Investors don't often like volatility. The ups and downs can rattle the nerves of even the most seasoned among us. It's just as true for the bond market as it is for the stock market. But not everyone feels that way.
MarketAxess Holdings (MKTX 0.10%) runs an electronic bond-trading platform. And those swings in prices translate into opportunity as bond traders turn to it for transparency in an opaque industry.
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Getting back to normal
For a company like MarketAxess, low volatility isn't good because it shrinks the difference between the bid and ask prices for bonds and thus the opportunity for profit. And in MarketAxess' particular case, it also limits the need for bond traders to use its platform for price discovery.
In the January earnings call, CEO Rick McVey pointed to renewed volatility as a potential tailwind for the coming year: "The combination of strong economic growth and much higher inflation is causing central banks to reduce bond purchases and prepare for rate increases. I believe this will lead to more-normal levels of interest rates and bond market volatility in the quarters ahead."
His statement is backed up by the data. After blowing out early in the pandemic, credit spreads have been squeezed by depressed interest rates. The U.S. High Yield Master II Option-Adjusted Spread shows it well. It measures the difference in yield between a basket of bonds that are below investment grade and the spot-rate Treasury curve -- a benchmark for pricing bonds.
It isn't immediately obvious from the graph below, but credit spreads are beginning to widen. That might ramp up uncertainty in the equity market, but it's just what McVey and MarketAxess shareholders have been waiting for.
U.S. High Yield Master II Option-Adjusted Spread. Data by YCharts.
A bargain if the environment improves
Operating income for the company actually declined year over year in 2021 for the first time since 2008. Even growth on the top line last year was almost nonexistent; revenue was only 1% higher than in 2020.
Concerns that the low-volatility environment was the new normal have more than cut the stock in half from the all-time high. It's trading at the lowest price-to-earnings (P/E) ratio in more than five years. For investors with a long-term mindset, it could be a golden opportunity.
MKTX P/E ratio. Data by YCharts.
The company has already released trading statistics for the first quarter. Although average daily trading volume of both corporate and government bonds declined from 2021, it did surpass 2019 by 13% and 9%, respectively. The total trading volume in March was the second-best month the company has ever recorded.
With credit spreads beginning to widen, MarketAxess' financials should get a boost. We'll find out when the company reports earnings later this month. For now, investors should be patient with a company that is transitioning a relationship-based, voice-negotiated bond market to a 21st-century electronic trading platform with transparency. It might be hard to predict how the numbers will look year by year. But you can be confident that progress -- and profit -- will continue over time.
