CME Group's Second Quarter 2023 Earnings Conference Call began with the operator providing instructions and Adam Minick introducing the call and providing a Safe Harbor statement. Terrence Duffy then provided a few brief comments on the quarter and current outlook before Lynne summarized the financial results. The backdrop for risk management is favorable due to geopolitical uncertainty and increasing cost of capital for businesses.

CME Group's diverse product portfolio saw a 20% increase in ADV across their commodities asset classes, with 34% growth in Agricultural products, 27% growth in Metals and 9% in Energy. In the interest rates market, average daily volume of 11.3 million was up 6%, while equity class delivered average daily volume of 6.2 million contracts during Q2. Options ADV saw a 20% increase to 4.7 million contracts, and the treasury markets saw increased demand for risk management. CME Group plans to continue to focus on opportunities to accelerate growth, product innovation and data services to enhance trading opportunities for their clients.

CME Group had a strong second quarter with $1.4 billion in revenue, up 10% from the same period last year, and expenses on an adjusted basis were $452 million, flat versus the first quarter. The adjusted operating margin for the quarter expanded to 66.8%, up 250 basis points compared to the same period last year, resulting in adjusted net income of $836 million and diluted earnings per share of $2.30, both up 17%. Despite challenging market conditions, the company has grown their earnings by a compound annual growth rate of 10-12% per year over the last five, seven, or ten years.

CME Group has seen strong growth in its short-dated options products, with volume and open interest increasing across the maturity curve. Equity options are up 6%, with particular strength in Nasdaq and Russell 2000 options. This demonstrates the value customers derive from trading products on the most important equity indices at CME Group, and options have become a bigger part of customers' risk management and trading strategies.

CME Group is seeing an increase in demand for weekly options expirations across all asset classes, with volume up 21% year-to-date and 26% of total options trading. Agricultural weekly options have increased 168% in the second quarter while Energy and Gold weekly options have grown 126% and 33% respectively. CME Group is positioned to grow faster than the historical average over the next decade due to the need for customers to effectively manage risk across their portfolios and the capital and operational efficiencies that the options franchise provides.

CME Group is focusing on new customer expansion, international growth, new product innovation, and capital efficiencies. Clients are excited about the cross-margin initiative and using CME Group's markets to hedge their growing risk. The increased Treasury issuance will mean more hedging from broker dealers. Buy-side clients across segments are feeling positive. CME Group is rolling out more products and options to help clients express their expectations about the marketplace. The team is also well-positioned to support clients globally.

Terrence Duffy answered a question from Dan Fannon about the sustainability of CME Group's growth and the DTCC partnership. He mentioned that the DTCC agreement is expected to be implemented by the first quarter of 2024 and that they are confident that they will receive regulatory approval for it. He also highlighted some of the growth opportunities that the company is working on.

Terry asked Tim and Derek to comment on the drivers for the business in the out years. Derek mentioned that there is continued uncertainty in the market which will provide a tailwind for CME, and that the transition from LIBOR to SOFR is only the beginning. He also noted that with the recent Treasury issuance, CME does not currently offer products to access the T-Bills market, and that this could be a potential driver for their business.

CME Group is excited about the risk management opportunities that are arising in the current environment. With the FOMC meeting today and the expectation of a 25 basis point increase, as well as the 51% chance of a reduction before March 2024, CME Group is in a position to provide their clients with the products and services to manage the uncertainty of the rates market. Risk management is essential for businesses to survive, and CME Group is confident that they will be able to provide the necessary services to their clients.

Derek Sammann provided data points to emphasize the breadth and scale of the options growth, which has been seen across all asset classes and client segments. The commodity side has seen an expansion of the portfolio of products, with an all-time record of open interest in the energy franchise. This has been a multiyear story of expansion of benchmarks to serve clients as the world globalizes and fragments, providing risk management solutions.

Terrence Duffy answers a question from Kyle Voigt about M&A. Duffy states that CME does not need to rely on M&A in order to continue growing, as they have the technology to do so. He also hints that M&A may play a larger role in CME's growth over the next 10 years.

Terry Duffy states that he is open to M&A transactions that would benefit their investors and clients, but they are more focused on organic growth. Lynne Fitzpatrick adds that they have been disciplined in their approach to M&A. Terry also mentions that they are in a strong capital position and that this could be beneficial if assets are shopped around.

Terrence Duffy and Kyle Voigt discussed the acquisition of products and the strategic decisions that will be made based on that. Sunil Cutinho and Julie Winkler then discussed the market data platform that has been built and the data services that are available. They also discussed the product build-outs that have been done in partnership with Google, which has resulted in an 8% increase in performance compared to the previous year.

CME Group saw positive growth in Q2, though not as much as Q1 due to one-time payments. They are making their data more available and easier to use through APIs and cloud-based services, and have put new analytics products into production. They are also creating new trade execution analytics to share with their clients.

Terrence Duffy responds to Alex Kramm's question about the decline in the micro percentage of CME Group's equity franchise. He explains that the decline is not necessarily due to a decrease in retail activity, but rather a decrease in REIT activity post-COVID. He also states that retail will still be a component of the company's growth acceleration over the next decade.

Micro E-mini volumes have seen some mean reversion due to decreased volatility and upward price trends in the major indices. Despite this, Q2 volume remains high compared to 2020 and 2021, and revenue from the product is flat to slightly up from last year. This is due to pricing actions and the increasing proportion of non-member customers, which has increased RPC by $0.10.

Micro E-minis are becoming increasingly popular as a risk management tool, as evidenced by the top 10 open interest days in June 2023. The performance of the Micro E-minis is different than the volume performance, but the combined performance of the E-minis and Micro E-minis remains strong. This is evidenced by CME outtrading the top three S&P ETFs by a factor of 10.7:1. Despite the slowing growth in Micro E-minis, the overall retail business remains strong, with a record setting year in 2022.

CME Group has seen positive growth in Europe, Greater LATAM, and China in the second quarter of 2023, and the total number of retail traders and new traders has increased 7% and 4% respectively. Additionally, year-to-date retail volumes in the metals complex have risen 21%, while options growth has seen an 8% increase due to retail participation. CME Group is well-positioned for future growth due to its diverse asset class and its ability to offer major benchmark liquidity products to customers and distribution partners.

CME Direct, a direct front-end platform, is helping to stimulate trading of electronic options, not just in the energy complex but across the business. Terrence Duffy, Derek Sammann, and Tim Andriesen all spoke about the increasing confidence in the options business, which has gone from mid to high-teens in terms of ADV to above 20%. They also spoke about the RPC dynamics of the options business and how it could be accretive to RPC.

QuikStrike and CME Group have developed a proprietary front-end platform that provides customers with a wide range of functional and analytical tools, including API access to markets for both futures and options. This platform has become the single largest ISV provider for options trading and has seen substantial growth from buy-side participants and brokers. It provides customers with a seamless experience and introduces them to the full range of services CME Group has to offer.

Terrence Duffy emphasizes the importance of CME Group's options business in bolstering the futures franchise. He states that the options are not only growing, but they are also helping to grow the futures business. Duffy also explains that the RPC dynamics between the options and futures are important to consider when looking at the growth of CME Group.

Terrence Duffy and Lynne Fitzpatrick discussed the total RPC for the quarter and Brian Bedell thanked them for the information. Craig Siegenthaler then asked if larger price hikes could be expected in the next couple of years, to which Duffy responded that it is not their strategy to grow their revenue by increasing prices, but rather by growing their business. Fitzpatrick added that they evaluate pricing on a market-by-market, product-by-product, and customer-type basis, and do not have a multiyear pricing strategy.

CME recently announced a Bitcoin/Ether ratio spread contract that will go live on July 29th and will trade alongside other cryptocurrency products. CME remains strong with its institutional client base and its value proposition remains salient. Additionally, in the first quarter, there was $4 million in one-time audit fee and catch-up payments that were not seen in Q2, and in this quarter, there was about $0.5 million in audit fees.

CME is seeing continued adoption of its products in the OTC, futures, and ETF markets, leading to an increase in volume and open interest. CME is currently focused on Bitcoin and Ether products, and will wait for further regulatory clarity from the SEC and CFTC before introducing additional products. Ken Worthington asked Terrence Duffy about the SEC's proposals for centralized clearing in the rate markets for treasuries and repo, and Duffy discussed the potential impact on rate liquidity and volatility. Participating in a clearing platform for treasuries and repo is an important priority for CME.

CME is currently evaluating the SEC and Treasury market proposals, and does not see any negatives for CME in the proposals. CME is also looking to participate in conversations with their clients and regulators to see what makes sense from a risk management and clearing perspective. CME is well-positioned to unlock capital efficiencies for their clients across all of their interest rate complexes.

Terrence Duffy and Lynne Fitzpatrick discussed capital management, noting that they have returned over $21.5 billion to shareholders in the form of dividends since 2012. They prefer the flexibility and transparency of their current variable dividend policy, but are considering how the rate backdrop may impact their future capital management decisions.

Terrence Duffy and Michael Cyprys discuss the CME Group's dividend policy and share repurchases. Duffy states that the dividend policy has been the preferred option, but they are not taking anything off the table. He also mentions the agreement with the DTCC, which has been in the works for a long time and has now been finalized.

CME is excited to soon implement a cross margining agreement which will allow clients to benefit from capital efficiencies in their products. The agreement will include SOFR futures, Ultra 10-year U.S. Treasury note futures, Ultra treasury bond futures, fit clear treasury notes and bonds and repo transactions with a time to maturity of greater than one year. This agreement will unlock benefits for clients and CME expects the offset percentages to be closer to 70%.

Terrence Duffy and Lynne Fitzpatrick discussed the collateral balances, both cash and non-cash, during the quarter related to revenue generation. The average balance for cash was $120.1 billion, up from $109.6 billion last quarter, and the non-cash balances were $109.4 billion, up from $99.2 billion in the first quarter. In July, the cash balances have come down to $100.9 billion and the non-cash balances are at $127.9 billion. The program is looking to expand to allow clients to avail of more capital efficiencies.

CME Group's Henry Hub franchise is the central pricing point for global natural gas, and they are seeing significant growth in new client acquisition in natural gas, particularly from Europe due to the disruption of fuel supplies from the Ukraine War. They are also seeing growth in options in both natural gas and crude oil, as well as increased volatility and margin required to trade.

Platts has implemented a Midland WTI marker into the Brent basket, further reinforcing WTI as the primary global benchmark for oil pricing. WTI has an outsized footprint in the pricing of oil, and the company has taken steps to build out Gulf Coast crude grade contracts to connect the physically delivered WTI contract to the export market. Terrence Duffy mentions that geopolitical risks are a factor in every trade and asset class, and risk management is essential.

Brian Bedell asked a clarification question about the rate earned on the cash collateral balances in the second quarter and the rate that is paid out to the clients. Lynne Fitzpatrick answered that the rate on the Fed accounts remains at 25 basis points and that they had earned about 34 basis points in the second quarter. Terrence Duffy thanked everyone for participating in the call and asked them to disconnect their lines.

This summary was generated with AI and may contain some inaccuracies.