Interactive Brokers Group, Inc.

Ladies and gentlemen, thank you for standing by, and welcome to the Interactive Brokers Group First Quarter Financial Results Conference Call. At this time, all participants are in listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask the question during this session, you will need to press star then 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star then 0. I would now like to hand the conference over to your speaker for today. Nancy Stubbe, Director of Investor Relations. You may begin.

Thank you, Operator, and thank you, everyone, for joining us for our first quarter 2021 earnings conference call. Once again, Thomas is on the call, but asked me to present his comments on the business. He will handle the Q&A. As a reminder, today's call may include forward-looking statements, which represent the company's belief regarding future events, which by their nature are not certain and are outside of the company's control. Our actual results on financial condition may differ, possibly materially, from what is indicated in these forward-looking statements. We ask that you refer to the disclaimers in our press release. You should also review a description of risk factors contained in our financial reports filed with the SEC. Q1 was an absolutely spectacular quarter. I have never seen anything like this in over 50 years on Wall Street. And those are Thomas's years, not my years. While we have had some other very active quarters in the past, there were two unique features about this one. First, that it seemingly happened in parallel and in tandem across all geographies around the globe. And second, that the feverish activity appeared to be led much more by individual investors than by institutions. You can explain all this by the combination of both the slowly spreading electronic connectedness of individuals to each other and to institutions and businesses, including the financial markets, as well as by the sudden worldwide spread of the virus. The activity started to rise slowly, along with the advancement of the virus in March 2020, picking up speed towards the end of the year. It reached its crescendo towards the end of February and has been subsiding since. Where will we end up? I think the impact of the virus will disappear. but the resulting increasing reliance by the public on electronic communications, on working and meeting from a distance, and on gathering in larger asynchronous groups, including groups of investors, will remain. As for interactive brokers, I would expect that the sudden growth spurt will soon be over and we'll return to our historic account growth rate in the high 20s percent, but now from a substantially higher base. And that is only if, of our many new tools, products, or ideas that we continuously develop and add to the platform, none really hit the jackpot. If they do, we'll grow faster. Just kidding. We do not realize that any one particular feature or aspect of our platform will hit the jackpot. But what we do expect is that as we become better at enabling our customers to navigate through our numerous high-quality features at ever-greater efficiency... And as we establish individualized work environments and tools for them, the superior customer experience will become ever better known and spread by word of mouth. And now to go over these outsized numbers. We ended the quarter with a record 1,325,000 accounts, a net increase of over 565,000 from March 2020, or 74%. We saw account growth in all client segments and all geographic regions, In fact, accounts grew nearly equally in the three geographic regions we serve, the Americas, Europe, and Asia. Client equity more than doubled to a quarter-end record of $330 billion. As our customer base grew, darts and darts per account rose as well. Total darts for the first quarter were $3.3 million, up 128% over last year and 57% over the fourth quarter, while darts per account rose to $622 million. the highest in nearly 10 years. While our business is strong even with moderate volatility, the highly automated nature of our platform and our low-cost structure mean that higher trading activity sends a greater proportion of revenues to our bottom line. This quarter, our pre-tax margins were strong at 72%. Adjusted for non-core items, our pre-tax margin reached 68%, up from 61% a year ago. In addition, our capital base has grown even stronger during this period, with total equity reaching $9.4 billion this quarter. This base has helped us to attract larger customers, as well as reassure the increasing number of clients looking to participate in the markets. We saw growth, including record growth in some segments, in all five of the client types that we service. I will now go over our five client segments. Individual customers who made up 62% of our accounts, 36% of our client equity, and 54% of our commissions continued their run of record growth this quarter, with 12-month account growth more than doubling to 107%, and even higher client equity growth of 109%, while commissions grew 66%. This includes the roughly 57,000 less active accounts we took over from Goldman's folio purchase. In addition to the aforementioned factors, Continued active interest in the markets by investors worldwide, increases in market indices, and investor desire to improve on the zero interest rate environment alternatives are some of the reasons behind this strength. All geographic areas we serve saw triple-digit growth in individuals with close to uniform growth rates across the Americas, Europe, and Asia. This proves the importance of providing a reliable platform to a global audience offering wide product choices and worldwide access, and demonstrates that clients want the maximum opportunities to invest in the variety of ways they prefer. We continued to see growth in the hedge fund customer segment. For the 12 months ended March 31, we saw 3% hedge fund account growth, 69% customer equity growth, and 12% commission growth. Strong customer equity growth well outpaced industry asset growth of under 10%. We continue to benefit from our reputation for best price execution, low and transparent margin and securities financing rates, the quality of our platform, and the strength of our balance sheet, and we keep inching up in Prequin's ranking of prime broker custodians. Hedge funds represent 1% of our accounts, 7% of our client equity, and 6% of our commissions. Proprietary trading firms are 2% of our accounts, 9% of client equity, and 13% of commissions, For the quarter, this group grew by 35% in accounts for the 12-month period, 57% in client equity, and 31% in commissions. Prop trading firms are sensitive to the direction of volatility and trade more as volatility increases. Continuing strong volatility led to more active trading strategies, while accounts and client equity grew due to more traders wanting to be on our platform to capitalize on its reputation for seamlessness and efficient trade executions. Financial advisors are 10% of our accounts, 16% of our customer equity, and 11% of our commissions. This group grew accounts by 21% for the 12-month period, customer equity by 66%, and commissions by 11%. Account and client equity growth show our increasing penetration of this segment. Commissions were up by less than account and equity growth, as advisors typically tend to trade more conservatively. Our independent advisor business is small relative to Fidelity or Schwab, but while these firms emphasize the advisor and individual segments only, we also cater to hedge funds and prop traders who are a more demanding group as far as certain functionality is concerned. We build infrastructure for each client segment and make it available to all. As a result, our platform has the richest set of tools and capabilities, and with this strategy, we get better and grow faster in each of our customer segments and our peers. As published reports indicate, when RIAs are asked to rank nine brokers, Schwab, Fidelity, Morgan Stanley, Bank of America, LPL, Edward Jones, Stiefel, Raymond James, and Interactive Brokers, our RIA offering ranks third of the nine among most liked and seventh of the nine among most disliked. Even more promising, we were also the most improved from year to year among all. Large advisors would work best by using three custodians and giving us the most active and most leveraged accounts due to our superior execution and margin rates. Our final segment is Introducing Brokers. These represent 26% of our accounts, 32% of our client equity, and 16% of our commissions. iBroker segment account growth was 48% for the latest 12 months, while client equity more than doubled, growing 169%, and commissions by 165%. Interactive Brokers Platform provides the global trading and seamless back office functionality critical for brokers who want to provide a global offering so they can capture clients worldwide who seek to invest and want to be able to access many markets in order to do so. We are excited about the opportunities for 2021. We have placed enhanced focus on our marketing efforts, and we have continued to increase spending in this area over the past year and expect to continue to do so this year. We are coming out in the current quarter with several new, exciting tools and products. It is this endless procession of new interactive brokers' products and services that is the foundation of our rapid growth. In this regard, quality truly outshines quantity. More and more online brokers pop up every day all over the world. They all offer trading tools, trade executions, and custody, and each has some angle that is their specialty. but how are they going to compete with the established brokers' platforms that have been evolving for many years? They will not be able to. It is the platforms with the best dollar in prices and highest quality of tools and services that will ultimately attract those users who seriously search for what suits them the best. This is our moat, and we will continue to widen it this year and onwards. With that, I will turn the call over to our CFO, Paul Brody, who will go through the numbers for the quarter.

Thank you, Nancy. Thanks, everybody, for joining the call. As usual, I'll start by reviewing our first quarter operating results and the non-core items, the main factors that drove those numbers, and then we'll open it up for questions. Beginning with the operating data, record levels of account openings and trading drove strong operating metrics aided by continuing high global market participation in the face of zero to negative interest rates. While market volatility came down a bit, Industry volumes, especially in stocks and options, continued their upward march, and trading by our active trader customer base surpassed even the industry's brisk increases. Volatility, as measured by the average VIX, fell from the unusually high levels it reached last year at the outset of the coronavirus pandemic, a time of great uncertainty. The average VIX fell from 31 in the first quarter last year to 23 this quarter. consistent with the mid-20s levels seen in the second half of 2020. Continued global interest in financial markets amid the search for higher yields led to higher industry trading volumes in most products. Compared to the first quarter of 2020, our quarterly total DARTs more than doubled, rising 128% to a record 3.3 million. Our customer trade volumes rose dramatically in several product classes, led by increases of 72% and 411% in options and stock volumes respectively. Stock volume was inflated by trading in low-priced stocks, though even after removing that effect, the share volume still rose 134%. Futures volumes declined 17% due to this quarter's comparison to the extremely active futures volume of March 2020, but this quarter still ranked as our fifth-highest. FX dollar volumes this quarter were lower as investors turned their focus to equity markets. Total accounts reached a record of 1,325,000, up 74% over the prior year, contributing to customer equity more than doubling from the first quarter of 2020 to $330.6 billion. Our overall average cleared commission per commissionable order fell 30% versus last year to $2.31, on a product mix that featured smaller average trade sizes and options futures in Forex. Another factor contributing to this decline was our continued success in capturing liquidity rebates, some or all of which are passed through to our clients. These rebates reduce the overall commission our clients pay, which decreases the average commission per DART. But they also reduce the exchange fees we pay on the expense side, making their overall impact neutral to our bottom line. Moving to our net interest margin table, our net interest margin narrowed from 1.45% to 1.26% year-over-year, partially but not fully impacted by the drop in average U.S. benchmark Fed funds rate from 125 basis points to eight basis points, and as most rates worldwide remained at or below zero. In light of the flat yield curve, we kept the duration of our portfolio relatively short and recorded an immaterial mark-to-market loss on our holdings of U.S. Treasuries. Outside the U.S., benchmark interest rates remain zero or negative in nearly all currencies as central banks continue trying to soften the impact from the pandemic. This has led, over the past few quarters, to interest earned on credit balances where we pass through negative rate costs on these currencies. As a reminder, about a quarter of our customer credit balances are not in U.S. dollars, and so changes in rates that occur in the U.S. do not apply to all of our balances. Securities lending and margin loans were the largest contributors to our net interest income. Securities lending was particularly strong this quarter. Utilizing our in-house developed system, our team executed on opportunities to lend hard-to-borrow names that investors were looking to short. Net interest income from securities lending reached a record $175 million this quarter up 182% year-over-year. Average margin loan balances rose 47% versus last year as investors grew more comfortable taking on risk and leverage. Even with the decline in the Fed Fund's effective rates of near zero, higher year-over-year balances led to only a 16% decline in margin loan interest income from $139 million to $117 million. Lower rates also reduced our earnings on segregated cash, where despite a 38% increase in segregated cash balances, interest income fell along with benchmark rate. The drop in yield from six basis points in the fourth quarter to two basis points this quarter was also affected by inflows in currencies with negative interest rates. Note that for accounting purposes, our FDIC suite program, which expanded by 11% over the prior year, removes funds that would otherwise be included in segregated cash balances on our balance sheet. Now, for our estimate of the impact of the next 25 basis point increase in rates, in calculating the impact of rate changes, we understand that as the possibility of future rate increases becomes more certain, this expectation is typically already reflected in the yields of the instruments in which we invest. Therefore, we attempt to isolate the impact of an unexpected rise or fall in rates separate from the impact of rate hikes or cuts that have already been baked into the prices of these instruments. With that assumption, we would expect the next 25 basis point unanticipated rise in rates to produce an additional $105 million in net interest income over the next four quarters and $110 million as the yearly run rate based on our current balance sheet. Our net interest income is highly sensitive to small rate increases due to the impact of low benchmark rates on the spread between what we earn on our segregated cash and what we pay to our customers. As U.S. rates fell below 50 basis points, our spread compressed as we earned less on our segregated cash. However, the converse is also true, that as rates moved back up toward 50 basis points, the spread rises. The $110 million run rate includes the reinvestment of all of our present holdings at the new assumed rate, but does not take into account any change in how we may manage our segregated cash. A 25 basis point unanticipated fall in rates would produce a decline in net interest income of $37 million over the next four quarters and $38 million as the yearly run rate. Turning to the income statement, We define non-core items as those not part of our fundamental operating results. Non-core adjusting items versus the year-ago quarter are as our currency diversification strategy lost $49 million a year ago versus a loss of $2 million this quarter, so a comparative increase in income of $47 million. Investment gains and losses rose from a loss of $11 million to a gain of $99 million this quarter for a $110 million swing, and mark-to-market on U.S. government securities went from an $11 million gain to zero this quarter, a comparative decrease of $11 million. The net effect of these adjustments increased pre-tax income by $97 million this quarter, a positive shift of $146 million over last year's quarter. Net revenues were a reported $893 million per quarter, up 68% versus last year's first quarter. Excluding non-core items, net revenue was up 37% to $796 million. Commission revenue rose 53% on significantly higher volumes, particularly in stock and options. Our average cleared commission per commissionable order was $2.31, As noted earlier, smaller average trade sizes in options, futures, and forex, as well as our continued successful capturing of execution rebates, which largely are passed back to clients, contributed to this number. Net interest income rose 19% to $305 million, despite a 118 basis point decline in the average effective Fed funds rate versus the year-ago quarter, thanks to growth in our balance sheet, higher margin loan balances, and our successful securities lending efforts. Other fees and services revenues, which include market data, exposure, account activity, FDIC bank suite program, and IPO facilitation fees, as well as order flow income from options exchange mandated programs, rose 47% to $56 million. The top three contributors were market data fees, which were up $6 million, options order flow income, which was up $3 million, and IPO facilitation fees, which were up $7 million. Other income, which includes the gains and losses on our investments and currency diversification strategy, as well as principal transactions, swung to a gain of $120 million from a loss of $31 million in last year's quarter. Ex non-core items, other income increased 25% to $23 million. Non-interest expenses were $254 million a quarter, up 13% from last year. Larger exchange liquidity rebates drove a 12% reduction in execution, clearing, and distribution fees to $68 million, despite the higher volume. As mentioned, a portion of these rebates are passed through to our clients and are reflected in reduced commission. Fixed expenses were $184 million, up 31%, driven by a 21% increase in compensation and benefits in line with the hiring that supports our growing brokerage business, and by G&A expenses. At quarter end, our total headcount stood at 2,187, a 28% increase over last year. We have been hiring aggressively in client services to support the influx of new accounts, as well as in compliance and software development. This quarter, G&A included $19 million related to licenses and fees required to set up operations in Europe due to Brexit. Going forward, we will have some annual regulatory fees, as we do in all countries in which we are registered, but this $19 million will not be recurring. Customer bad debt expense was $2 million, well contained for a highly active trading period. Reported pre-tax income more than doubled from last year's quarter to $639 million for a 72% pre-tax margin. And excluding non-core items, pre-tax income rose 52% to $542 million for a 68% pre-tax margin. Diluted earnings per share were $1.16 for the quarter versus 60 cents in the same period in 2020. and X non-core items, diluted earnings per share, or 98 cents versus 69 cents as adjusted last year. To help investors better understand our earnings, taxes, and the split between public shareholders and the non-controlling interest, the first quarter numbers are as follows. Starting with our pre-tax income of $639 million, We deduct $26 million for income taxes paid by our operating companies, which are mostly foreign tax. Note that we had a $6 million addition to what we normally would have expensed related in part to consolidating our European operation in the aftermath of Brexit. This leaves $613 million, of which 78.2%, or that $479 million reported on our income statement, is attributable to non-controlling interest. The remaining 21.8 percent, or $134 million, is available to the public company shareholders. As this is a non-GAAP measure, it is not reported on our income statement. After we expense remaining taxes owed by the public company of $27 million on that $134 million, the net income available for common stockholders is the $107 million you see reported on our income statement. Note that the public company's tax is proportionately higher, primarily because IBG Inc.' 's ownership rose from 18.5% to 21.8%. Our income tax expense of $53 million consists of this $27 million plus the $26 million of taxes paid by the operating company. Turning to the balance sheet with $9.4 billion in consolidated equity at March 31st, 2021, we're well capitalized from a regulatory standpoint. We deploy our strong capital base towards opportunities to grow our business and investing opportunities worldwide, as well as to emphasize the strength and depth of our balance sheet to current and prospective clients and partners. Our capital is deployed across 14 registered broker-dealer type entities around the world, supporting regulatory capital requirements, liquidity needs, margin lending, and other financing opportunities in our growing brokerage business. And we continue to carry no long-term debt. With that, I'll turn it over to the moderator, and we will take questions.