How Index Sponsors Get Paid

Last Updated: 19 February 2024

Index-based investing has seen a phenomenal rise in popularity over the last 20 years. However, one of the side-effects of the indexing boom has been confusion over who owns the intellectual property (IP) embedded in an index and how those owners get paid.

Index sponsors earn revenues through their commercial policy, which tends to include two elements: a licensing agreement for the issuance of financial products based on an index, and a data usage licensing agreement, covering the provision of information on the index’s underlying data, like constituents, rebalancing dates, and so on. In recent years index sponsors’ price policies have become increasingly opaque under the pretext of customer confidentiality. One index provider is famous for stating during a US market data industry meeting in 2010 that its price list was official—but would be discussed on a one-to-one basis only.

Index Licensing

Licensing agreements are typically used in funds and structured products that either track indices or use them as performance benchmarks. Where funds are concerned, the prices paid by different firms for the same index licence can vary widely. Most index sponsors will not charge heavily for the use of their indices in active funds, preferring to charge larger fees for their IP rights in the passive funds market. In the last decade, index sponsors have gained significantly from the emergence of index-linked exchange-traded funds (ETFs).

In the passive funds market, index sponsors typically charge for the use of their indices as a basis point share per year of the total assets under management, thereby gaining from any increase in fund size and generating a recurring revenue stream.

There are further opportunities for index sponsors to charge for their IP in both active and passive funds if their constituent and weightings data are to be used by fund sponsors in performance reports, related marketing materials, institutional reporting or even in regulatory reporting.

In the structured products market there’s typically a tighter range of index licence fees. Until a few years ago, index licences were almost always negotiated by the front-office desk managing the structured product issuance. Such “single-trade” licences were also typically charged in terms of basis points of the notional issuance amount, either on a one-time or recurring annual basis.

As structured product issuers’ legal and market data sourcing and procurement departments have become more involved in the licensing process, blanket or annual flat-fee index licences have become more prevalent. Offering unlimited issuance linked to a particular index or family of indices for a period of one or more years, these annual agreements are often cost-effective for the issuer. However, for many of the more popular indices, sponsors have decided not to make blanket licences available, and charge per-trade licensing fees.

Index Data Policies

As mentioned above, the second income stream for index sponsors comes from the licensing of index-related data. A single index sponsor may request up to 11 different data licences for the same index information (for example, real-time, delayed, historical, constituents, per location, web display, manipulation licence, and so on).

European securities exchanges have been under heavy commercial pressure since the 2007 Markets in Financial Instruments Directive (MiFID) enforced greater competition between trading venues. An apparent side-effect of the squeeze on trading-related fees is that exchanges are relying increasingly on their index data licensing arms to generate incremental revenues. As evidence for this supposition, many exchanges’ data charges are now rising by double digit percentages each year.

In recent years index sponsors have also targeted fund administration and securities services firms, treating those involved in these activities as “data redistributors” and putting pressure on them to sign chargeable third party agreement or customer service agreement licences.

Author
  • Luke Handt

    Luke Handt is a seasoned cryptocurrency investor and advisor with over 7 years of experience in the blockchain and digital asset space. His passion for crypto began while studying computer science and economics at Stanford University in the early 2010s.

    Since 2016, Luke has been an active cryptocurrency trader, strategically investing in major coins as well as up-and-coming altcoins. He is knowledgeable about advanced crypto trading strategies, market analysis, and the nuances of blockchain protocols.

    In addition to managing his own crypto portfolio, Luke shares his expertise with others as a crypto writer and analyst for leading finance publications. He enjoys educating retail traders about digital assets and is a sought-after voice at fintech conferences worldwide.

    When he's not glued to price charts or researching promising new projects, Luke enjoys surfing, travel, and fine wine. He currently resides in Newport Beach, California where he continues to follow crypto markets closely and connect with other industry leaders.

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