Cme Group Inc. Q3 FY2022 Earnings Call

Hello, and welcome to CME Group Third Quarter 2022 Earnings Call. My name is Sarah, and I will be your coordinator for today's event. Please note, this conference is being recorded. Operator provided instructions. I will now hand you over to your host, John Peschier, to begin today's conference. Thank you.

Good morning, and I hope you all are doing well today. I'm going to start with the safe harbor language, then I'll turn it over to Terry and the team for brief remarks followed by your questions. Other members of our management team will also participate in the Q&A session. Statements made on this call and in the other reference documents on our website that are not historical facts are forward-looking statements. These statements are not guarantees of future performance. They involve risks, uncertainties and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or implied in any statement. Detailed information about factors that may affect our performance can be found in the filings with the SEC, which are on our website. Lastly, on the final page of the earnings release, you will see a reconciliation between GAAP and non-GAAP measures. On a personal note, today will be my last earnings call as I am retiring after more than 20 years with CME. My first day on the job was December 24, 2001, with a plan that CME would go public soon after I joined. CME ultimately went public in December of 2002, and it has been an amazing journey. We have created a lot of value for our investors. I want to thank all of our shareholders and sell-side analysts who I have met on this journey, and I want to thank all my CME colleagues I've worked closely with during the last two decades. In particular, the CFOs Dave, Jamie and John. Most importantly, Jennifer George and Susan Jacks with whom I have worked closely for many years, have been instrumental to our success. Lastly, I'd like to thank Terry for his leadership of this successful journey. He and I are the only ones left who were on the first CME earnings call in 2003 and it has been a great run. With that, I will turn it over to Terry.

Well, thank you all for joining us this morning, and let me take a quick moment first to thank you, John, on behalf of all of us for an incredible run. More than two decades, as you said, with CME and giving service to the organization and a shareholder relations organization. You have been an instrumental force in our Investor Relations and analyst outreach, helping us grow from our early days, as you said, as a public company to the leading derivatives marketplace we have become today. As a friend and respected colleague to so many, you've made a significant impact on our business. There is no doubt you'll be missed. We wish you nothing but the best for you and your family going forward. And again, on behalf of everybody at CME and throughout the investor community, John, we thank you very much for your leadership. Thank you.

Thank you.

We are leaving the investment community in good hands with the remaining members of the Investor Relations team. As John referenced, Jennifer George and Susan Jacks, who have worked side by side with John through his entire career as well as Adam Minick, who you'll all get to know soon, who recently joined the Investor Relations department coming over from our strategy department. So we look forward to all of you meeting Adam. We released our executive commentary earlier today, which provided extensive details on the third quarter of 2022. I have John, Lynne, Sean, Derek, Sunil and Julie Winkler on the call this morning as well as Tim McCourt, our Global Head of Equity and FX products. I felt it was important to take some time to not only run through a snapshot of our current business and financial results, but more importantly, to expand on why we feel our business is in such a strong position to finish out the year and head into 2023 on a high note. I will start, and then Sean, Tim and Derek will provide some thoughts before John finishes up our commentary with details related to our financial results and our joint ventures. Then we will open the call for your questions. Let me start by talking about the tremendous amount of uncertainty in the markets today. Whether that be uncertainty around U.S. Federal Reserve policy, varying views about recession risk with inflation at levels not seen since the 1980s, or uncertainty around the size and speed of the unwind of the Fed's balance sheet, when there is uncertainty there is activity in our interest rate business. The impacts cascade to other asset classes, most prominently in equities as rate changes impact corporate valuations and in foreign exchange with varied policies and approaches from central banks around the world. We are also seeing high levels of volatility in the commodities markets, which appear likely to persist given the impact of the Russian invasion of Ukraine and the resulting disruption affecting both agriculture and energy markets in the region and around the world. Risk management is our business, and we have been and always will be committed to helping our customers manage uncertainty. We do this across our unique breadth of asset classes and our broad range of deeply liquid, globally relevant products. With that being said, let me transition into our Q3 performance. Our performance for Q3 and year-to-date in 2022 highlights the effectiveness of our risk management solution. Our volume is up 23% year-to-date versus the same period last year, and up 19% from the same period in 2019 prior to the pandemic. The highest average daily volume quarter in CME Group's history was Q1 of 2020 when risk management was critical at the onset of the pandemic. The first three quarters of this year have been the second, third and fourth highest ADV quarters in our history. So far, in 2022, our interest rates, equities and FX products have hit record levels of large open interest holders with our interest rate products at an all-time high again just last week, suggesting that this represents a risk-on environment. Additionally, Q3 represented our fifth sequential quarter of double-digit year-over-year growth in total ADV. With the pandemic becoming part of our lives, global economics and market participants are left to manage not only uncertain market risk but also potential new risk associated with the pandemic. We're pleased the Treasury integration is complete and market participants are able to access cash treasuries and cash foreign exchange through one platform, complementing our existing futures on treasuries and on foreign exchange. The breadth of the assets we've built over time, combined with the work we are currently doing in partnership with Google to transform markets, will provide us further opportunity to continue our industry-leading innovation going forward. And we are 100% focused on growing in the short term while also positioning the business for long-term sustained growth. I'll now turn it over to Sean, and then Tim and Derek, to dig into more detail around these themes.

Thanks, Terry. With the return of interest rate volatility and central bank activity, we've seen strong year-over-year growth in our fixed income businesses. Interest Rate futures and options ADV were up 28% in Q3, and we've now delivered six consecutive double-digit year-over-year ADV growth quarters for the asset class. The tailwinds Terry described should continue moving through 2023. Every FOMC meeting is in play and with high and uncertain inflation, every jobs report and every Consumer Price Index reading is important. You could see this very clearly with the 34 million contracts trading on a single day on October 13, following the latest CPI release, and the uncertainty here could remain for years as inflation readings for rent and shelter tend to lag the real economy by up to 18 months. These factors have led to significant trading volumes in our short-term interest rate complex with volumes up 45% through the first three quarters. During this time, we have progressed the Eurodollar to SOFR migration with SOFR futures and options both now trading more contracts per day than their Eurodollar counterparts, reaching a record 5.9 million SOFR contracts traded on October 13. Lastly, our ARRC-endorsed Term SOFR benchmark has already been licensed to over 1,700 firms in 83 different countries and has been referenced in over $2.8 trillion of loans and OTC derivatives. On the long end of the curve, we saw double-digit ADV growth in Treasury futures and Treasury options, which had particular strength with 21% growth in Q3. We see the tailwinds from Fed balance sheet reduction and inflation becoming larger and potentially long-lasting due to the huge increase in government debt. And as Terry mentioned, uncertainty in monetary policy then drives uncertainty in other asset classes. I'll turn it over to Tim to speak to this very point.

Thanks, Sean, and it's a pleasure to be on the call today. Allow me to start with the strength of our Equity Index business where our deep and liquid markets offer access to the most important global benchmark indices on one platform around the clock. This strong foundation positioned us well in 2022 as interest rate expectations have led to equity valuation adjustments and increased need for risk management. The first three quarters of this year were the first, second and third highest ADV quarters on record, respectively, for overall Equity Index ADV as well as Equity Index options ADV. Year-to-date through Q3, total ADV has increased 44% and options ADV has increased 74% compared with the same time frame of last year. It is important to note that our growth is driven not only by volatility, but also by product innovation. One of our most successful innovations was the launch of our Micro E-mini products in 2019. We view the Micros as a useful tool to continue to attract new international and U.S.-based customers given the smaller contract size and the lower upfront financial commitment. Due to the premium price point on a risk-equivalent basis, the 3.2 million micro equity contracts that trade per day generate revenue equivalent to approximately 1 million E-mini contracts, despite being 1/10 the notional size. We've also introduced a suite of products that bring traditional OTC functionality to CME such as Basis Trade Index Close, Adjusted Interest Rate Total Return Futures, Sector Futures, Dividend Futures, Equity Option block and, most recently, Derived Block functionality. These OTC-alternative products meet customers' needs under the uncleared margin rules while benefiting from the capital efficiency afforded by our equities franchise. These premium products command fees of three to four times that of standard equity rates and added approximately 160,000 contracts per day in the third quarter. Now I will turn to FX, which has certainly come alive following an extended period of historic low volatility with third quarter FX ADV up 41% year-over-year. Similar to equities, we introduced innovations in our FX business during the low volatility period, and we are now harvesting those investments. We've changed minimum price increments, built out emerging market currencies, introduced OTC alternatives like FX Link, added EBS cash markets and created tools and analytics that show the efficiencies of trading FX at CME. These innovations position us well to continue to benefit from the volatility in the currency markets as the disparate interest rate approaches of global central banks continue to flow through to the foreign exchange market.

Thanks, Tim. While our Energy business, which has been impacted by temporary market dislocations, was the only asset class that was down in Q3, we like our long-term structural positives for our U.S. energy benchmarks, including WTI crude oil, refined products and Henry Hub natural gas. The U.S. is producing nearly 12 million barrels of oil a day and exporting record levels of crude and refined products. The U.S. is the marginal supplier of crude oil to Europe and Asia, which positions WTI and our refined product benchmarks well for the long term beyond the current supply and price dislocation. Similarly, the U.S. is one of the world's largest producers and exporters of natural gas, boosted by increasing liquefied natural gas exports priced off Henry Hub futures markets. Additional LNG facilities are coming online in the U.S. in the medium term, which further bolsters Henry Hub as the benchmark for the global natural gas market for decades to come. As the market transitions through the short-term disruptions caused by the war in Ukraine, we believe that we have the strongest portfolio of risk management tools in the global energy and environmental products markets, which positions us well to grow this asset class over the long term. In agricultural products, CME's markets serve as the benchmarks for global price discovery in grains, oilseeds, livestock, dairy and lumber. We saw increased customer activity in the third quarter with average daily volume of 1.2 million contracts, up 6% year-over-year with particular strength in options. Buy-side and bank customers are our strongest performing client segments this year, and our strongest global growth is coming from Latin America. Turning to Metals, third quarter average daily volume increased 4% to 498,000 contracts, led by a 20% growth in September. CME Group's aluminum futures continue to see strong adoption by both commercial and financial market participants. Given the customer growth we are seeing, the adoption of COMEX aluminum by top metals broker Marex, and the success we've had in getting our reference prices to be included in physical procurement contracts from commercial customers, we feel that we are at an inflection point for growth in this important market. Turning to options, we continue to see Options ADV and Open Interest outpacing futures. Terry spoke earlier about the high levels of uncertainty in the world today, and options are a powerful tool for helping our global customers to manage risk in that environment and can be a more cost-effective means for getting exposure since only the option premium is required. With year-to-date options ADV up 27% to 4.1 million contracts a day, we are on track to surpass our record year from 2019 of 4.0 million contracts. Finally, our international business continues to generate record volumes. In the third quarter, we delivered 6.1 million ADV, up 21% versus last year. Based on our strong year-to-date results, we are on track to deliver another record year with our non-U.S. ADV through September of 6.5 million contracts compared to our record 5.5 million ADV from last year. With that, I'll turn it over to John.

Thanks, Derek. CME's revenue for the third quarter was approximately $1.23 billion, driven by a 26.1% growth in trading activity. This was up 10.6% compared to the third quarter of last year and up nearly 15% when adjusting for the impacts of the formation of OSTTRA, our post-trade joint venture with S&P Global that we formed in September of last year. This is our fourth consecutive quarter, when making that adjustment, of double-digit revenue growth, demonstrating the importance of our markets in these uncertain times. Market Data revenue was again a record during the quarter, up 6% compared to a year ago to $154 million, reflecting the strong need for the information our markets produce. Expenses continue to be very carefully managed, and on an adjusted basis were $441 million for the quarter, and $359 million excluding license fees. Our efforts towards moving to the cloud progressed as expected, and we are nearing the completion of the initial foundational work necessary to migrate our applications. Year-to-date, we spent approximately $21 million in incremental cash cost towards that effort and expect to end the year at approximately $30 million and within our first-year guidance for that project. On a year-to-date adjusted basis, excluding our Google spend, license fees and the impacts of the formation of OSTTRA, our revenues were up 13% and our expenses were only up 3%. We continue to manage our capital expenditures effectively and with an eye towards our move to the cloud. As a result, we are lowering our CapEx guidance to $100 million. For the quarter, our capital expenditures were approximately $20 million. Our joint ventures and investments continue to produce meaningful results for CME Group. Year-to-date, on an adjusted basis, these investments have contributed $272.5 million or close to 10% of our pretax income this year. In addition to the earnings they contribute, their strategic importance continues to play out. The OSTTRA joint venture is capturing synergies through the combination of our post-trade businesses with that of S&P Global. This creates the leader in the space and has the scope and scale for long-term growth. Our S&P Dow Jones Indices joint venture has delivered 14% average annual earnings growth since the first full year of inception in 2013. Strategically, the exclusive rights to the indices that we have secured through our ownership of the joint venture underpins over 20% of the overall futures contracts traded at CME Group and creates significant capital efficiencies across our equity complex, making us the global destination for equity futures. We also benefit from the trading of products licensed by the joint venture to other exchanges and from the continued move from active to passive investing. These joint ventures and other investments that we've made continue to position CME well strategically and financially. For the quarter, CME had an adjusted effective tax rate of 23.4%, which resulted in an adjusted net income of $719 million, up 25% from the third quarter last year and an adjusted EPS attributable to common shareholders of $1.98. CME paid out $2.3 billion of dividends so far this year and cash at the end of the quarter was approximately $2.2 billion. In summary, our global benchmarks, data, innovation, investments and strong focus on execution continue to address the needs of our clients and deliver results for our shareholders. Please refer to the last page of our executive commentary for additional financial highlights and details. We'd like to now open up the call for your questions. Thank you.

Operator provided instructions. The first question comes from the line of Rich Repetto from Piper Sandler.

Terry, John and I guess first thing is for John Peschier. You've been a very thoughtful and unwaveringly committed and loyal employee and it has been a pleasure working with you over the years and you've done a great job training Jennifer and Susan. We're excited to work with the team going forward as well. So congrats, John.

Thanks, Rich.

Terry, I guess my one question would be, the media reported, I think, within the last month or so that you applied for an FCM license or tried to obtain an FCM license through the CFTC. I was just trying to understand what was the purpose or the rationale behind doing that.

Thanks, Rich. Appreciate it. We filed the application with the NFA and we will eventually go to the CFTC just for cadence and process perspective. But I think what's important is I never defined how we would ever use an FCM. And I think there's been a tremendous amount of speculation about how CME would or would not use an FCM. I also think it's important to note that I don't know, and I don't know anybody that does know, what an FCM is going to look like three, five, ten, or fifteen years from now. I just don't know what that's going to look like. Is it going to look the same as it does today or will it look completely different? I don't know. I don't think it's in anyone's best interest to wait to find out. I think you should be going along with that process to see. But I want to make sure something is very clear. My commitment, our commitment at CME to our FCM community, as I've said, is unwavering. We are going to continue to work to make our existing FCMs and our future FCMs better, to partner with them and make them better. So I think that's really important. Also, I know there's speculation about CME looking to get our own FCM because of retail products. Let me be very clear about this. Our existing FCM base and our future FCM base, wherever that may or may not be, has plenty of wherewithal to address the retail market for CME Group. So that is not the purpose of doing an FCM. I think it's really important that we clarify a few of these things. Again, the company's position is we want to work with our existing FCMs; we will continue to do so. That is the model that we enjoy, but we're also not of the mind that things could not potentially change down the road, and we will be prepared. When I say that, our costs associated with this FCM so far is about zero. We have not put any money into this. We just filed an application. But we will be watching the space very, very carefully. And again, we will not ever put CME in a position where it's coming from behind. We will always be leading going forward. So hopefully, I answered the questions and more, but I really want to make it clear: there's been no defined FCM that CME has applied for that is competing with the existing FCM model today. I know all the pitfalls people have talked about with DSR status and things of that nature. Those things can all be worked around if, in fact, they need to be worked around. But that's not the purpose of our application.

The next question comes from the line of Dan Fannon from Jefferies.

Congrats, John Peschier, on your retirement. My question is for John Pietrowicz just on expenses. Obviously, the guidance implies a pretty material step up into the fourth quarter. Could you talk about what that entails in terms of where you're spending and how that ramps? And then I know it's early, but just thinking about 2023 and the roll forward of the Google spend and other investment priorities: can you talk about how to think about growth in expenses versus what you guys have done historically?

Yes. Thanks, Dan. Yes, the fourth quarter of this year — as with most years — is traditionally the heaviest quarter in terms of expenses, and we expected that to occur this year. There are a number of planned customer events and marketing spend in the fourth quarter, and we expect increased in-person sales activity reflecting the improved business environment. If you look at last year and adjust for OSTTRA, you saw about a 10% increase in expenses from Q3 to Q4. This year, it's a little bit heavier between Q3 and Q4, which would imply about a 15% increase. If you look at the expense spend between Q3 and Q4 last year, we did not have the improving business environment that we see this year. So we are expecting definitely more increased in-person sales activity, marketing spend and travel. That accounts for some of the increase we're seeing this year. The remainder: when you take a look at Q3 to Q4, we expect approximately 70% of the increase to be in marketing, travel and in-person events. The remainder of the sequential increase would be related to salary and wages, reflecting variable compensation related to our company's performance and staffing of key roles and customer-facing resources. Variable compensation is higher this year than last year and the number of employees is higher this year than last year. We're expecting to hire more going into the fourth quarter. We also expect to see increased professional services as we are investing in growth projects. So that accounts for Q4 growth compared to Q3 and the difference between last year and this year. You are right, we are early in the process of looking at our budget for next year. The entire team at CME has done a very effective job over the years managing our costs, and we tend to do the same going into this incoming year. It's a bit too early to give guidance, as we are still in the budget-building process, which has to be approved by the Board. We are keeping our eyes on inflationary impacts and looking to mitigate those impacts through process efficiencies, leveraging lower-cost locations, partnering with vendors and being judicious in hiring. The way to think about 2023 is to think about how we've been managing costs over the last several years. We've done a very effective job ensuring that we're spending very efficiently and we'll continue to leverage that approach going into next year. In terms of the Google spend and our migration: we're working through the plan for next year now. As I mentioned on prior calls, we're expecting on average approximately $30 million in incremental spend over the next four years as we approach the point where costs will be lower, assuming similar volume levels. We plan on a similar type of spend as this year, but that will be a function of how fast we migrate applications to the Google platform. We're pleased with where we're at in terms of our Google progress. It's about where we expected. The initial foundation needed to start rolling those apps is nearing completion, and we'll look to see apps migrate at a quicker rate going into 2023. That's the expense view so far this year.

The next question comes from the line of Alex Kramm from UBS.

I want to talk about the LIBOR, SOFR or Eurodollar to SOFR transition. Now that you have, I guess, a date in next April to basically shut down the Eurodollar, I want to understand what that means both from a potential volume and also revenue impact. Can you remind us what you're charging for SOFR and Eurodollar today independently where there's still certain discounts or non-charging? And then more importantly, as one contract goes away, I assume today there's a lot of trading or arbitrage between those two products happening. Do you have an estimate how much that is today? And how much of that could potentially go away so we're clear about the revenue or volume impact coming from next year?

Thanks, Alex. We are very pleased with the progress we have made in the SOFR transition. SOFR futures traded 2.6 million contracts a day in September, while SOFR options traded more than 850,000 contracts per day. SOFR futures are now trading more than double the volumes of Eurodollar futures and SOFR options are now trading 130% of what Eurodollar options trade every day. For futures, we now have more than 8 million contracts in open interest, or 98.5% of Eurodollar futures. SOFR options have reached 15 million contracts open interest, or 70% of Eurodollar options. In terms of RPC, as you know, in June, July and August, we executed our SOFR First for Options initiative, which had very strong support from U.S. and U.K. regulators as well as our customers. On the back of that, we've achieved the incredibly strong growth that you've seen. That program, in terms of SOFR First for Options, was completed at the end of August. That program had fee waivers for all participants for June, July and August, and significantly enhanced incentives to create liquidity in order to build the same ecosystem and have as much liquidity and efficiency in that marketplace as Eurodollar futures and options. We have achieved much of what we needed. We removed those fee waivers at the end of August and decreased the overall incentives to market participants. Incentives are important to ensure that we have liquidity for all participants and our Eurodollar futures have had incentives historically and continue to have incentives. We do expect that incentives required for Eurodollar futures and options will be required in the longer run for SOFR futures and options. We also expect to be able to continue to decrease the incentives above what we've had historically for Eurodollar futures and options in the coming months. So we think we're in a very good place and following our plan.

Alex, let me add to what Sean said because one of the parts of your question we didn't answer is the arbitrage between Eurodollars and SOFR. You have to remember what Sean said. One to one-and-a-half years ago and subsequently every quarter going forward, we said we are at an extreme benefit to have both contracts listed at CME, and we did see a lot of trading going back and forth between the two. But the objective and the goal was to end up in the SOFR products knowing full well that LIBOR was going to be discontinued. So when you look at the arbitrage, you should look at it in the context of arbing from Eurodollars into SOFR, which Sean gave you the statistics for, where SOFR volumes are now larger than Eurodollar. Sean?

I apologize for not answering that part earlier. The intercommodity spreads between the two products are running between 250,000 and 350,000 contracts a day, to make it quantitative.

No, that's great. Great numbers there.

For our next question, we have Michael Cyprys from Morgan Stanley on the line.

Just wanted to ask about customer collateral, given the movement in interest rates. Can you update us on your latest expectations around the take rates on cash collateral as well as noncash collateral? How do you expect those take rates and balances to evolve from here, particularly if we get another 75 basis point hike in November? And what do you expect to see from customers in terms of shifting back and forth between cash and noncash collateral?

Thanks, Michael. I'll let John go ahead and answer that, and I might jump in as well.

Thanks, Michael. Let's look at our collateral earnings in totality. In the nonoperating section of our income statement, we've got earnings on cash held by clients at the clearing house, and that was up $14 million sequentially. Average cash balances were lower by $27.5 billion to $117.5 billion and that was more than offset by higher returns, which were 29 basis points for the quarter, an increase of 9 basis points. The last two rate hikes were passed on to our clients, which helped lessen the reduction in those balances. Looking in our other revenue section, custody revenue was up $9 million, driven primarily by an increase in average noncash collateral balances held by our clients in the clearing house and a fee increase on those balances from 5 basis points to 7 basis points. Balances eligible to be charged a fee increased from an average of $81 billion in Q2 to $95 billion in Q3. So we had a sequential increase in noncash collateral earnings of $9 million, and an increase of $14 million sequentially on cash, for a total of a $23 million sequential increase in earnings on collateral. For the fourth quarter so far, average cash balances through October 24 were $117.8 billion, roughly flat with the average for Q3, and we had an ending balance of cash of $110 billion on October 24. Noncash collateral subject to fees averaged $90.3 billion through October 24 with an ending balance of $95.6 billion. In terms of what happens going forward, several factors play into that. First is the total amount of collateral required at the clearing house, driven by the types of trading and the risk management required. Clients will then optimize between cash and noncash collateral depending on what they have on hand and the return they can get. Over the last several rate hikes, we've maintained a 25 basis point spread below changes in the Fed funds rate, and I think that's proven effective in maintaining balances so far. But it's really a function of what clients' businesses require and how they optimize their portfolios.

Our next question comes from the line of Brian Bedell from Deutsche Bank.

Maybe one clarification on the collateral balances. Were there other drivers in that nonoperating income line in investment income and other nonoperating costs aside from the collateral balances? And a follow-up on RPC trends coming into the fourth quarter: is some of that noise on RPC on rates from the SOFR transition and do you expect that to go away? And then on the micros, you've been increasing pricing across the franchise — is that sustainable?

There's a lot in that question. Let's start with the entire nonoperating section. Between Q2 and Q3, the nonoperating section increased about $13 million sequentially. I mentioned earnings on cash held by clients at the clearing house up $14 million. We also saw earnings on CME cash up about $8.6 million. Interest expense increased slightly by about $0.5 million related to a credit we received last quarter. Earnings in unconsolidated subsidiaries had some onetime impacts this quarter. OSTTRA was down about $3 million sequentially and S&P Dow Jones was down about $6 million sequentially due to onetime adjustments in Q2 and Q3. Normalizing those out, earnings were relatively flat. OSTTRA's earnings were in the $19.5 million to $20 million range and S&P Dow Jones roughly $61 million to $62 million. Year-to-date, adjusted, the joint venture results are up about 13% year-over-year and a CAGR of 16% since 2020. Regarding RPC, as Sean mentioned earlier, we had market-wide fee waivers in June, July and August which were removed at the end of August, and significant liquidity incentives that were also removed. We do have some incentives still greater than historical Eurodollar levels for SOFR options and futures but plan to reduce them over time. I expect significantly higher RPC for SOFR options in Q4 as the waivers and extra incentives are gone. On pricing for micros and in general, we're in the budget process and review pricing regularly. There are many factors that go into pricing decisions, including market health, alternative market access, innovation, and liquidity. We review incentive programs regularly and reallocate resources to develop liquidity and create client value. That process is underway for 2023.

To add on RPC, we had fee waivers in June, July and August that were removed at the end of August and the significant additional liquidity incentives that we had during those months are gone. We do have some incentives that remain above historic Eurodollar levels, but we will look to reduce them as we have been. I expect higher RPC for SOFR options in Q4 given those changes.

When you look at options versus futures, options have performed strongly this year. But be careful not to over-interpret one trend as immutable. Futures and options can trade differently period-to-period based on client behavior and market conditions.

The next question comes from the line of Kyle Voigt from KBW.

Maybe a question on the growth in Asia. It was extremely strong in the quarter at 41%. It looks like the growth there has accelerated over each of the past three quarters. It looks like a lot of that growth is being driven by Equity Index and FX. Could you help us drill in a bit further and provide any more color on which customer segments are driving that growth? Is it asset managers, hedge funds, retail or other users? And is there a way to help investors frame the ultimate size of that opportunity from Asia and how much runway there is to grow at these levels?

International continues to go from strength to strength. As I mentioned earlier, we're on track to significantly beat last year's total non-U.S. volume record of 5.5 million ADV; we're averaging 6.5 million so far this year. In Q3, we put up our sixth consecutive quarter of positive growth and our 14th consecutive quarter of growth. On the APAC business, we're up 41% year-to-date, our fastest-growing part of the business. EMEA grew 14% and LatAm grew about 31%. Digging into the region, we've seen strength in financial products — equities, fixed income — and Asia is also our strongest area of growth for energy, which is up 30% year-to-date. Growth is broad across multiple countries: Korea is up 45% and has stepped into our second-largest revenue generator across non-U.S. jurisdictions. Taiwan is up 53%, India up 65%, and the Middle East, primarily the UAE and Dubai, is showing almost 70% growth. Julie Winkler and her global sales team are pursuing sales campaigns in the region and bringing in new clients through channel partners. Retail is an important part of the story and the Micros are a strong driver there as well. We think we're in the early innings of client penetration in Asia and see strong runway ahead.

Derek has taken over the international business in recent months, restructured the division and has been very active and customer-facing around the world. That has contributed to the success we're seeing in international growth. We're back in front of clients globally and the numbers reflect that.

The next question comes from the line of Alex Blostein from Goldman Sachs.

Could you provide some color on the dynamics in cash fixed income markets? We've seen some relative slowdown there, especially given the volatility we've seen broadly. Any color on client behavior — who is doing better, who is doing worse — and what needs to happen to get this market going more? Is quantitative tightening the catalyst or is activity muted as long as rates are high?

If you look at our BrokerTec U.S. Treasury volumes, they're up 11% year-over-year year-to-date. It's similar to our Treasury futures complex — BrokerTec U.S. Treasuries and CME's Treasury futures are growing at similar levels. In more detail, U.S. repo is up 21% year-over-year and European repo is up 17% year-over-year. Our U.S. repo and European repo businesses are on track for all-time record years. Post-migration of BrokerTec to Globex, we've seen good success from initiatives like our RV trading order type, which achieved a new all-time record in Q3 with $2.1 billion a day. Cross-selling BrokerTec into our futures clients has added nine new clients to BrokerTec that previously did not trade on it and they are trading $6.1 billion a day. In September we saw a significant market-share increase relative to alternative marketplaces. Regarding the macro picture, inflation is high and volatile, and the Fed has only reduced its balance sheet by about $200 billion so far. Expectations are for much larger reductions going forward; for example, $95 billion a month would imply more than $1 trillion next year versus $200 billion to date. So the increased deficits, the decrease in Fed balance sheet size, and high inflation should be tailwinds for the business for years to come. We're also investing in analytics and a direct streaming platform leveraging EBS technology for BrokerTec.

The next question comes from the line of Gautam Sawant from Credit Suisse.

One, on the interest rates complex, given the types of trading and risk management strategies you're seeing with rising short-term rates, can you speak to the types of trading strategies or changes in client behavior that could translate into activity migrating from the short end of the curve to the medium- and longer-term products? And two, can you provide an update on the metals complex and whether there's increased willingness to participate from international physical warehouse operators?

We've seen far stronger growth in the short end, with every Fed meeting in play and very strong growth in SOFR futures and options. At the long end, we have seen double-digit growth, though at a slower pace. We expect the reduction in the Fed balance sheet and projected deficits will be a tailwind for the long end as well.

We've seen significant change in industrial metals markets since March. We've put efforts into providing a robust alternative market in metals like aluminum and have had success in copper over the last five years. There's been a marked increase in activity in our aluminum business since March, with new client interest and demand from customers leveraging COMEX market structure. Marex announced they will provide direct market access into COMEX aluminum products and daily market commentary to expand customer access. We're seeing more commercial customers referencing COMEX for aluminum in physical procurement, which is significant. We're excited to see both commercial and financial participant adoption, record levels of volume, open interest, and broker intermediary adoption of COMEX based on client demand. We believe we're at a point of inflection in this market and are well positioned for growth.

The next question comes from the line of Owen Lau from Oppenheimer.

First, congrats, John, on your retirement. On capital return, given the amount of cash on your balance sheet and leverage, how do you think about the variable dividend this year? And given the valuation and where your shares are trading, how do you think about share buybacks?

On our variable dividend, we meet with our Board and Finance Committee, review the process and make determinations based on factors we see coming. We will provide information around early December. We're not finalizing that today.

Generally, we review the dividend structure and capital return policy regularly with the Finance Committee of the Board. The current structure has been in place since 2012, and we've returned over $18.8 billion to shareholders through dividends since that time. We like the transparency of the approach and it has served us well. We'll continue to review and will provide guidance in the normal cadence.

I would add that the structure we've maintained has provided consistent returns and transparency. We review it regularly with the Finance Committee and will continue to do so going forward.

The next question comes from the line of Chris Allen from Citi.

Congrats, John. I wanted to revisit the rates market. We're seeing headlines on liquidity issues in U.S. Treasuries exacerbated by high volatility. There's a cautious outlook from players in the Treasury complex and swaptions markets. How do you reconcile that with record large open interest in rates at CME and the trajectory in rates? How do you think about potential liquidity issues in cash markets and OTC markets and their impact on the Treasury futures complex?

A really good question. If you look at the U.S. 10-year note as of a week ago, we had the fastest increase in 10-year yields over the previous 12 weeks since 1987. The level and speed of volatility are the highest in more than 35 years. When you have much greater volatility, market participants prudently reduce the size they're willing to trade at any individual price level, so top of book tends to be smaller. That is a natural reaction and prudent risk management by our customers. That said, in this high volatility environment, we are seeing price levels trade in our markets even when markets move quickly. Overall, the markets are operating well.

I would add that the market has largely telegraphed higher rates and reductions in the Fed's balance sheet. Participants have been pricing that in as Sean described, and while volatility will be present, we believe we benefit from it as a risk management marketplace.

Do you think about this as a temporary situation where liquidity eventually settles down and that could be a positive catalyst going forward?

I won't speak for Sean, but given the scale of government debt and ongoing macro dynamics, this could be persistent rather than a one-off. The market environment could remain active for a while.

The next question comes from the line of Ken Worthington from JPMorgan.

Open interest jumped in February and has since been relatively stable around 50 million of futures OI and 60 million of options OI. What's the outlook for open interest over the next 12 months? Which asset classes may see the best percentage growth from current levels? And does lower volatility drive a better OI outlook or might it be something else?

There's no crystal ball on open interest. It's difficult to predict because of geopolitical, pandemic, and macro factors that influence trading behavior. Trade and open interest can move differently depending on circumstances. We keep a very close watch on open interest and have internal tools to provide guidance, but forecasting precisely is challenging.

There is a consistent story with options. Across nearly every asset class on the financial side we've seen strong year-to-date growth. Commodities have struggled on the volume side, but options continue to perform more strongly than futures. Year-to-date, futures are up 21% and options up 27% across the franchise, and open interest in options is also strong. Even in asset classes where futures volumes are down, options volumes and open interest have increased — for example, energy futures open interest is down 24% while energy options open interest is up 6%. That reflects broader use of options for portfolio management, underscoring the importance of deep, electronic markets.

Be cautious not to assume options will always outpace futures. These dynamics can change. The relationship between options and futures open interest can and does fluctuate.

The next question comes from the line of Craig Siegenthaler from Bank of America.

Could you discuss the opportunity with mortgage TBA futures? It's a large addressable market; could you elaborate on deficiencies in the existing system for hedging and how this new product could address those?

Sean, do you want to address that market?

We continuously innovate and launch products where we see client demand. Our TBA futures launch on November 7. The unique value proposition is distribution to our client set — many CME clients do not have access to the TBA market today and want it. This gives a wider audience access. Secondly, as with any new rates product, this will offer portfolio margin or margin offset opportunities. You'll be able to trade TBA futures spread to our Treasury futures. In the cash market, TBAs versus cash Treasuries is a common trade, and the ability to trade TBA futures versus CME's very liquid Treasury futures is a unique value proposition. I won't predict the impact; new product launches are difficult to forecast. A couple of other points: on October 31 we are launching ESTR futures — ESTR is the European short-term rate, the European equivalent of SOFR. There's no significantly successful ESTR future on the market today. In the FX cross-currency swap market, it's quoted as a spread between SOFR and ESTR, so we see strong demand for ESTR futures. They can be spread to SOFR futures to manage short-term interest rate risk and cross-currency business. Also, our repo business is very strong and ESTR rates are used heavily in European repo. Finally, in December we will be launching portfolio margining between SOFR options and interest rate swaps, and Treasury options and interest rate swaps for the first time. In September, we offered participants a new all-time record in terms of efficiencies of $8.4 billion a day on average, and we're enhancing that offering in December.

Thanks, Eli, and John. We appreciate the question.

The next question comes from the line of Simon Clinch from Atlantic Equities.

Congratulations to you, John, on your retirement. My question is about the Treasury cash market. I've read about prospects of the market moving to all-to-all trading. How is BrokerTec positioned for any such transition and what are the implications for CME?

Several proposals for the U.S. Treasury market are being discussed, including requirements for certain hedge funds and proprietary trading firms to become broker-dealers, and potential increases in clearing requirements for U.S. Treasuries. Some liken it to changes that occurred in swaps nearly a decade ago. We navigated that successfully at CME and used it to build our OTC swap clearing business and unique efficiencies like portfolio margining between swaps and futures. We'll navigate any changes similarly: we are closely engaged with customers, watching proposed regulations, and will adjust our products and services to provide what clients need in any new environment.

The next question comes from the line of Andrew Bond from Rosenblatt Securities.

Following up on energy open interest, can you discuss dynamics driving the natural gas market? With the emergence of TTF as a European benchmark and now dislocations related to Russia and Europe, CME open interest has remained relatively low. Do you think Henry Hub has become dislocated relative to the international gas market or are other dynamics at play?

Physical benchmarks are pivotal in global energy markets — WTI and Henry Hub specifically. The U.S. is the largest producer and exporter of natural gas and LNG shipments are increasingly important as pipeline gas from Russia to Europe has been reduced. TTF is under pressure to be redefined, since pipeline gas is no longer the same input. Three weeks ago, we launched a European LNG futures contract to address a gap in the European natural gas market; this is an import contract based in Northern Europe and we worked with Platts as price assessment agent. Given the U.S. has very competitively priced gas and record export levels, and the pipeline of proposed LNG liquefaction facilities coming out of the U.S. over the next decade, natural gas and Henry Hub are central to global LNG pricing. Henry Hub is pivotal as a price marker for LNG cargoes coming from the U.S., increasingly serving Asia and Europe. We believe the structural position of Henry Hub and our market is strong for long-term growth.

As our last question we have Rich Repetto from Piper Sandler on the line.

Since it was already brought up earlier, I do want to point out and thank John Peschier for his service, and yes, his golf game may improve in retirement. I have a serious question: you've mentioned cross-margining and margin efficiencies and there's been leadership change at DTCC. What is the potential to get increased cross-margining efficiencies in the Treasury complex with DTCC? Could this immediately release capital and benefit clients?

Rich, we are at a point where, sometime early next month, we'll be filing final submissions to the relevant government agencies to seek approval for cross-margining arrangements. We feel we're in a strong position and are hopeful we're in the ninth inning of getting approval, but I don't want to overpromise. I met with the new DTCC president two weeks ago and have been in discussions with the SEC and others. We hope to get this done, and the timing is the current timeline.

Rich, on offsets: we've done cross-margining with several clearinghouses, including DTCC today. The effort underway is to improve margin and portfolio benefits. Actual offsets are portfolio dependent. If positions are duration-matched and a true basis, offsets tend to be very high; if different in nature, offsets are a function of risk profile. It's hard to give an exact offset number because it depends on specific portfolios. The objective is to give clients who trade both futures and cash products the most capital-efficient solutions so they can carry portfolios through time, and we are on our way to deliver that.

As there are no further questions, I'll hand the floor back to management for closing remarks.

Well, again, thanks John Peschier. Thank you all for participating in today's call. We appreciate you taking time to listen to us, and we look forward to talking to you soon. Be well.

Thank you for joining today's call. You may now disconnect.