Moats That Matter
WisdomTree Investments, Inc. (NASDAQ:WETF) has the ability to create certain indexes and related ETFs more rapidly than its competitors who license indexes from third party index providers, as it benefits from a regulatory exemptive relief that enables it to use its own indexes in ETFs. Apart from its product development capabilities, this regulatory exemptive relief enabled WisdomTree to enjoy the first mover advantage in a number of asset classes. These include among others, the industry’s first emerging markets small cap equity ETF, the first actively managed currency ETFs, one of the first international local currency denominated fixed income ETFs and the first managed futures ETF. In 2008, the SEC proposed a rule that, if adopted, would eliminate the need for ETF sponsors to obtain exemptive relief. In March 2010, the SEC announced it would defer approval of applications for exemptive relief for ETFs that make significant use of derivatives pending a review by the SEC. If and when this moratorium is lifted, the barriers to entry for the ETF industry will be substantially lowered and WisdomTree may be forced to compete increasingly on the basis of price with new competitors entering the market.
WisdomTree differentiates from its competitors by creating its own indexes that weight companies in its equity ETFs by its own measure of fundamental value. In contrast, traditional indexes are typically market capitalization weighted and tend to track the momentum of the market. WisdomTree Investments, Inc. (NASDAQ:WETF) disclosed in its 2012 fourth quarter results release that certain broad based market capitalization weighted index ETFs sponsored by Charles Schwab Corp (NYSE:SCHW) and Vanguard have been subject to significant price competition. A possible reason for the price competition is the lack of differentiation for market capitalization weighted indexes vis-a-vis that of WisdomTree’s proprietary indexes. Moreover, 68%, or 23 of its 34 equity ETFs, outperformed their capitalization-weighted or competitive benchmarks since their respective inception through Dec. 31, 2012. However, this is a double-edged sword. If WisdomTree’s equity ETFs underperform either due to market conditions or possible flaws in its own measure of fundamental value going foward, investors might switch to traditional market capitalization weighted ETFs offered by WisdomTree’s competitors.
Valuation and Financial Analysis
WisdomTree currently trades at a forward P/E ratio of 29.1, based on Reuters data. Its gross margin and pre-tax proforma operating margin increased from 61% and 6% in 2011 to 66% and 18% in 2012 respectively. WisdomTree is expected to benefit in the form of improved gross margins, with the signing of a new fee arrangement with BNY
Mellon effective from Jan. 1, 2013, where BNY Mellon will continue to serve as portfolio manager to certain ETFs under more traditional sub-advisory economic terms. Prior to this, WisdomTree shared all third-party costs and profits and losses equally in developing currency and fixed income ETFs together under the WisdomTree Trust. In addition, WisdomTree still has net operating loss carry forwards from the significant losses it incurred and it has recognized a deferred tax asset for such carry forwards. WisdomTree’s revenues grew by 30% from $65.2 million in 2011 to $84.8 million in 2012, while operating expenses as a percentage of revenues fell from 94% in the fourth quarter of 2011 to 78% in the last quarter of 2012.
Peer Comparison
WisdomTree’s asset management peers include Charles Schwab Corp (NYSE:SCHW), TD Ameritrade Holding Corp. (NYSE:AMTD), T. Rowe Price Group, Inc. (NASDAQ:TROW) and Waddell & Reed Financial, Inc. (NYSE:WDR). Charles Schwab engages in securities brokerage, banking, and related financial services. Ameritrade provides securities brokerage services and technology-based financial services to retail investors through the Internet. T. Rowe Price Group, Inc. (NASDAQ:TROW) offers investment management services to individual and institutional investors through separately
