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Morningstar | CME Group Seeks to Diversify Beyond Interest Rates and Equity Futures

We believe CME Group is starting to realize the benefits of higher volatility in markets and that this will continue as interest rates rise. We suspect that accommodative interest rates have pressured trading volumes in recent years, as there’s been little volatility across markets. In the near term, CME Group is likely to see increases across most of its six products as higher volatility fuels an increase in the need to hedge. Longer term, we believe that CME Group will continue to grow, albeit at a modestly slower pace.When projecting trading volumes, we like to look at open interest turnover (total contract volume to average open interest), which measures how often on average a single contract is traded over its life. Prior to 2018, within interest rates and equities, CME Group’s two largest trading products, open interest turnover was at multiyear lows. Though this may be attributable to lower levels of proprietary trading, it is also likely caused by historically low volatility. If turnover on these two products reverts to historical medians, volumes in interest rates and equity products would rise about 25% to 30%. This would result in a substantial boost to CME Group’s top-line revenue growth, which is why in the near term, revenue could grow by as much as 10% to 15% per year. Regulatory climate will likely play a significant role in new business opportunities, as well as threats, for CME Group. Dodd-Frank encouraged more products to be traded through a clearinghouse, and as these regulations are relaxed, it should result in investment banks clearing fewer over-the-counter derivatives. However, if the Volcker Rule is modified, it may enable investment banks to engage in more proprietary trading, which would be a significant positive for CME Group and its peers. In addition, CME Group will see a significant tailwind from increasing regulations on its foreign exchange business. This is partly why it is so enthusiastic about its prospects within foreign exchange. Overall, we currently view regulation as a positive for CME Group.