Virtu Financial Inc. (VIRT, Financial) is a leader in electronic market making. With its cutting-edge algorithms, the company provides quotes for various types of financial instruments, including standing, fluctuating, bid and ask orders.
Responsible for executing nearly a quarter of all retail equity flow in the U.S., Virtu Financial's advanced technology provides liquidity to international markets and efficient trading solutions for its clients. Its offerings allow clients to trade on hundreds of exchanges in over 50 countries and across various asset classes. Additionally, the company's integrated, multi-asset analytics platform offers pre- and post-trade services, data products and compliance tools.
Market makers like Virtu make money by earning the bid-ask spread on stocks they trade. The bid-ask spread is the difference between the highest price a buyer is willing to pay for a stock (the bid) and the lowest price a seller is willing to accept (the ask). Acting as intermediaries in the buying and selling of stocks, they profit by buying a stock at the lower bid price and selling it at the higher ask price. All this is done in nano-seconds using superfast computers. They also use their expertise and technology to provide liquidity to the market by continuously buying and selling stocks, ETF's, bonds etc. This allows them to capture the spread on a large volume of trades and generate profits. They may also earn fees for providing services such as executing trades and facilitating market liquidity.
It is important to note market making is a highly competitive and capital-intensive business, requiring significant investments in technology and resources to be successful. Market makers must also navigate regulatory and legal requirements, as well as changing market conditions, to maintain their profitability. However, once a company has established a successful strategy, the high technology costs and regulatory create a barrier to entry for new competitors that protects its operations.
Further, market makers benefit from heightened volatility in the securities and derivatives they trade because it not only increases volume, but also the bid-ask spread. The market conditions in 2020-21 were exceptionally favorable for entities in this industry.
Virtu went public in the second quarter of 2015, with shares priced at $19. The company's stock has not increased much since its initial public offering. Despite this, it is still considered a mature technology company, offering a dividend yield of 4.38% at its current market value. The company is also buying back stock, having bought 14% of its outstanding shares in 2020 and 2021.
Virtu Financial has many virtues. One of its most important attributes is its size as a market maker, handling over 25% of daily U.S. equity transactions. The only company that exceeds this level of scale is Citadel Securities, which manages about 40% of the US stock market, but is not publicly traded. These two companies together control over 65% of the equity market-making market in the U.S.
Although there is competition between them that may lead to cost pressures, it has not had a significant impact on their profits and cash flow so far. The combination of technology and scale creates a strong competitive advantage that is difficult to replicate and is unlikely to change. The company's revenue and income are very volatile from period to period, depending on stock market volume and volatility. However, if we ignore the volatility of earnings, the dividend and book value are steady.
The balance sheet is solid with a strong net cash position.
Source: SimplyWall.St
Virtu Financial recently reported strong fourth-quarter and full-year 2022 results.
The company posted net income of $39.6 million in the fourth quarter and $468.3 million for the full year, with basic earnings per share of 27 cents and $2.45. Total revenue for the fourth quarter was $497.8 million and $2.36 billion for the full year. Virtu also recorded high trading income, adjusted Ebitda and adjusted Ebitda margin.
Additionally, the company bought back 2.1 million shares, worth $45.3 million, in the fourth quarter and 16.2 million shares, worth $460.6 million, in the full year under the share repurchase program.
Virtu had a successful year in options market making in 2022 and plans to continue expanding in different venues, asset classes and regions. The company views this as a long-term source of growth. It also reported growth in the exchange-traded fund block business and is investing in the fixed-income market. Additionally, the company considers the crypto market a long-term growth opportunity and is involved in a venture with Citadel Securities, Fidelity Digital and Charles Schwab (SCHW, Financial) to develop a secure and stable platform for investing in cryptocurrencies.
Conclusion
In addition to being an option for portfolio diversification, I think Virtu could be an interesting hedge against market volatility. The stock's beta is 0.38, this means its has weak corelation with the rest of the US stock market, so when the market zigs, it zags. The dividend is a nice bonus, along with the company buying back stock.
Currently, I am selling put options to take advantage of the contrarian nature of the stock, buybacks and relative undervaluation. If the market falls, I expect Virtu stock should rise, or not fall as much. However, this stock is not for everyone and is counter cyclical to the market, so you have to watch it like a hawk to be able to buy and sell at the right time. While not a buy-and-hold stock, it does have secular tail winds given a worldwide increase in trading volumes.
As the second-largest (and largest publicly traded) market maker, the company may be an attractive acquisition candidate for a broker or investment bank looking to become vertically integrated.
