Barclays On BATS: Diversified Growth Comes At A Price

Barclays has initiated coverage on BATS Global Markets, Inc. BATS with an Equal Weight rating and $25 price target, saying that although BATS is an "efficient exchange competitor" with potential avenues of revenue growth, the company's valuation is preventing the firm from being "more aggressive on the shares."

"We believe that; 1) ETFs, 2) market data, 3) options, and 4) FX will all need to show sustainable levels of growth in order to justify a premium valuation," analyst Kenneth Hill wrote.

Hill said ETFs ("as a product") have posted some of the better growth trends of any financial instrument across all of his coverage. He elaborated that the early traction in ETF looks promising for BATS, which moved to the top industry slot for ETF trading.

"Moving forward, we believe that the economics of listing on a particular exchange will evolve over time – with Bats becoming a loss leader in order to gain trading volume," Hill said.

Related Link: BATS Should Be A Great Hedge For Choppy Markets, According To Morgan Stanley

Meanwhile, market data is a platform where Bats could generate recurring revenues with stickier user base. For market data, Hill believes growth will come from rolling out new proprietary products at an attractive price point.

In addition, BATS Options currently run two all-electronic options exchanges – BZX and EDGX.

"[W]e believe taking some amount of market share should be attainable given that Bats will likely become the low cost provider for products similar to those in the market today," Hill noted.

In the forex arena, the analyst expects BATS to first enter the forwards market in the second half of 2016, and the swaps market after that. The company's acquisition of Hotspot allows it to be positioned in the center of the leading FX trading market globally and subsequent expansion into areas like Asia over time.

On the capital returns front, Hill said the current $0.08 quarterly dividend (about 30 percent payout) will grow over time.

Hill, who expects the exchange operator to deliver 2016 EPS of $1.28, noted that the exchange "will need to execute at a high level to meet outsized expectations."

"We believe Bats is getting a fair amount of credit for future growth. While we have some of the better industry growth rates forecasted for Bats in the coming years, their fulfillment is not a foregone conclusion," Hill added.

At time of writing, BATS was down 3 percent at $25.19.