紐約梅隆銀行 (BK) 2017 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the First Quarter 2017 Earnings Conference Call hosted by BNY Mellon.

(Operator Instructions) Please note that this conference call and webcast will be recorded and will consist of copyrighted material.

You may not record or rebroadcast these materials without BNY Mellon's consent.

I will now turn the call over to Ms. Valerie Haertel.

Ms. Haertel, you may begin.

Thank you.

Good morning, and welcome everyone to the BNY Mellon First Quarter 2017 Earnings Conference Call.

With us today are Gerald Hassell, our Chairman and CEO; Todd Gibbons, our CFO; as well as members of our executive leadership team.

Our first quarter earnings materials include a financial highlights presentation that will be referred to in the discussion of our results and can be found on the Investor Relations section of our website.

You will also note that we updated our assets under management reporting in our press release to improve transparency and to align our investment strategies with similar fee rates.

I would also like to take the opportunity to let you know that will hold our Investor Day this year on Thursday, November 16, in New York City.

We will provide further details as we move closer to the meeting, but please mark the date on your calendars.

We hope that you will be able to attend.

Before Gerald and Todd discuss our results, let me take a moment to remind you that our remarks today may include forward-looking statements.

Actual results may differ materially from those indicated or implied by our forward-looking statements as a result of various factors.

These factors include those identified in the cautionary statement in the earnings press release, the financial highlights presentation and those identified in our documents filed with the SEC that are available on the website, bnymellon.com.

Forward-looking statements made on this call today speak only as of today, April 20, 2017, and we will not update forward-looking statements.

Now I would like to turn the call over to Gerald Hassell.

Gerald?

Thanks, Valerie, and thank you for joining us this morning.

As you may have seen from our release, we again delivered double-digit earnings per share growth for the quarter.

We earned $0.83 per share, up 14% year-over-year, which includes a $0.03 per share tax benefit related to new accounting guidance for stock awards.

And looking at our results on an adjusted basis, total revenue grew by 2%, driven by 4% growth in Investment Services fees and 4% growth in Investment Management and performance fees and 3% growth in net interest revenue.

Total noninterest expense was up 1%, resulting in nearly 130 basis points of positive operating leverage.

Our pretax operating margin increased to 33%, and we are continuing to deliver high returns on tangible common equity this quarter, achieving a very healthy return of 22%.

And since we shared our 3-year strategic plan with you on October of 2014, we have delivered 9 straight quarters of solid performance against the EPS call that we laid out for ourselves.

The relative consistency of our results reflects how well our dynamic, well-diversified, lower-risk business model is positioned to create increased value for clients and shareholders through all environments.

So now let me update you on our progress against our strategic priorities during the quarter.

Our top priority is enhancing the client experience and driving profitable revenue growth.

In Investment Services, we've been investing in cutting-edge collateral optimization and management solutions that we delivered to both the buy side and the sell side.

During the quarter, collateral balances continued to show robust growth, which speaks to the strong level of client uptake that we have experienced.

Another area of investment has involved building best-in-class technology and middle-office services that enable asset managers to leverage our scale and expertise.

Now you may recall that back at our Investor Day, we discussed the market opportunity to service alternatives, including real estate assets.

Yesterday, we announced that PGIM Real Estate, the real estate business of Prudential Financial, 1 of the top 10 real estate investment managers in the U.S., selected us to provide fund administration services for $33 billion in U.S. real estate assets.

And these assets are not included in our assets under custody and assets under administration win for the first quarter, but they will be included in the second quarter.

This mandate is a clear endorsement that our investments in the alternative space are paying off.

We were also recently selected by AIA Group, the largest independent publicly listed Pan-Asian life insurance group, to provide investment books of records software and to consolidate all of their investment management data onto a single platform.

And we're seeing a demand for investment books of record solutions as global investment firms seek to replace legacy platforms to manage investment risk, improve decision-making and ensure consistency in reporting.

Our best-in-class Eagle data management platform is well positioned to meet that demand and given its flexibility and our ability to scale it to support growth.

Now for the quarter, we had $109 billion in estimated new AUC, assets under administration, business wins, which I'll remind you excludes the impact of the Prudential transaction.

So we're off to a good start in 2017.

And we remain encouraged by the strength of our new business pipeline.

In Investment Management, we had a good quarter with revenue up 8% and pretax income, excluding intangibles, up 24%.

Our adjusted pretax operating margins rose to 34%, helped by increased revenues and various expense actions.

Overall, asset management flows improved to their highest levels in several years.

Of note, our cash business bucked the industry trend of outflows, and in the quarter, we added $13 billion in asset inflows.

Now looking at our investment performance over the longer term, we continue to see strong performance with 2/3 of our actively managed mutual fund assets ranked ahead of their peer median on a 3- and a 5-year basis.

Within the business, we are continuing to revitalize our investment product portfolio to meet evolving client demand.

So for example, some of the greatest growth opportunities in active management lie in multi-asset class, alternative and specialist active equity strategies.

As a result, we are working to increase our product offering in these areas.

And we've also been investing to develop additional capabilities in credit, real return, equity income and liability-driven investments.

Across all of our businesses, we continue to focus on enhancing the client experience, which we have no doubt will drive future revenue growth.

We have a high tech and a high touch approach to servicing our clients, investing in the digital experience and adopting a common discipline and approach that further improves how we interact with our clients.

Our second priority is executing on our business improvement process to create efficiency and quality benefits for our clients and reduce technology, operations and structural costs for ourselves.

Now during the quarter, we continue to increase our use of robotic and cognitive technologies to drive efficiencies and productivity.

We have increased the number of bots in production from about 150 bots at year-end to over 220 at the end of the first quarter.

And this speaks to the success of our early efforts on this front.

Those bots are automating certain tasks, which is improving accuracy and decreasing processing time by as much as 50% to 80%, depending upon the function.

And we further downsized our real estate portfolio during the quarter, exiting 3 locations for a reduction of 83,000 rentable square feet.

Now in a year-over-year basis, we have exited 10 locations and 776,000 rentable square feet.

And you can see the impact of these actions in our lower net occupancy costs.

And we also continued to align client pricing when increasing regulatory and service cost.

For example, we imposed new fees to compensate for costs related to the investor tax reporting that we provide to European offshore fund accounting clients.

When we formalized our business improvement process a few years ago, many wanted to know how long it could continue to generate savings.

We still have a solid pipeline of opportunities to expand automation, further rationalize our real estate footprint and reduce vendor costs, which will help us to further reduce costs and improve our operating margin.

Now our third priority centers on being a strong, safe, trusted counterparty.

During the quarter, we upgraded and streamlined risk reporting and making the enterprise much more resilient.

And we continue to expand the global footprint of our risk and compliance organization to gain access to top qualitative and quantitative talent capabilities outside the U.S.

Our fourth priority involves generating excess capital and deploying it effectively.

We remain focused on maintaining a strong balance sheet, including strong capital and liquidity positions, while returning significant value to our shareholders.

From a regulatory ratio standpoint, our fully phased-in SLR is now at 5.9%, which is a healthy buffer to the regulatory minimum, especially considering our low credit risk business model.

During the quarter, we returned nearly $1.1 billion in value to our shareholders, repurchasing $879 million in shares and distributing $201 million in dividends.

Our fifth priority is attracting, developing and retaining top talent.

To win the competition for talent, we are investing in our people and our culture, creating workplaces that support a diverse, flexible and adaptive workforce and holding everyone accountable for results.

Our workforce excellence program, which we are expanding in 2017, is transforming our workplaces into efficient collaborative spaces that leverage the full capabilities of our technology.

The program is strengthening the company's resiliency, making us more agile and reducing our operating costs.

And we recently released our second annual People Report, which illustrates how our people lead, innovate and collaborate to positively impact our company and our clients.

It's posted on our website and I encourage you to go check it out.

So in summary, we are continuing to execute on our strategic priorities, transform our company and increase the value we deliver for our clients and our shareholders.

Our performance is only beginning to reflect the progress that we have made in digitizing our business and harnessing emerging technologies, which should result in an increasingly distinctive client experience and new sources of value for our clients.

We see ourselves as being a great platform company that integrates the best of what we do and what others have to offer for the benefit of our clients and the marketplace.

While it is still early, we are confident in our future as we continue to invest, innovate and transform into a more digital data-driven global financial services powerhouse.

It's exciting to envision the potential opportunities for our clients and our shareholders.

So with that, let me turn it over to Todd.

Thanks, Gerald, and good morning, everyone.

In the first quarter, we performed well as our strategy is strengthening our franchise, benefiting our clients and improving our financial performance.

When you look at the results for the year-over-year quarter, I think a few things stand out.

First, we experienced solid revenue growth in Investment Services fees and Investment Management and performance fees, both were up 4%.

Second, while our net interest revenue and our net interest margin benefited from the rate increases, both results were a little lighter than we anticipated due to the slightly smaller balance sheet.

Now the dynamics of that, I'll discuss later in a little more detail.

I will also provide with you some additional color on how additional rate increases are expected to benefit both NIR and the NIM.

And finally, we generated positive operating leverage and increased our operating margins from both higher revenue and continued expense control despite the significant pressures that we felt on regulatory costs.

Turning to our financial highlights document.

I'll continue my commentary starting on Slide 4 and that gives you an overview of our operating results for the quarter.

Our first quarter EPS was $0.83.

That's 12% higher than the year-ago quarter on an adjusted basis.

Year-over-year looking at our performance on an adjusted basis, first quarter revenue was up 2%, expenses were up 1%, and we generated approximately 130 basis points of operating leverage.

As we have noted in prior quarters, the strength of the dollar continues to impact our results.

It's negative for revenues and positive for expenses.

However, the net impact from currency translation was once again minimal to our consolidated pretax income.

Income before income taxes was up 6%.

Our adjusted pretax operating margin was up 2 percentage points to 33%.

And return on tangible common equity on an adjusted basis was 22% for the quarter compared to about 21% in the year-ago quarter.

Now moving ahead to Slide 8, I will discuss our consolidated fee and other revenue.

Total Investment Services fees were up 4%.

Asset servicing fees were up 2% year-over-year and they were flat sequentially.

The year-over-year increase primarily reflects net new business and that includes the growth of our collateral optimization solutions as well as higher equity values, and it's partially offset by the impact of the U.S. dollar as well as the negative impact of downsizing of the U.K. retail transfer agency business.

Year-over-year, the impact of these latter 2 items was approximately minus 2% to our revenue growth rate.

Clearing service fees increased 7% year-over-year and 6% sequentially, primarily driven by higher money market and mutual fund fees.

Issuer service fees were up 3% year-over-year, reflecting higher depository receipt fees and that was partially offset by lower fees in Corporate Trust.

Treasury services fees increased 6% year-over-year, reflecting higher payment volumes, partially offset by higher compensating balance credits provided to clients.

And that reduced fee revenue, although it did increase net interest revenue a bit.

First quarter Investment Management and performance fees increased 4% year-over-year.

That's primarily reflecting higher market values and is partially offset by the impact by a stronger U.S. dollar principally against the British pound as well as the impact of last year's asset outflows.

On a constant currency basis, Investment Management and performance fees actually increased 8%.

We've been focused on delivering profitable revenue growth within Investment Management through our business improvement process, which reduces expenses and drives future growth.

In line with our objectives, adjusted net operating margins improved to 34% for the quarter, driven by higher revenues and expense improvement actions taken over the course over the last year.

Turning to foreign exchange and other revenue.

FX and other trading revenue on a consolidated basis was 6% lower year-over-year and it was up 2% sequentially.

FX revenue of $154 million was 10% lower year-over-year and 12% lower sequentially.

The year-over-year and sequential declines were primarily driven by lower market volatility.

The migration to lower-margin products also impacted the year-over-year comparison but not so much the sequential comparison.

Investment and other income of $77 million compared with $105 million in the year-ago quarter and $70 million in the fourth quarter.

Both comparisons primarily reflect the net gain related to an equity investment and decreases in other income from our increased investments in renewable energy.

The year-over-year decrease also reflects lower lease-related gains.

The sequential increase was partially offset by lower income from corporate bank-owned life insurance.

Now Slide 9 shows the drivers of our Investment Management business that help explain our underlying performance.

Assets under management of $1.73 trillion was up 5% year-over-year, reflecting higher market values offset by the impact of the dollar primarily versus the British pound.

With regards to flows, with net inflows of $27 billion, we had the best quarter in years.

While active equity strategies continued to experience outflows, the revenue impact was more than offset by inflows of $18 billion into other active strategies.

This includes $14 billion into liability-driven investments and $2 billion into multi-asset and alternative investments as we maintain our focus on improving the revenue mix toward long-term, high-value active solutions.

With regard to short-term flows, as Gerald noted, we added $13 billion in cash, and we did that by focusing both on the performance as well as increasing distribution to our liquidity portals.

This was in contrast to the cash industry, which experienced overall outflows.

Now turning to our investment services metrics on Slide 10.

Assets under custody and administration at quarter end were a record $30.6 trillion, that's up 5% year-over-year and reflects higher market values offset by the unfavorable impact of a stronger dollar.

Linked-quarter AUC/A was up 2%, mainly driven by improved market values and a slightly weaker dollar.

We estimate total new assets under custody and/or administration business wins were $109 billion in the first quarter.

Looking at the other key Investment Services metrics, you'll see average deposits declined 8% year-over-year and 7% sequentially, reflecting both the impact of the rate increase as well as our efforts to proactively manage our balance sheet to meet the liquidity and capital requirements.

Lastly, tri-party repo balances grew a healthy 13%.

Turning to net interest revenue on Slide 11.

You'll see that on a fully tax-equivalent basis, NIR was up 3% to $804 million versus the year-ago quarter.

The year-over-year increase in NIR primarily reflects higher rates and the impact of interest rate hedging activities and those actually negatively impacted the first quarter of '17 less than the first quarter of '16.

And that was partially offset by lower average earning assets as well as higher average long-term debt.

The sequential decrease primarily reflects the impact of interest rate hedging activities in the fourth quarter of 2016 premium amortization adjustment, which combined, reduced net interest revenue by approximately $43 million sequentially, and that's about 6 basis point impact to the net interest margin.

Substantially, all of the interest rate hedging activities in the fourth quarter were offset in foreign exchange and other trading revenue.

Now NIR benefited from higher rates, which was partially offset by a reduced balance sheet, and we've discussed that previously how we intended to do that as well as some adjustments to the asset and liability mix to build a cushion for the fully phased-in liquidity coverage ratio that went into effect in the first quarter.

As we look forward to the second quarter and the full year, using the forward yield curve to estimate, we would expect to see NIR rise 2.4% in the second quarter -- excuse me, 2% to 4% in the second quarter and 4% to 6% for the full year as the balance sheet stays flat or contracts slightly.

Turning to Slide 12, you'll see that our adjusted noninterest expense on a year-over-year and sequential basis increased 1%.

The year-over-year increase primarily reflects higher consulting and staff expenses, partially offset by lower other expense.

The increase in consulting expense primarily reflects higher regulatory and compliance costs related to resolution planning and CCAR.

After we submit the resolution plan on July 1, the quarterly run rate for these expenses should come down by approximately $10 million.

The increase in staff expense primarily reflects higher incentive expense that was partially offset by the favorable impact of a stronger dollar.

As you will see, we added a separate line item for our bank assessment charges to provide additional transparency since they have been and are expected to remain a significant cost item.

The sequential increase in noninterest expense primary reflects higher staff expense and that was offset by lower business development, net occupancy, software and equipment as well as professional, legal and other purchase services.

The increase in staff expense reflects the vesting of long-term stock awards for retirement-eligible employees, partially offset by lower severance expense in the first quarter.

Consistent with prior quarters, the first quarter reflects the benefit of improved efficiencies as well as savings from our location strategy, which is designed to optimize our footprint as well as from our vendor renegotiations that continue to reduce our costs.

Savings from efforts like these are enabling us to fund important growth initiatives, including NEXEN as well as to absorb increased costs related to the regulatory requirements.

Turning to capital on Slide 13.

All of our fully phased-in ratios increased during the quarter.

Our fully phased-in supplemental leverage ratio increased to 59 -- 5.9% as we both generated capital and reduced average assets.

One of the benefits of our decreased balance sheet is we now have a reasonably -- reasonable buffer above the SLR minimum that will provide additional flexibility in managing our capital going forward.

We also remain in full compliance with the liquidity coverage ratio.

A few additional notes about the quarter.

Our effective tax rate of 22.3% was reduced by approximately 3% or $0.03 per common share from the application of the new accounting guidance related to the annual vesting of stock awards.

This results in a benefit this quarter due to our stock appreciation above the award's original grant price.

On Page 9 of our press release, we show investment security portfolio highlights.

At quarter end, our net unrealized pretax loss on the portfolio was $23 million.

That compares with $221 million at the end of the fourth quarter of 2016.

And that improvement was primarily driven by a reduction in market interest rates.

Now let me share a few thoughts on our outlook on topics that have been top of mind with investors since the change in the new administration.

We believe that many of the post-crisis regulations have made us and the banking industry stronger.

Although some modest adjustments could be helpful to our business model, it is really too early to predict outcomes.

So at this point, we're maintaining our current regulatory compliance initiatives and the significant corresponding spends associated with them.

However, during Federal Reserve Governor's Tarullo's departing speech, he suggested adjusting the enhanced SLR requirement for risk and that should provide some relief for the custody banks.

Now let me provide you with some color on how we are thinking about the next quarter and the full year to assist you with our modeling.

As we look forward in the event of future rate increases, we expect flat to modest contraction of our balance sheet, which we also expect to be more than offset by a higher net interest margin.

We expect net interest revenue to increase approximately 2% to 4% sequentially and approximately 4% to 6% for the full year.

We also expect our net interest margin to expand to 100, 130 -- somewhere between 120 and 130 basis points by the end of the year, which should continue to expand in coming years as we reinvest maturing securities on our portfolio.

Regarding fee waivers, we have recovered nearly all of the pretax income related to the interest rate sensitive fee waivers.

We also expect our regulatory and compliance cost to continue to be elevated in the second quarter, reflecting the increased expenses associated primarily with the resolution and recovery plan but with CCAR as well.

As mentioned earlier, we expect these expenses to decrease over the second half of the year by approximately $10 million per quarter.

Despite the increased regulatory cost, we expect our total expenses to remain close to flat to last year's level in the second quarter.

For the full year, we expect our total adjusted expenses to be up no more than 1%.

Regarding taxes, we expect our 2017 effective tax rate to be in the range of 25% to 26% as we have previously guided.

And finally, we expect to generate positive operating leverage once again in 2017.

With that, let me hand it back to Gerald.

Before we open the line for questions, let me offer a couple more thoughts.

As a reminder, this is our ninth consecutive quarter of solid performance against our EPS goals.

I also want to remind you that we have a well-diversified, lower-risk business model that is largely fee based with recurring fees representing nearly 80% of our revenues.

Now that positions us to consistently deliver solid quarterly results and higher risk-adjusted returns versus other financial institutions.

And we're executing our strategic priorities to deliver even greater value for our clients and our shareholders.

With that, operator, we can now open it up for some questions.

(Operator Instructions) And our first question comes from the line of Ken Usdin with Jefferies.

Todd, I was wondering if you could talk a little bit more about the balance sheet and specifically your points about reinvesting cash flows off the securities book in terms of where the curve has moved to.

And then just separately, how do we just think about, given that you're not a traditional bank, how do we think about the deposit betas and how you expect your balance sheet to act differently, if at all, from more of a traditional regional?

Sure, Ken.

I think as we've guided in the past, we do see some sensitivities to interest rates to the balance sheet.

In fact, it's moved pretty much -- the deposit base has moved pretty much along the lines that we had anticipated.

So we saw in the quarter, on average, deposits down about $15 billion.

That has, since actually, gone up a little bit, but it feels like it should be fairly steady there.

The betas themselves are pretty low.

So if you -- as you see from our disclosures in the quarter, our interest rates paid on deposits moved from a negative 1 to 3 basis points positive.

So about 4 basis points with the 25 basis point move.

Remember, not all of this is dollar denominated, about 75% of it is.

So for that move, you could kind of look at the beta somewhere between the 20% and 25% range.

We would expect those betas to creep up as interest rates continue to go up.

So what we would expect to see is a little bit of contraction in the balance sheet and a little bit of expansion in the net interest margin, and that's why we think we can continue to see the growth that we're talking about in NIR.

So not a whole lot further contraction in the balance sheet is what we'd currently expect.

All right.

And as my follow-up, I'll just ask the first part, just keep it at that.

Just again your reinvestments in terms of the long end has come in quite sharply.

Are you able to find new securities to replace that roll-off still at higher levels?

Just can you talk through on front book, back book and just kind of reinvestment yields?

Yes, that is a, obviously, a little bit disappointing that the yield curve has remained so flat.

It was not when we -- when you do modeling, you typically do it assuming a parallel curve.

Although when we're doing our forecasting, we are forecasting it off of a forward rate curve.

So the assumptions that we're making here is that the market will follow the forward rate curve, and obviously, the forward rate curve for longer-term rates has come down with the rally in the markets over the past month or so.

So the answer to the question is we would expect off of that forward rate curve to see, first of all, a substantial amount of those securities portfolio are floating, so clearly, they're going to reset with the LIBOR resets and the remainder is repricing a -- a substantial amount is repricing each year.

And we would, given those 2 factors, we would expect to grind the yield up in that securities portfolio over time even in that rate environment.

Our next question comes from the line of Alex Blostein with Goldman Sachs.

Just the first question in the -- around the servicing business.

It definitely feels like the competitive dynamics have gotten a little tougher.

JPMorgan announced that they've gotten a little bit more aggressive in that business in the last couple of quarters.

So maybe you could talk about your relative position in the space there today.

I guess, how do you defend your position and perhaps the areas where you feel most -- the biggest opportunity for yourself to grow, both from a revenue perspective but also from a profitability perspective?

So this is Brian Shea, I'm happy to take that.

We feel pretty good about the outlook for the Investment Services businesses.

You're seeing the Investment Services fee revenue growth up 4%, which has actually improved over what it's been year-over-year and more recently.

And we think the asset servicing business, which is going to benefit from secular trends, which are putting pressure on asset managers to transform their operating models and to outsource more of their solutions.

So that's why we see growth opportunities in the middle-office space.

We see growth opportunities from technology solutions.

Eagle, that Gerald mentioned, is a great example of that.

And we see growth in the alternative space.

The announcement of the PGIM Real Estate outsourcing opportunity is a great example because most of the market still in-sources their real estate fund administration and this is a big growth opportunity for us.

So we see -- and we see growth opportunities in ETF administration space and we're investing in all those areas, so we feel good about the long-term prospects in the asset servicing business.

The clearing business is also performing pretty well and we're benefiting from the fact that self-clearing firms are reconsidering whether they want to clear for themselves and Pershing has a solid pipeline as a result of that.

We're getting good growth in the RIA custody business, which is benefiting from the Department of Labor Fiduciary Standard.

We're getting some mutual fund consolidation drawn into the platform, again driven by the DOL change where people are moving mutual funds to platforms so they can put them under an advisory framework.

And so -- and we still see some -- and we're getting real leverage between Pershing and the private bank.

We have record levels now of both credit facilities established between the wealth management bank and Pershing's clients and record levels of outstanding credit now, over $3 billion in loans provided to those introducing broker-dealers and RIAs.

The issuer service business is solid.

We have solid share in the markets we're in.

Obviously, we benefit from a higher -- a better issuance environment.

Corporate Trust is -- in the first quarter, the year-over-year comparison is the issuance of global debt is down, something like 15%.

But our share of the market is pretty steady, and we're positioned to grow as the issuance market picks up, and we're getting good traction in the corporate and insurance space in particular.

And then, of course, we're a leader in the broker-dealer clearing space, U.S. government securities and tri-party repo market.

And we've invested heavily in resiliency, resolvability, scalability of that business so that we can serve the market well and responsibly.

And we expect that business -- that will start to grow in the second half of this year through the -- and throughout the course of '18.

So overall, there are competitive pressures, but honestly, we're really focused on what the clients need in this market and what the client solutions we can use to differentiate ourselves, so we feel pretty good about the prospects.

And I guess, as a follow-up along similar lines, which is on collateral management specifically.

Gerald, you highlighted that in the release and your prepared remarks as well that that's been a pretty exciting area of growth for you guys.

Is it possible at all to kind of break out what the revenue contribution is overall for the firm now from collateral management and maybe just give us a sense what the growth in that area has been?

Well, we break out a lot of detail already, Alex.

Breaking out a particular individual line item is just too complicated.

Considering it's both for the buy side as well as the sell side, it goes across asset servicing and our markets business and so to segregate it and to call it out individually would be pretty tough.

That being said, it is an increasingly and in demand set of solutions.

And so it was initially around collateral management, and then it became segregation issues around the new regulatory requirements down the world.

Now we're shifting into collateral optimization and building the engines for that on a global basis.

So we still feel very positive about its growth trajectory on a global basis for the both the buy side and the sell side.

Our next question comes from the line of Glenn Schorr with Evercore ISI.

Question on the whole SLR and central bank deposits, including the leverage ratio.

Don't -- not asking you to speculate of what will happen.

I think it should happen.

It's happened in the U.K. My question is, if it were to happen, what would you do with the money?

It's a decent size chunk of your balance sheet.

How did they -- how does that get reallocated?

What kind of benefit could that be, if it did happen?

Glenn, it's Todd.

I'll take this.

I think there are actually 2 -- if any release comes on the SLR, I think there's 2 approaches to it.

One is that they would change the denominator a bit, just as you described.

Maybe they would exclude from that riskless securities such as treasuries or -- and central bank deposits.

The alternative is to adjust the enhanced SLR so the additional 200 basis points, similarly, the way they do to the G-SIB buffers that are required on the risk-weighted ratios.

And that is what Governor Tarullo recommended specifically in his departing speech.

And we would assume that perhaps given where we are on a G-SIB buffer relative to others, that might be about half.

So that just kind of paints the picture for possible future rule changes.

All that being said, we still have -- I don't think you would see a dramatic change necessarily in how we have to manage capital because the CCAR would still be constrained by the leverage ratio, the traditional leverage ratio itself.

So we would need to take that into consideration.

It would make it easier for us to meet our spot ratios.

We're one of the few institutions that tends to be more constrained by spot.

But that's really no longer the case with where our capital is today.

So now we're in a pretty good position.

It would probably put us in a position to take on certain types of low-risk activities that we wouldn't have otherwise taken.

I mean, we could increase the deposit activities, there are certain lending types of activities that might be a little more attractive to us than they would have been.

So I think, number one, it is a possibility that we could expand into certain activities and manage our capital a little bit tighter.

The other potential outcome is if there is a reduction, for example, around treasuries and central bank deposits.

We would expect that to promote more activity in the repo markets in other markets that we serve so that, that could potentially be a positive to the fee generation of the company.

Yes.

Glenn, if I could just add.

On the supplemental leverage or enhanced supplemental leverage, it was actually very nice to see Governor Tarullo, in his final speech, specifically call it out related to the custody banks.

If we see some movement, I'm a little bit optimistic we will, it will allow us to have a more flexibility with our balance sheet.

As you know, over the course of the last year, we've pushed deposits out, which is counterintuitive to what a bank is supposed to do.

And so I think by some relaxation of that, that will give us more flexibility on the balance sheet.

And whether it's repos or repo financing or accepting customer deposits and putting those deposits to work, which can create more income and they could just give us more flexibility in the future.

I think I appreciate all those comments.

The quickie follow-up on that regulatory theme is you were kind of clear in terms of what we should expect cost wise.

I just want to revisit, how come regulatory costs are higher right now?

There's this overall feeling like they've plateaued and trending better in general.

What specifically is taking up some of the dollars being used right now?

Yes.

So for us, Glenn, it's really the resolution plan.

So we, as you know, we got feedback on the resolution plan.

Last year, we responded to the deficiencies in October.

We got positive feedback on the deficiencies.

But there were other actions that we needed to deliver by July 1. We have a significant number of people, I mean, a very significant number of people focused on delivering this resolution plan.

That comes with quite a few investments.

We had said in the past that the investments associated with that probably had between a capital and other spend of over $140 million.

We are in the highest burn rate point right now, up to the delivery of it on July 1. And then we would expect to see a little bit of relief thereafter.

Of course, we'll then be waiting for feedback and I'm sure we'll continue to evolve and improve the plan over the next few years.

But I think we've made great progress and it's come at a significant cost.

Our next line comes from Brian Bedell with Deutsche Bank.

Maybe just, Todd, if we could just go back to the net interest revenue and if you could talk a little bit about the hedging activities in the first quarter and sort of the thought for coming into the next quarter.

I think there was less of an offset in fees this quarter, if you can just talk about that dynamic moving into the second quarter and whether you think that will persist through the year.

Sure, Brian.

So there are basically 2 types of hedging that goes on.

So if you look at our long-term debt, most of that debt, we have swapped to floating.

And if the hedge on that from time to time based on interest rate movements, there will be a component of that, that is deemed to be ineffective.

That ineffectiveness is run through net interest income.

Over time, it will work itself out to 0 but they are long-term hedges.

So one quarter, it might be up a little bit; one quarter, it might be down.

It was unusually positive in the fourth quarter of 2016.

So when you look on our schedule on the earnings release on Page 7 and you look at the yield on long-term debt, that's where the noise is coming from.

That long-term debt is basically just floating.

But you might have noticed in the quarter that we saw, in the fourth quarter, we saw a 1.36 yield, down substantially from the third quarter.

That was because of gains on that -- from the ineffectiveness.

Otherwise, it would have been about 1.63.

Moving to the first quarter, you saw it pop up to 1.85.

Well, if you adjust it for the -- if you take into consideration the impact, it would have been down about 6 basis points from that.

So it's moving up as you would expect it to move up on average with the movement in LIBOR since that has been primarily swapped.

So I think it's not a whole lot more complicated than that.

There's one other element and so that doesn't impact other trading at all.

We also hedge the spread between the overnight rate and LIBOR, and that does not get hedge accounting treatment on those swaps.

So a gain or loss on those runs through -- runs directly through trading and that creates some noise as well.

And again, that just averages itself out.

Sometimes, it's a positive.

Sometimes, it's a negative.

So the impact to this quarter is effectively overstated, the fourth quarter NIM and overstated the fourth quarter's earnings by about $40 million and understated a little bit by this quarter, and that was ultimately had about a 6 basis point sequential negative impact to the NIM.

So when we look out forward, we just assume that's going to average itself out.

It's very difficult for us to predict, and that's why we do call it out.

And so that averaging out is included in your 4% to 6% guidance for the...

Yes, yes, it is.

I'm not suggesting we've got a recovery from anything that we've done now.

Just going forward, we assume it's 0.

Okay.

So locked in for 1Q and then 0 for the next 3 quarters.

Right.

And then how many Fed hikes -- additional Fed hikes after the March quarter, including in the 4% to 6%?

Yes, it looks -- it depends on the data that you do the calculation.

But as we prepared for this, we had 2 additional Fed hikes in that forward curve.

Okay.

And then just my follow-up would just be on the -- on Prime, maybe talk a little bit more about the clearing business.

It's been actually very strong considering the client runoff.

Maybe if you can just talk about the tempo this year and that if there's any more attrition from the clients that have departed.

And then you mentioned a lot of elements of cross-selling within your own franchise and the benefits from the fiduciary rule coming through.

Is that going to create stronger tailwinds coming into the second half of this year?

Is that who will theoretically get implemented?

Yes, good question, Brian.

It's Brian Shea.

I would say this clearing business has been remarkably resilient.

And despite the fact that we've had some large client losses over the last year or 2, mostly driven by global wealth firms exiting the U.S. marketplace, which were big Pershing clients.

Despite that, the core underlying business has been performing pretty well and the metrics are starting to improve.

We are seeing a pretty solid pipeline of large firms, including self-clearing firms, reconsidering whether or not they're going to outsource their clearing.

Those tend to be choppy, but we're encouraged by the trend, and we think we have the right platform to help be the solution to that.

We're also -- have invested in an integrated bank and brokerage custody platform that's very appealing to wealth management firms and to registered investment advisory custody firms.

And our RIA custody business is experiencing double-digit growth.

And one of the things that's differentiating us is this private banking partnership with the wealth management group.

So just to give you an idea, we're up to about $4.8 billion in credit facilities established and over $3 billion in loans outstanding.

And that's the private bank of BNY Mellon, making loans available to the high-net-worth investors of our RIA custody clients and introducing broker-dealer clearing clients, so that's good.

From a DOL perspective, it's driving more traditional brokers to the advisory model, which is part of the resiliency of that advisory growth.

And -- but we're also seeing now a trend toward mutual fund consolidation, meaning that assets are moving to brokerage platforms or to the Pershing platform as advisers want to actually include mutual funds into an asset allocation or advisory fee relationship.

So that's a positive trend for Pershing.

So overall, we have a pretty good outlook and the revenue diversification of Pershing is pretty strong, so it's been resilient.

Our next question comes from the line of Betsy Graseck with Morgan Stanley.

A couple of follow-up questions.

One on the SLR discussion that you had earlier, Todd.

Just wondering, would you consider any changes to your press strategies in the event that there was an SLR change?

Potentially.

I mean, we've -- as you know, we've issued quite a bit of preferred over the past couple of years and we've kind of changed our capital stack.

So I think we're pretty comfortable with that capital.

In fact, we probably have a little more space that we could go if we wanted to.

So if the SLR demand -- and it's largely to drive the Tier 1 capital, which is the numerator for the SLR.

So if SLR changes took place, we would have to rethink that.

So I think the answer to that is yes, Betsy.

And is there any flexibility there?

I'm just wondering if there's kind of a non-call provision that you're kind of dealing with for a number of years or not.

Yes, no, we're -- there are some non-calls in those but we're quite comfortable with the capital and the cost of the capital.

I mean, some of those are usually below 5%.

So it's certainly less costly than Tier 1. So my expectation is that we would keep it in place.

It's just a question of how much future issuance that we would do.

Got it, okay.

And then on the regulatory expenses, you, I think, indicated that currently you're running at the high watermark $140 million.

I assume that's an annual number, or is that a quarterly number?

Yes, the $140 million guidance is something that we provided a while ago, which was what we thought the number of projects that we were going to require to invest and would ultimately cost us between capital and expense.

The capital would, obviously, ultimately become an expense.

We've not given additional information against that, but as we responded to last year's letter, we have increased the run rate spend, just the monthly run rate spend, on a number of different components of the resolution plan requirements.

That is what we expect to see to wind down a little bit in the second half of this year.

In the second half, it's $10 million in 3Q and $10 million in 4Q for a total of $20 million decline.

Is that the guidance?

Yes, that's the guidance.

That's the guidance.

Right, I just want to make sure it's $20 million in total, not just $10 million.

Okay.

And then just last question, NEXEN takeup, maybe if you could just talk a little bit about what you're seeing there and also what incremental your clients are asking for that you're focusing on delivering?

Incremental functionality perhaps that you might be working on?

Why don't I give you a couple of headline numbers, and then, Brian, you may want to give some color commentary on some actual initiatives with individual clients.

But today, we have about 60,000 users on our NEXEN gateway.

11 different businesses within the company are consuming it or putting applications up on it.

We have about 17 different clients who are accessing our API store.

We have about 140-or-so APIs in our store.

There's about another 100 APIs that are queued up to go into the store.

And so we're seeing a pretty significant takeup.

And then the data that's coming out of our Digital Pulse is being captured and consumed mostly internally to improve our operations and find pockets of ways to automate and reduce our own structural cost.

So generally, the takeup has been quite positive.

And the businesses are using it, and we're seeing real applications up and running on it.

Yes, I agree with that.

And I would just say, in addition, Betsy, we're starting to build out the App Store and actually the first third-party vendor will be live in the App Store in the second quarter.

We have a pipeline of 5 or 6 that have committed that we'll be putting on over the next couple of quarters.

And then there's an even more robust pipeline of firms in discussion with us as we sort of execute this vision of delivering the digital investment platform that our clients need to reduce their vendor management integration, business continuity costs that help -- and we're going to enable that through NEXEN.

So again, every 2 weeks, we add more functionality, more capabilities and we're getting more traction with the clients.

And of course, as a result, the clients are starting to see more value incrementally every 2 weeks.

Okay.

And anything in particular people are asking you to do that you're putting on the to-do list or...

I wouldn't say anything specific that would be earth shattering.

Just continuing to deliver all the capabilities of the company through a single gateway and also enabling them through APIs to integrate with us the way they want to work.

Those are the 2 big drivers.

And frankly, longer term as we execute this more fully, we're going to be easier to do business with.

And to Gerald's earlier point about improving the client experience, it's going to improve the client technology experience significantly, and it's going to make it easier for them to do more business across the company.

So not only -- so we see this really creating long-term value for the company.

Yes, Betsy, the live situations with a number of clients tend to be around data aggregation and them being able to pull data out of the systems in a much more easily consumed way versus us pushing mounds of reports that take days to produce.

And we've been able to shorten that reporting cycle down to minutes and in some cases for different fund companies and hedge funds.

So that's the initial set of applications.

Our next question comes from the line of Geoffrey Elliott with Autonomous Research.

On -- back to the SLR and the potential changes there.

How much flexibility do you think you've got on the level of capital you run with?

So the numerator part of the question, just given that the CET1 is at 10%.

I think you talk about running with a minimum of 100 basis points buffer over the regulatory minimums of kind of 9.5% into that.

Does that kind of limit the amount of flexibility you've got if we're just focusing on the numerator side and the option is more around the denominator and how you can run the balance sheet differently?

Okay.

Sure, Geoffrey.

It's Todd, I'll take this.

So first of all, our minimum for the common equity Tier 1 is 8.5%, so we're at 150 basis points over that on a fully -- for the fully phased-in.

So we feel like that feels like a pretty decent buffer.

Certainly, it's adequate, we would think, for most in stress test, at least as we've seen them in the past.

I think the -- in terms of the SLR, I think that had been the binding constraint in the past.

But now that it's up at 5.90% or close to 6%, and at 6.60% in the institutional bank where it needs to be at 6%, it too feels like it has a pretty good buffer to withstand 2 things that could potentially move that.

You're not going to see a lot of noise.

We wouldn't expect in the risk-weighted assets, so for the common equity Tier 1 ratio.

But what you could see under the SLR is an expansion of the balance sheet if there is a -- if there were big deposit flows.

So we think that gives us an adequate buffer for that and certainly in this new interest rate environment.

And secondly, there are fluctuations and other comprehensive income that really comes out of the securities portfolio.

So we've structured the securities portfolio in such a way that it's less rate sensitivity than it had been in the past and we think it could accommodate some fairly substantial increases in long-term rates, which we'd actually kind of like to see at this level of a buffer.

So we feel like it's pretty well balanced right now.

And then on the CET1 again, the advanced ratio is a lot lower than the standardized ratio.

Is there anything that you've heard recently that gives you confidence that the advance ratio could be relaxed a bit, maybe operational risk RWA calculations changing or something like that?

Yes, there's -- what's become known as Basel IV has been batted about quite a bit.

At this point, I would say it's too hard to determine or it's impossible to determine whether there's ultimately going to be adopted.

Within that, one of the considerations would be to change the treatment for operational risk, which we would encourage, I think would make some sense.

That would probably provide some relief to BNY Mellon.

And I think there are some other considerations that may very well offset that around market and other types of -- other types.

So we don't, a , we don't know whether it's going to be adopted.

B, it's not the test that's used in the CCAR, it's the standardized test, which it almost has to be.

It would very difficult to run it off of the advanced approach and get consistency.

So we don't know whether it will be adopted.

We're not really sure ultimately what the impact would be to us.

It's probably net positive on operational risk and slightly negative on the other items.

Our next question comes from the line of Brennan Hawken with UBS.

Just a couple of follow-ups at this point.

So helpful on the $10 million a quarter in consulting headwind here in the near term.

But taking a step back, I think you guys made some comments about it previously.

If we end up in a lesser burdensome compliance and regulatory environment, how should we think about how that might provide an additional lever for you to pull on the expense side?

And then if we think about how maybe Brexit might offset some of that, the need to invest might offset some of that, given how controlled you guys have been on the expense front for several years, like when we put all that to mix over the next few years, assuming we have regulatory relief, how should we think about what could happen to operating expenses?

Well, let me take a high-level stab at it and then, Todd, you can weigh in some.

I think the way we contemplated, to the extent that we have some sort of change in tone on the regulatory side that we can actually direct some more of our resources, and frankly, some of the higher intellectual capital the company is -- can be consumed by regulatory requirements, if we can redirect it to new products and solutions and that is our goal as opposed to taking it dollar-for-dollar reduction in whatever expenses we may have from regulatory relief.

We'd like to invest more in some of the businesses and some of the solutions.

We'd like to invest more in further automating the company, which will drive better operating efficiencies for the long term.

And so we would like to see some of it continue to go to shareholders, but a lot of it reinvested in the company for future growth and for future improvements in our strategy and technology and automation.

And I would add just a couple of things here.

If you think about the U.S. regime, there's been an awful lot of new rulemaking that's gone on and actually, the implementation cost to comply with that.

And I probably said to you once or twice before that we think that the run rate has probably peaked and I was wrong.

But if you think about things like CLAR, even the advanced approaches to calculating the risk-weighted assets, CCAR as it's continuously developed.

The resolution plan, which comes with some new requirements for example, around liquidity and capital management, the liquidity coverage ratio and our -- and the -- which is a demanding regulatory reporting exercise since we're providing significant amounts of daily information.

So we're getting all of that implementation in place.

And there will certainly be, I'm sure, no matter what the change in the regime is, ongoing requirements to improve that.

But we'd like to think that we don't see a lot of new rulemaking out there because I think we're getting all the way through with the Dodd-Frank requirements.

So in the U.S, there probably would be some relief regardless of what comes from the -- what the regime actually does.

I think globally, if you -- one of the things that we broke out on our report, expense report is bank assessment charges.

And so the FDIC charges have gone up substantially as have what we see both on the European Resolution Fund as well as just bank levies in certain parts of Europe.

There's the potential for some relief on that, but probably even that's a year away.

And the other thing I might add on why we want to still be cautious here is that in Europe, as we implement MiFID and other additional regulations, the compliance costs there are quite high as well so we're going to get, I think, some short-term relief.

Whether that actually rolls into long-term relief or not, it's too early to call.

That's all really, really fair and very helpful.

And certainly, Todd, I think you got some company in trying to call a top on the regulatory burden to get more in the future.

Can you -- one follow-up on the SLR buffer.

I think you guys said that you would expect it to half from 200 bps to 100.

When I had looked at it, I guess, maybe I compared it to the enhanced buffer that it come up with and I thought maybe it might even be a bit lower for you, what makes you think that it would only be halves for you rather than maybe even a potentially better outcome?

That was -- that's highly speculative on my part.

I'm just seeing if you were to correlate.

You might be right, Brennan, if you were to correlate the 200 to the buffer in -- the G-SIB buffer and you use the same regime to calculate it, something like half, I think, would be a reasonable estimate.

But you're right, it could be a little bit more than that.

And our final question comes from the line of Gerard Cassidy with RBC.

Question, Todd, and I know there's been a lot of talk about the balance sheet.

I think you gave us guidance in your prepared remarks about basically a flattish balance sheet from here until the end of the year.

If you guys look longer out from your customer's standpoint and we get into a 3% Fed funds rate environment, let's say, going into 2019, are there still lazy deposits, if you will, sitting on your balance sheet that wouldn't move into higher-yielding alternatives?

Or do you see with your current customer base, that the deposits they have are truly what they're probably going to keep with you even in a higher rising interest rate environment?

Okay.

So I'd like not to call them lazy because this is -- a lot of this is related to activity that goes on, Corporate Trust activity, Asset Servicing activity, settlements, and so forth.

And we do think the betas will increase, so there'll be -- and in many instances, we actually have contractual rates that we apply to client deposits.

So I think the way to look out at the future is there'll be a -- just as we saw the spike up in deposits with the Fed easing, I think we'll see that kind of market share gain, if you will, to the total deposits come out, which it practically has.

And then we will start -- the business will grow, the deposit size of the business will grow with activity as it has historically.

That's our expectation.

Yes.

No, no, no, that's good.

And then I know this is a hypothetical and maybe never will come through, the industry, including you guys, have suffered from the LCR ratio being as high as it is.

If there wasn't that requirement to have the LCR ratio as high as it is, what do you think a more reasonable LCR ratio should be for you guys?

Or are you comfortable with what it is now?

Well, I'll be happy to comment on that one.

And the LCR may very well get some conversation, but I think there's another thing that you should be aware off.

In the resolution plan, there is something called the RLAP, which is the liquidity that you need in place in order to go in and manage a resolution plan.

That's going to be -- it's pretty highly correlated to the LCR, so it could be another -- it's another constraint to that, I think, that you should be aware of, and we're working through that as we deliver it to the regulators this summer.

That being said, the LCR is a constraint.

It does limit the types of things that you can do.

There's no question that it has an impact on lending.

And if you took into consideration that there are probably substantial amount of liquid assets on the balance sheet that don't fall into the denominator, it's probably more constraining than it really needs to be.

I think conceptually, it is a very good tool.

It's how -- it's an approach to managing liquidity that makes a heck of a lot of sense.

I think perhaps it could be tweaked a little bit.

If it were, it would give more -- it's another one of these things that will provide more flexibility, probably generate a little bit more NIR.

Thank you very much, everyone, for dialing in today and your interest in us.

And I'm sure you'll have some follow-up questions with Valerie and the rest of our IR team, so thank you, everyone.

If there are any additional questions or comments, you may contact Ms. Valerie Haertel at (212) 635-8529.

Thank you, ladies and gentlemen.

This concludes today's conference call and webcast.

Thank you for participating.