The Future of the Index Industry with Wilshire Indexes CEO Mark Makepeace

Mark Makepeace, CEO of Wilshire Indexes, and Jeff Jacobs, Head of Mergers & Acquisitions at Solomon Partners discuss how new technologies, data sources and collaborations are driving changes in the global index industry. The conversation explores the growth of passive funds, the dynamics impacting ESG investing and the enormous potential for evolving technologies like AI to fundamentally reshape the investment industry.

Transcript

Mark Makepeace (00:02):

What we've found is we can use AI to pick up the early signals, which tell us when those factor momentums are changing. We can begin to create investment strategies and indices which outperform the market. And it will reshape not just the index industry, it will reshape the investment industry.

Jeff Jacobs (00:24):

Thank you for listening to our podcast, Solomon Partners Presents. This is actually a companion podcast to our Cross-Border Bulletin, which is a semi-annual publication we prepare on the trends impacting global M&A. I'm Jeff Jacobs, head of M&A at Solomon Partners. 

Today I'm joined by Mark Makepeace, CEO of Wilshire Indexes. Mark is a global CEO. He is really a true thought leader in the benchmark and index industry. And someone I've had the pleasure of working with for many years, we're very proud to call him a client of Solomon Partners. Mark, thank you very much for joining us here today.

Mark Makepeace (00:58):

I'm delighted to be here Jeff.

Jeff Jacobs (01:00):

Before we begin, let me give our listeners a bit of background, which is really quite impressive. 

Mark, you started your career in the index business nearly 40 years ago. You joined the London Stock Exchange to coordinate Big Bang, which was the deregulation of securities trading in the City of London. And then in 1995 you founded FTSE International and grew the index business from what was essentially a small UK startup to become one of the largest and most successful global index providers. You previously held several roles at the LSE, including most recently, group director of information services, where you led multiple acquisitions, notably LSE’s acquisition of Russell Investments. 

And I know you've successfully forged alliances with stock exchanges, academics, leading industry groups all around the world. In 2021, fairly recently, you left the LSE to build a new venture first leading a transaction to acquire Wilshire Associates, an asset manager and investment consultant in the US alongside CC Capital and Automotive Partners. And then earlier this year you led a recapitalization of Wilshire's Index business, which we'll talk about in a little bit. 

Outside of work, I know you've been a long time champion in the index industry, having founded and served as the first chairman of the Index Industry Association. You also served as a distinguished fellow at the Georgetown Center for Financial Markets and Policy at Georgetown University. Honestly, Mark, it's an incredibly impressive biography. 

So let's start with your new venture Wilshire Indexes. I alluded to it briefly, but you announced earlier this year that you closed a strategic transaction with the Financial Times and the Singapore Stock Exchange, both of which will become new strategic partners to help accelerate the global adoption of the FT Wilshire Index franchise. We had the pleasure of working with you on that recap and I thought it might be interesting to start by looking forward and asking what are your plans for Wilshire indices, particularly now that you've brought in these two global partners on board. 

Mark Makepeace (02:57):

First of all, thank you Jeff for that very kind introduction. So my ambition, our ambition is about how can we become the sort of alternative to the current large index providers? And the reason why I say that is because when I first started FTSE, we were the challenger. We were having to innovate, we were having to be disruptive. And I think the index industry has grown. It's consolidated and it needs someone to do the same thing, I think to help the industry better serve its clients. 

So I'm a strong believer that the new technologies we see today, the new data sources, the way in which we manage data, the strength of the FT and Wilshire brands create something which can move the industry forward. Now I've come back because, you know, I love this industry and I want to move the industry forward. It's not just competing with others, but it's trying to create something that is better for the end investors, whether they're institutional or retail investors and creates a better industry for everyone.

Jeff Jacobs (04:10):

It is interesting to hear you say that, and I know you've been a big champion of the industry for many, many years and certainly helped contribute to the emergence of what we often think of today as the big three: MSCI, LSE and S&P. Today, these three companies have roughly a 70% market share of the index business. What is the opportunity for an upstart like Wilshire Indexes to become the next big index player? 

Mark Makepeace (04:34):

Well, first of all, I like being called an upstart. I think that sort of suits the personality. Look, I truly believe we are going through this change from what not just the big passive funds tell me, but also what the active fund managers are telling me is they're trying to respond to clients with much greater levels of customization. To do that, you really need to use the newer technologies and data both to innovate and to provide you with an efficient structure where you can customize at scale, customize and innovate. And that's what the end investors want. And that means covering not just the public markets and the equities fixed income, but the private markets. They want to get more access to the private markets. They want greater access to alternatives. They want to think about how they combine the asset classes and diversify in better ways. I just think we're at that point in time where everybody's looking for new solutions and when they're looking for new solutions then there's huge amounts of opportunity. And I just find this time in the market just a fascinating time.

Jeff Jacobs (05:56):

Given this is a companion podcast to our Cross Border Bulletin, I thought I would take advantage of your unique perspective for running a global business. You have worked with employees and clients across the globe in the US, Asia, Europe and the Middle East. We know that you started your career at a UK exchange and will probably always have a fondness for the UK financial markets. But as the world continues to be shaped by various geopolitical events, which markets do you see as important or strategic in the future? 

There's been recent speculation that some of the traditional financial hubs like London are potentially at risk for losing coveted listings as companies look abroad to a broader pool of investors, obviously, political and regulatory hurdles will always constrain certain industries, but where do you expect to see important new global financial hubs emerge?

Mark Makepeace (06:44):

I think we're going through such change, aren't we? And such political uncertainty. It's always easier to try and predict longer term trends. We all get sort of sidetracked by the short term priorities and what's happening. We've got a number of factors that are really driving change here. You've got the emergence of new regions and as I look at parts of Asia, as I look at some of the Middle East, there's huge change there. 

Some of these areas were not even recognized in some of the global benchmarks and global portfolios only five or so years ago. And yet now they're becoming some of the biggest markets in the world and we forget China is the second biggest market in the world and will only get bigger and therefore it has to become an important part of any global portfolio.

Mark Makepeace (07:35):

But of course, there are geopolitical risks there. The US market has become a larger and larger part of global benchmarks and the levels of investment there are truly impressive. But retaining that position where the US represents almost half of the global markets is also going to be difficult. So I think we are facing a change where there are new parts of the world that are going to inevitably grow but have greater risks. And I think some of the more established markets, whilst they'll continue to have success, may not be able to keep up for the pace that exist elsewhere. 

And because of the geopolitical challenges, the supply chains issues that we all have and the way in which we work across the world, I think we all have to learn to be smarter in being able to make sure that we think through the risks as well as the opportunities. So I just think we are entering a fascinating time where there are lots of opportunities but there are also lots of risks and we need to manage our way through that.

Jeff Jacobs (08:54):

Outside of your prolific career in the financial industry, you have also impressively found time to write a book. For those who haven't read FTSE: The Inside Story, I would highly recommend it. For many outsiders, the index industry might seem like an industry devoid of drama. I think your book shows that it's anything but that. And you write about how the industry is focused on collaboration and partnerships between market participants, regulators, other key stakeholders. 

Often we see that lead to M&A activity, which was a driving force certainly behind FTSE becoming a substantial portion of LSE's profits over time. And do you think M&A will still be part of your index company's strategic plans and how will the more difficult economic environment, higher interest rates, greater macroeconomic uncertainty that we're talking about impact some of the decisions as you contemplate your strategic moves?

Mark Makepeace (09:45):

I think M&A has to play a part. I think all firms have to get the right balance. You know, you have to have strong organic growth, your products have to be acceptable. The way in which you manage yourself has to resonate with clients. So I think strong organic growth is a foundation these days more than ever. Also thinking about partnership and collaboration, trying to do everything yourself is really no longer an option. And apart from a very small number of companies where they've consolidated, and it's true of most industries, the challenges now are collaborating. They're being more nimble, they're partnering, they're finding new data, new ways of doing things. And I think they will increasingly challenge some of the bigger players. But of course M&A must play a part. You've got to get these three elements: the organic growth, the partnership and collaboration and the M&A.

Mark Makepeace (10:42):

And actually if you get the first two working well M&A naturally follows because you want firms to want to become part of your success. And I certainly had that in the past with FTSE, which became FTSE Russell. But we made acquisitions throughout our whole time of growth and we grew impressively every single year. And yes, we bought Russell Investments, which was one of the biggest M&A deals that the London Stock Exchange did before Refinitiv. But we also did deals where we bought Yield Book and integrated that we bought the City Bond Indices, we bought merger and built out our own data. So there was continuous M&A, but we were only able to do that because we had strong organic growth and we were a collaborative and built strong partnerships. 

And I think the way in which I, I look at the new venture is those same principles apply. And I think in that way we can have huge success. But again, I go back to huge success to me is not just sort of growing your revenues and your profits, huge success is having an impact on the industry. And I think we can have a very meaningful impact on the industry and that's what really excites us.

Jeff Jacobs (12:01):

And that's one of the things that's been a pleasure to work with you over these years is that you've had a very keen understanding and keen appreciation for the balance between organic M&A and true partnership with the folks you're working with. And when you get those working in sync, it's to the better of each one individually. So I recognize that and appreciate that. 

One of the themes you touched on in your book is the trend over the last decade - or more frankly -  toward passive investing for the index industry. This has certainly been a boon because they provide benchmarks, calculations for lists of stocks that run exchange traded funds, ETFs as we know them, so that investors can put money to work at relatively low cost. The trend has created enormous value and created a substantial market for ETFs and helps support double digit growth for many indexing companies. With the recent volatility in the stock market with equities and fixed income, at least in the recent past declining in tandem in a general flight to safety, do you see any return to active management over passive or will passive continue to be an important part of the market?

Mark Makepeace (13:04):

I think passive will not only continue to be an important part of the market, but will continue to grow very strongly. And the reason I say that is really passive investment is only mature in the equities market.  In the fixed income market, passive investment is still very low and outside of those two markets, passive investment is very small. So I think passive investment has got a long, long way to go. Having said that,, it is important that active managers also have their successes. The best markets is where you have the right balance between passive and active and indices are used, don't forget, by both passive and active investors. And the index world has changed where in the past indices were really just a way of capturing exposure to an asset class at a low cost and that brought costs of investment down and was very successful.

Mark Makepeace (14:06):

But today they also replicate investment strategies and because of the availability of newer technologies and data, the index providers and their replication of those investment strategies are becoming more and more sophisticated. So I'll give you an example and here in FT Wilshire, we've been starting to look at how AI can help investment approaches and we've all been aware that factors, so by factors what I mean is things like quality, momentum value, these explain and drive much of the sort of risks and performance of markets. Factors have their own momentum. And what we've found is we can use AI to pick up the early signals, which tell us when those factor momentums are changing and therefore we've been tracking that in the US market and in global markets. And we can begin to create investment strategies and indices which outperform the market. So there is a role for active management, but also indexation will just continue to grow.

Jeff Jacobs (15:19):

Well it's interesting you bring up AI as it is one of the themes that I was hoping to get your perspective on. Everybody is chatting about the potential impact of generative AI in industries across the board in the indexing and benchmark sector where companies analyze massive amounts of data to produce insights for investors, the power of generative AI seems disruptive. Are there other ways that you view the technology today and or other ways you're starting to experiment with it?

Mark Makepeace (15:48):

The combination of AI machine learning, I just think we're able to do things much more efficiently, but also there's much greater flexibility. So  two examples of this is FTSE Russell used it to classify companies and it was a huge amount of manual work going through companies annual reports and it just took huge amounts of effort to try and maintain the systems and to understand how companies were changing and therefore how you had to change that system as well as how you allocated companies. It was never a perfect solution. 

Now FT Wilshire, starting afresh, we simply used machine learning to take all of those corporate annual results, analyze trends in the markets, we could start to see where some of the industries weren't properly represented. So for instance, in the past we always thought of technology as sort of boxes and wires.

Mark Makepeace (16:48):

These days technology is about digital services, it's changed completely. We also find that there are new areas of the market developing, such as around climate change. So carbon capture. There's lots of new things that are happening and also you can then allocate companies in a much more, not just efficient, but much more accurate way. So there's a way in which we've used machine learning to do what would've taken us five years, compress that into less than 12 months and create something which is far superior. I do think there are lots of uses for machine learning and AI, but there will inevitably be risks because we won't always be able to foresee when the technology is probably giving us a view on the market that may not be true or something in the market happens, which the machine learning will not have been able to predict simply because it is unique. So we have to be aware of some of the risks, but the potential of these new technologies is enormous and it will reshape not just the index industry, it will reshape the investment industry.

Jeff Jacobs (18:11):

In our last issue of the Cross-Border Bulletin, we spoke about the private debt industry, particularly how it's gaining traction in Europe. I saw a stat the other day that indicated there's nearly a trillion dollars allocated to private credit globally. It seems to be following in the footsteps of private equity and venture capital, which have obviously exploded in popularity and represent themselves another two and a half trillion plus of dry powder. As this new asset class grows rapidly and globally, how are you seeing the role of indexing in benchmarking change? And specifically how do you see index companies provide private market solutions?

Mark Makepeace (18:49):

I think this is a big opportunity, but it's not an easy one to crack. And the reason I say that is that the private markets are getting bigger and bigger. More and more investments are going into private markets, but there isn't a secondary market with transparency that the index providers can use to be able to analyze these markets. And people can then use the indices to sort of invest in the underlying markets. And the data sources are improving, but they're not perfect. But the trend is set and it's only a matter of time before we start to see better indices cover in private markets. 

We're already starting to see industry classification become common across the public markets and the private markets. We're already beginning to see liquidity in the last sort of six months before a company goes public where you can begin to create indices that allow a broader set of investors access to this market. So it's inevitable that we are going to see this market become indexed to some degree, but I, I think we have to have better data sources and we have to have better technology to support the trading in these parts of the market and everyone will benefit from that.  It is almost inevitable it will happen, but we're not there yet. But it's coming. It's definitely coming.

Jeff Jacobs (20:30):

One other hot topic I'd like to cover before we conclude. ESG investors have reportedly poured over $700 billion into ESG and climate change funds with those inflows come demands for investors for tracking performance, for quantifying goals. 

As you alluded to, you've launched your own the FT Wilshire Climate Change Index series, but can you talk about your future ambitions in ESG? Do you think it will continue to be a factor in investment decision making? Do you see more M&A activity in the space? What's your view of what's to come in the next few years around ESG?

Mark Makepeace (21:04):

I've always been passionate about this part of the market and I championed ESG investment in some of the early days when I created FTSE for Good, probably a little bit too early. But I've always had that passion and I believe very, very strongly that if you are a long only investor or you are a long-term investor, you should be considering ESG issues. 

Climate change will have a huge impact, not just on the planet but on industries. And it is  already, and therefore you need to take that into account. You need to try and understand where are the risks, where are the opportunities. So I do think that's important, but also I believe that investors need to have good stewardship of companies and that means they need to make sure that companies are understanding their impact on the environment and doing something about it where there are risks, because that's in the interest of the company as well as the environment.

Mark Makepeace (22:07):

I do believe that companies need to have appropriate social policies. Difficult to argue they should not,  because otherwise it is a risk. Human capital is one, if not the most important asset of a company and therefore over the long term, these are important issues. I think governance has been taken seriously for many, many years and the regulators really focus on this. But I think what we do need to do is have a better understanding and we need more in-depth analysis so we can really understand where the risks lie and where the opportunities lie because that's the part that's not easy to do. 

So I think the problem is, is we create scores for companies on ESG. Those scores don't always represent where there is risk or where there is opportunity. And I think for FT Wilshire, I think that's what we want to do. We want help to long-term investors manage through the risks and the opportunities that climate change and ESG pose to their portfolios as well as to this world and to all of us in it - whether you are a company leader or a consumer.

Jeff Jacobs (23:27):

I think you are exactly right. I think there are scorecards and there are lists that people do checks against to evaluate both risk and opportunity, but they are not always telling and they are not always unearthing the underlying support for what will define opportunity, new opportunity or successes, within the realm of ESG. And continuing to focus on it, continuing to talk about it and continuing to find avenues to build around it will ultimately lead to success for everyone. 

Mark, thank you again for joining us today. It is always a pleasure to speak with you and hear your insights. And to our listeners, thank you for tuning into this podcast and please look for our Cross-Border Bulletin publication, which you can find on Solomon Partners’ website.