Two global data titans right under your nose
It would be difficult to read the business news or spend five minutes in front of your Bloomberg terminal without seeing their names. Both companies have been in business for decades and earn EBIT margins above 50%, yet still grew EPS at a blistering pace in recent years.
MSCI Inc. (MSCI) and S&P Global are two of the strongest, best known brands in global finance. Their names are highly visible but the companies themselves are rarely seen in the portfolios of international equity managers. Each company is the ‘standard’ in its respective markets, acting as a common language and broadly accepted reference point, which enhances liquidity to the benefit of all participants. For example, each domestic equity market has a dominant index provider, which in Australia is the S&P/ASX. A second or third provider only adds friction and fragments liquidity, which is why the market coalesces around one.
A standard is an immensely valuable position as it creates very strong barriers to competitive entry, supporting abnormally high profit margins, as shown below.
Let’s explore these two wonderful businesses, starting with MSCI.
Originally a joint venture between Morgan Stanley and Capital International, MSCI is the industry standard benchmark for international and emerging markets. The revenue it derives from its indices are roughly equally split between providers of passive and exchange-traded funds such as Vanguard and Blackrock where MSCI’s data is the backbone of the product, and benchmarks used by active investment managers such as Aoris in evaluating and reporting performance. In total, over US$13.1 trillion in assets under management are benchmarked to MSCI indices across a vast array of country, industry, and thematic products.
MSCI’s index revenue has grown at a rate of about 10% p.a. over the last five years with earnings growing at a much faster rate.
An increasingly important contributor has been MSCI’s strong position in indices related to environmental, social and governance (ESG) and factor investing, both of which have been growing by 40-50% p.a.
MSCI earned EBIT margins of above 50% in each of the last two years, putting it in the upper echelons of all companies globally based on this measure. Over the three years to 2019 EPS grew at a compound rate of 30% p.a. We expect many years of attractive earnings growth ahead for MSCI as more assets are invested based on their indices, particularly those related to ESG.
S&P Global is a provider of credit ratings, benchmarks, data and analytics to the capital and commodity markets worldwide. Each of these are standards, deeply embedded into the workflow of their customers.
S&P Ratings is one of two dominant credit rating agencies. The existence of a credit rating saves the debt investor a lot of work by providing a broadly understood independent opinion. S&P’s ratings have proven remarkably accurate over many decades, as shown in Figure 2 below, notwithstanding their misjudgements regarding US mortgage securities.
Ratings also save the debt issuer a lot of money – on average, a rating will reduce the cost of debt for the issuer by about 10x the cost of the rating itself. The credit industry wants standards, which is why most debt issuers are rated by both S&P and Moody’s. However, credit markets do not value a third or fourth opinion and as such fringe players have forever struggled to gain ground. Both major credit rating agencies routinely increase prices 3-4% every year.
S&P Dow Jones equity indices together are the industry standard for US equities, with S&P by far the larger of the two index brands. Like MSCI, this business earns fees from active equity managers as well as passive mutual funds and ETFs, with a large contribution coming from the trading of S&P 500 futures and options.
Like MSCI, S&P Global has a strong and growing family of ESG indices and research. In 2016 it acquired Trucost, a leader in carbon and environmental data and risk analysis, and early this year acquired RobecoSAM, a leading provider of corporate sustainability scores. ESG investing is a market of growing importance that is in need of standards. Currently, there are many different scores, data providers and indices.
We expect that as the ESG market develops it will coalesce around two brands or common languages and see MSCI and S&P Global as strongly positioned to become the standards.
S&P Global earned an EBIT margin above 50% in the last 12 months, and over the last three years EPS has grown at a rate exceeding 30% p.a. We expect many more years of attractive earnings growth as the company benefits from its position as an industry standard across key parts of global debt, equity and commodity markets.
At Aoris we like to own businesses with leadership positions in growing markets where being the leader matters. Rather than mean reversion in favour of tier-2 players, we look for businesses that benefit from mean aversion. MSCI and S&P Global are two excellent examples of this.
MORE ON Equities
Stephen founded Aoris Investment Management in 2017 and has been investing internationally for around 25 years. Prior to Aoris, Stephen was Head of International Equities at Evans & Partners where he directly managed $1bn of client assets.