Early Retiree Reality (ERR) recently published a thought provoking article titled My Duopoly and Oligopoly Shopping List on Seeking Alpha. The premise is essentially that duopolies and oligopolies provide wider moats which results in greater profitability. I would encourage you to read it. This idea is similar to one I’ve been working on with my Speculative Pillars series on Cord cutting, Transaction Processing and to a lesser degree Regional Banks. Although neatly packaged, I failed to make the leap into the –opoly world.
A definition is probably in order:
Monopoly: exclusive control of a commodity or service in a particular market
Duopoly: the market condition that exists when there are only two sellers.
Oligopoly: the market condition that exists when there are few sellers and as a result of which they can greatly influence price and other market factors.
Monopolies are best illustrated by utility companies where government regulation restricts profits, rates and competition for – in theory – society’s greater good. I concur with ERR’s decision to ignore this group. Where it gets a little stickier is the break point on whether a duopoly or oligopoly exists. ERR presents the Coca-Cola/PepsiCo as one example, though I would hasten to add that changing tastes and growing health consciousness are also a contributing factor. Most of his duopoly and oligopoly categories I agree with though I would vehemently disagree with the inclusion of his ‘weak oligopoly’ classification. You either meet the criteria or not. Factors such as commodity pricing or political environments are not a part of the definition and therefore these companies should have been excluded by the author.
While the following comment an attempt was made to engage with the author, which was summarily dismissed.
Great article and a lot to digest. I’ll reading through this one several times.Under the ETF Provider category, although the three mentioned control roughly 70% of the market, barriers to entry are low and new competitors arise almost daily. By definition, Oligopolies have few sellers resulting in pricing power. With the Big Three facing competitors including: Direxion, EG Shares, ETF Securities, Guggenheim Partners, IndexIQ, Powershares (Invesco Ltd. – IVZ), ProShares, Market Vectors (Van Eck Associates Corporation), Wisdom Tree (WETF) and Legg Mason (LM) there is little pricing power as evidenced by Vanguard’s fee structure. I would argue the market share is based more on longevity and name recognition than any other factor.
Author’s reply »Thanks for your comment.I think the moat is a little wider than that. I think reputation (and similarly brand name) plays a big part. The other aspect I think is somewhat of a network effect. Institutional investors value liquidity, and it’s hard for a small ETF to compete in that regard. Since institutional investors invest in the better known funds, others do the same, thus a virtuous cycle.Also, as mentioned above, ETF growth is expected to remain high (ETFs are less than 10% of mutual funds), so a bigger pool allows for more fish. I would expect some consolidation to take place once competitive pressures emerge.The financial sector is very adept at keeping fat profit margins I think.
So ERR thinks the moat is wide? Personally I think consumers are becoming educated to fee structures. No pricing power means minimal moat. However, I will present the remaining areas of disagreement that I have with the article, my reasoning and suggested changes/alternatives.
|ISSUE: Deutsche Post AG (DPSGY) is omitted (owner of DHL – Yield: 3.23%)|
|ANALYSIS: Not a real duopoly when USPS and DHL are included. If definitions are changed, LTL truckloads could also be a part of the mix.|
CREDIT RATING AGENCIES
|ISSUE: Fitch is 80% owned by Hearst Corporation (pvt) (20% by F. Marc de Lacharrière (Fimalac) S.A. (FIM.PA)) with voting restrictions until 2020.|
|ANALYSIS: Currently an Oligopoly although efforts are underway to introduce competition – notably via ARC Ratings Holdings PTE Limited.|
|DISCLOSURE: Indirect ownership in ARC Ratings through Malaysian Rating Corporation Berhad’s (MARC) apx 16% ownership, of which AIG, MFC, and SLF own a combined 9% of MARC.|
EXCHANGE TRADED FUNDS PROVIDERS
|ISSUE: Author excludes competitors such as Direxion, EG Shares, ETF Securities, Guggenheim Partners, IndexIQ, Powershares (Invesco Ltd. – IVZ), ProShares, Market Vectors (Van Eck Associates Corporation), Wisdom Tree (WETF), Legg Mason (LM)|
|ANALYSIS: Currently a weak Oligopoly as these three companies (BLK – iShares), (STT – SPDR) and Vanguard control over 72.8% of all ETF AUM but the barriers to entry are low, competition is on price and name recognition (advertising).|
|DISCLOSURE: Ownership in BLK, STT, IVZ and LM.|
FINANCIAL PRODUCTS TRADING EXCHANGES
|ISSUE: Author ignores OTC Markets Group (OTCM), Bats Global Markets, Inc. (BATS) TMX Group, Ltd. (TSE:X) and multiple small privately owned exchanges (including “dark pools”).|
|ANALYSIS: These companies have their hand in virtually all stock and derivatives trading (options, commodity futures, Forex, etc.). In addition to transaction fees, these companies also make money via listing fees, market data fees, technology service fees, etc. Roadmap2Retire also recently published an article on this segment.|
HOME IMPROVEMENT RETAILERS
|ISSUE: Author ignores non-national competitors like: Menards (pvt), Rona (RON.TO), Restoration Hardware (RH), Williams-Sonoma (WSM)|
|ISSUE: Author ignores Canadian carriers: BCE Inc. (BCE-28.4%), Telus (TU-28.5%), Rogers (RCI-21.8%) & Shaw (SJR-2.3%).|
|DISCLOSURE: Ownership in BCE, TU, RCI.|
Overall a good read particularly when considering market and market share inter-relationships in your purchase selections.