S&P, Dow Jones index venture may not lead to industry consolidation
By Kevin Olsen | June 22, 2012 9:33 am
Updated with clarification
The S&P Indices/Dow Jones Indexes joint venture is expected to close by the end of June, but industry sources do not view the move as the beginning of a major consolidation among the largest index businesses.
The major players are embedded in stock exchanges and market centers, making sales unlikely, said Scot Warren, Chicago-based senior managing director of equity index products and services at CME Group Inc., which owns 90% of Dow Jones Indexes and will hold a 24.4% stake in the joint venture. The Department of Justice completed the joint venture's antitrust review and the transaction is expected to be completed by the end of the month.
S&P and Dow Jones will keep their individual brands following the closing of the joint venture, and the arrangement will help achieve cost savings and accelerate the launch of products by leveraging technology, data procurement and McGraw-Hill's infrastructure. It is a way to achieve scale and get “expense synergy,” Mr. Warren said. The joint venture includes a licensing agreement in which CME Group will pay S&P Indices a share of the profits in its trading and clearing business for futures, swaps and options on futures.
S&P parent McGraw-Hill Cos. Inc. will own 73% and Dow Jones & Co. will own the remaining 2.6%. Mr. Warren added that market centers and exchanges acquiring index businesses are a “natural tie” because exchanges prefer ownership to leasing index businesses and it helps accelerate creating new products.
Mr. Warren said the exciting part of the S&P/Dow Jones merger, coupled with the London Stock Exchange buying full ownership of index business FTSE Group in December, is it will lead to increased collaboration in commercial ventures with index businesses. With more access to data and data dissemination, it will help drive these firms to create better products, he said.
“Competition is good, it drives innovation,” Mr. Warren said.
Russell Investments Inc. in May launched its first fixed-income index, a liability-driven investing index in partnership with Barclays PLC, said Rolf Agather, Seattle-based managing director of research and innovation. Russell has also partnered with Axioma Inc. and Research Affiliates LLC in the past on equity indexes. Mr. Agather said Russell is “always looking for organic or inorganic opportunities.”
“Partnering potentially ends up being a more favorable structure in a lot of places,” Mr. Agather said, citing Russell's expertise on LDI with Barclays' brand-name and index capabilities.
Major index player MSCI Inc. has a similar outlook on acquisitions, but there are few natural sellers at this point, said C.D. Baer Pettit, managing director and head of the index business. MSCI acquired Barra Inc. in 2004 and RiskMetric Group Inc. in 2010.
“We are definitely open to looking for acquisitions in index businesses,” said Mr. Pettit. “The goal would be something complementary to MSCI.”
However, Mr. Pettit said MSCI rarely competes “head-to-head” with Dow Jones and S&P indexes and does not expect the merger to create any major shake-up among the other large players. He does not see exchanges and market centers selling their index businesses because they view them as a strategic asset.
“I would just say the question revolves around the need of the seller and parent company,” Mr. Pettit said.
Brian Cochrane, Chicago-based global leader of M&A at Aon PLC, said he expects to see mergers accelerate but the “pickings are small” right now. He thinks it is a much more likely scenario to see larger firms “gobbling up” the smaller players than small index businesses banding together.
“I don't see how you survive if you don't merge,” Mr. Cochrane said. “I think there will be a consolidation.”
Mr. Warren said CME Group's current focus is on wrapping up the merger with S&P, but the joint venture is also open to potential acquisitions.
On a competitive basis, Russell and MSCI do not think the merger will affect their businesses very much as each major player has a dominant stronghold on a portion of the industry, albeit with overlaps. While S&P and Dow Jones will grab a large share of the commodities market and retail U.S. equity, two-thirds of U.S. institutional investors use Russell in benchmarking, MSCI is the dominant index in global and international equity and Barclays has a firm grasp on fixed-income products. FTSE is deeply embedded in the London Stock Exchange now, while STOXX is largely owned by Deutsche Borse AG, a German market center.
“That combined (S&P/Dow Jones) firm is roughly the same size as MSCI in terms of revenue, but we compete in very different areas,” Mr. Pettit said.
While Mr. Warren said there are “low barriers” to entering the index market, it is difficult to compete with the large index families that offer a vast variety of products. CME Group has a growing business of calculating indexes for other firms that have intellectual property as a further example of increased partnership between index businesses.
Russell's Mr. Agather does not see new firms as much of a concern, stating “inertia is a very powerful barrier to new entrants,” where the major players' benchmarks and indexes are ingrained in the market as the dominant choices.
“When they launch, they get a lot of press, but then they don't see a lot of cash flowing in. It's just difficult,” Mr. Agather said.