BGC Group, Inc. (BGC) Earnings Call Transcript & Summary

Welcome back, everyone, to the 2024 Piper Sandler Global Exchange and Trading Conference. My name is Patrick Moley. I cover the exchanges, online brokers and trading companies here. It's my pleasure to be joined by Howard Lutnick, CEO of BGC Group -- Chairman and CEO of BGC Group. BGC is a leading interdealer broker and technology company. It was originally the voice brokerage business of Cantor Fitzgerald, which Howard is also the Chair and CEO of and has been since 1991. So thanks for joining us, Howard.

Great to be here.

I'm going to wait. I'm going to talk about the core business before getting into FMX, which I know is what everyone wants to talk about. But you've seen very strong growth over the last 12 months. Revenues are up 14% sequentially. Pretax adjusted earnings are up 18%. You've guided the 10% top line growth this year. Can you talk about the drivers of this more recent growth? How sustainable you think it is? And how we should kind of think about the pace of growth going forward?

Sure. So thanks for having me. Appreciate it.

Yes, of course.

So 14 years of 0 interest rates broke the relationship between issuance and secondary market trading volume. If you think about that, that should be obvious, right? If I do a bond deal or a stock IPO and it's doubled the size, the secondary market trading volume historically would be up 60%. So double issuance, 60%. So you have credit tripled since '08 and rates quintupled since '08. So you would naturally say, my God, the volumes must be off the charts. But 0 interest rates broke that relationship, and that relationship is repairing, which means every year, volumes of secondary market trading is growing as it heals or repairs from that broken model of 0 interest rates, which was just weird. Because let's face it, who wants to trade when interest rates are 0? They're going to be 0 next year or 0 the year after. I mean secondary market trading volumes are boring, but they have real interest rates. So we don't care if they're 5%, 4%, 3%. As long as they're not 0, we're happy people, okay? So that should lead us to 10% revenue growth for the long term. Okay. Core business should have 10% revenue growth for the long term. Now for years, we only showed 10% revenue growth, 10% profit growth. And the reason people would say, well, I thought you had these electronic FMX and Fenics businesses and these are high margin. Where is the money? And the answer was I was spending money on building a futures exchange, building cash treasuries, building spot foreign exchange, right, building Lucera, which we can talk about. And I was just building software and it was spending a lot of money, right? You can't have a fully approved futures exchange that doesn't cost a lot of money when it's not open. It's sort of pretty simple. So now that, that is done and we are in the harvesting phase, 10% revenue growth. My guidance this -- next quarter is 10% revenue growth at the midpoint, 18% profit growth in the earnings. And you're going to see natural gearing of a company that's 25% electronics. It's growing its 10% revenues, and it's going to continue to grow. So our core business, wonderful growth for the long distant future. And I think it doesn't mean it will be 10%, it could be 8%, it could be 12%, I don't know the answer. But I'll tell you what, it's going to be consistent, it's going to be strong. And so what you end up having is because 14 years of 0 interest rates confused everybody about who we were, right? We just -- we're a giant sail boat with a huge sail, and there was just no wind. And now that interest rate's back, it's a little windy and off the company goes, right? And so what's happened is, look at the S&P 600. We are in the bottom decile in multiple and the top decile on performance. Bottom cost, top performance. And why is that? It's because no one knows our history. Like why did they have such a weak history? And the answer was 0 interest rates. But those are gone and we are back. So our core business feels really good. I think those margins should continue. The gearing should get better, and that -- excluding FMX. FMX is just Home Run Derby off to the side okay? We'll talk about that, I'm sure, in a little bit.

Yes. One more on the brokerage industry before we get into that. You have been historically heavier on the fixed income side with rates and credit. Energy business is becoming a much larger piece of the pie. Can you talk about the strength that you've seen there? What are the things you're doing to drive those revenues and how you expect that to kind of grow from here?

So the commodities business is our fastest-growing business. It's now our second largest product category. But that's only because we don't break it up. Remember, interest rates, we call it rates, which is noncredit interest rates, and credit, which are credit interest rates. Whereas in commodities, we lump it all together as one number. But that has so much room to grow. I mean we grew that 30% last year, so we have just so much room to grow in commodities. I think our core commodity business, oil, natural gas, the whole spectrum, electricity, environmental, I mean it is just a huge opportunity for us. We're going to have plug-and-play acquisitions. So what's a plug-and-play acquisition for us? We buy a company, let's say. I'll make it up. It does $50 million of revenue. It has $5 million in profits, sort of a classic 10% earnings model. We buy the company. We don't need their tech. We don't need their back office. We don't need their operations. Let's say we take 15 points out, right, we take $15 million out, right? All of a sudden, the company makes $20 million. And you'd say, wow, that was a great acquisition. Congratulations. It's not that clever, right? So plug-and-play, we can do plug-and-play, and you'll see that in commodities all the time. That's why we're so good at our acquisitions. It's not that we're brilliant. It's not that we're finding companies that are dirt cheap or anything sort of like that. It's really -- when you already have the technologies and it's built to plug-and-play and you already have the systems to do the back office and do the billing and do everything else, this is just really simple. I mean, you remember when we bought GFI in 2015, we took $125 million a year of expense out. So GFI wasn't that great a company, but I'd tell you what, with $125 million less expense, it's pretty good. When I only spent -- we paid $750 million for the company, we sold the tech for $650 million and then we took $125 million out, you make $125 million a year on something that you only paid $100 million for. You get a guy who's like happy like me, so that's what happens.

All right. So moving on to FMX, you received final regulatory approvals in January. You're now strategic partners in April. You're planning to launch in September. You'll challenge the CME's futures complex. This is something that's been tried many times before with the interest rate futures. Why is this time different?

Okay. So in September, we're going to launch our euro/dollar -- or sorry, SOFR futures. Just kidding you, guys. So I'm just old, so I like to do that, okay? It just comes with being 62. When I'm your age, SOFR it is. When you're my age, anyway. So we're going to do SOFR futures in September, and we're going to follow with treasury futures probably in the first quarter in January. So that's sort of the schedule. Why now? In 2008, there was -- when Lehman went down, the world of interest rate swaps was a mess because what happened is Lehman had gone long with one counterparty, sold it to another counterparty, and there was no novation. So everything still ran through Lehman, and it was horrible. And so the world decided they were going to have central counterparties, and they were going to novate you out. So if you bought through A and you sold to B, they stayed in the net and you exited, okay? And that was -- the battle was on, who would get swap collateral between the CME and the LCH. You say, well, why would the London Clearing House win dollar interest rate swaps? Doesn't that sound like odd? Why would it win dollar interest rate swaps? And they charge 2-day margin versus the CME charges 1-day margin. 1-day margin means what's the worst thing that's happened in the last 10 years for 1 day, put up that margin. 2-day margins, what's the worst thing that's happened in 2 days, which is 25% more margin. So more expensive for the banks, and it's oddly in London. But the banks who had all this collateral didn't want to vertically integrate with CME because they were afraid if they vertically integrated the CME, then the CME -- while it would be much better from a capital efficiency standpoint, they would be handing to CME the ability to disintermediate the banks. And the banks were just not going to do that. So they gave it to the LCH, and that was in '08 and '09. And that capital has been sitting there. And now let's talk about 2-pot clearing, right? So we all -- you all understand 1-pot clearing. 1-pot clearing is I clear futures. I clear cash. I've got both. I've got a basis trade. I have very little risk. 2-pot clearing is Patrick has the futures. I have the cash. And we know the counterparty is flat basis trade. But what if we're archenemies? And his goes way up and mine is way down because it's hedged, right? And I need all the money from you, and you're my archenemy. And you think to yourself, no, let's let them die. So you know what happens? I can't do it perfectly with you. I just can't. You won't do it with me. So think about this. The LCH has had swap collateral for 16 years, and they do not cross margin with the CME because they are arch-competitors, and they don't trust each other. The FICC does cross margin with them because they didn't feel that they were competitive, right? One had swap, one had treasury futures and one had cash. But what has the CME recently announced? They're going to go into cash in competition with the FICC. So how is the FICC feeling right now? They haven't called me and they haven't told me how their feeling. I'm just taking a guess that they're not particularly happy about their cross-margining partner deciding they're going to become their archenemy. So that's why it's now. It's simply because it was -- it's for us to do. We had our 9/11 issues, obviously, which we had to rebuild and come back. But where are we now? We have a -- to be successful in futures, you need to have a fully integrated, fully operating network of connectivity and the greatest matching engine in the world. So if you had a matching engine, you can build that, okay? But you then have a connection to Morgan Stanley and Goldman Sachs and Bank of America and Citi and Deutsche and, and, and. But what happens is you can't install that because CurveGlobal had perfect cross-margining. This is someone in the heap of dead, okay? Because they had perfect cross-margining, but they had no system. So they call bank A and bank A says, I'll put it in right away, and bank B says, it will take 2 years. And by the time they put in bank B, bank A died of old age, right? And the thing just doesn't work. So our treasury system was installed. And starting in 2018, this will be treasuries and this will be futures. And it's coming and it's built into the matching engine, and it's in the network so install it. So you'd say, so we had 6 years to put it all in, and that was us spending the money. For 6 years, we spent the money. And maybe our earnings were 10% and 10%, instead of 10% and 18%, okay? But you might have said, well, that's -- I don't know if that's a good investment or a bad investment. But the banks just gave us a [ 500 pre-money ], and that's an incredible discount, okay? Because I think we could sell it for multiples of that tomorrow from private equity. And they all call me, and they tell me how trim I look. So let's face it, I haven't lost a pound. So it's not because of my good looks. So we have a system that's growing one or 2 points sequentially per quarter. We've got the tech installed. We've got cross-margin in one pot with LCH. And so remember, swaps, the fraternal twin of swaps is SOFR contracts, okay? The cousin of swaps is treasury futures, okay? But the fraternal twin is swaps. And what you're going to see for the first -- for the second time in futures history is you are going to see open interest on FMX relentlessly rise starting the second quarter we are open in futures. Open interest, so not average daily volume, saying that the contracts that are kept at night, they are going to grow. And the last time that's happened is if you go look, you'll go look at the Deutsche Börse competing with London for the [ bond ] contract. That was the last time you saw open interest relentlessly rise, and you're going to see it because it's just math. 1-pot clearing is superior. So that's why now, it's really -- our system is ready. It's integrated everywhere. It's growing its market share one or 2 points per quarter, and it's already 28. That's before all the banks buying in May 1. You got futures coming, and you got all the banks as partners. So all the banks come in as partners plus Jump plus Citadel plus Tower. So you have professional trading firms and the banks and the FCMs, all partners with a system that's working, with the cross-margining that Howard -- when did you sign that? First contract, 2018. Full contract with the LCH, 2020. Oh my God, you've been working on this for so many years to get it absolutely right. Took forever, but it didn't take forever because it's now.

So that was great. There's a couple of things that I want to dig into. The first is I think what's new and what you said is that you now expect to launch treasuries in the first quarter of next year. Can you talk about the decision to do that? Why not just roll it out all once? And you spoke about the DTCC and their clearing relationship with CME. CME is now going into cash treasury clearing. Is there an opportunity for LCH to get a similar agreement with DTCC? And is that in any way influencing your decision to not launch treasuries until the first quarter of next year?

All right. I'll take the second part first, which is I absolutely expect the LCH to do a cross-margining agreement with the FICC. When that will be, I can't say for certain. Remember, the banks are large owners of the FICC, so they -- and the Board members of the FICC are also the Board members of FMX, so there's nice togetherness. Plus the CME has announced they're going to compete with them, plus the CME's a monopoly and the only one and so they can't really tell the FICC. They can't do it by paying them money because that's kind of like not a thing in America. So I expect that to happen. I don't know when, okay? I wouldn't put a finer time on it, but it will happen. And if there's a negotiation between LCH and FICC to do that, I will be in the mix and I will try to make that happen. So I expect that to happen. Why are we doing SOFR first? Because SOFR is perfect with swap collateral. And we will prove to everybody in the most beautiful pure way that what we're saying is absolutely mathematically correct. And when I prove that we are absolutely mathematically correct, then we issue treasuries. And you say, yes, but treasuries, you're not pure and perfect like you are with the FICC. And I say, yes, but do you remember that swaps have like a floating component? You know what else they have? They have a fixed component. And the fixed component of swaps is mathematically superior to 2-pot clearing between the FICC and the CME. I'll say it again. The swap fixed component is mathematically superior to 2-pot clearance. So 1-pot swap and treasury futures is superior to 2-pot treasuries and treasury futures. And then if you say -- and you can also add 2-pot with the FICC to that, then is it mathematically possible for it to be better? The answer will be no. And that is why you build the business on it's just math. It's not talking. It's not anecdotal evidence. You're going to watch open interest grow because it is mathematically in the interest of the client to leave the open interest at FMX because it is more efficient for their capital. It's also cheaper because they have one price deal. It's also they own it. So those -- you put all those things together, we are going to be a really, really, really interesting competitor. I might argue, extraordinary one.

All right. So there's some things I want to talk about with the FCMs that you brought on. So the partners are coming on immediately. Can you talk about the time it's going to take to onboard the rest of the 55, 60 FCMs onto the platform? And when we think about depth and breadth, I think you said depth is going to be the first year. Breadth is going to be the second year. And then you'll be in a position where you can start to meaningfully take market share and volumes. How are you thinking about the time line? What the factors are that's going to allow you to take share? And when you think you'll be in a position where we'll be able to look at volume and say, wow, Howard's a genius, he did it?

Okay. So the banks are beautiful because they all have giant FCMs. So they have 7 of the giant FCMs, right? You have Citi, BAML, Goldman, Morgan Stanley, Barclays, right? I mean you have just great FCMs. Wells, a great FCM. Those FCMs are now connected because they're partners. Their job in the first year is to have -- these banks have agreed that they will get every inch of the bank and the FCM connected. Breadth, get players on the field, everybody on the field. So what that will drive is if Goldman and Morgan Stanley and JPMorgan and Bank of America, if all their FCMs are on and you're not a partner, right, then you'd say, well, why if you're not a partner would you come on? Well, the answer is if you don't come on, then you're giving a gift to those banks to go to your clients and say, I offer the CME and FMX and they don't offer FMX, right? So you're just giving them a gift. So competition will drive the other people to just offer the full suite of products. And why wouldn't they? I mean what's the -- where is the intellectual reason that SocGen would not offer FMX and the CME, once FMX opens and it shows it's gravitas or veracity, ability to succeed, which it will do because they're all partners and Jump is a partner and Citadel is a partner. And if you just have Jump and Citadel, that is not a business. They need to feed each other. So what we did, we just did a corporate bond. We refinanced our bond. We priced it on FMX. And the Bank of America did the bond, and they sold the hedge through FMX. And I'm sure Jump and Citadel bought it, and they made a $0.01. So what? Like that's the ecosystem of bonds, where the banks underwrite and they want liquidity. And Citadel is going to sell the 10-year, the 2-year there, whatever. And that's the way the world works, and that's why it's working really well. And so I think the other FCMs will come on because of competitive landscape, and the banks are going to do it because they're partners and it's in their interest and they've agreed to do it. And that's first year, we get them all on. Second year, we do business. And I think you're going to watch this open interest rise, and you're all going to understand that the -- BGC has the greatest set of assets in the world that are undervalued. And that's why I am so excited to be its CEO because their assets are amazing, right? The fact that we could do FMX and we can do foreign exchange and treasuries. I mean, remember the CME paid $5.5 billion for treasuries and foreign exchange, and we don't even talk about it. We have treasuries and foreign exchange and the company's not even -- the whole full value of the company, with 10% revenue and 18% profit growth, doesn't even count treasuries or foreign exchange.

Let's talk about the FX opportunity because that was one of the businesses that was kind of consolidated into FMX. You're starting from a relatively small base. I think you've said that -- identified it as a big area of opportunity for you. You have all these partners on board. They're on subscription-based pricing models. How big do you think you can be in spot FX trading? And what would that mean for BGC?

It will be as big as EBS 360T Hotspot. We will be -- I think in a couple of years, we'll be a toe-to-toe competitor with those 3, and they were worth $5 billion. And they were all hundreds and hundreds, if not billions, of dollars of value that we're going to build. So our foreign exchange system, I describe it as a beautiful young girl with a gorgeous singing voice in a screaming contest, right? And now that beautiful technology and that beautiful integration is owned in partnership with the banks, then I think it's in the bank's interest to just use it. And it's got a nice business, but you're going to watch that business leap. And basically, you analyze that by ADV. And you're going to watch the ADV leap, and the ADV will get up to the same ADV, in my view, in 2 -- somewhere between 2 and 3 years, it will be as big as the others.

All right. Last question. Pricing on FMX. You've obviously offered subscription-based pricing to the partners. You're giving away futures for free. How do you -- what are you planning to offer the other FCMs that are coming on board? And longer term, how do you think about pricing in FMX and maybe pricing in futures broadly?

I like subscription-based pricing. I like that for big players. I think it's logical for them. They don't necessarily make money per unit economics. So if you break per unit economics, they can do more volume. So I am partial to subscription-based models. Subscription-based models will bring in lots of volume, which will bring in lots of market data. Remember, the CME sells their market data for $600 million a year at like an 80% margin. So that's just a fantastic business to go in. So I think subscription-based models, discounted models, tighter spreads, the same playbook that we used for treasuries, I think you're going to see in futures. And it's growing 1% or 2% sequentially per quarter. We were at 26% in the fourth quarter, 28% in the first quarter. That's before all the banks became partners May 1, so I think we really feel comfortable of where we're going.

Great. I think that's time. I wish we had another 30 minutes, but thanks so much for joining us, Howard.

Thanks, Patrick.