Would you buy FXCM? If I was a large broker, I would. Opinion and analysis

FXCM’s towering global presence and customer loyalty makes it one of the largest FX firms in the world, however its market capitalization is small compared to the British and North American establishment. We take a look at the facts and figures and why this is important

fxcm water street

FXCM is often cited as being one of the world’s largest FX brokerages, and in terms of the size of its client base, global reach and total amount of retail FX obligation, that is an absolutely appropriate accolade, however in terms of its value as an organization, several large firms have much more fiscal clout.

The publicly listed electronic trading companies are often the longest established and most well-recognized, and are also subject to continual public reporting to regulatory authorities and the respective stock exchanges upon which their shares are listed.

This creates a monthly competition in terms of corporate revenues and generates a sort of unofficial league table upon which the strength of each brokerage can be measured against its publicly listed peers.

It is important to consider that the volume figures that are reported by all brokerages are often not a measure of corporate performance, as there are many ways to provide such information, and whilst it is an obligation for publicly listed FX firms to report their revenues, expenses and operating capital just as any other company in any other industry sector would so that the balance sheet is transparent, the volumes are not a requirement and often, as recently pointed out in a report by FinanceFeeds, must not be taken literally.

It is clear that in today’s environment, consolidation of brokerages in all regions is likely to be on the agenda as a natural progression from a crowded retail FX sector with many similar products being offered by similar brokerages, thus strengthening by acquisition is often the case once this stage is reached, rather like North America’s retail banking business, in which 37 banks have become 4 since 1996.

Let us take a look at a hypothetical scenario, and then place the figures on it to bring it into an exercise in calculation of potential gain.

FXCM, which was established in New York in 1999, having been co-founded by current CEO Drew Niv, one of the most astute senior executives in this entire industry, is a publicly listed stalwart, with offices in many important locations globally, and a vast, wide-reaching client base of loyal customers.

Strength and pedigree among peers

During the early part of this decade, FXCM embarked on an acquisition spree, buying specialist technology provider Faros Trading, a company that provides intelligence, market coverage, and execution services.

$15.6 million in November 2013, 50% of institutional FX market maker Lucid Markets in June 2012 for $176 million at which point Lucid Markets CEO Matthew Wilhelm joined FXCM as a board director. He subsequently began selling FXCM stock, cashing out over $12.1 million worht in just two years.

The company then purchased the MetaTrader 4 retail client base from IBFX in September 2014 for $4.4 million, and then in a joint deal with Saxo Bank, FXCM participated in the acquisition of CitiFX Pro’s client base – that being a $30 billion per month institutional margin FX business when Citi dumped its non-bank efforts.

Back in 2013, FXCM proposed to purchase GAIN Capital, which was withdrawn in the spring of that year, however this shows its ability to make large scale purchases of serious competitors.

Just six years ago, FXCM’s acquisition of ODL Group made it the world’s largest brokerage.

FXCM still owns 32% of FX electronic communication network (ECN) FastMatch, operated by CEO Dmitri Galinov, which operates a matching engine to operate spot FX and metals from the Equinix NY4 facility; and a matching engine that enables European clients to access real time quotes and trade information. The company serves retail brokers, institutions, banks, hedge funds, and proprietary trading firms in the United States and Europe, has presence in London with a further matching engine, and is a highly profitable business.

Then came the Swiss National Bank’s sudden decision to remove the 1.20 peg on the EURCHF pair, exposing many firms, including FXCM, to negative client balances. FXCM took a $300 million loan from Leucadia, and its stock prices languished at less than a dollar for over six months.

In December last year, FinanceFeeds met FXCM CEO Drew Niv at his office in New York, and at that time only 15 months had passed since the removal of the EURCHF pair by the Swiss National Bank, however FXCM as a corporate structure remained a bastion of stability, almost completely intact (aside from the sale of some non-core assets such as Faros Trading to Leucadia’s Jeffries), and looked forward to as strong a future as it did prior to the event which caused so much commercial devastation to many firms.

At that time, Mr. Niv spoke candidly about how he so effortlessly steered the company through this extreme event with such aplomb that the company remains as it was in terms of volumes, client base, staff and commercial strength.

Mr. Niv explained to FinanceFeeds “If you look at FXCM today, it is effectively the same company as prior to January 15 2015. Most of our customers stayed, almost all of the staff stayed. We did sell some non-core assets and for a few months we had some losses, however we kept the market share in tact. What many people don’t realize is that we effectively plugged the capital shortfall with Leucadia’s loan.”

Market Cap of $50 million is far smaller than very quiet competitors, but reach and customer base is gigantic and loyal

In terms of actual impact on the business as a result of attrition, Mr. Niv explained “The customers that we lost were mainly some of the large customers. The total number of our clients that were actually affected by the market volatility that followed the SNB’s decision approximately 3,000 customers which comprised of around 200 here in the United States, and the rest were overseas.

Mr. Niv said “This is a small amount, especially when bearing in mind that some were inactive customers. There were also some customers which stayed with FXCM but deposited less funds because, for example, they were happy to continue trading but would prefer to hold $50,000 in the company rather than $1 million.”

This is significant and of great importance to bear in mind, because when looking at the size of FXCM by comparison to its actual market capitalization and commercial value, there is a very interesting point.

FXCM’s market capitalization is only $50 million. This is actually very small compared to many other FX firms in America and Britain, yet the actual corporate figures are vast.

In the US, the National Futures Association (NFA) requires all Forex dealers to maintain $20 million in net capital. FXCM maintains $53 million. It states its net capital adequacy requirement at $32,316,861, therefore is more than $20 million in the clear as far as regulatory capital is concerned.

The company has a total of $182 million in retail FX obligation, that being the metric which represents the total amount of funds at an American retail FX dealer that would be obtained by combining all money, securities and property deposited by a retail forex customer into a retail forex account or accounts, adjusted for the realized and unrealized net profit or loss. It is also FinanceFeeds understanding from detailed research that FXCM’s customer service is one of the best in the business.

Even in China, a completely closed market, FXCM is one of the most favored firms by Introducing Brokers (IBs) in second tier cities from Shenzhen to Zhengzhou, and Guangdong to Chengdu that are producing over 100,000 lots per month in volume from palatial offices that resemble those of a large brokerage firm in its own right. When asked if they would consider moving away from FXCM, the unanimous answer is no.

Nobody likes to talk about the money they owe to a creditor, however Mr. Niv’s open and concise explanation goes hand in hand with his remarkable acumen. He summarized the current position at the time of our meeting in December last year in that “$117 million has already been paid, and the entire balance will be completely paid.”

FXCM during 2015 disposed of further non core assets including the sales of the equity trading business of FXCM Securities Limited, FXCM Asia Limited, FXCM Japan Securities, Co., Ltd., and the operations of Faros.

FXCM continues to explore opportunities for the sale of additional non-core assets, including Lucid, V3 and its equity interest in FastMatch, Inc however it is possible that FastMatch will be retained as much as is commercially possible because it is a very important asset to the company because whilst it is not core business (ECN is not FXCM’s mainstay – retail FX is) it is very profitable.

Now bearing all of this in mind, let’s take a look at the market capitalization figures.

FXCM, with its vast global business, has a market capitalization of just $50 million, which is £37 million. FXCM reported a net loss in 2015 of $932,797 meaning no dividends and no tax liability for the year.

Recently listed CMC Markets in London only floated 31% of its stock when it became a public entity on the London Stock Exchange’s main market this year, however the company’s market capitalization is £827 million, which although almost 8 times higher than that of FXCM, is a relatively small gulf compared to the others.

IG Group’s market capitalization is £3.1 billion, Hargreaves Lansdown, which only serves British customers and has no institutional business whatsoever is worth £5.91 billion and is the largest financial services company in Britain.

Plus500 is worth £873.9 million and has absolutely no sales force and very few operating costs.

Back on FXCM’s side of the Atlantic, Interactive Brokers has a market capitalization of $15.12 billion and has an adjusted net capital figure of $3 billion. It has $206 million of excess funds in segregated accounts and $2.9 billion of client assets in segregated accounts.

That is a gargantuan company indeed, and yet it has very little reach in some of the key markets in which FXCM has massive customer loyalty.

GAIN Capital has less adjusted net capital than FXCM at $40 million, and has just $130 million in retail FX obligation. Although small compared to Interactive Brokers, its market capitalization is $340.33 million making FXCM a very easy target.

The original terms

“If you were going to lend someone $300 million, how much due diligence would you do on them? Probably months, using auditors and lawyers, and even then, you would be careful. Leucadia had one day to decide, and they had to trust us. I gave my word that I would stay and give them their money back. They had to take my word for it and as a result were safeguarding themselves, which I consider to be absolutely normal business practice” said Mr. Niv.

The emphasis here must be on the terms being applied due to the short time, and not due to any predatory mindset from Leucadia. “We did this deal on the strength of history and on who we are. They did it on a whim that they are backing the market leader” stated Mr. Niv. This is not to be taken lightly as Leucadia is a vast, publicly reporting company that is astute and knows its business very well indeed.

Mr. Niv stated that the company’s market capitalization is smaller because of the reverse share agreement. Apart from that everything is the same. “If you make massive changes, it will make customers leave” said Mr. Niv.

“Looking at the next few years, we will stay within our retail FX roots with a much smaller and different looking institutional business,” explained Mr. Niv during our meeting in December. “FXCM Pro will service retail brokers, small hedge funds, largely algos and HFTs through prime of prime using core technology, as well as our whole sale business” he concluded.

An interesting prospect? I should say.

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