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Taking the joint venture (JV) to the next level, CME Group Inc. (CME - Analyst Report) and McGraw-Hill Cos. , owner of S&P indices, yesterday announced the commencement of their index business with the launch of S&P-Dow Jones Indices.

CME Group owned 90% of the JV between CME Group and News Corp.’s (NWSA - Analyst Report) Dow Jones, which also owns Dow Jones Indexes, before the JV between CME Group and McGraw-Hill was established in November last year. The JV aims to tap the rapidly growing index business.

Hence, under the terms of the agreement, as approved by both companies, McGraw-Hill will contribute its S&P Indices business and the CME Group-Dow Jones JV will contribute the Dow Jones Indexes business to create S&P-Dow Jones Indices, a global leader in index services that calculates over 830,000 indices. Approximately 575 global ETFs with $387 billion in assets invested and another $1.5 trillion in global indexed assets are benchmarked against these leading indices.

Accordingly, McGraw-Hill will own 73% of S&P-Dow Jones Indices, CME Group will own 24.4% through its affiliates and Dow Jones will own the remaining 2.6%. However, the index business has been launched behind schedule as originally it was expected to begin operations in the first half of 2012.

Nevertheless, S&P-Dow Jones Indices will become a part of the new McGraw-Hill Markets Company following the separation of McGraw-Hill into two public companies, i.e. finance and publishing, in September 2011.

Further, as part of the new JV, S&P-Dow Jones Indices will get into a new license agreement. Subsequently, S&P Indices will have a share of the profits from CME Group’s equity product portfolio, which include the latter’s trading and clearing business for futures, swaps and options on futures. Alongside, the new license agreement expands the product portfolio to include swaps and extends CME Group’s prevailing exclusive rights (currently in place through December 31, 2017) to the E-mini and other S&P indexed futures, thereby providing a competitive edge to the company.

Additionally, as part of the deal, McGraw-Hill’s S&P Capital IQ has acquired CME Group’s London-based Credit Market Analysis Ltd. (CMA), a leading source of independent data in the OTC markets. The acquisition is further expected to expand the asset coverage of S&P Capital IQ and add to the technological efficiency. Besides, a separate license agreement between Platts, a unit of McGraw-Hill, and CME Group-NYMEX will likely be extended.

The transaction is expected to be immediately accretive to McGraw-Hill’s earnings and S&P-Dow Jones Indices is expected to drive profit growth through enhanced revenues, asset-class expansion, cost synergies, highly efficient infrastructure and reduced capital requirements, while generating free cash flow. This is also validated by the fact that three of the top five Equity Index Futures and Options contracts traded and cleared in the first four months of 2012 were based on S&P-Dow Jones Indices benchmarks.

Moreover, S&P Indices’ strengths in equity, commodity, real-estate and strategy indices complement well with Dow Jones Indexes' leading position in equity, commodity, emerging market, target date and dividend indices. Hence, the JV offers a complete and adaptive platform of growing assets classes and distinct product offerings for more global institutional and retail investors.

Additionally, we believe that the JV will also help CME Group achieve the benefits of diversification that will further boost the top-and bottom-line of the company, while also adds to the shareholders’ confidence primarily amid the ongoing volatile economic state and sluggish credit markets. Currently, CME carries a Zacks Rank #3, which implies a short-term Hold rating.

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