Tradeweb Markets Inc. (TW) Earnings Call Transcript & Summary

Great. Well, good afternoon, everybody. I'd like to welcome Lee Olesky, CEO of Tradeweb. Tradeweb is one of the fastest-growing electronic trading platforms, offering a wide array of products across rates, credit, equities and money markets. Tradeweb is on track to deliver yet another year of record volumes driven by some volatility, obviously, in the environment, but most importantly, continued secular growth from electrification of fixed-income markets. We will chat with Lee about what's in store for Tradeweb into '21 and beyond. So welcome to our conference. Thanks for being here.

Thanks for having me, Alex.

Great. So why don't we jump in. I have a bunch of questions, and then investors and folks listening on the webcast can enter their questions there, and I can try to incorporate them as we sort of go along. But the first one is really around the impact of COVID and the environment we've been in had -- on automation. And the changes in kind of the work conditions over the course of 2020, obviously, with many market participants still working from home has accelerated many of the trends we've talked about in terms of trading and automation for a while. How did you see these dynamics play out at Tradeweb? As people fully return to the office, could we see moderation? Or do you feel like that's a more permanent change in sort of behavior that we've seen in the markets?

Right. Well, listen, before I start on that, I want to say -- I think it's important that we all acknowledge just the amazing work that's been done by the frontline people with respect to the pandemic, particularly our health care workers. They've worked tirelessly. They put themselves personally at risk. And I think they deserve a tremendous amount of credit. Let me say about -- on the business side for us, COVID, as you rightly say, created a rush home and an incredibly quick shift to a remote work environment. It's not just a -- it wasn't just a onetime event either. I think now we've changed sort of the way we'll approach business continuity. And what that's done is it's really presented a firm like Tradeweb and other digital companies a chance to really get further embedded in the workflow of our clients, right? So today, with -- and I still think most people are working from home. We have sell-side trading desks that are back at the desk in the office, but largely, our buy-side is still remote. And when you're remote, when you're isolated, like I am right now sitting in my dining room, you really do need those sources of information in a very quick and efficient way. And more importantly, you need the access if you're a trader to execution. Execution access becomes critical. And I think that this has proven to be one of the real positive sort of elements of this horrible year that we've been dealing with. I think it's accelerated digitization across the board. I don't think it's unique to Tradeweb. We all personally experienced it when we're remote working from home. We need that digital access. I think we're more likely to try new things, and we become more dependent on our own resource and our ability to get things done. So digital access, really important behavioral change that's -- I kind of equated to similar to other crisis, right? So I've been around long enough, lived through the dot-com thing. Tradeweb was born at the inception of the Internet. And in fact, it was at Goldman Sachs and a few other firms where we made the decision to use the Internet to connect with clients as opposed to using historic means of a leased line essentially. And that was a catalyst for massive change, obviously. The next big catalyst for change that I see in our space was the regulatory things that came out of the OA crisis, right? So Dodd-Frank, MiFID II in Europe, that really pushed OTC derivatives into regulated environment. So that was a regulatory catalyst. Today, we have the pandemic catalyst. And I think that this will be a very far-reaching change to many, many things. Obviously, remote access working from home. But I think also an acceleration of digitization. And I think like the other catalysts that we've had, this is going to be a sticky change. I just don't see people after having done this for what will be over a year going back to less-efficient means of conducting their business, whether it's trading or data. And you can see this in the numbers, right? If you look at our October numbers, if you look at our November numbers and our peers, there's been this rapid acceleration of digitization in essentially all of our markets. So certainly, credit, but also the rates market, the money markets, the ETF equity markets, everything we're doing, there's more automated activities. So what we call AiEX, which is our automated tool, that has surged the use of new bits of functionality, portfolio trading, spotting has surged kind of record activity. So I don't think it's going to change when people go back to the office, and I don't think the office is going to be the same. I think we're going to have more remote activity and a different kind of work environment for all of us which will advantage firms like Tradeweb, digital firms that are proven during this period to kind of seamlessly shift and pick up the activity of our clients.

Great. That's a helpful kind of backdrop to kind of take it down to your individual products and asset classes. So kind of let's see how that sort of trickles in, right? And the first area I want to touch on is interest rates, not surprisingly. So a little over 50% of revenues for Tradeweb. Clearly, there's a lot of focus on how the low rate, low vol backdrop is impacting volumes in this corner of your business. So a couple of questions here. And the first one is really around the macro to maybe help us sort of level set. Now relative to the last 0 rates kind of QE cycle, the size of the government bond market is larger. And the market structure with respect to particularly interest rate swaps is very different. Now keeping these dynamics in mind, can you help us benchmark how much lower industry activity could ultimately go in both cash and derivative markets sort of on the industry level relative to sort of prior 0 rates period, considering fact that we've already seen a quite considerable decline. Because I think once people can get a better handle on the macro piece, some of the secular kind of organic growth initiatives and share gains will start to come through in a bigger way.

Sure. Well, look, it's tough to compare historic -- certainly the '08 situation, which was a financial crisis. This is a health crisis. So this is not the same kind of scenario that we had in terms of leverage that was in the system. And so I don't want to lose sight of that. Having said that, we've had negative rates in Europe for a decade. It feels like now, maybe longer. I don't even know how long it is. So it's -- and we've had great growth in Europe out of our rates business over that period of time. What matters for us is not necessarily where the 10-year is. What matters is where people think that 10-year tenure's be in the future. And that's what informs the volatility and ultimately for us, what we care about is the velocity, right? We're a toll taker. We want a lot of cars to come across the bridge. And if there's different views about how things are going to unfold. And I think we're seeing that right now, right? And my guess is this will be an outstanding year for fixed income businesses across the street from the sell-side, and I'm sure in other areas, because we have this accelerating view of where we're going to be with rates in the future. And that's the critical thing in terms of velocity for our business. Having said that, we've had slow periods even this year, right? The summer was quite slow. We still have growth because we have a secular thing unfolding, which is digitization. And even in our most, our oldest market, the treasury market, been around since '98 and a little before that with other platforms that's still on the customer side, 50%, 60% electronics. It still has a ways to go before it hits complete digitization. Derivatives, OTC derivatives, the interest rate swap space 20%, 25% electronic and coming on and more and more will happen. And my view has always been, with respect to the rate space in particular, but also across all these markets, we are going to have much more digitization, much more electronification. And it's not going to come necessarily the way we all expect. We have a variety of protocols we use from historic order books to streaming prices to sessions to RFQ to request for market. So there's going to be innovation that will capture more and more of this activity digitally, which has become an imperative. It's just a much more efficient way to do business. And the activity itself now requires the interface between the software and the people. And so this is becoming more a part of the fabric of the rates space. So we think there's plenty of room for growth there. In some respects, I guess, the worst scenario, if you want to say, okay, what's a bad situation. A bad situation is 0 rate with no volatility, right? That means no trading, no activity, no velocity. I just don't expect that to be the case, even if we have a very low rate environment. I mean, even if you think about it, less than 1% 10-year. It's a crazy level that will, at some point, I think, normalize a bit.

Yes. No, that will makes sense. I was hoping to zone in on a couple of specific product areas within rates. One being, obviously, the interest rate swap business. Despite the macro headwinds, Tradeweb's share gains remain very strong throughout 2020. And I'm really zoning in on just the interest rate swaps over 1 year. That's the largest revenue contributor within the rates complex. I know the other bucket creates a lot of volatility, but not a lot of revenue there. So if I think about the share in the IRS sort of over 1 year, the market share is somewhere in the 17% to 18% there as a percentage of the total industry. And it seem really nice gains, kind of 200 basis points plus a year-over-year basis recently. Can you help us understand sort of incremental sources of share gains you're seeing in that market? Where is that coming from? What's Tradeweb doing to enable more automation in that corner of the market? And what's the ultimate scope, right? I mean there's other asset classes that are much more electronic, and we talk about treasuries, like could this corner in the market be 80-plus percent electronic? Or is there is a natural ceiling in terms of how much could ultimately be automated?

Well, I mean, I'll answer the last part first, which is it's hard to be precise in terms of timing in absolute numbers, but it's going to grow considerably. I don't think there's any question about that. How long it takes to get to this more than 50% level is hard to project. But look, what we're doing right now to drive more activity to the platform is what we've been doing all these years, which is trying to add new clients and get existing clients to use the technology more frequently. And it's a global effort, right? So we started in the states. We have Europe now. It's been around for a while. Asia, APAC is a more recent area for us. And actually, that's an area we're seeing more growth. In swaps land, interest rate swaps in particular, the core currencies, while there's still only 20%, 25% electronic in dollar and euro and that sort of thing, sterling, we're starting to do business in emerging market swaps. We're starting to do business in the next wave of swaps activity, so packages, a bond attached to a swap done electronically, swaptions. There's sort of concentric circles that go out around these businesses. And as people get more comfortable with the technology, those that have a little bit less velocity and then they're slightly smaller markets sort of gradually gaum on. So we're pushing that out, adding clients. So I think we still -- we forget swaps really as much as -- I mean we started swaps, I remember, it was '05. When I was in London, we started swap trading in Europe. It didn't really get going until the regulatory change. So that's 5, 6 years ago in the U.S., a couple of years in Europe. And I think it's when you look at it compared to treasuries at 50%, 60%, you look at even IG in the U.S. now all of a sudden, it's 30% to 35%. And it's got a ways to go. So we're quite confident that it's going to grow.

Right. The other area within rates I wanted to talk about is mortgages. And mortgages have been a very active area for Tradeweb in 2020. Can you help us think about through sort of the rep sensitivity to refi volumes? Generally, the market expects meaningful decline over the next couple of years. So is that something we need to worry about? And then separately, you rolled out new capabilities there to address specified mortgage part of the market. How has that client reception been so far? I think on the last call, you talked about $25 billion in ADV in that market, which is substantial. So kind of your thoughts around what percentage of that could ultimately utilize your protocols and move on to your platform?

Well, let's start with specified pools first. I mean it is a smaller market, but it's essentially a manual market right now, less than 5% is e. So it's got a ways to go to electronify. We have a huge advantage in that the network of customers who trade those instruments are exactly the same or largely the same network that that we have on with our TBA pool, with our rest of our rates franchise. So we think there's a -- in that TBA market is kind of 60%, 70% electronics. So there's a ways to go here with specified pools. We like to be the first mover and a leader. So we're confident that will continue to grow. It will take time. Like all these things, it does take time to generate real momentum and velocity. When it comes to the TBA market, yes, this has been a level of refinancing activity that's been significant. It's led to a very robust year for us on the mortgage platform, the TBA platform. And it's been an attractive asset class relative to other asset classes for our customers. But even when refinancing has slowed down, so we saw that in '17, '18, we had significant declines of refinancing. Our mortgage business volumes were pretty stable. And so there's going to be surges of activity in different markets. And when that happens, and especially in a market where we have such a dominant position, not just in our institutional business, but our wholesale business. It's going to be outsized games. And look, that's one of the reasons we've got such a diverse business in terms of the breadth of asset classes that we're in, even within the -- within a rates complex, you've got interest rate swaps. You've got all the various government bond markets. We've got the mortgage markets, the TBA markets. And they're not going to all deliver on the same exact timing. There's going to be different things happening in the macro environment that creates more activity in one or the other. But it's been a nice run for the mortgage business. But we've been in this business 20 years. And so it continues to have this secular growth, but at the same time, there are periods where there's a lot more activity and mortgage has been one for this year with the rate environment.

Right. Let's shift gears a little bit. I want to spend a few minutes on credit. It's a newer area for you guys, but obviously, you've seen tremendous amount of growth there in the last couple of years. Starting with really maybe some framework around a market share dynamic and market share outlook, you guys are -- made it very clear from the beginning from the IPO that there's numerous protocols that you are kind of approaching the market with. There's the net spotting, but then there's also portfolio trading and a handful of others. As you zoom out a little bit and you say, okay, over the next 12 to 18 months, which one of these do you feel like is going to be the most significant driver of incremental market share gains? And kind of similar to rates, where do you see these incremental market share gains coming from? Is that switch -- some customers switching from one platform to another? Is that leveraging your footprint in rates or something else?

Yes. This has been a real high priority for us over the last several years. We didn't really get into credit until 5 or 6 years ago. And I think you rightly point out if -- when we were doing our roadshow back in April of '19 and we said, "Hey, we're going to be 10% of the electronic market next November and we're going to be 20% of the entire market when you include our processing business and will be the lead in Europe in investment-grade slightly behind Bloomberg, of course, because they've got a slightly different business model but ahead of a market access, people would have said, you're crazy. But we hit 10% electronic and 20% all in, in November. So we're really pleased with that. And I think that the growth there comes from a number of factors, things that are of our doing and some things are just the importance of having competitors in the market and the markets need to have competitors. I think that's a big driver of long-term behavior. Most institutions, most individuals like to have competition. And so I think that that's an important factor. We've now -- we're now the clear #2 in that space. But innovation is really the key to success over the long haul. It's not just that people want a second platform. They want a second platform or a first platform that is innovative, solving their problems, efficient, lower cost, and that's what we're doing. And we're doing that in credit -- and specifically in credit, you can see that with some of the things that the team has done in the last couple of years. I mean portfolio trading, we were just talking about this morning at one of our operating committee meetings. I remember 2 years ago, we were thinking, okay, how many -- how many instruments do we have to do in a portfolio trade? Like, what's our functionality level have to be at? And we're like, I don't know, 200, 300, 400, and some people like, no, it's got to be thousands, and I'd like to stop it. Thousands isn't going to happen. We were talking this morning about, well, it's 800 now, when is it going to be more. We have clients doing hundreds and hundreds of instruments in a portfolio trade. That did not exist, and we didn't have the capacity for this. We're on our third version of software innovation in portfolio trading to keep up with the demand in the marketplace. We've also done things like the spotting where we've linked the treasury market to the IG market. The netting, which is a real cost savings, if you don't have to pay the bid offer on a dozen treasury trades and you can net them down to one, you've saved yourself a bid offer. So that's just an example. I mean we have session-based trading. We have something we call rematch, where we're now including all of the different segments of liquidity that we have from retail, wholesale, institutional. So these innovations, I think, have been really the core driver of how we've accelerated our growth. Yes, we benefited from being remote. Yes, we benefit from having a holistic platform out to thousands of institutions, with 700 customers online and integrated. But the key to success for us, and I think anyone else will be -- do you have the innovation? Can you deliver the next version, the next version that helps clients process their business, do their business more efficiently and ultimately find the other side of the trade? I say this all the time. We're a search engine for our customers to find what it is that they want on the other side of the trade at the best price.

Yes. And I mean look, speaking of innovation and staying in credit for -- on credit for a second, on the last earnings call, you talked about how your tech team sees a very busy pipeline over the next 12 months. So I wanted to kind of double-click into that for a second. But what are some of the new features and verticals that you're sort of thinking about rolling out what parts of the credit market that you're looking to address that perhaps has not been addressed currently by either yourself or your competitors, perhaps that sort of can inform us how meaningful those new initiatives could be.

Yes. So our team of 300-plus in tech is -- well, they remain very busy. I think they've been busy since we started the business. And thankfully, we've got -- we still have a ton of those folks that are with us today. It's a phenomenal group, and we -- I'd have to say one of the most challenging things now and what has been challenging over the years is prioritizing what work gets done first because there are so many, many things to be done. In terms of some of the things that we're putting more emphasis on and where we think there'll be more interest in the future and even today, we're starting to just see this acceleration in things like streaming, obviously, all-to-all rematch, things where we're linking markets together so that if a particular bond in a portfolio was only held by someone who's in our retail world can get into the portfolio of someone who's an institutional trader. Kind of stitching all of this together is a really important. It's something we have an advantage in because we have all the different segments, but because we also have this diversity of markets. And look, I don't think it's any secret we see our competitors and some of our peers trying to do some of the things that we've been doing for many, many years now already in terms of being multi-asset class and linking the markets together. But there's a ton to do. I mean we've got things going on. We just launched our CIBM initiative to China. We were the first in China several years ago. Through Bond Connect where we brought the institutional community that's on our network into the domestic market in China through Bond Connect. This year, we launched another channel into China. It's called CIBM Direct, which is another pathway for institutions to get access to the domestic liquidity in China, and we think that's another big opportunity in the future.

Great. Well, why don't we shift gears a little bit. I want to spend a couple of minutes on data because it's definitely important on multiple spectrums. You guys being a trading platform in these unique instruments, you generate a lot of valuable data. So can you help us update sort of on the data strategy there? How are you thinking about adding capabilities that could further accelerate automation of trading with your data sets? And what's your sort of appetite for acquisitions in the data space? Because that's clearly been a theme for the last couple of years in this space?

Sure. Well, look, the biggest drivers of electronification remain the same. The cost reduction, the advance in technology, regulation. But specifically for data, especially in this work-from-home environment, I think clients really need the quality market data and prices in front of them more so than ever. We're all -- a lot of us are sitting on our own as opposed to being on a trading floor with colleagues and sources of information. We have more limited monitor space usually and a little less resource. So in some respects, data has become even more critical for those that are working remotely. And -- we in the sense, we're just one big data company, right? Everything we do, if you have our GUI in front of you, it's data. That's what people ask. So the starting point of every trade is being able to see where the market is, and that's data. So it informs everything that we do. The investor base and other businesses kind of break out data somewhat separately, but really, data is being used by Tradeweb for everything. It informs how we generate tens of thousands of prices in corporate bonds that go up on hunter screens. They get used both as a start of an RFQ or into our session-based trading, so that you know where the price is and it's legitimate. It's also used for purposes of things like AiEX. So there's a lot of -- my point is there's a lot of ancillary things that are related to data are -- really are data that are not what people think of traditionally has, data revenues. At the same time, we brought in over the course of the last year or two, some new talent to focus on what would be more traditional data. So this is data scientists, it's engineers, it's technologists and it's product specialists that are focusing on what is the best way to take things forward in terms of our data business. And you can see some of the results of that are some of the things we're doing with the benchmarking that we've done with -- we did 1 with ICE. We've done 1 in Europe with the Gilt close. Those will be places that you'll continue to see us getting out there and trying to provide the market with the information and needs for a variety of different reasons. So yes, data is a really critical component of what we do, and I think it's something that we will still be investing in. In terms of M&A, as it relates to data, yes, any time we can further our reach into clients, expand our asset class set, we're going to do that.

Got it. And while we're on the topic of M&A, I was wondering if you kind of expand the scope here beyond data. And just thinking about other areas of inorganic initiatives that you might be thinking about. Clearly, the balance sheet is in great shape. You guys have plenty of capacity. So any other areas where inorganic growth could make sense for you guys? And sort of what's your approach to M&A broadly?

Yes. Well, it seems like everybody is pretty busy on that these days. The world is consolidating. And certainly, our corporate development team, which is another area we've really built up over the last couple of years is extremely busy. I'm personally spending a good deal more time evaluating potential deals. And we think it's time well spent. We're always going to look to a couple of key areas. While we're going to be disciplined, you're right to point out we're heading towards $1 billion in terms of cash. We've got a $0.5 billion line of credit. So we certainly have the firepower to do things, but we're going to look to how do we expand our network geographically, how do we add to our technology capabilities. I think that, that's a critical area where there's essentially a war for talent going on across industries for those types of folks. And also, we'll be looking to expand in places where we might already have a foothold. So how can we further take different asset classes and develop a more significant market share in different asset classes. So this is -- we're focused on growth. When we look at things, we obviously understand -- we're all shareholders in the company. We focus on, of course, margin expansion. We know that's what the market wants to see from us. But we really focus on growth. Where can we acquire things that we can make more efficient and grow more quickly as a result of our tech, our people and our network.

Right. Well in speaking of margins, I wanted to ask you around your expense philosophy in the current environment. And look, given the fact that, as you pointed out, Tradeweb is a growth company and you got to invest for growth, like we've seen you guys do over the years. But at the same time, you talked about this kind of path towards expanding EBITDA margins. And since the IPO, you guys have been on that path. But given the fact that next year, to be a fairly challenging comps here just from a macro perspective, what volumes have done early 2020, hard to repeat that in '21, how do you balance that against some of the growth initiatives? What visibility do you have on the expense front next year to kind of continue this EBITDA growth, EBITDA margin expansion, '21 and '22?

Yes. Well, look, there's a few -- and I don't think this is unique to Tradeweb, you can -- you guys have talked about it a bunch, and I think it's absolutely spot on. There's a few areas that I think most companies are looking at -- I mean the simple one is T&E, right? So there's a lot less travel and entertainment and as much as we're kind of thinking by the middle of the year next year, things are going to get better. I still think the spend there is going to be reduced. And I think that there's going to be considerably less travel for an extended period of time. Real estate footprint, that's kind of chunky, and it depends on the circumstances, which location are you talking about. We have a number of locations throughout the world, but we do think we're doing a lot of workforce planning on where people need to be based. I think we're much more comfortable with remote access. You can have developers anywhere in the world. Customer-facing folks need to be where the customers are, but not so much directly anymore. So I think real estate is another area where we're going to be trying to have the right fit for the way the company is organized in the future. And we're working on that stuff. I don't think anyone has a real crystal ball, but we know that there's going to be more remote access. That's not some brilliant statement as I'm talking here from my dining room. It's -- that this is going to become a component of how people work. And then look, there's -- sometimes there's costs associated with that. I don't have a background like you do there, Alex. But at some point, maybe I'll have like a screen by me, and we'll all have studios in our houses. But generally speaking, it is a -- I think it's going to be a lower cost to run a business kind of environment. And then finally, the last kind of toggle that we have is related to compensation, right? So we're very performance-oriented organization. So I'm not suggesting this is the case next year. I think we have a lot of growth ahead of us. But in the event we have less growth and less performance as a business, our comp expense goes down as -- so it's kind of a hedge for that, although I don't think it's a likely scenario.

Got it. Actually couple of minutes over. So I want to thank you for joining us. always a pleasure to see you. Thank you for joining us. Always a pleasure to see you. Thank you for joining the conference. Best luck through year-end, and we look forward to seeing you guys next year and hopefully in person.

Thanks. Thanks a lot, Alex. Appreciate it.

Have a good day. See you.