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optionsXpress taking advantage of market volatility

by Hollis Templeton
Oct 21, 2008


On the bright side of economic turmoil lies success for optionsXpress Holdings Inc. The Chicago-based electronic brokerage firm has capitalized on market volatility in the high-risk, high-gain world of derivatives trading and grown the number of customer accounts by 23 percent from a year ago. But there's a cost, and that impaired third-quarter earnings.

In the three months ended Sept. 30 the company increased advertising expenditures by $1.4 million, or 39 percent, to $4.9 million  Advertising expenses per net new customer account increased 59 percent to $454  from $285 in the same quarter last year.

Partly as a result, earnings rose only 4 percent to $64.1 million, or 40 cents per diluted share, in the third quarter ended, compared with $66.9 million, or 40 cents per diluted share, in the same quarter last year. Still, earnings surpassed analysts’ expectations, and the stock jumped 14 percent Tuesday despite the market's broad retreat.

Revenues fell 5 percent to $24.0 million from $25.2 million.

The quarterly figures included the results of electronic futures broker Open E Cry LLC, acquired in July.

“We believe our experience and expertise with derivatives products has clearly been a differentiator in these volatile markets,” said David Fisher, optionsXpress chief executive officer, during a Tuesday conference call.

Fisher noted that customer activity increased in September as markets gyrated. Picking up accounts from other firms struggling to manage risk, optionsXpress expanded the number of customer accounts by 18 percent last month, and trading volumes have been robust through the first three weeks of October, he said.

Fisher also attributed account growth to resilient investors and the educational resources available through the company’s Web site.

optionsXpress added seven new features to its user-friendly brokerage platform in September, simplifying stock options and futures trading for the now more than 305,200 retail investors who utilize its Web site.

Mark Lane, an analyst at William Blair & Co. LLC in Chicago, called the increase “the best indicator of growth in the company’s franchise,” in a September note.

“We believe the company’s enhanced marketing efforts are paying off,” he said.

Part of the company’s fifth major site release this year, the Web site enhancements include a calculator that displays the outcome probabilities for touching and finishing higher or lower than a specified price; a feature that allows the customer to pin five stock symbols to a search box; a watch list customization feature that enables customers to set alerts for gain, loss, price and volume for any symbol; and Trading Edge, a section of the Web site that provides customers with a new potential investing opportunity each day for stock and futures trading.

optionsXpress also added streaming Dow Jones Industrial Average, NASDAQ and S&P 500 indices to its charting pages.

Regarding the company’s three ways to generate revenue—signing up new accounts, increasing trading activity or raising prices—Morningstar Inc. analyst Patrick O’Shaughnessy commented in a note that the firm had picked “the lowest hanging fruit in terms of potential new accounts.” He observed that optionsXpress “recently had to double advertising spending to get its new-account growth back to acceptable levels.”

Over the past two years, the total number of customer accounts has grown steadily and is expected to reach 350,000 by the end of the year, according to William Blair & Co. Historically, revenues have also remained positive. As a self-funded brokerage operation, optionsXpress has zero debt. This enables the company to pay a growing dividend, currently 32 cents on an annualized basis, without borrowing.

During Tuesday’s call, Fisher described optionsXpress’s marketing initiatives as dually focused on successful investing in a challenging market environment and offering safety and stability to investors.

One such initiative is the company’s webinar series on investing in volatile markets. After advertising on the optionsXpress home page as well as through banners and limited print advertisements, Fisher said the turnout for these events has been good.

optionsXpress is also taking steps toward long-term growth. The company paid about $18 million for Open E Cry LLC, a Powell, Ohio-based futures broker offering direct access futures trading for high volume commodities and futures traders through its proprietary software platform, OEC Trader.

Additionally, brokersXpress Illinois Inc., a subsidiary of optionsXpress, is set to acquire Horwitz & Associates Inc., an independent broker, dealer and investment advisor, for $4 million. Fisher said Tuesday that the acquisition should close around the end of the year.

As of Sept. 30, Riverwoods, Ill.-based Horwitz & Associates had 28 registered representatives and advisors, over 4,000 accounts and $1 billion in customer assets.

Expanding globally, optionsXpress announced in September an agreement to provide access and execution service for trading in U.S. markets for customers of Reliance Money Ltd., India’s largest stockbroker.

Reliance will refer its customers exclusively to optionsXpress for trading of U.S. products.  And optionsXpress will be able to refer eligible customers to Reliance for trading in Indian markets.

“While this agreement may broaden the geographic reach of optionsXpress, we expect a minimal contribution from the agreement over the next several quarters,” said William Blair’s Lane in a note.

In response to last month’s announcement of the Reliance deal, William Blair lowered its third-quarter earnings and yearly earnings estimates several cents to 35 cents per diluted share and $1.52 per diluted share, respectively.

Still, Lane is optimistic about the company’s future as a whole.

 “While the options market defines the company’s niche currently, management remains focused on being a one-stop shop where clients cannot only focus on options trading, but also equities, mutual funds, bonds and futures,” he said.

William Blair rates the company as outperform, or buy.

“The underlying franchise continues to expand," Lane stated, "but overall retail market conditions will dictate near-term growth, and equity markets need to stabilize over the next quarter or two for the stock to outperform, in our opinion.”

optionsXpress stock closed at $14.42 Tuesday, up $1.77.  Its 52-week high was $34.95 on Dec. 27, 2007, the low $10.50 on Oct. 10.