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November 20, 2006

The Nymex IPO - Why Nymex Holdings Is Worth $500

posted by MR WAVETHEORY at 11/20/2006 08:37:00 AM
Nymex Holdings Inc. goes public on NYSE.

The Nymex Holdings, Inc. IPO (NYSE NMX) is one of the most successful this year. Investors who bought it want to know: Can it go higher? Investors who don't own it want to know: Can I buy it lower? Let's cut to the chase. We all know we have a bubble in financial exchange stocks. The question is: Is this the beginning or the end of a bubble? I think we're at the beginning of a bubble and to settle this question once and for call, I am making a Henry Blodget type call. My price target for Nymex: $500.

A Dotcom B2b Exchange Story
My personal favorite bubble stock was CommerceOne. This little bugger went from next to nothing to $1000 per share based on its B2B exchange technology. CommerceOne had contracts with GM to build a hub for doing something. Something turned out to be nothing - particularly useful that is. It had eyeballs. It had customers, but no profits to speak of. Yet, the stock kept climbing day after day. Soon enough, this miscreant had climbed to $1000 based on what? A B2B exchange story, pure and simple. There were financial models built to support the $1000 stock price, but no actual financials to support it.

The Nymex Exchange Story
I'm happy to report that the story behind Nymex is better than the one behind CommerceOne. In fact, in addition to customers, Nymex has this special thing called revenues. It's even got profits. Nice huh? Yeah. In fact, revenues were $314 million in the 9 months ended September 2006 vs $204 million in the same period in 2005. That's a healthy growth rate of 53% that any company would die for. But get this, profits grew from $50 million to $112 million - more than doubling. So, you ask, why will this $12 billion exchange be potentially worth $60 billion?

Why Nymex is really worth $500 per share
I believe that the profits are way under optimized at the Nymex. If you look at the full year data below, you'll see that profits at Nymex have tripled every year for the last 3 years.

FY Profits
2005 $71.1 million
2004 $27.3 million
2003 $8.8 million

If Nymex doubles earnings for the next three years, it will earn close to $560 million in profits in 2008, $280 million in 2007 vs $140 million in 2006. Given the grow rate of earnings of 100% per year, one could argue that the P/E ratio should be 100. Place a 2008 P/E ratio of 100 on that $560 million profit number, and you arrive at $56 billion valuation. Today, Nymex is worth $12 billion. In the future, Nymex is worth $650 per share.

You may be questioning my logic. If so, then assume that Nymex grows earnings by 100% between 2006 and 2007 and then 50% between 2007 and 2008. Then, earnings will reach $420 million by 2008, $280 million in 2007, and $140 million in 2006. Apply a P/E of 75 on that 2008 number and you get a $31.5 billion market capitalization. That's still 2.6 times the current price of $12 billion. That's $341.25 per share.

Average the two numbers $650 and $341.25 and you get $446.875. Round it up to the nearest whole hundred dollar figure for ease of comprehension and you get $500.

Chances are I think the story gets better with Nymex because Nymex is not even close to being a fully electronic exchange. With electronic trading, volume will skyrocket and profits with it.

Shortage of Nymex Shares
The Nymex IPO was massly oversubscribed for a reason. I just gave you the reason based on a financial analysis of the business. Now, I will give you the speculator's reason based on supply and demand. Understand that only 6.5 million shares of Nymex were issued during the IPO. If you add up all the 10,000 hedge funds out there that want a piece of this story with the tens of thousands of mutual funds that need to own some financial exchange, that makes for quite a bit of demand for a stock like Nymex. In fact, let's take that 10,000 hedge fund number. If each of those hedge funds bought 1000 shares of Nymex, then there would be a massive shortage of shares. In fact, there would be a shortage of 3.5 million shares.

Is 3.5 million shares significant? Sure it is. When a hedge fund buys shares, it's got to do something for the performance of the fund. The reality is that 1000 shares is just $130,000. In order to make any difference, most funds would have to buy closer to 10,000 shares of Nymex or $1.3 million. Now, the story gets interesting doesn't it?

If each hedge fund bought 10,000 shares of stock, we're talking about demand of 100 million shares of stock. We're talking about a supply imbalance of 93.5 million shares of stock. Supply is 6.5 million shares and demand is 100 million.

I think we have a long ways up to go before we hit the top on Nymex.

Why $500?
I chose $500 as the magic number because that is half way between $1000 and $0. I assume there are 50% odds that the stock goes to $1000 and there are 50% odds that the stock goes to $59. Round it to the nearest hundred dollars. $500.

Nymex Holdings is a must own stock. Here's some food for thought.

1) Before you go out buying Nymex, understand that exchange stocks like Nymex are in a bubble. However, this is a different type of bubble. It is a fundamentally driven bubble. Nymex has very strong financials that any company would envy. In this particular way, Nymex is very different from an internet stock.

2) Because there is a bubble, only buy it for non retirement accounts. In fact, I don't think anyone should use retirement money to buy exchange stocks because they could gain or lose 10 or 20% in a single day. In this particular sense, they are very similar to Internet stocks.

3) If you buy Nymex, expect volatility. In fact, I wouldn't be surprised if the market makers decide to bring this stock down so they can load up. After all, it's about buying low and selling high. So, plan appropriately. Buy in small lots and a few shares at a time.

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4 Comments:

Anonymous Anonymous said...

We could be in the middle of the bubble. Throw a baseball up in the air..gravity pulls it back. Is the ball still going up..slowing for its return? I'm not sure. Alot of the blowout earnings have been the result of the huge bubble in energy and metals trading over the last 18+mos. That spike in volume, boosted profits... but will that train keep rolling in the coming quarters. Sure you can take up the numbers 53% once.. maybe twice, but to continually do it in a mature industry??? Please let me know what your thoughts are from a different perspective. Thanks.

12:03 PM  
Anonymous Anonymous said...

I don't mean to burst your naive bubble...There are 100 million shares of NMX. What you fail to realize is that the other 93.5 million are owned by NYMEX and COMEX seat holders who received shares in return for there seats in the recent deal, NYMex seat=90000 shares Comex seat=8400 shares. These shares can hit the market in 6,12 and 18 months. So much for your small # available shares theory. Also, a company making 180 million and a company making 600 million are very different things. Growth slows as companys grow. Thats how it works. Its alot easier to double 100mil thenit is 250mil. This is a $100-$150 stock, with the possiblity of a spike from speculators. Sorry buddy. And im long 8400 shares, so dont call me a hater.

5:09 PM  
Anonymous Anonymous said...

Gentlemen,
At this time globalisation is on fire and specially nymex with being most liquid market for energy futures , is clearly a leader. Remember the biggest and most liquid commodity exchange , and still strategic with cross country energy exchanges (dubai, india , europe etc).
you won;t see $500 yet, not like CME saw in less than 2 years , but with time you definitely looking atleast $250-$350 in 2 years

8:46 PM  
Blogger MR WAVETHEORY said...

You sound cautiously optimistic which is fine. You make a fair point there are roughly 100 million shares. On the other hand, the lockup won't expire some time, so there is a while to go. Meanwhile, I expect Nymex to keep announcing good news. With the $500 million Interactive broker IPO on deck, I think Nymex can easily go to $250.

12:11 AM  

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