This five-star Aussie stock has a wide moat
Our analysts believe it can protect and grow its earnings for at least the next 20 years
Mentioned: ASX Ltd (ASX)
ASX Ltd (ASX: ASX) is currently* a five-star stock with a wide moat. A rarity and the only share within our coverage universe in Australia that meets this standard. ASX is also one of only 11 shares in Australia and New Zealand that are included on our Global Equity Best Ideas list for December.
The share price has dropped close to 15% year to date based on regulatory and governance concerns related to the replacement system for its clearing system which was shelved after many years of delays and cost overruns.
ASX has earned a wide economic moat rating based on network effects and intangibles in its listing, trading, clearing and technology and data businesses.A wide moat indicates our analysts’ expectation that ASX’s competitive advantage will be durable for at least the next two decades.
We view ASX as a natural monopoly providing essential infrastructure to Australia's capital markets. Despite the deteriorating regulatory environment, we believe that the economic moat will protect the business. The energy transition is also an underappreciated tailwind.
The expectation is that it will spark demand for resources that will drive demand in Australia. This will deliver new listings and a long tail of revenue from trading and clearing activity.
Fair value estimate
ASX Ltd has a $72.50 per share fair value estimate and the shares are currently screening as significantly undervalued at a 20% discount*. The market remains concerned with near-term expenses and capital expenditure growth. We believe these near-term expenses do not impede ASX’s long-term earnings potential.
At the annual general meeting, ASX leadership reiterated its focus on retaining and securing its social and regulatory licenses, with CEO Helen Lofthouse describing ASX’s licenses as some of their “most important assets.”
We expect Australian Securities Exchange's near- and medium-term strategic focus to be on protecting its economic moat in cash equity clearing and settlement. ASX has long been protected from competition through various exclusive licences to clearing and settlement, which we consider a source of its economic moat, based on intangibles. However, over the past decade, ASX has faced increasing calls from the federal government, regulators, and industry bodies for more competition. In response to these calls, ASX attempted to deliver a world-leading new clearing system, based on blockchain. However, after several years of delays and cost overruns, this project has been shelved, which has renewed discussion on opening up the clearing and settlement market to more competition. ASX, we believe, will therefore focus on trying to demonstrate to the federal government, regulators, and industry bodies that it is capable of maintaining smooth operations of Australia’s financial infrastructure, including by increasing spending on its various systems. Regardless of the potential regulatory outcome, cash equity clearing and settlement make up only around 15% of ASX’s revenue. Moreover, we believe that even if cash equity clearing and settlement would be opened up to competition that ASX’s business would remain well protected due to network effects inherent in ASX’s clearing business. We therefore do not expect significant changes to ASX’s cash equity clearing and settlement market share or margins in the foreseeable future.
We view ASX’s near-term investments as supportive of its long-term earnings potential. Primarily, we see these investments as increasing the likelihood that market participants will have a favorable view of ASX’s ability to provide satisfactory exchange infrastructure for Australia’s capital markets, and in turn, that regulators will allow ASX to retain its various exclusive licenses, which we view as an intangible asset supporting its economic moat.
Additionally, we believe the opportunity for ASX to invest in exchange technology, which is a highly mature technology, is not infinite. We therefore believe current spending is a pull forward of investment from future years, leaving room for reduced spending and higher margins in the future.
*at 4 December 2023