• Singapore Exchange (SGX:S68) reduces licence agreement with MSCI from February 2021; only MSCI Singapore Index products will be retained.
• MSCI ex-Singapore products contributed 15%/12% of equity derivative contract and total derivative contract volumes.
• Management expects NPAT impact to range from 10- 15% for FY21F; FY22F likely to be worst hit.
• Downgrade to FULLY VALUED, revised Target Price to S$7.40.

Reduction of MSCI Licence Agreement Dents Medium-term Thesis in the Interim

• We downgrade Singapore Exchange (SGX) to FULLY VALUED, as we believe the expiry of all other non-Singapore MSCI products in February 2021 dents the medium-term thesis for SGX’s derivatives volume growth. Collectively, these contracts contributed 15%/12% of equity derivatives contract and total derivative contract volumes.
• Management is guiding for net profit impact to range from 10-15% for FY21F, while we believe that FY22F is likely to be worst hit. Beyond the immediate earnings impact, we believe SGX will see more competition from Hong Kong Exchange (HKEX) going forward in the derivatives space following the latter’s new offerings with MSCI of up to 37 equity index futures contracts, announced on 27 May 2020.

Licence Agreement for MSCI Ex-Singapore Products Will Expire in February 2021

• On 27 May 2020, SGX announced that its licence agreement with MSCI will be reduced going forward.

Impact of Reduced MSCI Licence Agreement

• April FY-to-date, Ex-MSCI Singapore products contributed ~15% of equity derivatives contracts volume and ~12% of total derivatives contracts volumes. Amongst these volumes, MSCI Taiwan contracts, being one of SGX’s top four traded equity contracts, contributed ~12%/ 10% of equity and total derivatives contracts volumes.
• MSCI Singapore products contributed another ~5% to total derivatives contracts volumes.
• According to management, there is a “potential 10- 15% impact on FY2021 NPAT” based on its estimates, assuming that there will be zero trades in all other MSCI products from July 2020.
• Management has stressed that its assessment is conservative at this point, as some contracts are still likely to trade between July 2020 and February 2021 and it excludes cost and technology expenses associated with the contracts and hence FY21F could see a smaller-than-expected decline.
• We have cut FY21-22F earnings by 11-19% but left FY20F estimates unchanged. There may be potential upside in FY21F estimates should trading continue from July 2020 to February 2021 in the interim as investors mitigate the changes.

Competition in Derivatives Space Likely to Heat Up

• Meanwhile, HKEX has entered into a major licensing agreement with MSCI with plans to introduce 37 futures and options contracts, subject to regulatory approvals and market conditions. We note that on top of plans to offer MSCI Taiwan products, MSCI Singapore contracts are in the plans as they are not exclusive to SGX and there might be some movement in volumes from SGX to HKEX.

In March 2019, HKEX Announced That It Was Planning to Launch Futures Contracts

• These may compete with SGX’s FTSE China A50 Index Futures, which accounts for 40% of SGX’s total derivatives volume. We believe HKEX’s move further bolsters its ambitions in the derivatives space, an area it has been keen to grow in. The reduction of licence agreement with MSCI has derailed SGX’s medium-term thesis in the interim, which has been powered by derivatives’ growth.

SGX’s Mitigation Plans

• SGX continues to build on its multi-asset solutions as it believes margin efficiencies across various asset classes will continue to allow it to seek growth in the derivatives business. According to SGX, it will continue to engage with its stakeholders to manage their open interest as SGX gradually discontinues the relevant MSCI products.
• In our view, it could be difficult for SGX to recreate similar products to its existing MSCI offerings. However, SGX has reiterated on its continued push to broaden and deepen Asia coverage by developing more derivative products on its own or seeking collaboration with other partners.

Downgrade SGX to FULLY VALUED With Revised Target Price of S$7.40

• We downgrade SGX to FULLY VALUED on the MSCI licence developments and intensifying competition in the derivatives space. Our revised Target Price of S$7.40 is based on the dividend discount model (k=7%, g=3%, ROE=35%) as we revise our ROE assumption from 39% to 35% and lower our long-term growth forecast from 4% to 3%.

Where We Differ

• SGX’s volume growth in derivatives in the last few years is testament to its execution capabilities. While SGX has the prerequisites to power growth in the identified segments of Fixed Income, Currencies and Commodities (FICC) and Data, Connectivity and Indices (DCI) in the medium term, we believe the reduction of licence agreement with MSCI has derailed SGX’s medium-term thesis in the interim.
• A look at SGX's listed history - what drives SGX Share Price?

Source: DBS Research - 27 May 2020