S&P Global Inc. (SPGI) Earnings Call Transcript & Summary

All right. Thank you. Sorry, if we were just staring at everyone. I was looking for a start screen. Anyways, welcome back, everyone, to the UBS Financials Conference. I'm Alex Kramm, senior research analyst at UBS, covering the U.S. exchanges, the rating agencies, information services and commercial real estate brokers, is delighted to have S&P Global up next. Obviously, been a big focus for investors this year with the INFO deal. But I'm also excited to have -- host somebody here for the first time, with Dan Draper from the index business -- or rather the S&P Dow Jones Index joint venture. I think I got that right. Anyway, considering that Dan has started during the pandemic, I believe, I don't think we've ever met in person. So I'm excited to have a little bit of an opportunity to dig into his business a little bit deeper. [Operator Instructions] So I'll be watching the question list here. We certainly have a lot I want to get to, but if you have any questions, feel free to put them in the chat box and I'll try to work them in the conversation.

So with that, why don't we get started? Dan, again, thanks for being here. And given that there's no formal presentation, what I usually like to do is to start off very, really big picture for getting the current environment or COVID and all these other things people are always preoccupied with. But when we think out medium/long term, when it comes to the index business within S&P, what are the things that you're most excited about to keep the growth going, where it's been?

Yes. Well, let me start. Alex, thank you and UBS for inviting. Pleasure to join you and everyone else on the call. In terms of medium to kind of long term, look, very strong secular trends remain very attractive for the indices business and S&P Global in general. So in terms of the shift of active to passive, yes, this is a multi-decade story that's continuing. But in terms of the past couple of decades, what we've seen is whenever you've had any type of market correction, the dot-com bubble bursting, financial crisis and even last March, an abrupt recovery, as you've seen active losing the market share to passive and then the recoveries we've seen. And again, a record year in ETF AUM growth. So those strong secular trends and then also just looking at the strength of the brand of S&P Dow Jones Indices, celebrating our 125th anniversary this year of the Dow Jones Industrial Average. S&P 500 is 60 years old. So being able to take kind of that history, which has really built our brand around independence, but then thinking ahead, areas I'm sure we're going to speak about, taking our core and positioning it into the strong secular tailwinds into innovative areas like ESG, Factors, Thematics, those areas.

Fantastic. I think that tees it up well. Going back to basics for a second and since I don't think a lot of investors dig into the different components of the growth, from a reporting perspective, your business breaks down in 3 areas, right? It's the data subscription, the asset-linked fees and the exchange rate derivative side. I'm going to ask questions on all of these in a minute. But can you just -- for the benefit of the audience, just remind everyone what the biggest drivers and components are in those businesses.

Yes. I think we may be able to just share a slide. Thank you. Chip is helping out. Thank you, Chip. Yes. If you see the breakout -- but just very quickly, it's just for definition. So our data and subscription, our data and custom indices basically are where we offer custom index solutions data subscriptions to our clients who really use them for informational purposes. This would include active managers, for example, around benchmarking and things. And broadly, that category, as you can kind of see, equates to usually between 18%, 20% for us on a run rate-type basis. But then you move into the other areas, which are much bigger for us, investment product licensing, which -- where we have under asset-linked fees. Effectively, that's the biggest portion. That's where we work with particularly large fiduciaries, asset managers, to some degree, investment banks, insurance companies, what have you, to really license out our intellectual property for ETFs, mutual funds, separately managed accounts, structured products, really like across that. And that's where we're seeing obviously very strong growth. And then the third category is exchange-traded derivatives. And this is really where S&P Dow Jones historically, I think, has built competitive advantages because we've been very focused to build a liquidity ecosystem. So bringing in, if you will, the short-term traders, market makers to market, but building liquidity that can really benefit on the other end of the liquidity spectrum asset allocators and building strategic asset allocation models so their transaction costs are much lower. But it's that combination of ecosystem that's important. So when we build new IP, really thinking across all of these 3 streams, they are related, where we can really get our leading IP out to market but then also the exchange-traded derivatives, OTC derivatives, providing hedging, additional liquidity benefit to then bring in other type of client segments. And then clearly, for us, I'm really thinking about ways where then we can earn more subscription data revenues as well.

Since you just closed on the subscription data side, one thing that sometimes sticks out to me is on that side of the business, when you look at your largest public competitor MSCI, their business mix is slightly different, right? And not to advertise them right now but their business -- I think about 60% of their business is subscription. And in dollar terms, I think it's more than 3x what you have. So I understand your business, maybe not as global and maybe their benchmark businesses are slightly higher, I think, 30% higher. But what is that big delta? Have you not priced well enough? Is there just not as much data to go around because you're much more U.S.-focused? Or is that an opportunity over time to do more in that area, not just on the product side?

Yes. Well, I don't want to specifically talk about a direct competitor. But what I would say is that strategically, everything that I've mentioned from the history of the brand of what we do, where originally benchmarks were used decades ago for active management relative performance, that evolution and our history in that to then indices and investable products, that's really, I think, where we have traditionally benefited. And if you look at the secular trends, things like ETF, AUM and others, we want that upside. We want to be able to participate in the economics that are more affiliated with intellectual property and products. So again, you're right, our mix is different than others. But again, with the strength in the secular trends for us to be able to be more aligned, I think, with many of our end clients and what they're trying to achieve, we think it's a good mix. Now that said, you make a good point, is there more opportunity in data and subscriptions? Absolutely. And I think we want to invest and take advantage of that. But in terms of some mix, I think looking again at the strong, and particularly the multi-decade shift from active to passive, the ability for us to participate in that and to have kind of aligned incentives with many of our big clients as they grow, we grow, again, it's appropriate for our strategy.

Right. But you don't feel -- maybe just to circle back one last time, but you don't feel like you've been under pricing on that side of the business? I mean you used to be a client, right? So you've seen them all, though you've been more on the ETF side rather than on the, I guess, benchmark side. But you don't feel like S&P has not been maybe firm enough or commercial enough historically in that area or maybe any of the other areas?

What I can say is, look pricing for us is a strategic element and a source of potential competitive advantage. So we actively engage with our clients on a regular basis. We make sure we understand potential changes in client demand. And really, as we segment or channelize and think about different channels of our business, really thinking about pricing elasticity and making sure that we, again, working with our clients to get that right because there is opportunity of pricing, but also thinking about volume growth. How can we really, and when you have, again, the strong secular trends that we've seen in things like ETF, AUM, you really do want to be able to, with the scale that we're building, take advantage of that type of volume growth. So again, this is not something that's static. We're constantly kind of monitoring. And then where we can get more granular, certainly, on a channel basis, we really want to do that.

Fair enough. So why don't we get into the passive side then that you mentioned earlier. Clearly, that's where you're excited. And you made some comments already. But you see the flows. They are very strong. They move from active to passive, you mentioned yourself, particularly on the ETF side. So how far along are we? I mean this is always a difficult question to ask. But how much run rate do you see? What are the statistics that you look at as you assess the opportunity set down the road?

Yes. You're right. I mean there are different metrics. I would say probably one of the leading ones that we do look at is the percentage of average daily trading volume of kind of passive as an indicator. And you look on an average day, about 25% to 30% of the trading volume on certainly U.S. exchanges is related to passive investing. A lot of it's ETFs, but both the underlying as well as the ETF wrapper itself. And we kind of estimate, but what's interesting is that's passive. But if you look at actually active management, which is declining market share, their percentage of the actual trading volume, because they're trying to generate alpha and they're more actively trading, is still the vast majority of the trading volume. So just predictive analytics, what we do internally at S&P, we kind of estimate with that, even if passive-related trading volumes actually got up even to 80% of the total market. Again, from 25% to 30% today, active managers and their alpha-seeking strategies would still generate about half of the exchange-traded volume. So again, until we hit somewhere this -- on that metric alone, this kind of 80%-plus number, we really don't see passive running out of runway. In fact, we just see a long continued kind of runway for some period of time from here.

I just asked about the pricing on the subscription side. Maybe I'll just ask on the asset-linked side since we're speaking about it just now. Maybe just, again, for the audience, talk a little bit about how pricing generally works. I think on the core signature product, I think it's been more of like a basis point fixed fee, maybe with some sliding scales. But I know some of your competitors also pricing off the management fee off the underlying ETF. I don't know if there's any commonality here. But generally speaking, how should we think about it? In particular, as we think about -- I think everybody knows that ETF's price -- ETF pricing has been coming down and some of these ETF providers, your customers, to some degree, are trying to undercut themselves in some areas. So how do you -- how are you positioned as you see the ETF ecosystem maybe evolve on a pricing perspective?

Yes. I'll -- again, I -- every agreement with clients is confidential. So I'll give you generalities, but I think you hit on some of the points. But what I would say, it is multifaceted. And I think, in general, once you achieve particularly high volume in some of our leading products you do, pricing does evolve over time. And as I said, thinking for us about pricing as a strategic tool, not being defensive, but really thinking through opportunities, particularly to grow volumes or to think about new client segments that we want to address. And we all do this in a vacuum. We're doing this engaging, obviously, with our clients, so being able to think about joint and market opportunities. So as we can add more quantitative pricing predictive-type elements to the pricing analysis and then that segmentation, it really kind of adds, we think, a lot of value through that. You rightly mentioned there has been pricing pressure really for over a decade, and particularly in areas like ETFs, and we've seen that. And again, I think we feel we've been able to adapt. We certainly -- our clients feel the pressure. We're going to feel it because, again, the incentives that we jointly have are fairly well aligned. But I think we've been able to also pivot. And that's where our core range, as it does build for more scale and volume -- and again, we have a pricing strategy with our clients to adapt to that. That's what we're also been pivoting. We have to look out medium to long term of growth and innovation areas, where if we can get to market early with a benchmark or kind of a new index in particular, then can we build out some space, be a first mover, work in the derivative space to build the liquidity support and then, obviously, with exchanges to get kind of the liquidity advantage. If we can get ahead to start in new IP, new asset classes, new segments, then that can give us -- and our clients who license our IP and give us a little bit of a pricing advantage for some period in the market. And again, as that matures and grows, potentially more competition, then we want to make sure that, again, we're strategically thinking about pricing. That's a little bit of the ecosystem that kind of works through the pricing mechanism.

Great. And since we're talking about pricing to some degree, and I don't know if this is a pricing question or not, but there have been some well-documented index switches recently in the space and -- actually, not just recently but also over time, and not just you but also some others in the space, obviously. So BlackRock, I think you recently lost something to FTSE. I think on the Vanguard side, you recently gained something from NASDAQ. So I guess the question is, what is driving that? Is it the focus of some of these products? Is it maybe more retail and maybe the switching costs are not as high or it's easier to switch? Is it a fee play? And since -- I at least believe that there are some products that are more institutional than others. And on the retail, you probably have the least, I guess, benchmark status. Like do you have a view how much is in institutional versus retail in your business? Do you think about it that way from a stickiness perspective?

Yes. Look, I'd say from the top, I mean, look, benchmark switches that you're kind of referring to are relatively rare. You're right. There have been a couple in the industry earlier this year somewhat coincidentally, but these are difficult because particularly when you're going to a mutual fund or an ETF world, those fiduciary worlds, it's not just a provider, and I can say this for my former life, an asset manager just makes the decision to switch. There are usually Fund Boards involved. There are fiduciaries. What -- these things are done, it's not done out of pat. It's really being thoughtful for what's best for the shareholders or the fundholders there. So that has to be primary. And again, you have trustees and fiduciaries who ultimately have the ownership of making that call. So it may not be as clear-cut as maybe some of the headlines think when you make this. But the reasons behind them can really vary pretty significantly. Again, ultimately, those fiduciaries have to believe that on behalf of the shareholders of the underlying funds, there's going to be some level of potential benefit to them. It could be methodology, obviously, price or fees. There could be underlying -- there could be a number of things behind it, but there has to be a pretty substantial case. That's why, at least in ETFs and mutual funds, those types of switches, like I said, are not particularly common. I would say in terms of institutional versus kind of retail, again, it will come down to kind of the mandate. Those institutional clients, a lot of them are saying separately managed accounts. So you may not have the same fund constraints or guidelines around that, but you'll have investment policy statements. You'll have other types of fiduciary guidelines in place. And if the mandates change, then that could open the possibility for a methodology change or something. So it is quite nuanced. But I don't think you can really point to one particular trend when these really large switches happen. But it's incumbent upon us as we do is to continually engage with our clients. And then we think a big strength of S&P Dow Jones is when market conditions change or client demand that when we have existing benchmarks that we have an independent governance process, we have open consultations to the public that we can in an appropriate way take in that information and try to keep things relevant. And then if it changes altogether in terms of our big benchmarks is that we need to launch new indices and things like that. But that gives a little bit of a flavor of what's behind it.

Yes. Kind of related to this -- related to index switches, of course, and this is a topic that I feel like people have been worried about, have been talking about for many years, but I don't think we have talked about it. So it's a topic of self-indexing, and maybe it's just the same thing. And again, some of your core indices, like the S&P 500, I view as very difficult to displace because people really want that exact exposure. But on the more commoditized or what I said before, retail-type products, and again, maybe this is the wrong way to call it, like is -- can you be successful? Is there a risk that you see? Or is this just a niche market that potentially self-indices? And are there any opportunities there?

Yes. So I would kind of lean toward the latter of your -- the options you threw out there a little bit when then you said. But clearly self-indexing, it's out there. In my former life, I've been kind of around in part of it. And it's there. But I would say that for me, there's a big difference indexing broadly to launch a new index. The barriers to entry are pretty low. I mean it's even -- very little marginal cost to launch a new index. To then support it, ongoing and then build scale and to really the independent governance process that I mentioned to have increasing investment in automation, corporate actions, being able to really support at scale, that's a big commitment. So the barrier to entry to launch is low, but I think the barrier to scale and to sustain, especially indices, that's really hot. And I think there is opportunity. So not in all cases, but in many instances where we have clients that do self-index, they can do it for a variety of reasons. But their underlying services, they still want to outsource to us. Calculations or other types of things, there could be opportunities behind that. So that's where, again, the partnership is really important. But what we do find is that self-indexing, there are use cases. It may be specific to a certain client or a client channel or certain areas. But in terms of broad-based, the growth and the scale that we're kind of focused on that really move the needle in the industry, it's not particularly large now. But this is just it's incumbent on us and our client engagement teams to make sure that we're servicing clients the best way. With our standard benchmarks, custom or if there are some elements that they want to do something themselves but they want to outsource pieces of that to us, then we want to be the first port of call for that business, too.

Yes. Just one last one here. And I don't know if this makes sense, but since we talked about pricing earlier, I tend to think about pricing on almost like index-by-index or ETF-by-ETF product. But considering your scale, and obviously, you used to be a customer, are you able at all to benefit from that scale by maybe even pricing across the business so that you can say like, "Hey, listen. I know you need to basically have the S&P 500. And when it comes to some of those more commoditized products, yes, you have more choice, but maybe you should think about S&P as a partner because we can kind of almost bundle this a little bit?" Or is that not possible? Or is that happening?

Yes. I think kind of the more general comments around prices, client by client specificity. I just want to be clear on the -- we don't really kind of get into that level of detail. But look, I think every case and then the pricing that we do specific to each index, we try to look at that and we try to engage on a client-by-client basis. And again, using the analytics and things that we can do to make sure that we're relevant but in partnership with what our clients and their clients need, that's our top priority around pricing.

Okay. Fair enough. And then just last one before we get into more exciting areas. But I think you actually mentioned custom indices as well for a second there, but I think sometimes people confuse self-index and custom indexing. So can you just talk about custom indexing and how that can be a driver or potentially a risk as we hear about that more and more in the industry?

Yes. If I could maybe have 3 buckets, if you could almost envision the concentric circle, we would think about kind of vernacular kind of custom slice and dice. So this would just be a variation of one of our kind of standard benchmarks that we would fit into that. We'd have a middle bucket of kind of hybrid -- custom hybrids. So this could be the clients' proprietary index, but again, referencing one of our core. And then you'd have kind of the third category to be almost kind of a custom white label. So this would be a true proprietary index for that client. And again, we have the ability to really kind of reference through all of that.

Yes. But is it a driver at all right now?

Yes. And again, I would say the growth of those characteristics can be more -- a little bit more specific on a channel or kind of a segment basis. So if you look at institutional, more sophisticated clients, their mandate or their investment policy statement may be more specific. They need something that would be more customized, that would be -- and then also due to the size that they would move in, the ability to use a separately managed account to really support that, for example. So you'd see on those client channels, it'd be the custom business. And it is growing. It has growth characteristics. ESG is part of that, another innovative area. So it's an area of growth for us, and again, we think, in our competitive advantage.

So let's talk about innovation. I want to touch on that in a minute when we talk about the IHS Markit opportunity, which I think can be helpful for innovation. But even without that, I mean when you were brought in, there was no IHS Markit deal, right? I assume that wasn't -- maybe that was early planning. But anyways, you were the new person who got brought in. And I think I've said in the past and I've heard this from customers too that I think the S&P index business has been a little bit complacent around the S&P 500, while other providers who used to be a customer have maybe a little bit a bit more innovative in areas like Factor or ESGs. So outside of the INFO deal, like where are you focused in terms of driving this business on a stand-alone basis into other areas? I know you've done some hiring, for sure, to jump start that. So maybe talk about this a little bit.

Look, I think, again, over the long history of having the traditional benchmarks, building our brand, the independent governance, all these things that I think are really differentiated over a long period of time. S&P Dow Jones has also had to remain relevant. So innovation is top of mind. So as we think about the business going forward, having our core piece, which we talked about, but also the innovation piece moving. And that's where I think it's particularly important to emphasize even an S&P 500, which is a core -- the world's largest benchmark in an index, but also within that ecosystem of the S&P 500, being able to build exchange-traded derivatives. We now have micros in that product in the U.S., for example. Obviously, the listed options, OTC, but now also versions of S&P 500 ESG. So even though that sounds -- that individual index itself, and if you will, the extension of that into different client channels, different markets and different types of wrappers, if you will, there's innovation and continuous innovation that's going to be done even there, on there. But I'd say outside, if you look -- and we can talk about fixed income a little bit. But I would say, clearly, ESG is our biggest organic growth focus. That's something that S&P Global is obviously hugely focused on. So as we leverage our partnership with our sister organizations, Sustainable1 as well as Market Intelligence, particularly areas like climate where we are getting competitive advantage even in markets like Europe, for example, with our net zero indices that we launched there, where can we really start to differentiate and innovate again around S&P 500 and using that as a core to really kind of an installed user base, if you will, to kind of leverage in that. I'd also say, as we've evolved over time, that core S&P 500 20 years ago evolved into seconds. It evolved into style, different types of -- and as we even think about those areas, again, Kensho acquisition a few years ago by S&P Global. How can we think about those traditional version 1.0 sets, if you will. What will version 2.0 look like, using AI, using machine learning? How will those traditional offerings kind of evolve over time? So launching Kensho indices, which we've done, now getting them into ETF wrappers, which are gaining AUM. That, again, being able to kind of leverage through those sets. And then most recently, within the last couple of months entering into the crypto asset space. And being able to build, we believe, some of the most robust benchmarks in that space. And now again, establishing the benchmark, working with our clients to then explore opportunities where we could then create indices for investable products in different types. So those are different areas that we're looking through. And then as you kind of referenced with the pending merger, we're still waiting for various approvals, but the ability to add fixed income would be great from a multi-asset class perspective.