The past year has been difficult for the stock and bond markets, as anyone who sees their year-end performance in their 401(k) can attest. This difficulty can also negatively affect the stock exchanges.
Over the past year, Nasdaq (NDAQ -0.89%) has taken steps to reduce its reliance on services that correlate with the stock market. The stock was rocked on disappointing earnings, however the company laid out how some of its new initiatives will reduce its correlation with the overall stock markets.
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Nasdaq focuses on serving the capital markets and financial industries. The company offers data and analytics as well as software and services. It recently reorganized into three operating segments: market platforms, capital access platforms, and anti-financial crime. The market platforms segment includes trading and market technology. The capital access platform segment includes listing services, indexes, and workflow solutions including environmental and social governance (ESG). Finally, the anti-financial crime segment offers a software solution that helps financial institutions monitor and detect fraud and money laundering.
The ups and downs of the stock market are the biggest drivers of performance
Market platforms accounts for just over two-thirds of Nasdaq's revenue and it is tied to the overall performance of the stock market. Unfortunately for the company, trading volume usually declines in a bear market. The capital access segment is also affected by the overall trends in the stock market. During a bull market, investor appetite for initial public offerings (IPOs) usually increases. Index revenue, which is based on assets under management, rises and falls with the fortunes of the stock market. This is one of the reasons Nasdaq is focusing on diversifying away from businesses that are highly correlated with market movement.
Nasdaq is taking steps to diversify its offerings
The anti-financial crime segment is by far the smallest segment; however, it is experiencing much faster growth than the other segments. In the fourth quarter, the segment increased revenue by 21%, and operating margin increased from 25% to 32%. Financial crime is a major focus of regulators and banks, which run the risk of running afoul of regulators if they have insufficient policies and procedures to detect and address financial fraud and money laundering. Nasdaq sees this as an $18 billion total addressable market, which it has only begun to penetrate. This segment is expected to grow at above-market rates for the foreseeable future and Nasdaq sees it as a core growth area.
Workflow and insights includes the recent acquisition of Metrio, an ESG data and reporting platform. ESG continues to be an important consideration for many investors and Nasdaq sees this as a big growth area for the company.
Disappointing numbers, but the company should be a steady performer going forward
Nasdaq's earnings did disappoint, and Wall Street was unhappy with the company's forecast for a 5% rise in operating costs next year. That said, revenue rose 7.8% although earnings per share fell from $0.51 to $0.48. The company did hike the quarterly dividend as well. Nasdaq didn't give much to work with in terms of outlook. While anti-financial crime and ESG represent areas that should grow regardless of the stock market, the overall business of stock trading, data, technology, and issuer services will drive the business. Nasdaq still has a strong competitive moat and has little competition aside from Intercontinental Exchange.
Nasdaq is trading at 22.4 times expected 2023 earnings per share. This is a reasonable multiple for a market-leading company that has a competitive moat and very little competition. The dividend yield of 1.4% isn't likely to attract income investors. Still, Nasdaq is a steady performer with some interesting growth possibilities, though its overall performance will be driven by the stock market.
