IG Group is a world leader in online foreign exchange (forex) trading, spread betting and CFDs (contracts for difference) and it’s a stock I’ve owned for about two years.
I bought into the company at 603p in 2014 and since then the shares have risen by almost 60% to 960p today. That’s a healthy gain by any reasonable standard, but despite this increase, I still think the shares are attractively priced.
However, if the shares keep going up at 30% a year I don’t think they’re going to stay attractively priced for much longer, so I thought I’d write a review before they vanish outside of my “defensive value” criteria.
Leveraging its world #1 status to produce consistently good results
The IG in IG Group stands for Investors Gold and the company started out in 1974 as the UK’s first spread betting firm. It did this by allowing traders to place “bets” on movements in the price of a gold index, rather than having to deal in the underlying commodity.
IG’s position as a pioneer continued with further innovations during the 1990s such as spread betting on equity indices and individual shares, as well as enabling trades to be placed on the then-newfangled World Wide Web.
This leadership position has led to rapid growth over a long period of time, including the last few years.
Here are some of the key stats for IG Group’s fundamentals compared to the FTSE 100 (although IG Group is listed in the FTSE 250 I tend to compare everything to the FTSE 100 for the sake of consistency):
- 10-Yr Growth Rate = 9.8% (FTSE 100 = 1.7%)
- 10-Yr Growth Quality = 88% (FTSE 100 = 50%)
- 10-Yr Profitability = 26.1% (FTSE 100 = 10.9%)
In terms of output then, IG Group is far above average. But what about inputs?
I’m primarily interested in inputs that generate relatively fixed future obligations such as borrowed money, staff (specifically their pensions) and capital assets (buildings, machinery, etc.). A little of these inputs is often necessary, but too much can be dangerous.
For IG, these inputs appear to be either non-existent or small, which is generally a good thing.
Little or no debt, pension and capex obligations reduce risk and increase cash returns to shareholders
Starting with interest-bearing debts or borrowings, IG Group simply doesn’t have any. That certainly reduces risk but most companies are operationally more efficient if they use at least some amount of debt to expand their operations.
However, I’m not going to complain about IG’s debt-free position.
But again for IG things are very simple. It doesn’t have a defined benefit pension scheme and so there is no risk from a pension deficit or any potential changes to the law regarding dividend restrictions when pension funds are in deficit.
In terms of capital assets, I like to look at how much a company spends on capex relative to both earnings and depreciation. The capex/earnings ratio measures how capital intense the business is while the capex/depreciation measures how rapidly the company is expanding its capital assets.
IG’s ten-year capex/earnings ratio is just 8%, which is extremely low (most companies are in the 50-100% range). That makes sense though as IG is primarily a technology company and doesn’t have to invest heavily in physical assets such as buildings or machinery.
With such a capital-lite business the capex/deprecation ratio hardly matters, but just out of interest the ten-year ratio is 81%, so there is no obvious rapid expansion of what few capital assets the company needs.
The result is a company with a low-risk, low-cost balance sheet which means large amounts of cash (about 65% of earnings on average) can be returned to shareholders rather than being used to pay off debt interest, pension deficits or capital assets.
So far IG seems to be a company with a lot of internal strengths and few obvious weaknesses (although there are always weaknesses somewhere), but what about external opportunities and threats?
Future growth opportunities will primarily come from international expansion and adjacent markets
In terms of opportunities for future growth, two main routes are being taken.
The first is to continue the company’s existing successful policy of international expansion (the company already has offices in almost 20 countries and via the web can provide services to traders in many more).
IG’s vision is to be “the default choice of active traders globally” and to keep growing rapidly it has to think globally as it is already the dominant market leader in the UK.
The second route to future growth is to expand into markets that are closely related to its core leveraged trading products, namely unleveraged trading and investing via its new IG share trading business.
This new service allows investors to buy and sell shares and ETFs directly, rather than just betting on movements in their prices (i.e. spread betting).
It gives investors the usual options including a trading account, an ISA account and even a SIPP account (administered by a third party). This puts it squarely against the existing major execution-only stockbrokers such as Interactive Investor, A J Bell and Hargreaves Lansdown.
The point of all this is not just to run a profitable stockbroking business, but also to attract clients who might not have thought about opening a spread betting or CFD account before.
The company is of course offering beneficial terms if a spread betting or CFD account is opened alongside the share dealing account, and it will be interesting to see how many investors end up at least dabbling in the world of trading.
The other adjacent market that IG is moving into is ETF-based model portfolio investments, which will cater to yet another type of investor who may not have thought about the wonders of spread betting.
This new business is called IG Investments and will be run in conjunction with Blackrock. I assume this means it will be similar to Blackrock’s model portfolios, perhaps including an ETF which is split 50/50 between global stocks and bonds and rebalances automatically.
With these two routes to future growth, I don’t see any obvious reason why IG Group can’t continue to grow at close to 10% a year, although of course nothing about the future is guaranteed and there are potential threats.
Regulation is a major uncertainty and potential threat
All of IG’s core activities are highly regulated and changes to those regulations will impact IG to a potentially large extent.
One example is the recent UK/EU referendum, whereas an EU member the UK’s financial companies could operate in the rest of the EU via a “passporting” system.
Once the UK leaves the EU this will no longer be an option (unless the EU and UK come to some sort of special arrangement), so IG may have to set up subsidiary companies within the EU in order to operate there.
Another example would be the EU Financial Transaction Tax (EU FTT) which, if it ever sees the light of day, could massively increase the cost of each trade and therefore massively reduce the number of trades placed, which is the whole point of the tax.
This could be very bad for IG’s operations in any country that introduce such a tax.
One final example would be the recent French and Belgian proposals for restrictions on leveraged products (e.g. spread betting) and their marketing to retail investors. Again, such restrictions would be bad for IG in these countries and any other countries that go down that path.
IG Group’s dividend yield may not be high, but I still think the shares are good value
In summary, I like IG Group, I think it’s a good company with lots of strengths and good opportunities for future growth, but of course, there are risks and threats too.
The share price is 960p as I write, and that gives the shares a dividend yield of 3.3%.
That’s below the FTSE 100’s 3.7% yield (at a price of 6,830) but I think IG Group’s track record and potential more than make up for that minor dividend deficit, although of course that’s just my opinion.
As I said at the start, I’ve owned IG Group for two years and I don’t expect to be selling it any time soon, unless the share price continues to go up at an unreasonably rapid rate over the next few years.
[Disclosure: IG Group is also a holding in the UK Value Investor model portfolio]