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CME Group, Inc. (NASDAQ:CME)

Q4 FY07 Earnings Call

February 5, 2008, 9:00 AM ET

Executives

John Peschier - IR

Craig S. Donohue - CEO

James E. Parisi - Managing Director and CFO

Phupinder Gill - President

Rick Redding - Managing Director, Products & Services

Analysts

Richard Repetto - Sandler O'Neill

Michael Vinciquerra - BMO Capital Markets

Howard Chen - Credit Suisse

Niamh Alexander - Keefe, Bruyette & Woods

Christopher Allen - Banc of America Securities

Jonathan Casteleyn - Wachovia Capital Markets

Daniel Harris - Goldman Sachs

Donald Fandetti - Citigroup

Roger Freeman - Lehman Brothers

Operator

Good day everyone, and welcome to the CME Group Fourth Quarter and Full Year 2007 Earnings Call. As a reminder, today's conference is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to Mr. John Peschier. Please go ahead, sir.

John Peschier - Investor Relations

Thank you, and thank you everyone for joining us this morning. Craig Donohue, our CEO; and Jamie Parisi, our CFO will spend a few minutes outlining the highlights of 2007 and the fourth quarter, and then we will open up the call for your questions. Terry Duffy, our Executive Chairman; Phupinder Gill, our President; and Rick Redding, our Head of Products and Services are also here this morning and will participate in the Q&A session.

Before they begin, I'll read the Safe Harbor language. Statements made on this call and in the accompanying slides on our website that are not historical facts are forward-looking statements. These statements are not guarantees of future performance and 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 forward-looking statements. More detailed information about factors that may affect our performance maybe found in our filings with the SEC, including our most recent quarterly report on Form 10-Q, which is available in the Investor Relations section of the CME Group website.

During this call, we will refer to GAAP and non-GAAP pro forma results. A reconciliation is available in our press release and there is an accompanying file on the Investor Relations portion of our website that provides detailed quarterly information on both a GAAP and pro forma basis.

Now I would like to turn the call over to Craig.

Craig S. Donohue - Chief Executive Officer

Thank you for joining us this morning. In many ways, 2007 was a transformative year for CME Group. Not only did we complete our historic merger with the Chicago Board of Trade, but we also delivered tremendous growth and financial results in our core business and positioned our company for future. Total combined trading volume of 2.8 billion contracts grew by more than 29% compared with the prior year with strong performance in every product line. We delivered our seventh consecutive year of volume growth above 20%. Our solid performance reflects our continuing efforts to expand our customer base, improve the speed and functionality of our systems, and develop innovative new products in markets.

We certainly proved we could multi-task in 2007. In addition to our volume growth, we continue to execute on our growth initiatives. Hosted by our CME Globex trading platform, NYMEX energy and metals product volume more than tripled from 2006 to 2007, averaging 760,000 contracts per day. Fourth quarter average daily volume rose 130%, representing the sixth consecutive quarter of record volume. We continue to deliver innovative products during 2007 including contracts based on the MSCI Emerging Markets Index, the E-mini S&P SmallCap 600 Index, and the Lehman Brothers Aggregate Bond Index, as well as new commercial real estate and weather contracts.

Additionally, we announced plans to launch volatility quoted options in our FX product line, beginning in March 2008. Volatility based quoting is the quoting convention most commonly used in the OTC FX market. As a result of our efforts, we delivered outstanding financial results during 2007. For 2006, I was proud to report record standalone financial results with $1.1 billion of revenues and net income of $407 million. In 2007 on a combined basis, our revenue and net income virtually doubled to $2.1 billion and $817 million respectively.

As we turned to 2008, we have many reasons to be enthusiastic about the opportunity in hand. First, the integration to date of the CME and CBOT has been smooth, and our customers and shareholders are now seeing the benefits created by our merger. Just last week, our technology team did a tremendous job of completing the Globex integration for all CBOT agricultural, equity index and interest rate products, and we are now fully prepared to complete the combination of our trading floors by mid-May. As promised, we are on track to deliver at least $150 million of run rate synergies by the end of the year.

Second, we continue to broaden the distribution of our highly relevant product set around the world. Recent partnerships in Brazil and Korea highlight our global mindset, and we intend to continue to expand our reach. Third, we made a recent announcement regarding upcoming significant technology speed improvement. We are focused both on the speed within the walls of our datacenters and the speed of orders and market data between us and our customers.

Finally, here at CME group we help our customers manage risks through the use of our products. Since we became a public company in 2002, there has been no greater need for risk management than right now. Fortunately, we provide the broadest set of products and the most robust and reliable technology platform coupled with the safety and soundness of the CME clearing house. Most importantly, we have significant pools of liquidity, which our users greatly benefited from whether they are hedging risks or attempting to speculate on short-term price movements in our various products.

Before I turn the call over to Jamie, I will provide a few additional details on some of our recent announcements. First, following unanimous approval by the Brazilian Mercantile and Futures Exchange Board of Directors, we executed our definitive agreement with BM&F, which we discussed in detail during the last conference call. We expect this deal to close in Q1 following a vote of the BM&F shareholders on February 26th. Our technology and clearing groups will be working very closely with our partners in Brazil. We currently expect to provide order routing in the second half of 2008 when we also bring our telecommunications hub in Sao Paulo online.

We will work closely in conjunction with BM&F's own technology development plan. We look forward to providing our customers more direct access to BM&F products and to more effectively distribute CME Group's products to traders located in Brazil. Furthermore, we continue to forge ahead with plans to increase volume growth in Asia and in addition to our proposed agreement with the Korea Exchange. We are also working to accelerate the distribution of our products into China through our strategy with CFETS and the People's Bank of China.

Second, we announced that we will significantly improve the processing speed for all of our electronically traded products. Testing under a replay of peak market conditions indicated that the upgraded CME Globex platform may reduce response times by up to 50%. Our timetable is to deploy the speed enhancement first to all currency products next week and to bring on additional products each week until we are finished with all CME Group and NYMEX products by the end of March. If history has any guide, we expect the improved speed for orders and market data to increase our volumes and deepen our liquidity. In addition to speed, reliability is also critically important, especially during peek times like right after an FOMC or non-farm payroll announcement. Scale is also very important. In January, we handled more than 3.5 billion orders on our Globex platform; and we have the scalability to handle significant growth from here. As a comparison, in January 2007 we processed about 1.2 billion orders.

Third, following the close of our merger, we reached out to our Treasury product customers for their input on potential enhancements that could make the Treasury products more successful when they transition to Globex. Unless mean [ph] to our customers and in conjunction with the analysis that we did, we announced several important changes to our Treasury products. We plan to reduce the tick sizes beginning on March 3rd for the 30-year U.S. Treasury Bond futures contract and both the 5-year U.S. Treasury Note futures and options contract. When customers consider the all-in cost of trading, these tick size changes make the products even more competitive with their cash Treasury counter products. We have heard very positive feedback from our customer base as these changes bring the prices for futures into parity with the cash Treasury products. We are confident that these adjustments will make our Treasury products increasingly attractive alternatives to the cash Treasury market.

And finally, we recently began to offer block trades for the first time ever for certain CBOT interest rate products to better facilitate the execution of large transactions by futures and cash market participants and harmonizing the trading rules between CME and CBOT interest rate products. Historically these types of trades were done entirely in the cash Treasury market. Once again customer feedback is indicated that there are several users interested in the ability to execute block trades in these products.

Turning to our OTC initiative and interest rate, yesterday we announced the 33 buy side participants have committed to an early adapter program for CME Swaps and Swapstream, the first centrally cleared interest rate swaps available to all OTC market participants. These new products will be centrally cleared through CME. The firms representing a wide spectrum of U.S. and European financial institution will lead the effort to bring this new and innovated product to the $272 trillion interest rate swaps market. They will be the first financial institutions to benefit from the balance sheet and operational efficiencies through central counterparty clearing and straight through processing offered by CME.

In conclusion, we had a busy and prosperous year in 2007; and 2008 is off to an even better start from a growth perspective. We remain very confident about our future success, driven by our diverse product set leading technology and clearing capabilities, and certainly the considerable talent of our entire employee base. Lastly, I am sure you have questions about the release that came out last week about our negotiations with NYMEX. We will not have any further comments about these negotiations beyond the information in the release until we either reach a definitive agreement or the discussions are terminated.

Now I would like to turn the call over to Jamie to discuss our fourth quarter financial results.

James E. Parisi - Managing Director and Chief Financial Officer

Thank you, Craig. The GAAP results for the fourth quarter were outlined in detail in the press release. In summary, we delivered net income of $201 million or $3.75 per share. Included within these results were $12.5 million of merger related operating expenses and then $11.3 million reduction of non-operating expense related to the CBOE exercise rights privilege guarantee. The merger related costs included $4.4 million of restructuring expenses, driven primarily by headcount reductions, $3.7 million for the accelerated depreciation of datacenters and $4.4 million for integration and legal expenses.

We provided a reconciliation between GAAP and pro forma results in the back of the press release, and we have also posted both GAAP and pro forma historical quarterly income statements on our website starting with Q1 of 2006.

As I move on to the details of the income statement, please note that the comparisons I reference are based on the pro forma results. Our total pro forma revenue rose 23% to $530 million in the fourth quarter driven primarily by strong CME Group volumes. Average daily volume was up 23% while the average rate for contract was down about 1%. Our average rate per contract was $64.08 in Q4, down from $65.04 in Q4 last year, but up from $62.02 in the third quarter of 2007. The primary driver of the sequential increase in the RPC was product mix as interest rate products accounted for 60% of total volume in the quarter compared to 64% in Q3. In addition, we had a positive change in the member and non-member mix in the fourth quarter. Lastly, we had a favorable venue mix with 81% of the volume in Q4 traded electronically up from 77% in Q3.

Quotation data fees were $50 million for the quarter, up 11% from $45 million in Q4 of 2006. At the end of the quarter, we had approximately 293,000 users who subscribed for the base devices, up more than 5,000 compared to third quarter. In January of 2008, we increased our fee per market data screen from 50 to $55. This increase maybe offset somewhat by decreased demand due to the price sensitivity of some customers and the potential impact of staffing reductions on Wall Street.

Our fourth quarter processing services revenues was $16.1 million. In Q4, 07, we handled more than 850,000 NYMEX contracts per day, up from 800,000 contracts in Q3, and 371,000 contracts per day in the fourth quarter of last year. During this quarter, revenues from NYMEX totaled $15.6 million, which averaged $0.29 per contract.

I will now take a few minutes to review expenses. Total pro forma operating expenses for Q4 were $204 million, up 1% from versus $203 million for Q4 last year. Comparing to the third quarter this year on a combined basis, expenses were down $6 million or 3%. This sequential reduction was driven primarily by lower compensation expense. Total compensation expense decreased from $81 million to $72 million.

There are three components: salaries and benefits, bonus, and stock-based compensation...bonus, and stock-based compensation. Salaries and benefits totaled $54 million, down $2 million sequentially. As of December 31st, the CME Group headcount stood at 1,970, down 20 since the end of the third quarter and down about 180 since the merger. Next, our employee bonus accrual totaled $11 million down $7 million versus Q3 as we reached the maximum bonus payout for the years. And finally, the stock-based portion of compensation was $7 million, which was flat relative to the prior quarter.

All other expenses totaled $133 million in the fourth quarter, up $3 million sequentially. Approximately $2 million of the increase was related to our BM&F transaction, which primarily impacted professional fees. Operating margin was 61% on a pro forma basis, our second highest quarter ever. Investment income for the quarter totaled $15.3 million down from prior quarters as we saw the full quarterly impact of lower cash balances following our share and ERP buybacks. We also had interest expense of $2 million in the fourth quarter related to commercial pay per outstanding. Our pre-tax income was $330 million in Q4, up 37% from the fourth quarter last year. Net income for the quarter was $202 million and diluted pro forma EPS was $3.77.

Moving onto the balance sheet, as of December 31st, we have $1.05 billion of cash and marketable securities, and short-term debt of $164 million resulting in a net cash position of $884 million that is an increase of $151 million in net cash for Q4. Capital expenditures net of leasehold improvement allowances totaled $74 million in the fourth quarter driven by continued investment in our technology infrastructure including the purchase of land and the building for a new datacenter for $14 million. For the full year, pro forma capital expenditures totaled $159 million.

I will now turn to guidance for 2008 for CME Group. We expect pro forma expenses for the year to range from $835 million to $850 million. That would represent a 0 to 2% increase versus 2007 pro forma expense levels driven by normal expense growth rates less merger related expense synergies. Historically, CME expenses have grown between 11 and 13% annually; and in 2008, we expect to benefit from approximately $80 million of incremental expense synergies compared to 2007. By the end of 2008, we expect to achieve run rate expense synergies of at least $150 million.

We anticipate between $225 million and $235 million of capital expenditures in 2008 driven by continued technology in real estate related spend. Approximately 75% of our capital spend will be related to technology, and we expect the first phase of the build out of the new datacenter to total around $55 million. This 260,000 square foot building will be...will handle future volume growth and will be outfitted on a build as we grow basis.

Looking ahead to 2008, we have raised the cash earnings target well above of where it came in for 2007. At target, employee bonuses would be $36 million. If we are 20% above of the 2008 cash earnings target, employee bonuses would be capped at a maximum of $57 million. In addition, we anticipate the average effective tax rate for 2008 to be approximately 40%. In terms of our share count, we will issue 1.19 million shares of CME stock at the close of the BM&F transaction.

We also announced today that we declared a first quarter dividend of $1.15 per share payable March 25th, 2008 to shareholders of record as of March 10th. This dividend represents a 34% increase from the 2007 quarterly dividend of $0.86 per share. And finally, trading volume so far in 2008 has been exceptional. In January, we averaged 14.3 million contracts per day, up 65% compared to last year.

With that, we would now like to open up the call for questions.

Question And Answer

Operator

Thank you. The question-and-answer session will be conducted electronically. [Operator Instructions]. We will go first to Rich Repetto of Sandler O'Neill.

Richard Repetto - Sandler O'Neill

Good morning guys.

Craig S. Donohue - Chief Executive Officer

Good morning, Rich.

Richard Repetto - Sandler O'Neill

I guess first question is just a little bit more clarification, Craig and Jamie on the expense guidance. So you say 835 to 850 in 08 and then...so you will have $80 million I guess of the synergies. Should we look at 09 as having some growth normal and then at $70 million deduction from the run rate to 09 to get to the 150 total?

James E. Parisi - Managing Director and Chief Financial Officer

Just a couple of things; one, the $80 million that I referenced in synergies for 08 is an incremental number versus 07. So we are actually in total absolute synergies for 08, a bit over $100 million. And then we will hit the run rate of 150 at the end of 08, so you can expect for 09 that the synergies would be approximately at least $150 million.

Richard Repetto - Sandler O'Neill

And incrementally that's 50 or is that...that's what I am not clear about; in 09, incrementally 150?

James E. Parisi - Managing Director and Chief Financial Officer

Incrementally in 09 over the absolute 100 or so for 08 would be $50 million.

Richard Repetto - Sandler O'Neill

Okay, thanks. And then I guess just on a...we have learnt that the speed of the platform certainly impacts volumes. And from what I understand as you replace and improve speed and you sort of touched on this in the prepared remarks, but it is matching engine for a certain product set or product group. Could you talk a little bit about the schedule of how you replace these...the matching engine, so we might look and try to see the impact on volumes if we have the good versus normal volatility?

Craig S. Donohue - Chief Executive Officer

Rich, I will take that. I don't think we'll provide huge amount of transparency on that, but we have a significant multitude now of different match engines that we use as you know for different products. And we have recently actually added a significant number associated with the migration of the e-cbot products on to the CME Globex platform. At that time, we announced already a 50% improvement in response time associated with the work that we have already done. And then what we are referring to in the script was further upgrades that we are implementing that will further reduce response times we think very significantly. And we will be doing that across our different product sets.

Phupinder Gill - President

Rich, this is Gill. Just to add to what Craig said, we are not actually replacing any matching engines very simply over the last few weekends brought on what used to trade as the e-cbot onto our Globex platform. From a capacity and speed point of view, we have seen for example an only as an example the average daily volumes of the prone [ph] product that we brought on board in the couple of weeks that they have been here have actually exceeded the average daily volume in the fourth quarter of that [ph] products and the Chicago Board of Trade. And in terms of the capacity issue that you brought up just to put things in perspective, the entire Chicago Board of Trade complex has less trade transactions than the foreign exchange products that CME does here. So, capacity is not an all-in issue for us; and speed, as Craig pointed out, has improved a lot.

Richard Repetto - Sandler O'Neill

Understood. I guess my last thing, Craig, would...the signing of the BM&F and I understood the routing agreement, distribution and routing; now do you have any idea on when they will approve or likely approve the D&A, and I guess you said second half for any impact. Any help in quantify in what you think the...your impact here on your side from this agreement?

Craig S. Donohue - Chief Executive Officer

Well, that's a decision that obviously belongs to BM&F. We are expecting that they will implement CME on a phase-in basis within the next couple of years. We don't have anything more specific than that. They are trying to work through not just the process with their own clearing member firms, but also from a regulatory perspective. So we are very confident that they will be successful in doing that, and so we are going to be building the linkage of our network to their environment and vice versa in anticipation of that decision being made.

Richard Repetto - Sandler O'Neill

Okay, congrats guys on a good quarter.

Craig S. Donohue - Chief Executive Officer

Thank you.

James E. Parisi - Managing Director and Chief Financial Officer

Thanks, Rich.

Operator

We will take our next question from Mike Vinciquerra with BMO Capital Markets.

Michael Vinciquerra - BMO Capital Markets

Good morning. I want to ask two questions on the product side. First of all, in the S&P side; just kind of looking at your new contracts, whether your contracts, their open interest has been relatively we show for roughly 5, 6 month and volume having peeked in October has come down a fair amount. Is this one of the situations, where until we really see the transition of open interest over to...we are probably not going to see this contract take offers or are you guys satisfied I guess as the question with open interest in volume in theses contracts?

Unidentified Company Representative

Mike, I think you have to look at it across the whole product set, because not all the users of the Russell 2000 products are specifically benchmarked to the 2000 or using it because of this small cap products. What we have seen if you've looked at the open interest of the mid cap product, it's up of 20% probably from August. If we see people starting to use that...utilize that product as they transition out. People that use the Russell 2 because of the volatility and the lower correlation to the S&P, a lot of them have been moving to the NASDAQ product. So, I wouldn't look at it as just a one-to-one comparison. I think you have to look at it from what the customers needs are. But I think just to your point on small cap 600, what we are starting to see is more and more volume. We haven't necessarily seen it in the open interest yet, but that will come as more liquidity develops in the product.

Michael Vinciquerra - BMO Capital Markets

Okay, that's helpful, thank you. And then actually another question for you; the percent of options trading electronically, we calculated it around 10% I guess in January, which has been bumping up and down between 10% back in August dipping and in fact 10 in January. Are you seeing the progress there that you would have anticipated? Or is there another version of your user-defined spreads that maybe coming out in the next few months it would provide some more functionality?

Unidentified Company Representative

I don't think it's the functionality from CME. And Mike I think what you see is customers getting it through their systems to put it into their order management system. So each time a new bank or firm puts that into their system, we tend to see a little bump in volume. Again it's difficult to see a kind on a month-to-moth you need to look at it over a longer period of time. What we are more pleased with is actually the growth in those products both on the floor and electronically. As we look at the absolute number of Eurodollar options traded electronically so far looking at January, they are up by quite a bit. You are looking at about 150,000 a day. So it's not where we would like it, but on an absolute level, it's doing quite well. And we will continue to push that in 08.

Michael Vinciquerra - BMO Capital Markets

Understand. Okay, great, thank you. And then just one question on the tick size for the Treasury contracts; how did the market makers react to that and should we from the outside kind of looking at this is something similar to what's going on with the...not as dramatic, but the penny pilot in equity options were simply trying to bring the spreads down and make the products a little bit more tradable for different types of investors.

Craig S. Donohue - Chief Executive Officer

Yes. I will take that, Mike. I think in all these kinds of situations, we have to sort of balance the different interest of all of our customers. And generally speaking the market makers would I think, it's fair to say, prefer a larger tick size. But on balance having talked to our customers starting in June and July and from the completion of the merger, we just felt that this was an appropriate change, and we factored in as we mentioned I think during the prepared remark that we were looking at transaction costs in the cash Treasury market, which is the most direct substitute for customers, who are using alternatives to our Treasury futures products. And we thought that on balance this was the best step to take in order to make our products more attractive relative to the cash market. I think these changes will do that.

Michael Vinciquerra - BMO Capital Markets

And might also happen to be someone is trying to put together competitive point. But thanks, Craig, I appreciate your answer.

Craig S. Donohue - Chief Executive Officer

Yes. Well it, serves that purpose as well, no doubt about that.

Michael Vinciquerra - BMO Capital Markets

Thank you guys.

Operator

We'll take our next question from Howard Chen with Credit Suisse.

Howard Chen - Credit Suisse

Good morning everyone.

Craig S. Donohue - Chief Executive Officer

Hi, Howard.

Howard Chen - Credit Suisse

Congrats on a strong quarter and healthy start with New Year. I had a few questions...I guess first one is a follow-up for Craig. We mentioned during the quarter there was an announcement about a new consortium of financial institution creating a new exchange and targeting Treasury future. Curious in any thoughts you have on this competitive spread out of the CME franchise is maybe different today than phasing it in the past and what lessons management learned since the major...last major competition from the European Exchange?

Craig S. Donohue - Chief Executive Officer

Right. Well, I mean I think in keeping with our past practice, two things at the outset I mean one is it's a serious effort, and one that we take very seriously. And we try to look at all of these competitive situations as opportunities for us to focus on our customers to make sure that we are doing the absolute best job whether that's the product itself or whether that's the speed and efficiency of the platform or clearing capital relative efficiencies. And I think generally speaking over the last ten years, whether it is in reference to CME or CBOT, we have generally embraced competition very much to our advantage, having I think increased our market share relative to our competitors. So, it's serious. We are looking at it very carefully.

Mike mentioned obviously the tick size reduction and implementation of the block trading facilities also do help make us more competitive relative to the consortium. We would have done those things anyway based on the customer feedback that we were getting, but if it helps to make us more competitive in the marketplace, there is nothing wrong with that either. So, we are taking that very seriously. I do think certain things have changed obviously some of the earlier challenges involved electronic offerings versus the hybrid model that we have employed. At this point, obviously we are very predominantly electronic and the Treasury in Eurodollar and market. So I don't think it's really about technology, but we think that with the efficiency low cost of trading that we have the deep liquidity, the technology and platform and clearing advantages, we will be a good competitor in this market.

Howard Chen - Credit Suisse

Thanks, Craig. My next question is for Rick if he is still there. On the CBOT integration, I know it's really early after the migration of Globex, but qualitatively, can you share with us any interesting early returns you are seeing among any shift in volume, depth of liquidity and the books and broadening of the user base?

Rick Redding - Managing Director, Products & Services

Yes, Howard, it is early in looking at this. But we have taken some time to look at the quality of the markets and its depths of our number of the products. And what we have found is across the board there is more depth at every price level in these products. And we are particularly proud in looking at the commodity type products that we have done several test to see how deep those markets are, and we clearly see more depth and the market makers are really stepping up now that it's on the Globex platform.

Howard Chen - Credit Suisse

Okay, thanks. And then final one for me is on the numbers for Jamie. Congrats for finally hitting that bonus cap this year. Nonetheless so, comp is still a lot lower that we had anticipated. Were there any CBOT cost synergies flowing through the comp line item this quarter? I guess what I am really trying to get at it how much is the quarter-to-quarter decline in comp expenses quarter? Should we think it's sticky going forward into 08?

James E. Parisi - Managing Director and Chief Financial Officer

If you look at the comp, Howard, on just the comp and benefit it's so down about to $2 million excluding the bonus favorable variance. We had a decrease in our average debt of roughly 70 people that was a key driver there, and so that it flows through as a result of the synergies.

Howard Chen - Credit Suisse

Okay. Thanks so much, guys.

Craig S. Donohue - Chief Executive Officer

Thanks Howard.

Operator

We'll take our next question from Niamh Alexander with KBW.

Niamh Alexander - Keefe, Bruyette & Woods

Thanks for taking my questions, good morning. Just on the expense synergies, can you just clarify that 835 to 850, we appreciate getting the number there. But does that include severance and restructuring expenses as well?

James E. Parisi - Managing Director and Chief Financial Officer

No, the 835 to 850 the pro forma number so it excludes merger related costs and they are roughly $10 million or so for 08.

Niamh Alexander - Keefe, Bruyette & Woods

Okay, that's helpful, thanks so much. And then for Craig or maybe Gill on the clearing services, I was just wondering...I know we talked about it before, but have you made any progress or will we hear something more shortly maybe about you levering the clearing business into maybe providing just clearing facilities for other products?

Craig S. Donohue - Chief Executive Officer

Niamh, we are obviously very focused on offering clearing services separate and apart from execution or trading services or products. And we are working on that right now. So I don't have a lot more to say on that, but we are obviously always looking at new opportunities to clear products if we can offer something valuable for the market.

Niamh Alexander - Keefe, Bruyette & Woods

Okay, fair enough, that's fine, thanks. And then just on Swapstream and congrats on getting the list yesterday with quite a lot of names on there. But I guess the large dealer banks, who really do participate so much in the soft market, I noticed too many of those on their; should we expect this is to be primarily more of an institutional buy side driven venture definitely outside and help me think about what might be the catalyst defending to maybe get some of the dealers engaged on it?

Unidentified Company Representative

Clearly, we are focusing on getting some of the other banks into this program. Some of the larger banks do also though necessarily want to be on a press release announcing their involvement in the fact that they maybe making markets on the platform. But it is clearly something that our team is focused on.

Niamh Alexander - Keefe, Bruyette & Woods

Okay thanks so much for taking my question.

Unidentified Company Representative

Thank you.

Unidentified Company Representative

Thanks Niamh.

Operator

We will take our next question from Chris Allen with Banc of America.

Christopher Allen - Banc of America Securities

Hey guys, nice quarter.

Unidentified Company Representative

Thanks Chris.

Christopher Allen - Banc of America Securities

Just a quick number of questions; for the 1.9 million increased in share count for BM&F, should we start averaging that at the end of February?

James E. Parisi - Managing Director and Chief Financial Officer

It's 1.19 million and the shareholder vote and the BM&F side occurs at the end of February.

Craig S. Donohue - Chief Executive Officer

February 26, approximately would be shortly there after.

James E. Parisi - Managing Director and Chief Financial Officer

February 26.

Christopher Allen - Banc of America Securities

Okay. And then just following up on Niamh's question just one about Swapstream. I mean obviously we have seen some of the challenges you guys have faced with FX market fee. You can just comment in terms of what you have learned with the evolution of the FX marketplace and how you, I mean tend to make Swapstream that would be helpful.

Craig S. Donohue - Chief Executive Officer

Yes, Chris, I think one of the things that we have recently done in market space was to change the incentive program to get more aligned providing deeper liquidity. I think what you are seeing in the Swapstream proposal is starting some of those incentive programs upfront to provide...get people to provide liquidity to that marketplace. So, I think we will start kind of incentives the right way from the beginning.

Christopher Allen - Banc of America Securities

And have the incentive programs in FX marketplace had a market impact so far or...

Unidentified Company Representative

Yes, they haven't announced results, but from what we are seeing the jump ball as we call it, the incentive that just started on January 15th is actually showing very good results. So we probably should have started those a little earlier.

Christopher Allen - Banc of America Securities

Great. And then just lastly, just in terms of on the block trading; if I recall correct, you already have that on the Eurodollar side. I mean just helping with impact, should we think about nearly coming to the impact in terms of the Eurodollar trading.

Unidentified Company Representative

From most of the time, you see block trades and the interest rate markets. People are trying to move a fairly large size. So you will necessarily see a lot transactions, but they will tend to be pretty large in nature. And so far since we have started, where we have seen some activities actually on the Treasury option side, where People have done a few blocks. But this is another way as Craig mentioned earlier is to be competitive with the cash Treasury market to try to get some of those trades that we probably weren't seeing before.

Christopher Allen - Banc of America Securities

Great, thanks a lot guys.

Operator

We'll take our next question from Jonathan Casteleyn with Wachovia.

Jonathan Casteleyn - Wachovia Capital Markets

Hi good morning.

Unidentified Company Representative

Hi Jonathan.

Unidentified Company Representative

Hi Jonathan.

Jonathan Casteleyn - Wachovia Capital Markets

I am just curious if you have actually met with some of the members from the competing consortiums since our announcement in December. And just curious if there is a way to understand the percentage of that business in Treasuries and I think since the dollars comp that you announced also Euro dollar, and any way to get an understanding of their percentage of business in those products?

Craig S. Donohue - Chief Executive Officer

Well, we don't disclose, but I think it's fair to say that the consortium numbers represent significant customers of the exchange in Treasuries and Eurodollars both in terms of...at least in term so the buy side participants their involvement in the market and also the order flow providers. Having said that though, we obviously have a very mature and well developed and diverse customer base in those products. So to answer your question more directly, I mean we have all our spin-out talking to all of our customers and clearing member firms. And I think generally speaking, we can say that we have a very good relationship with all of these customers. It's not unusual for customers to participate in consortia. You've seen that in virtually every segment of the market price, certainly equities, options, energy, European markets, North American market. So, it's not surprising. I think that our job is to continue to make our customers happy with what we do in terms of transaction cost and technology in clearing, and I am confident that we will do that. But we are very actively involved in talking to our customers on a very regular basis, and we will continue to do so.

Jonathan Casteleyn - Wachovia Capital Markets

Right. And it seems these things tend to crop up from time-to-time. I am just curious, with your very robust market structure trading speed from solvency to clearing house. I mean what do you think their objective is or has been in the past?

Craig S. Donohue - Chief Executive Officer

Well, I think it's not for us to really speculate on that. I mean, I think in general terms there is certainly a mindset that it's helpful to have these kinds of efforts so that we can be very cognizant of their interest in low transaction fees or exchange fess. I don't think that's really necessary given them that we've had I think such a remarkably good history of reducing costs for market users, and being the low cost provider for the largest liquidity providers or largest traders in the market, but nevertheless that's what they find to be valuable then. It's hard for us to argue with that. So I think that's a little bit of the mindset. And obviously sometimes also you see people, who are coming together in these kind of things, because they want to offer different kind of execution mechanism I think that our block trading facilities will response to that as well in the same way that we have been successful in implementing that Eurodollar futures.

Jonathan Casteleyn - Wachovia Capital Markets

Great, thanks a lot; that makes sense. And just an update for Rick on CFETS. You've talked broadly about some system testing in the spring; just wondering do you think this is an 08 event as far as coming on stream as a revenue initiative.

Rick Redding - Managing Director, Products & Services

We continue to work through one of the issues on the operational side. You are absolutely right, Jonathan that we are moving forward through that. We still have some regulatory hurdles to overcome that we are working through pretty diligently. So, I am a little hesitant to say exactly when because of the regulatory issues that were still working through. But from an operational side, we are making great progress.

Jonathan Casteleyn - Wachovia Capital Markets

Okay, great. And just lastly, this is a combined question for Craig and Jamie. Just looking at the ERP guarantee, Jamie, I am assuming you are booking the optionality of that put option or that guarantee, right? Just wondering so going forward, if you were to take the entire guarantee, you left with about what $260 million to $270 million, is that correct?

James E. Parisi - Managing Director and Chief Financial Officer

Yes. The grand total is $333 million, but we have the $159 million that we own right.

Jonathan Casteleyn - Wachovia Capital Markets

Right, okay. So then do you know that item is tax deductible as you run it through or...

James E. Parisi - Managing Director and Chief Financial Officer

Yes, if we had a...in the end if we have the loss, yes.

Jonathan Casteleyn - Wachovia Capital Markets

Okay. It is tax deductible. Okay, and just curious any update on a legal situation I know there was a rendering from the SEC of sort of put back to Delaware courts, still pretty from our end [ph] and I don't have a lot of understanding as to what the next step is in timing, can you...Craig, can you give us an update?

Craig S. Donohue - Chief Executive Officer

There is not much to say, it is as you correctly point out, back in the Delaware court. I think it was relatively clear from the outset that the Delaware judge was going to reserve from self the determination of the ultimate questions in the case, which as you know relate to the ownership interest of the CBOT full member ERP holders. So and that chance I think SEC process of largely sort of a distraction from that. So it's back in the court, and we continue to have a very positive view of the merits of the case for the full members CBOT ERP holders in terms of those particular issues.

Jonathan Casteleyn - Wachovia Capital Markets

Any idea of timing as to when the next milestone is?

Craig S. Donohue - Chief Executive Officer

Only the judge can say.

Jonathan Casteleyn - Wachovia Capital Markets

Okay. Thanks for your time.

Unidentified Company Representative

Thanks Jonathan.

Operator

We will take our next question from Daniel Harris with Goldman Sachs.

Daniel Harris - Goldman Sachs

I was wondering digging down a little bit more into the increase speed and technology that you guys have talked about. You can give us a sense of how many clients is that really important to versus what percent of the volumes they may control. And then If guess sort of more on that If you can give me a sense of how you think about increasing speed and to some extent technology cost and versus maybe keeping the speed where it is given that you are significantly faster than most other exchanges out there, but increasing things like marketing or market maker services or even something with the pricing of the product?

Unidentified Company Representative

I mean Daniel if we've looked historically, every time we have been able to find some efficiency on the speed side. But we have been fortunate to have our volumes go up. Because the segment of clients that this really appeals to the algorithmic traders. Those are the folks that really have the need for reduce speed. We have said in the past we think the algorithmic traders are roughly 35, 45% on the volume. So it's a fairly significant fee of our volume. So clearly to your point at some point, it doesn't pay to increase the speed at all, but I think we are long way away from that. For example just to give you an anecdotal on speed and how important it is to these algorithmic traders when we introduced the collocation facility for a client in Chicago, it only saved them about 50 micro seconds, and we basically sold that facility out very quickly. So we still see our clients are still demanding reduce speed times to improve their trading.

Unidentified Company Representative

Just on a cost perspective, I think you can see that our cost per quarter process to even cost per trade has been coming down even as we made these improvements.

Daniel Harris - Goldman Sachs

Right, thanks, I appreciate that. Jamie, actually can you take a little about the cash position you guys have and how you are thinking about capital of management at this point and additional share repurchases versus keeping cash on hands for either acquisitions or other corporate events?

James E. Parisi - Managing Director and Chief Financial Officer

Sure, Daniel. We have been saying all along that we wanted to maintain the flexibility in our capital structure, because we realize that the industry we are consolidating and you saw the recent announcement that we are in discussions with NYMEX. So there is potential therefore significant use of cash.

Daniel Harris - Goldman Sachs

So did you do any significant repurchases in the fourth quarter?

James E. Parisi - Managing Director and Chief Financial Officer

No, there is no...there the only repurchase that we have done is the tender offer related to the Board of Trade merger. And there is no repurchase or reauthorization currently.

Daniel Harris - Goldman Sachs

Okay, thanks. And then just lastly here on the BM&F and the CME agreement, which is as you point out selected to start later on this year. Do you anticipate that there will be more activities from the U.S. clients wanting to trade Brazilian products or more flow coming other way from new users in Brazil that didn't really have access to the GLOBEX platform before, thanks a lot.

Craig S. Donohue - Chief Executive Officer

Sure, I mean...it's Craig. We are hoping that it will be both and that's part of the overall arrangements that we have made. I mean first of all, we obviously have a very kind of well developed and diverse global customer base connected to us electronically. So the Globex distribution network should be, we think, very helpful for increasing business and BM&F products. But then similarly there is also a lot of customers in Brazil and in Latin America, who don't necessarily trade through the large global clearing number firms, and who might be trading through more regional Brazilian banks and broker dealers. So having that connectivity between Brazil and us and the telecommunications hub would be referred to should be helpful as well. And we are looking at the Brazilian investment and partnership as really the first start of what we hope will be larger strategy for Latin America in terms of marketing and sales activity, education and training. And so we definitely think that those things should be helpful for generating increased volumes out of Latin America in our products. I can safely say that...I mean Latin America has really not been in area that we've focused on yet as a company in terms of marketing and sales activity and this is certainly a start in that direction, and a low cost way for us to take advantage of that opportunity.

Operator

And we will go next to Don Fandetti with Citigroup.

Donald Fandetti - Citigroup

Rick, obviously there is...the volumes have been very strong for whatever reasons there seems to be there is underlying concern in the marketplace about a potential slowdown. What are you hearing from your clients and what do you think skeptics might be missing in terms of their concerns about sort of moderation following the spike.

Rick Redding - Managing Director, Products & Services

I think there is...that's a big question with a lot of different pieces to it. Because I think...first thing, I think you have to understand the differences in our customer base. I think we have heard in the past or people have written in the past about de-levering, which clearly we haven't seen in our products and I think the open interest is kind of the best empirical way to look at that. So if they are de-levering, they don't seem to be doing it in the exchange traded products here. The other thing is another customer segment and I think people were not looking at fully was the concept of a lot of the what I call them electronic market makers or algorithmic traders that are high velocity. This whole concept of de-leveraging doesn't mean anything to them, because they essentially go home flat every day. So, what they are looking at is the opportunity for that incremental trade for the risks that they are talking in it. So what we've seen is that the markets have become more volatile. These traders obviously are enjoying probably a lot more opportunities than they've had for quite sometime. So I think if you look at it for a new segment declines the way we look at them, what we see is the very different needs for our products among these segments. And if one segment of the clients is actually changing, another segments probably picking that trade up. The other thing to look at is, because of the depth of the products is, even if one part of our bank is...their business is down, it doesn't necessarily mean that whole bank's business is down. It actually may shift to another desk for example. For example, I mean we have had instances in the past, where people revise or is not going to happen. So typically what you see is trading move to other dust within those banks such as the asset liability or the funding desk for the short-term desk, so...or on the credit desk or the Treasury desk. So, I think it's very difficult for people in the outside to see how these shifts take place in market. But I think thankfully, because we have such a diverse user, we've done very, very well; and we are pleased with our customer base.

Donald Fandetti - Citigroup

If I could just follow-up on that, in terms of the algorithmic traders, are there any sort of risk that we should monitor there that might lead to the moderation whether it's a saturation in that business or any other factors?

Rick Redding - Managing Director, Products & Services

I think at any point in time in the last five years. People have always wondered that and I think what is happening in that business. If that's an ever evolving business. More people come into algorithmic trading every day, almost literally. And in this programs of all, people who have much more sophisticated programs. The nature of that business has changed to where it's not just who has the fastest machine. People are using very quantitative, very sophisticated programs to make more trades. One of the great things of putting the CBOT and NYMEX products on the platform has been it gives people more opportunities to trade. It creates trading opportunities that weren't there before. So, those are some of the things. I think we have a little better look into, because we get to see the volumes.

Donald Fandetti - Citigroup

Okay, thank you.

Operator

And we will take our last question today from Roger Freeman with Lehman Brothers.

Roger Freeman - Lehman Brothers

Hi, good morning. I wanted to come back to some of the competitive issues. If we look...I think about this four season consortium. Maybe, Craig, can you talk about the types of products that are...that can be most address the competition i.e. when you look at products for open interest to spread serially across the curve versus those that aren't. I think zero dollars or that way, Treasuries maybe not so much. Because I think that's probably the biggest issue here right in terms of moving open interest for anyone, who would try to compete.

Craig S. Donohue - Chief Executive Officer

I think that that's probably a viewpoint that many people would share in terms of in a soft month concentrated futures contracts perhaps been somewhat easier. I think that's probably an over simplification at least in the sense that at the end of the our customers are making trading decisions based on the liquidity that's available and the low transaction cost. And I don't mean by that just the fact that we have a low cost provider in terms of exchange fees, but I really mean in effective spreads and market impact costs. And so, regardless of whether you are thinking about a very complex product like Eurodollars about the spread trading across the yield curve or across the various Eurodollar contract or whether you are thinking even about concentrated product while Treasury, futures, I think you are still dealing with the same issue, which is that people are looking for the best execution in market. And obviously we have very deep liquidity, very, very efficient markets. And that's our greatest competitive advantage ultimately is that every second of every day is people are making trading decisions that's where the most effective market is.

Roger Freeman - Lehman Brothers

Okay. That's helpful thanks. And I guess just somewhat connected to that; the...I think just as you sent a letter last Thursday to Treasury suggesting that the vertically integrated clearing; is there any competitor? And I guess I am wondering what your...I know your position on that is, but how much waiting you think that their opinion on that matter has in terms of...from looking for suggest and make market structure better?

Craig S. Donohue - Chief Executive Officer

I think that there is obviously a diversity of opinion on clearing structures and I think there will continue to be a debate about that. But the reality, as I said, I said this many times that the vast, vast, vast majority of futures and options contracts traded globally are clear vertically. And something like more than 70 or 75% and further more you see greater trend toward vertical clearing than you do horizontal clearing. Future has been I think a great example of that of having acquired the New York Clearing Corporation through its acquisition of NYBOT. And then it's announced its clear effort in Europe essentially to take away the clearing that was previously outsourced to LCH clearing that as a horizontal provider you have you expect totally vertically integrated. So, there is...this comes down to competition essentially. We have some of the clearing member firms that if they could, we would prefer to have a horizontally controlled low cost clearing utility. And then you have exchanges that obviously have had that for a long time. I think it's very hard to change the way the market is currently organized. You have got very large organizations that have been very successful with these models. You see increased movement in that direction toward vertical clearing. So, it's kind of a theoretical academic debate more than it is anything. But there is always going to be that debate. This is not a new issue; it's been going on for 25 or 30 years.

Roger Freeman - Lehman Brothers

That it is. Okay, last question; in terms of product that's moving over to...from BOT [ph] to the Globex, I think you talk about I think how that [ph] products are already trading more volume than they were. Is there any other changes in functionality or order types as these products...as these electronic products migrate over that helps per volume other than just the overall better performance for the Globex platform?

Craig S. Donohue - Chief Executive Officer

Yes, I mean it's not just the platform, but there are some different functionalities between e-cbot and Globex. One of the things so is just getting them on the same platform is very important for the market makers. Their ability to make markets, because it's on the same platform is enhanced. That's what we have seen from the data we have looked at so far is the...we just have more depth in the market now, because of the market makers. The other thing is it opens that up to more people. There are people that were more CME centric or more CBOT centric. Getting them under the same platforms is actually opening up the market for new opportunities or some of these market making firms.

Roger Freeman - Lehman Brothers

All right. Thanks, that's helpful.

Operator

And at this time, I would like to turn the call back to over Mr. Donohue for any closing remarks.

James E. Parisi - Managing Director and Chief Financial Officer

Hi, this is Jamie. Thank you for joining us today, and thank you for your continued interest in CME. We look forward to talking with you again next quarter. Don't forget to vote and Happy Fat Tuesday.

Operator

This does conclude today's conference call. We appreciate your participation. You may disconnect at this time.

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Source: CME Group, Inc. Q4 2007 Earnings Call Transcript
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