Hi, good morning, everybody. Really excited for our next session with a man who really needs no introduction, Thomas Peterffy, Founder and Chairman of Interactive Brokers. Thomas is one of the first individuals to utilize computerized models in options pricing, really a pioneer in automated equity options and futures market making. Interactive Brokers, they're a global leader amongst the technology-driven brokers. They have best-in-class KPIs, which many in this room are keenly aware of but it's really a durable business model with a strong track record of success. Couldn't be more excited to have you here, Thomas. Just for those newer to the Interactive story, maybe just give a quick overview of Interactive, where you fit within both the retail and institutional ecosystem and how is your value prop differentiated relative to some of the other peers in the space?
Thank you very much for having me here. It's my first time with you. About the company. IBKR is very different than other participants in the electronic brokerage space. This is due to the unique way we came to where we are today. I started this business as a market maker in options on the floor of the American Stock Exchange 45 years ago. Having been a computer programmer before, I was always looking for ways to make the trading process more efficient with the use of computers. 10 years after having started the business, we were the largest fully automated market makers in the options world. As electronic exchanges came to the fore around the globe, we connected to all of them.
When the U.S. exchanges finally went electronic around 2000 was the first one, the ISE and the others rapidly followed. After all the exchanges converted to computerized operation, we had a huge global market-making system with nearly 20% of the global options volume. Of course, in those days, the global options volume was a fraction of what it is today. In 1993, we added brokerage capability to our global market-making network, which means that for market-making purposes, we are connected to all the electronic exchanges around the world. We said, "Well, why not add brokerage?".
Of course, we were not really smart about thinking about what the SEC is going to say about us being a market maker and a broker but we kept the two things completely different, except we used the same communication venues and all the memberships on all the exchanges around the world, thinking that the global demand, the demand for a global broker will be great but it wasn't. It still isn't very big. Market makers came in and started buying retail order flow, like your boss. We had to make a choice. We had to start trading. We had to decide whether to trade against our own orders or not to. We thought the conflict would be too hard to explain and we decided not to do it, so we closed down the market maker.
Today we are a pure brokerage with the distinction that we know all about the math and the plumbing on which markets run and still use many of the same systems we developed for the market maker but we are using them now on our customer's behalf. That's basically the short story.
It's pretty clear, Thomas, based on your remarks, that, you know, digital technology clearly embedded in the DNA of the company. How does your tech stack compare with the competition? What are some of the capabilities in your mind that are most differentiated?
As I said, I was a computer programmer and then everybody I hired were computer programmers. Basically, still today, the leadership, all the senior positions in the company are basically computer programmers or at least that's the background they come from. We always viewed ourselves as a software developer focusing on developing applications for trading and brokerage, while our competitors usually come from a sales background. We are strong on tech and relatively weak on sales. I am embarrassed to admit it but it is the fact. From the beginning, it was our plan to build a platform for the most demanding institutional customers and then make it available for everyone who wants to use it. Since it's automated, it, the additional cost for an additional customer is negligible.
It costs us very little to have additional folks and that's what explains our profit margin of 68%, which is pretty high.
As we think about the strength of those margins and just maybe the competitive landscape and the barriers to entry, you've seen really unparalleled account growth, client growth across the platform. It begs the question, why haven't other competitors stepped in in a more meaningful way to try to replicate what you've built?
'Cause they are salesmen. The new competitors did emerge along the way but I think they are too impatient and wanna get rich quickly. As soon as they get to a profitable operation, they sell themselves to the dominant players too soon to have developed a unique platform. I do not expect big changes in this business going forward other than the idea that everybody with a banking or money transmitter license now wants to become a broker. Going after the low-hanging fruit, they want to get the simple retail accounts and provide only vanilla services. We are just as busy coding as we have always been but we are now focusing more and more on out-of-the-way corners of the market and developing specialized tools for different type of customers.
This and our much lower cost structure, is what sets us apart. We keep on building the most versatile and sophisticated platform for the most discerning clients but since it is all automated, we can make it available to everybody free of charge. We have no platform fee, fees. If you just wanna open an account, put in some money, it doesn't cost you anything, except we charge commissions. Trading isn't really free. Surprise.
Well said. The other big differentiator and you touched on this a little bit Thomas, is your international footprint. We've been following the broker space for a considerable time. Many have tried and failed to really expand internationally. What's contributed to your success expanding abroad and what are some of the newer geographies that you might look to expand into from here?
Again, the answer is automation. Different jurisdictions around the world promulgate their special rules and regulations. This drives most brokers crazy because everybody really is trying to do the same thing. Our lives would be a heck of a lot simpler if and our customers' expenses would be much, much lower if regulatory requirements were the same all over the world. But no, regulators want power and so they introduce their special wrinkles in the rules so that order taking, execution, clearing, settlement and reporting, compliance and tax functions and the rules governing them are all slightly different from place to place. Since we have this all automated, it's not so difficult for us to tinker with the rules and to modify our programs for each different jurisdiction to comply with those special wrinkles.
While our peers, when they wanna set up for a different jurisdiction, they have to build a different team who really understands the rules there and then supervising them is not so easy because, of course, the supervisors don't know what the difference in the rules are. That's the reason.
That's great, Thomas. You know, I'm keen to unpack the sources of growth but before then, just wanna take a step back and maybe just talk about the operating environment. Certainly a challenging macro backdrop for many of your clients. How is that impacting activity levels? Given your unique footprint globally, maybe if you can provide some perspective on what you're seeing in the US versus abroad.
These differences, you know, for us, nothing much has changed a lot. We're just plowing ahead, developing our platform further as our momentum slowly increases. When we have a relatively large accumulation of new accounts in a geography where we're servicing accounts but we are not physically present, we get these accounts via the internet. In order to really grow in that geography, we have to offer the local market. We go there and we either become members of the local exchange or we do it through a corresponding relationship. We develop our interface to it, add the currency to our repertoire that is currently 24 currencies. In other words, you can open account with us in one of 24 currencies and trade in every other currency seamlessly.
Such developments are taking place right now in some smaller Far Eastern jurisdictions and some to some extent in the Middle East.
As we think about the sources of organic growth and account growth, you cited a 30% account growth target. I mean, for context, that's many multiples above, I would say, even what some of your peers aspire to and was hoping you could speak to what are the building blocks supporting that 30% growth rate in the context of the TAM, different markets, deepening client penetration, any context would be really helpful.
Your natural account growth of 10%-20% that comes to us via word of mouth. When the markets go down, that natural growth is closer to 10%. When it goes up, it's closer to 20%. Now to this, we add our sales force that generates new accounts and that's about the other 10%. But it's a very, very lumpy growth, so it's really hard to. I mean, it's easy to project it way forward because it's about another 10% but you know, nearby it can be very, very low or very, very high because when a new, say, Introducing Broker comes in, it can suddenly be a huge account growth suddenly and then after all the accounts came onto us, it slows down to a trickle and then we have to get the next one.
That's how it works. We believe that the platform that brings investors and marketplaces together all over the world, all over the globe, we will optimize the allocation of capital and resources and it is our job to develop the best tools and capabilities to facilitate that.
One of the benefits that you've touted about your diversified model and your diversified client base, you can pivot, so to speak, to where the puck is heading. You noted that you're currently focusing on customer acquisition efforts within the hedge fund channel, a little bit less sensitive to some of the market volatility, admittedly. Now, how do you see over the long term, Thomas, your client mix evolving over time, just given some of the real momentum that you've seen on the institutional side in particular?
Yeah. Well, so first to address the overall population, we believe that 1%-2% of the population globally is sophisticated enough financially and has the wherewithal to have a brokerage account. We aim at getting 1%, which would be 80 million people and we hope to get there in the next 15-20 years. We will at the rate of 30% get there. Now, as far as institutional accounts, hedge funds, of course, are very important because they. One hedge fund is equal in revenues to maybe specifically, exactly 67 regular retail accounts. That's a small hedge fund. The large hedge fund is equal to hundreds or maybe even thousands of retail accounts, so.
One of the big drivers enabling you to sustain that 30% growth rate, even in this challenging market, are your relationships on the introducing broker side. I know you alluded to wins. I think there are two larger institutions that you're partnered with or have partnered with quite recently. Now, how do these client accounts compare to the typical account that's on the IBKR platform? And how is the pipeline building? Are there any metrics that you can cite supporting the sustained growth within that channel?
Preqin, you know, they usually measure the penetration of different brokers in the hedge fund space and we have, for the third year in a row, added more accounts. I don't know if we added more accounts but our rate of growth has been higher for three years in a row than that of any other prime broker. That brought us today to the sixth place. Fifth place is Credit Suisse. I'm really sorry to say that, they probably will not be a fifth place next year. The next one is Bank of America and I don't think they really care enough about this business. I think that we will be number four in this current year or the following year.
It's a space where I think people lose sight of the fact that you are the number 6 prime broker globally in terms of the number of funds that you service. As we think about the gap between number 6 and number 4, I mean, I know you conveyed it modestly, Thomas, it's a fairly wide gap between you and Bank of America and not unachievable.
It's not that wide. I think the difference is 300 accounts, 300 hedge funds.
Okay. It's fair enough. I guess, like, from my perspective as I think about, you know, the gaps and what precludes you from maybe, continuing to gain share and these are things that you've cited as well, it's the absence of OTC trading capabilities, not having research.
Oh, you're right. Right. There are a number of things that we do not offer. Maybe the biggest amongst them is that we do not offer OTC products. But that cuts two ways. The reason we do not offer OTC products is because we do not want to get into the counterparty exposure issue, because we have lived through 1987 and we have lived through 2008 and I said to myself that after all it's my money, I'm not going to risk it on that. Therefore, I think when the next crisis comes, some hedge funds will think, "Well, I better Interactive Brokers has $11 billion of equity and no counterparty exposure.
If the situation becomes kind of hard to see where they all the dead bodies are buried, then maybe we should have some of our assets with Interactive Brokers instead of Goldman or Morgan Stanley, right? I think that's an important consideration. Other things, the other services is basically these kinds of meetings, analysts and that we don't do at the moment but we may consider either building our own capabilities or get into some sort of joint venture. What is the other one? It's y ou know, you remember this TV ad where the guy comes up and he says, "We have these three things, number one, number two," and he doesn't remember the number three. That's just what happened to me. Cap intro, right. We don't do cap intro.
Well, that's not really true. We have Investors' Marketplace, where we display, you know, our hedge funds who want to be displayed and we display their performance and we display whatever information they want to provide us to display. Our accounts or anybody else can come onto our platform and look through and look at their performance. If they wanna contact them, they can. We do not really get them into a room together with the hedge funds. Yeah.
Well, that's actually a great segue. You know, we've had a number of the RIAs also present at the conference. After all, it is a wealth symposium. Maybe you can speak to your RIA marketplace offering. How is the value prop differentiated there as well? One topic that's come up is the Charles Schwab clearing conversion maybe driving some displacement and an opportunity to take market share.
Yeah. Again, it comes from the automation. We are much less expensive. First of all, RIAs of the big firms basically get to keep on average about half of what they produce. With us, they get to keep 100% of what they produce. If independent RIAs come onto our platform, we do not take anything from them and we have no platform charges, we have no custodial fees. You know, our commission is smaller than what I venture to guess their customers have to give up to the market makers when their orders get sold to market makers. You know, they can t o the extent that they are more nimble, advisors and they, you know, maybe sell short. We have our short availability displayed online all the time.
How many shares we have and what it would cost to borrow and you can borrow it online. You don't have to call us. Other firms like it when the clients have to call them because they basically know from client to client how much they can really charge. Because, you know, when it's a big client who is very knowledgeable, they charge very little. When it's a small client who maybe it's his first or second time of ever trying to do a short sale, they charge them 5 or 6 times as much as they really should, so we don't do any of that. Partly we don't do it because we don't wanna spend the amount of money that it would take to have that sort of personnel.
Partly we believe that on the long run, the better break we give to our customers, the more likely they are to be profitable. We like accounts growing with us, so that's important.
That's a great perspective. The other piece I wanted to unpack is around the account economics. You alluded earlier to the hedge fund multiplier of 67 times relative to your traditional retail client. Might be helpful just to give some perspective on the economics, how they differ across the hedge fund client versus active trader versus traditional retail.
For us, this is only for us. The hedge fund, as I said before, the average hedge fund on our platform and there are many accounts that call themselves hedge funds but they have less than $1 million in the account. Overall, our average hedge fund has $5 million but that includes some very large ones and some very tiny ones. On the average, an average hedge fund account is worth 67 retail accounts and the average proprietary trading account is worth 10 retail accounts. That's roughly the comparison. An introducing broker account is worth roughly 0.7 retail accounts. I mean, individual accounts. I don't like this word retail because, you know, many of the people who have individual accounts have many millions of dollars and they trade very often and they are really serious professionals.
They are basically the core constituency that we started with. The people who were my friends on the floor when I was a market maker, they were market makers and some of them are still alive and they are still trading. You know, so some younger people came along with generally maybe, you know, their children or younger brothers or cousins who took over for them and they are still basically professional traders.
I wish someone had passed down those capabilities to myself but, oh, well. The other piece I wanted to touch on is just the margin loan opportunity. You know, you've had tremendous success growing the margin book. You know, given the robust account growth, the 30% bogey that you've cited, you know, is it reasonable for us to underwrite comparable growth in margin balances, you know, assuming or underwriting a more normalized backdrop? I believe your margin balances have grown at a 20% CAGR over the last three years. How should we think about the growth in margin relative to that growth in accounts?
Our margin rates are 0.5%-1.5% above Fed Funds rates. They are, you know, we float with Fed Funds. You know, when Fed Funds rates were near 0, then of course our highest margin rate was 1.5%, while Schwab and Ameritrade and Fidelity were at 4%, 5%, 6%. As the Fed Funds rates are now rising, currently we are at, what, 3.75%, so 5.25% is our highest margin rate and 4.25% is our lowest. But that is still roughly half of what other folks charge. We could charge higher and we are often asked about that, why we charge so low if we could charge higher and we'll still be the best deal.
The answer is that we have to provide really compelling deal for people to bring people over from other brokers because people really are very they don't like to move. It's a very sticky business. Once you get an account, you keep that account and you really have to screw up and make the account angry to, for them to change. These low margin rates are basically the way to try to get new accounts. Now, as when the market goes down, of course, much of the leverage comes out of the market. In the last six months, our margin loans have actually decreased by about 15%. The total margin loans went from $44 billion to maybe $40 billion.
Well, one of the helpful offsets is certainly higher rates. While you're certainly more generous than most in that regard, Thomas, it might be helpful just to provide some perspective on the overall rate sensitivity of Interactive Brokers.
As far as interest on cash, idle cash, we pay 0.5% under Fed Funds to clients who have more than $100,000 of volume in their account and more than $10,000 of cash. On the first $10,000, we pay nothing. If people have, say, $50,000, we pay them half of Fed Funds minus 50. If they have $80,000, we pay them 80% of Fed Funds minus 50. If they have $100,000 or more, we pay them half Fed Funds minus 50, other than on the first $10,000 where we pay 0. That's much better than everybody else pays. It's better than any bank pays because, you know, it's as soon as you get the next dollar in your account, immediately you get interest on that. Other brokers like it to sweep your account into money market funds.
Then you have to, of course, before you would use the money, withdraw it from the money market account. Eventually you grow tired of withdrawing and putting it back and withdrawing and so basically leave your money idle in your account and you get very little interest on it.
That's great. I mean, I honestly wish we could be chatting even more, Thomas. I have a long list of questions here but I'm gonna have to limit it to just one remaining one, given our time constraints. I really wanna get your perspective on business threats. You know, we had talked earlier about the strength of your pre-tax margins, north of 60%, at 68%, to be more precise. What do you see as the greatest threats to the IBKR model, whether it's like fintech disintermediation from new entrants, increasing technology or regulatory burden? You look like you're not losing sleep over anything. You look well-rested but any perspective you can share.
I was up watching the elections until two o'clock.
You and me both, sadly.
To tell you frankly, I think it's clear sailing. I don't see anything. I mean, I generally worry about systemic issues. As I said before, given our situation, that we have no counterparty credit risk and, you know, our equity keeps growing because we retain all of our earnings except for the puny dividend we pay. Now we have $11 billion. Some people may think, I certainly think that Interactive Brokers is the safest broker to be with and even in a crisis. The thing that does worry me is the grid, the electronic grid. You know, if that goes down, we are in big trouble.
Great. Well, great way to end it. Thomas, thanks so much for being here. Really appreciate it. It was a real pleasure.
Thank you very much for having me and for listening to me. Thank you.