trading space. It's great to have you with us, Thomas.

I guess the first question is, you help drive a lot of change in the e-brokerage space. You're the first to initiate the 0 trading commission, the 0 trade offering. Did you expect it to have the impact that it did? It led the consolidation, and how do you think it has played out for IBKR and your positioning in the industry since you were the first to really undertake it?

Honestly, Rich, I did not expect that our introduction of IBKR Lite would elicit such a large reaction or at least not so suddenly. Looking at Schwab's numbers, the small amount of commissions they generated relative to other of their peers, it was clear that while a huge number of advisers, they had relatively few frequently trading accounts. So I said to myself, if I were Schwab, what would I do? I would go to 0 commissions and try to get as many of the frequent trading accounts as I could. So if they are going to do that anyway, why don't we go first? And we did just that. We did just that and did expect that Schwab would follow us, but not quite so fast, hoping to be the only one at 0 commission -- only one of the 0 commission brokers among the traditional online firms for quite a while, and we were hoping to pick up a large number of accounts until they would follow us. Well, as you know, they all followed very, very quickly within days. This move cut the stock prices of AMTT -- AMTD and E*TRADE, drastically giving Schwab and BondDesk [ both ] the opportunity to buy them. As it later turned out, the repercussion of coronavirus prompted the fed to cut rates to 0. And since both AMTD and E*TRADE have very long maturity of government and agency portfolios, they invest their customers either funds in, they have a huge windfall, which they would -- which you would see -- everybody would see that if they had to mark-to-market their portfolio. So basically, the purchasers are mostly buying these firms with their own monies. From our point of view, the mergers reduced the number of competitors that prospective customers have to choose from, and we are very happy about that, which is also the case that tiny percentage of customers each year get very angry on their brokers and decide to go elsewhere. Since our number of customers is still under 1 million, it's just a small fraction of theirs, we expect net gain from that phenomenon. On the opposite side, these huge merged entities can undertake very expensive projects to develop new products and services and they the trade expense among so many more accounts. So that's a great advantage for them. So far, I think that we have been able to maintain a technological superiority, but that may not last indefinitely. It is going to be an interesting decade to come in our space.

Great. We'll talk about some of the account growth and some of the other, what we call it, results that occurred from the 0 commission offering. And I did first want to talk about, you're one of the few that actually breaks down the account -- where your account come from, broad-based growth across the customer segments. And the whole entire industry, including yourself, seen a big uptick with the stay-at-home sort of work environment. And I guess as the economy now just begins to open up. Do you think -- you believe that the individual customer segment will continue to grow, that -- any a pace anywhere similar to it? Or what other segments and again, you give us the disclosure in these other categories like hedge funds and   proprietary trading firms. But do you think that individual will -- how strong will it stay? And will another segment sort of pick up that growth or could it be [ difficult ]?

Yes, yes. So I do believe that the individual customer segment will continue to be our strongest growing segment. I think our platform and pricing are more attractive to these type of customers than the others -- than to other type of customers. Hedge Funds find our platform, especially our online shortable inventory, very attractive and are making -- and we are making quite a headway among smaller funds. For introducing brokers, our largest competitors are Pershing, Fidelity, Barclays and -- but they are -- all 3 of them are much more expensive than we are. And their technology is quite obsolete. I think prop traders who are most active customer type and more profitable, their growth will slow simply because we already have most of them who exist. Obviously, when they will be -- when they will all be on our platform, which I think will happen as long as they speak to each other, our growth will stop in this segment, except to the extent they -- that their ranks will increase [ if we -- I don’t know at all ]. Financial advisers will probably remain the slowly growing segment because the big merged entities trading targeting this segment. And they will probably throw a huge amount of [ fund ] to market to the marketing effort to these financial advisers. Ah, look at the fire on the woods. Thank you so much.

It almost burnt my home office. Some things we have to keep constant year after year.

Right. Right. Right. Thank you.

So what also is constant is your phenomenal account growth and particularly in this sort of elevated volatility period in March, April. So phenomenal, I think it was in March, 70% on a comp -- over 70% on a compound annual growth rate. So could you just talk about what's driven the recent success in your growth and a good portion of it comes from Asia and Europe -- and Europe. But could you just sort of give where it came from and the feel -- sort of the mix of where it's coming from geographically as well?

Okay. So the strongest factor in our strong growth in -- outside of the U.S. is basically lack of competition. So while we have grown as of the end of May, our total growth is 31% as far as number of accounts are concerned, but it's 19% in the Americas, 44% in Europe and 35% in Asia. So the -- as I say, the strongest factor is the lack of competition, no competitor in these geographies have a sophisticated platform and the international product base anywhere close to what we have. Different regulations and tax regimes are mind boggling, and I think that you must be crazy to have a very long-term vision to go near this model, where you are willing to service customers for almost any jurisdiction and try to cope with the automation of the myriad of different requirements, but we have done that for several years now. So -- and we keep continuing to do that, and we're just going to stick with it. And that's a very -- that's the primary reason for our growth of non-U.S. customers.

Okay. We've decided to put the fire out for a little while, Thomas. IBKR Lite, so this was your 0 commission offering, is supposed to be revenue-neutral. And I think the best way to -- that you've described it is, it hasn't had a material impact on your offering -- on the overall offering of IBKR. And I guess, if you could give us a little bit more color on like how many customers or what types of customers are switching to IBKR Lite. And what I did want to highlight is since people -- whether it's revenue-neutral or -- or people aren't going to it, your commission has come down, but it's still material and that your trading revenue was up 55% year-over-year compared to the other e-brokers that, yes, they saw the increased trading, but it just brought them back to flat because they had to make up for that lost commission. So are people really adopting IBKR Lite? Or any insight you can help us.

Yes. You have kindly sent me a table for which I thank you very much, which clearly shows that year-on-year Ameritrade trading revenues are down 1%, E*TRADE down 5%, Schwab up 2% and IBKR is up 55%. So that's a very pronounced difference. But this is not due to anything we did differently than others. As I said on previous occasions, when we sell the order of an IBKR Lite customer to a market maker, the payment we receive for the order roughly equals the commissions we charge to an IBKR Pro customer. So from a revenue perspective, the commission we charge for the same order, it's the same. So as I say, from a revenue perspective, we do not care if a customer chooses Lite or Pro. Also Lite customers pay 1% more for margin loans. If there were an interest rate on fed funds, they would receive 1.5% on their fed funds. Our Pro customers receive 0.5% on their fed funds. We currently have 26,000 Lite customers, of which 6,000 switched from Pro and 20,000 came as new customers. So in the light of the 840,000 customers we have overall, it's basically negligible.

And that -- the 26,000 that you do have, just to follow up on the question is that, it is relatively revenue-neutral with the incremental...

That is correct. And so the large increase in the trading revenue is basically due to increase in the number of trades due to the stay-at-home and coronavirus impact, which all the brokers have enjoyed, but simultaneously, the others have cut their commission. And we basically didn't, right? So there is no change in our case. So that's why our revenues increased along with the trading volume, where their revenues dropped, but the trading volume increase made it sort of an even trade.

Totally get that. If you're trading in commission in overall, I know there wasn't a lot of payment for [ order Pro ] but overall, your commissions were up material. Another question that occurred, I guess this was post -- yes, it was post quarter-end. What was the WTI incident, where WTI traded negatively. The first number that you talked about on the earnings call was $88 million that you were going to provision for, and I think it's going to be higher now. But I think what we want to explain to the audience is that you did something -- it wasn't just the customers couldn't pay, but it was also -- you made up for customers, what I would say, even that had money in their account voluntarily because of it going negative, and I don't know whether they could get quotes in or whatever. But could you explain the situation and exactly what you did?

So the final loss is $104 million, the loans that we take. So a difference between the $104 million and the $88 million that we originally expected is that several customers had enough money in their account to pay for some [ oil ] losses, stemming from the oil price going to minus $37.63. Some of these customers complained that they would have liquidated their position below 0, but higher than the minus $37, had they -- had we accepted their liquidating orders. The fact is that only very few contracts traded something like 400 contracts traded under the 0 price because there were no buyers. So they couldn't have been -- they wouldn't have been able to liquidate their positions even if they wanted to, but we decided that since it would be impossible to tell, if even one or a few contracts would have been liquidated, and at what price, and who those contracts should have belonged to, we decided that we will extinguish all [ long ] positions belong to [ run ] customers, who were logged in at the time of 0 and just take those losses. And that's what the additional $16 million loss comes from. This entire event is a black mark on the [ long ] history, the future's industry, and we would prefer it to shine as a light on it as possible. What do we do to avoid this in the future? The CME gave us 5 days' notice that they may go [ in crude ] and that included the weekend. The ICE, where the bulk of our losses were, gave no notice at all. I do not think that anything like this will happen again. They will give plenty of notice in the future. I also think that they have emergency powers to cancel prices that do not correctly reflect the actual circumstances. There have been several [ flash ] crashes in the past where they did just that. They should have done that at this time since the pricing from plus $21 in the morning to minus $37 in the afternoon and back to over $20 by the next morning and currently, something like $35. I do not think that the negative sign is a big deal here. A $60 move in the price of a barrel of oil in 1 day and back the next day is clearly an artifact that does not reflect reality in the actual marketplace. A big deal is the lack of liquidity that happens every now and then, but luckily not often in the futures markets, specifically I recall 2 flash crashes in the stock index contracts that were similar. Prices were adjusted afterwards in both cases by the exchanges, relying on their emergency powers. They should have done the same thing here.

Yes. It was...

And probably, we'll do the same thing in the future if it happens.

Hopefully, that doesn't happen. Hopefully, the oil prices will stay in positive territory from here forward. We have about 5 minutes. I've got 2 last questions, Thomas. One is our margin lending. I think the entire industry with the market going down in the first quarter, saw a deleveraging, a pullback in margin loan balances. I think what's different -- as well as lower interest rates, and everybody is under pressure in the industry in net interest income. What's different, I believe, is that margin loan lending for you is a greater percentage of your NII. So I guess the question is, with all the account growth you've seen, when can you get -- when do you expect the margin balances to start moving back up? And when can potentially either existing customers or these new customers, could you see that growth in margin?

Well, they -- if you look at our monthly releases, the one that we have released for May, already shows that margin balances went from $20 billion to $23 billion. So -- and this morning, which is higher than the -- so the fact is that it is moving up as it's well known, we charge much, much less than anybody else in the industry our margin loans, the interest in our margin loans vary from 0.5% to our fed funds to 1.5% to our fed funds. So when the fed funds are something like 15 basis points, the highest margin rate we have is 1.65%, which is substantially below our peers' published trades. Now if you go and call them and spend a lot of time and [ read ] them up, maybe they will accommodate a lower margin rate. That's at least what we hear. So...

Okay.

That is basically I had to say about this.

Okay. That's very helpful. We are getting short on time, but I did want to ask you the last question. You've been a pioneer online electronic trading. And I always say about the box that you use CBOE floor and now retail electronic trading. You've really instigated a lot of change here with the 0 commission, and you were able to do that from a revenue-neutral standpoint. So I guess the question is, as a guy who can -- sees this industry early before things occur, where do you see what's the output for the online brokerage industry? What do you see the new innovations over the next 3 to 5 years, what will the e-brokers look like because they certainly don't look like today the way they did 5 to 10 years ago anymore?

So Rich, I fully understand that this is a question you have to ask. And you also know that this is a question I cannot answer because, again, going to 0 commissions, and probably being followed by all -- everybody else is in a [ record ] to -- just clearly demonstrates that whatever we do, everybody comes after us as soon as they can. So if I told you what we see in the future, and what we're working on for the future, everybody else will be working on it. So I'm sorry.

If you told me, you might have to kill me.

Right and everybody else.

Well, we know you will certainly come up with continued innovation like you've had over the past 30 years in this business. It's been a pleasure to have you virtually. Hopefully, next year, we're back sitting beside the fire physically, at least sitting beside each other physically anyway.

Thank you very much, Rich.

Thank you for your time, Thomas, and good luck with Interactive Brokers. Thank you.

Thank you.