Copy Cat

A basic way that banks work is that they take in deposits and make loans. They charge a little more interest to borrowers than they pay to depositors and make money that way.

Except, lending — especially riskier lending — has moved away from banks. The Dodd-Frank Act in 2010 and a slate of other regulation intentionally drove a wedge between depositors and risk. Lending is risky. A borrower might not pay back a loan. Regulation made lending more expensive for banks. Now, it's relatively more profitable to lend for a not-bank. Firms that run private credit funds like Blackstone, Apollo and Ares have made hay on this trend.

OK, lending is less central for banks, they're still in the middle of financial market action — trading stocks and bonds, and things. Right?

Well, a lot of trading action has moved beyond banks. Trading is risky. Regulators don't want it anywhere near depositors, so have made that expensive too. Not-banks can chase the higher profits and do more trading stuff that banks used to be able to do. Firms like Virtu and Citadel have moved in to fill that void and pocketed tidy profits.

This picture is over-simplified. Banks do still make money lending. They do still make money in markets. But there's a whole parallel track to make money doing things traditionally done by banks, but, you know, not be a bank.

Who wants to be a bank anyway?

There's not much appetite to change any of this. The mini spate of bank failures in 2023 probably didn't prompt any policy makers to think "how can we make it easier for banks to take risk." The forces at work deconstructing bank functions look likely to continue. Some risky-ish areas still exist where banks sit front and center, though. Clearing, specifically, commodities clearing, is one of these.

Enter Marex. Since 2005, this London-based not-bank has been trotting around collecting clearing and related trading operations orphaned as others try to exit that business.

In financial markets, especially commodities markets, trust is really important. If you want to buy some copper, at some point you'll have to hand over some money. You'll want to know that you'll get your copper. There isn't a copper store you can go to. It's in a warehouse, somewhere, maybe on a different continent. So how can you trust the other party to deliver? It's up to the clearing firm to say "yeah, you guys are good. And if you're not, we'll cover it." Clearing firms are the grown-up in a transaction that make both sides keep to the agreement.

You can spot why it’s risky — the clearing outfit is on the hook when someone doesn’t pay or deliver. You can also spot why this is conventionally a banking function — moving money from one party to another is a very banking type of thing to do. It’s been slower to move away from banks than lending and stock and bond trading, but it is moving.

Marex is the largest non-bank clearing firm out there. And it’s still relatively tiny. Other firms have been exiting the business in droves for a handful of non-economic reasons — regulatory pressure or lack of scale or conflicting strategic priorities. That opens the door for Marex to swoop in, pick them up cheaply and tuck them into its own platform.

And how has it been doing once those operations settle into the fold? The business hums. Marex has grown about 20% per year just by expanding this and offering trading and hedging services to many of those same clients. It’s added another 10-15% per year through its acquisitions — results that would fly at Citadel or Ares or any of those other shops.

Us too!

The model behind Marex is to look at those very successful firms in private credit and those very successful firms in trading and figure out "how can we copy that, but for clearing?" So far, it's working

Like these other traditional banking activities, it’s something that can be done outside a bank, but with more profit and more opportunity. With each leg of expansion Marex improves its resilience by connecting with more exchanges and more clients. It sees a wider slice of its markets and can do better for its customers. This shifts its business away from taking risk and toward moving risk from one place to another. You know, exactly what the regulators want from banks.

The only part of Marex that looks bank-ish, though, is its stock price. It's priced like stodgy, old, regulatory bound banks, not a nimble, fast-growing, platform with expansive opportunity. The appeal to investors, then, is to get those Citadel-like results at a bargain price.

Disclaimer: None of this is investment advice. It's meant to illustrate ways LCM thinks about investing. Things that LCM decides are good investments for LCM and its clients are based on many criteria, not all of which are covered here. Some or all of LCM's ideas may not be suitable for other investors. LCM does not recommend investing either long or short any position mentioned. LCM may own positions in some of the companies mentioned. Some of its ideas will lose money — investing entails risk. See full disclaimer here.