Federated Hermes Inc (FHI) 2013 Q3 法說會逐字稿

Greetings, and welcome to the Federated Investors third-quarter 2013 earnings conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation.

(Operator Instructions)

As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ray Hanley. Thank you, Mr. Hanley. You may begin.

Good morning, and welcome. Leading today's call will be Chris Donahue, Federated's CEO and President, and Tom Donahue, Chief Financial Officer. And we also have Debbie Cunningham, Chief Investment Officer for Federated Money Markets, participating in our Q&A session.

And let me say that during today's call, we may make forward-looking statements, and want to note that Federated's actual results may be materially different from the results implied by such statements. We invite you to review the risk disclosures in our SEC filings. No assurance can be given as to future results, and Federated assumes no duty to update any of these forward-looking statements. And with that, I will turn it over to Chris.

Thank you, Ray, and good morning. I will begin today with a brief review of Federated's business performance, and Tom will comment on our financials. Looking first to cash management.

Period end money market fund asset increased by $5 billion from Q2, while average money market fund assets decreased by $3 billion. We saw gains in government funds, partially offset by lower assets in prime and muni. Our market share was just under 9%. The impact of yield-related fee waivers increased in the third quarter, as repo rates declined substantially from the prior quarter. Tom will comment further on this in his remarks.

On the regulatory front, Federated filed a series of comment letters in response to the SEC's money market fund proposal, which was published in June. We were heartened to see that many of our clients and issuers that we invest with, went on the record to express their strong concern with the measures proposed by the SEC. The overall response to the SEC has been broad-based. Many individuals and groups representing literally millions of businesses, treasury and financial professionals, as well as state and local government finance professionals and investment officers, have submitted their views for consideration. These responses overwhelmingly expressed opposition to Alternative 1, the SEC's floating NAV proposal. In fact, over 98% of the more than 1,400 letters expressed opposition to the SEC's floating NAV proposal.

Some of the noteworthy groups going on the record against the floating NAV proposal include the US Chamber of Commerce, representing more than 3 million businesses and organizations. The American Bankers Association, the voice of the $14 trillion banking industry. The Association for Financial Professionals, representing more than 16,000 treasury and financial professionals. The American Council of Life Insurers, representing 300 members and 90% of the assets in premiums of the life and annuity industry. And a host of government and municipal finance and investment organizations, like the National Association of State Treasurers, the US Conference of Mayors, the National League of Cities and others.

Now approximately 90% of the comments supported alternative two, which is the voluntary gating and fees concept that was proposed. And many proposed to accept this, but with modifications. And given the significant issues raised by Federated and others, we expect a lengthy review process that is likely to go into 2014. We, and many others, find that the case has not been made for floating the NAV of a money fund as a remedy for the regulators' expressed concern about increased redemptions in periods of market stress.

Floating the NAV would impose significant operational burdens, create extensive new tax and record keeping requirements, and result in enormous new costs for system reprogramming and record keeping. Less efficient capital formation would add material cost for corporations and other issuers in a post-institutional prime money fund world. While the costs are large and burdensome, the benefits are illusory at best. We believe that there is no discernible, meaningful benefit that would be achieved by floating the NAV, and certainly there would be no benefit in stopping so-called runs.

In contrast with the floating NAV, gating, that is giving the fund's Board of Directors the option of imposing a temporary gate on redemptions in extremely rare occurrences of dysfunctional market conditions, promotes the equal treatment of investors and improves the financial markets by stopping a run dead in its tracks. It has proven to be effective in practice. Recall the Putnam transaction in 2008. And most importantly, preserves the critical features and benefits of money funds.

Money funds continue to enhance our financial system and to operate effectively. The recent US government debt ceiling crisis is only the latest in a series of tests that money funds have convincingly passed since the extensive regulatory changes were enacted in 2010. We expect that sound policy will win out, thereby preserving the crucial features of money funds that have made them so important to tens of millions of investors, to thousands of short-term debt issuers, including state, local government entities and corporations.

Now, turning to equities. Gross equity fund sales were strong, up 28% compared to Q3 of 2012, and down only slightly from the recent high level attained in the second quarter of this year. On a year to date basis, gross equity fund sales are up 15%. Equity separate accounts showed positive flows, driven again by the strategic value dividend strategy. Net equity fund flows were negative in the third quarter, due to approximately $1 billion of redemptions from two clients. In addition to the $220 million index fund redemption mentioned on the last call, another client redeemed $770 million from the Kaufmann funds. Recall that, even though through September 30, the Kaufmann fund was in the fourth quartile for the third and -- for the three and five year period. For the trailing one year, it has climbed into the top third.

Overall, our equity franchise is very well positioned, with a variety of products exhibiting strong three year records and positive flows. We had 12 funds, or about half of our strategies, with top quartile three year records, covering a wide span, including international, balanced allocation, income, growth, large and small cap, global allocation, core, value and index strategies. We also had a 12 funds with net positive sales in the third quarter, including Kaufmann Large Cap Growth, Capital Income balanced allocation fund, Strategic Value Dividend, both domestic and international, Clover Small Value, International Leaders, and the managed volatility solutions product.

Looking at early Q4 equity fund flows, net flows are solidly positive, led by Capital Income, Kaufmann Large Cap, and domestic and international Strategic Value Dividend, managed volatility, and the small Clover -- the Clover Small Value Fund. Equity SMA flows are also slightly positive early here in the fourth quarter.

Taking a look at fixed income. The third quarter produced lower net fund outflows compared to the prior quarter, where Federated and the industry experienced a rapid move by investors out of bond products in June. Fixed income separate account net flows were positive. We continue to see solidly positive flows in the high yield, short duration and stable value funds and into a collective fund, pursuing a multi-sector strategy for a large institutional customer. We are seeing an uptick in flows in our floating rate strategy, which takes a differentiated multi asset class approach to the floating rate space. At quarter end, we had 12 fixed income strategies with top quartile three year records. Federated Bond Fund, High-Yield Institutional, our Intermediate Gov/Corporate, Emerging Market Debt, Ultrashort Bond, short-intermediate duration, our Muni trust, among others. Fixed income out flows are slightly negative for the first couple of weeks of October.

Turning to overall fund performance and looking at Morningstar rated funds, 44% of rated equity funds are in four and five star products as of the end of the quarter, and 73% are in three, four and five star products. For bond funds, the comparable percentages are 49% four and five star, and 86% three, four and five star.

As of October 23, managed assets were approximately $363 billion, including $265 billion in money markets, $42 billion in equities, and $56 billion in fixed income, which includes our liquidation portfolios. As part of this, money market mutual fund assets stood at about $233 billion. So far in October, the money fund assets have ranged between $229 billion and $238 billion, and have averaged $233 billion.

Turning to distribution, equity fund growth sales are up 15% year to date compared to the same period last year. We have seen a 26% growth in the broker dealer channel, which has been helped by the addition of wholesalers and related resources. We have expanded the number of advisors doing business with us, and increased the products that -- used by these advisors. We are considering further modest growth of sales personnel in this channel. Interestingly, the number of advisors doing business with us is approximately 39,000 FAs, up from 36,000 in 2011, and 29,000 in 2008. In the institutional channel, at quarter end, we had about $476 million in equity as separate account additions yet to be funded.

Regarding our offshore business and acquisitions, we continue to develop our Asia Pac operation in Australia, and we are in an active search for a head of sales in Australia, followed by similar additions in Hong Kong and Singapore. We recently announced the expansion of our UK operations. We're moving a Pittsburgh-based trade finance portfolio manager to London in a supervisory capacity, and added three highly experienced trade finance investment professionals to our London office. We also added two London-based emerging market debt investment professionals, who bring decades of experience to our EMD team. We continue to actively seek alliances and acquisitions to advance our business in Asia, Europe, as well as in the US. Tom?

Thank you, Chris. Taking a look first at money fund fee waivers, the impact to pretax income in Q3 was $30.3 million, up from $23.7 million in the prior quarter. The increase was due mainly to lower rates for treasury and mortgage-related securities. In July, our estimate of $28 million for the Q3 waiver impact used a repo range of 3 to 8 basis points. The actual repo range was lower, at about 2.5 to 4.5.

In addition, approximately $500,000 of the higher waiver impact was from proxy costs related to changes in the Federated Fund Board of Directors. Based on current assets and assuming overnight repos for treasuries and mortgage-backed securities run at between 3 and 6 basis points over the quarter, the impact to minimum -- of minimum yield waivers to pretax income in Q4 would be about the same as in Q3.

Revenues in Q3 decreased 5% from the prior quarter, due largely to minimum yield waivers, and to a lesser extent, to lower average fixed income and money market assets, and to the impact of higher waivers, due to the director proxy costs. These items were partially offset by the impact of an extra day in the quarter, higher average assets for equities, and performance fees.

Operating expenses decreased from Q2, largely to lower distribution expense resulting from higher minimum yield waivers, and to lower comp and related expenses. Distribution expense included approximately $1 million of director proxy costs. The impact of director proxy costs also reduced non-controlling interest by about $0.5 million. In total, the impact of the director proxy to pretax income was a reduction of approximately $2.2 million.

Non-operating income included $4.4 million of realized gains from investments, and an impairment charge of $3.1 million related to a change in the fair value of a minority interest investment, which now has a remaining book value of $600,000. The Q3 effective tax rate was 35.7%. The rate was reduced by about 2.2% due to the reversal of the capital loss carryforward valuation allowance related to the capital gains realized. We estimate the effective going forward rate to be around 38%.

Looking our balance sheet, cash and investments totaled $351 million at quarter end, of which about $259 million is available to us. Looking forward, cash and investments, combined with expected additional cash flow from operations and availability under present debt facilities, provide us with significant liquidity to be able to take advantage of acquisition opportunities and related contingent payments, share repurchases, dividends, new product seeds and other investments, capital expenditures and debt repayment. We would now like to open the call up for questions.

(Operator Instructions)

Ken Worthington, JPMorgan.

Two questions. Maybe first on the non-US equity presence. Can you update us on how sales are progressing in Europe? You've got some distribution relationships there. How you're thinking about Asia? And then lastly, given RDR in the UK, how do you fit into the new world, given new rules that have and will continue to go into effect in the UK?

Let's work backwards. With RDR, obviously that has already been implemented, and has already had some effect in the UK. We think one of the things this will do is expand distribution opportunities -- I mean acquisition opportunities for us in the UK, because it throws all the balls up in the air. When you eliminate commissions, it does change things. So I think there will be some attrition of selling FAs in the UK, as people look at their businesses and realize that the models have to change. But I think it will also give opportunities for people like us who are looking to move in there, some opportunities. So that would be the first part.

In terms of what is going on in Australia and Asia, we are not currently selling any of our mandates, as I mentioned. We are looking to bring on the sales people in order to do that. So it is a little early to be talking about the actual equity flows in the Asia Pac area.

Okay. And then in Europe, how are the sales progressing? And I should expand it. I know fixed income -- the high yield product is bigger there, but how are sales progressing on the European side?

Ken, we would describe that as early stage. We're -- as we have talked about working with Bury Street there. We have had some sales in the high yield space, and we are also looking at our dividend strategy. But that is still in a more or less of a start up phase.

Okay. Maybe next turning to the profitability of the money market fund business. The treasury business appeared to waive maybe record fees last quarter, and some of the products that we audited seemed to have higher fee waivers than management fees at this point. And I think profitability was limited previously, but my understanding was that profitability was still positive. So as we stand today in the third quarter, is the money market fund business still profitable for you today? And is the treasury fund business still profitable for you today?

Yes and yes. And I think what you are seeing is that, as we share with our intermediaries in the waivers, and as it has gone down, rates are so low, that there's -- we end up bearing, depending on which funded is more of the sharing.

Yes, okay. But it's still -- but you are still net-net, even with allocated cost at -- like everything is still profitable?

We don't allocate the cost, but we believe that everything is profitable, which is why I so quickly said yes and yes.

Okay. Fair enough.

Michael Kim, Sandler O'Neill.

This is actually James Howley filling in for Michael this morning. Just wanted to come to fixed income and see if maybe you guys have started seeing some investors who pulled away from fixed income more broadly earlier in the year? Maybe starting to come back into some of those less correlated strategies, maybe some international and high yield stuff? That would be great.

James, yes, we are certainly seeing interest, in particular in the high yield side, though I would describe that as -- that has been a running trend for us. The product set that we have there is outstanding. We have funds literally in the top percentile, top decile. In the institutional product, I think to your point, the flows into that product shows that we are obviously in a yield-starved market. And our high yields team thinks there is still a good ways to run on the high yield side, and it is resonating with our clients.

Great. And then maybe one for Tom. Any adjustments in the bonus accrual in the third quarter? And maybe any color on how you are thinking about the comp line as you look out into the fourth quarter?

Sure, James. We did have an adjustment, and it is approximately $2 million. And so when you factor that in for the year, if you're looking at the fourth quarter, you would probably add $1.5 million to the number that's on there.

Okay, great.

Phil Katz, Citigroup.

I joined a couple of minutes late, I apologize. Lot of calls this morning. Chris, you may -- I think I caught the tail end of your commentary, but could you just -- and if I apologize in advanced, everyone. Could you just repeat what you are seeing in terms of timing of reform? Of when you expect some of these comments to be filtered by the SEC, their rebuttal to come out, and then the reaction from that?

What I said there was that, because of the depth and the high quality of the comments, it would take them a good bit of time to get through all of that. Then we would be well into 2014. If you press me on it, I do not think they can get it done in the first quarter of 2014. And after that, that is up to the worker bees at the SEC, and don't forget they did have a couple of weeks off. So it is impossible to exactly say when this will come about, but that would be about as close as I can guesstimate. And remember, I do not control it, and I do not have any inside information.

I will just add one comment, and that is that, for the 2009 proposals that ultimately resulted in the 2010 amendments, they were slightly less than 200 pages in length, and much less in the context of the actual potential changes that could be occurring. That was a five and a half month process for the SEC to review those comments. This document is nearly 700 pages long, so I don't know if you can interpolate from that or not, but just a comment.

Just staying on the money market discussion -- again, you might have covered this, and I apologize again. I think the Federated share of this quarter was particularly high. Is it just a mix issue? Was it a absolute level of interest rates? And is that part of your guidance for the fourth quarter, in terms of that share staying about the same?

Bill, yes, I would attribute it to mix. We mentioned being up on the government side, in terms of the asset flow. But it is overwhelmingly a function of where rates ran in the quarter, especially for the repo rates being in the 2.5% to 4.5% range. You may recall back in 2011, we had a period -- a quarter where the share of waivers that we bore went up in a similar way. So it is driven mainly by rates, and by the mix. And yes, we factor that in among the multi variables, when we do a calculation of where we think the number is heading for the upcoming quarter.

Okay, great. Just one last one, thanks for taking all the questions. Just in terms of your guidance on assets, Chris. The money markets starting to trending up just a little bit. How much of that is seasonal, versus the backdrop of short-term interest rates and/or what is going on in the capital markets, and equities in particular? I know it's on the [busted] relationship in many cases, but any general trends you are seeing in terms of appetite for cash right now?

Let's talk specifically about the first couple of weeks, and then I will have Debbie talk about the flows more generally and the seasonality thereof. But if you look at just this month of October, what we saw happen was on October 1, we had about $123 billion in our government funds, which are agencies and direct treasuries. And that got to a low of about $116 billion on October 16, and on October 23, it stands at a little over $118 billion. And it is interesting that, at the same time, and on the same timeframe, our prime was just about 94 on October 1, and then about 400 over that by October 16, and then is also up, from there, another $1 billion by October 23. And the muni funds were more or less about flat. So there was some movement of about $7 billion out of institutional government and treasury, related to all of the shenanigans with debt ceiling and default threat, et cetera.

And interestingly enough, during that time, the prime funds were up, while the government funds were down. This is more or less a distortion to the regular pattern, and as I mentioned through the numbers, they are starting to right themselves and get back into the more normal regular flows. So with that comment on October, I will let Debbie talk about the seasonality of the rest of the activity.

Thanks, Chris. And certainly, what generally happens in the fourth quarter is that the weeks preceding the end of the year, you will see a run up --and sometimes it is even two weeks. We'll see a run up in positive assets coming into -- flows coming into the government money market funds, including both treasury and government agency products, with a smaller outflow, but definitely a negative flow, to the prime fund asset. And I'm sure that is reflective of year end window dressing in many instances. That is also -- we see that at every quarter end, but in a more minor fashion. Year end is generally a larger version of that same thing. As far as the month of November and into early December, and the rest of this month, October, no expected seasonal movements. And from contacts with our own clients over the course of the first several weeks of October, due to what was going on in Washington, no outlook for change from our customers' preferences at this point in time.

I would just -- throw into your comment about whether we see many going to equity. We don't really see or are able to track that. But I would point out that about one-third of our money fund assets are retail in nature through the broker-dealer channel, and those assets are actually up. Money market assets are up year over year. So there is still a lot of money in cash.

Okay.

Cynthia Mayer, Bank of America.

Just a question on money market share in the industry. It looks like looking at strategic insight data, like you've been losing share this year, both overall and in terms of institutional money market funds, and particularly in terms of prime, it looks like you guys were the only ones that actually had prime outflows in 3Q. So is there something, particularly your prime funds, where we might not be in the same channel as others? Or is there something else going on in terms of institutional channel? What explains the share?

It would be tough for us to pinpoint the movement of the prime assets over that relatively brief period of time. We mentioned that, on the government side, we had -- assets were up in the quarter. On the money share, we have -- on the market share, we have commented on that before. We have seen that ebb and flow over decades. Part of it has to do with differences in the yield, which tend to correct themselves over periods of time. I would tell you that it is not -- there isn't a particular thing that we would point to. We would prefer to look at it over longer periods of time, and generally our share has gone up.

A question on the yield being a differentiator. Is -- can -- in such a low yield environments as this, does the yield continue to be a differentiator?

The principal differentiator is daily liquidity of par, and this is the main show. Yes, there is some ancillary or sporadic competition from those who are either able to put in extra basis point on, or want to put in extra basis point on, and this really isn't a lot different than we've seen over 40 years of being in this business. So to us, the core is to maintain the whole position of the money market fund as a cash management service. And if people choose to waive more, which some people periodically to, then they can at the margin capture more assets. But we don't ever end up losing clients, and the differences in market share are measured in a fractions of a tenth of a point. And as Ray is saying, is really hard to get excited about that. We note these things, but boy, they go in ebbs and flows that is really hard to get excited about.

Okay. One follow up on that. If you did feel as though others were waiting shares -- waiving fees more and gaining some share, would that make you inclined to waive a little more, or to maybe pursue acquisitions more? How important is it to you to fight for that share? Or are you happy to see it go, as long as you can maintain the fees at a couple of basis points higher?

The marginal battle for share is not the goal of the operation. And our decisions on what to waive are really made independent of that. And would it inspire us to do more or whatever on acquisition side? We are fully inspired to acquire money fund assets whenever they are available, and analyze all of the deals, and would be still inclined to do that regardless of the lay of the land on these moves in market share or other people's enthusiasm for higher waivers.

Okay. Moving over to equity side, it seems like Clovers small cap is doing pretty well. Is there any capacity issues at Clover we should know about?

Not currently.

No Cynthia, that fund is a little over $500 million. We have seen a steady ramp up in the sales each of the last three quarters. It continues to get positive flows, but we would be a fair ways away from a capacity issue there.

Okay. And on strategic value, it is still -- it bottom decile year to date, but you are getting inflows. Is that still a function, you think, of basically people viewing it in a different category as really a yield kind of fund?

More particularly it does exactly what it says it's going to do. So yes, they look at it as a five and five type fund. And the signal that we continue to get flows when in ends up being in a bottom quartile or bottom decile or whatever, is really a tribute to the fact that the customers understand exactly what the fund is doing. And so it really doesn't matter where they show up on that -- on those comparisons, because that is not really what that fund is doing.

Great. Okay.

Robert Lee, Keefe, Bruyette & Woods.

Real quick question on a capital usage. I'm just trying to remember. Did you have any legacy contingent payments coming up in the fourth quarter than maybe what you have ahead next year, whether it is related to the SunTrust deal, Clover, or some other transaction?

One second. I do not think in the fourth quarter, but in the first quarter we have our final Clover payment.

And is that it for most of next year? I'm just trying to get a sense of demands on capital.

Yes, Rob, for next year -- I mean for this year, when it is all said and done, including SunTrust and Clover, we will have about $8 million of payments for next year. Based on where things stand today, it would be around $12 million, so a little bit of a step up, but not material.

Okay, great. And I just had a --

There's one more. Yes, Rob, the SunTrust thing is in December (inaudible).

All right. Great. I just was curious. I know you hadn't put out the press release, and Chris, you mentioned your comments about moving some trade finance people to London. But quite frankly, I guess, I am just curious, could you describe what that business is? I guess when I think of trade finance, I don't typically think of it in an asset manager context.

The -- what trade finance is, is basically good old time factoring, where you finance material products, whether it is coal from Mongolia or grain from Brazil, and it is over a short time frame. And the banks don't generally want to do the financing, so you end up with pieces of paper that are financed a maximum of 18 months, a duration of probably 6 months or 9 months. A wide variety of different kinds of products moving around, short duration. And the idea is [beat] the T-bills by 400 basis points on an annualized basis. And this product has been doing that. So that is pretty much what it is.

The challenge in it is to develop the paper and to develop the actual positions. And so this requires a very comprehensive and creative network of people to be able to do these financings, and do them efficiently, in order to package them up into our various products and for our various customers. And we think there are outstanding opportunities for us in this field, both to enhance the performance of our own funds to take positions, and to offer to institutional clients as part of large pension funds' desires to have yield, to have relatively lower risk, and a diversified type investment.

To make sure I understand, you have some standalone products that specifically raise, whether it is institutional fund or whatnot, this is the mandate. And then some amount of this paper gets placed in other credit products that you may have? Is that the way to think of it?

Yes, we have a core fund that we -- that is our trade finance fund. And then some of the other funds can take positions in the core fund, and then institutional clients, we may develop a portfolio for them as well.

Just of out curiosity, is it possible to size what this business is, or do you see that this as -- clearly, you move --

It has grown to $400 million now, but I think that it is a multi-billion dollar enterprise. That's one of those forward-looking statements.

We mentioned, Rob, the floating rate product, that ours is differentiated compared to funds that use all bank loans. We have a heavy mix of bank loans, but this would be an example of utilizing the trade finance asset class with -- that won't react pretty quickly to upticks in rates, and we think that that is additive to our floating rate fund.

Great. That was very helpful. I appreciate the explanation.

Eric Berg, RBC Capital Markets.

I am going to presume from your comments that you are part of the -- obviously opposed to option one in the money market reform discussions and that Federated supports option two. But Chris, why? Not why are you opposed to option one. You have made it fairly clear on multiple occasions. But looking at the option two of gating or redemption fees in particular, isn't it the case that -- in a time of upheaval, if you gate a fund, you are just putting off the inevitable? That when the gates come down, you will have the same out -- sort of rush to the door, to the fire exits, than would have been the case absent at the gates? Or maybe not. I would like to get your thinking on why this is not just a better approach than option one, but a sensible one.

There was an example, Eric, and that is why I mentioned the Putnam in my remarks. And what happened there was that they had a $12 billion fund, had $5 billion plus of redemption requests. And the independent directors of that -- the directors of that fund decided to gate the fund. And over the weekend, a solution was found. It was a combination of various things. The Fed coming up with a liquidity program, and their fund deciding to come into one of our funds.

And so then in one week, there was no disaster. There was no forced selling of securities. There was the honoring of all of the redemptions, and was no harm, no foul, no one had ever heard of it. The SEC, in their 700 page proposal, also articulated other examples of where gating in Europe and other places had been done successfully.

Next point is that, when the 2010 amendments were put in, the SEC put in the idea that you could gate the fund. But if you gated the fund, then you had to go into liquidation. So the concept of the gating was already in the 2010 amendments, except that the only solution was to liquidate. And what is being proposed in option two today is to give the board of the fund the right to do the same thing that the Putnam board did. And that we have articulated that is a very logical thing for a board to do, because it looks at it and says, you know what, we want to treat all shareholders the same and fairly. We do not want to have to artificially sell securities into the markets. So we want to take a timeout to see if we are capable of figuring out a solution.

And if you can't figure out a solution, then you just gate the fund and you liquidate. And do not forget that a money market fund, among all investment products, has baked in the cake a so-called living will. You just hold the maturity and pay everybody out. That is what would happen in the worst kind of circumstance.

One other point I would mention is that a part to the Investment Company Act since 1940 has been the right of the Board to delay redemptions. And notice I didn't say forbid redemptions. It is just they delay the payment of the redemptions for seven days. And this has been baked in the Investment Company Act since 1940. So it is not unfamiliar territory.

Marc Irizarry, Goldman Sachs.

Chris, I was wondering if you could talk a little bit about the floating rate funds. And it seems to be a lot of retail flow going that way, and maybe talk about the underlying liquidity of some of those markets? Is there -- how do you mitigate, or think about, the flows of that are coming in there for retail investors versus the underlying liquidity of some of those asset classes?

Are you talking about the float -- the bank loan funds or the money market funds?

The bank loan funds. So it's just outside of money funds. I have a question on money funds, of course, here. But just on bank loan funds, I'm curious in particular how you think about all the retail flows that are heading that way versus underlying liquidity of the market managing that?

I do not think there's going to be a liquidity problem in that area, and certainly I haven't heard of anything like that. We think that the category is a very, very attractive because of yield seeking investors who don't want to take big risk. And it is not unrelated to the overall Fed policies of keeping yields lower, and people then searching everywhere they can.

Marc, we -- I mentioned before that we have taken more of a multi-sector approach in that area. It is not due to liquidity, necessarily, but because we think, especially for institutional applications, the idea of having bank loans, but also having corporate exposure, trade finance, which I mentioned, even a bit of mortgage exposure, is an improvement over a full bank loan product.

Okay. And then on -- Chris, just in terms of the reform and discussions around it. I'm curious if you have a view overall on the OFR paper? And how money market reform plays into the overall idea of asset managers being systemically important? Maybe some thoughts on that?

Sure. The OFR reports. The first comment I make on that is that we are very, very encouraged by the fact that the SEC has grabbed the ball here and put this out for comment. Because it demonstrates to us a willingness on the part of an independent agency to actually defend its jurisdiction when it has the expertise and the directive from Congress to protect investors. So this, I think, is the first and very important part of this. When you get into it -- into the OFR report, I think it has a lot of weaknesses. Even though the report acknowledges that investment management is an agency activity and not a principal activity, and that there is not leverage at the investment advisor level, much like a bank, they go on to paint everybody the same, and come up with ideas that don't really implement the acknowledgment of the agency aspect of this business. And this will tend to send them in the wrong direction, which is where I think they want to go anyway.

Interestingly enough, as you mentioned systemic risk, I am attracted by Professor Hanson's definition. He is one of the three Nobel laureates, and he is quoted as having said that there is no academic basis to systemic risk, and no definition, and therefore it is a quote, grab bag, for the regulators to go where the want to go. So I think we need more definition on what is a systemic risk. And I think when you look at the report, what they are talking about in there are possibilities of things happening. And then therefore, oh my gosh, we have to do something. And so they are taking the possibility, not looking at the likelihood, and then they make the perfect become the thorough enemy of the good. And this is a dangerous way to try and jump into the capital markets.

But most importantly, I think that some of the ideas that they have got in there will negatively impact investors. And this is why it is so important to us that the jurisdiction be claimed by the SEC, because their practice, their mandate and their experience is the protection of investors. We can quibble about the process and how they have gone on here, but we will have commented by the time November 1 rolls around, because we don't really think that firms like Federated and others meet some non-definition of systemic risk, and we are very, very concerned about what it will do to investors.

Okay, helpful. A question on the long term business, flow trends there and outflows, I guess, have somewhat persisted. I am just curious, when you take a step back, is it -- maybe it looks like strategic values under-performing a little bit. And is there -- is it performance, product, or what do you think it is going to take to really get the flow trends in a -- on a -- is it distribution? What is it going to take to get the long-term flow business on a more steady, reliable trajectory?

Just as a footnote, I can't accept a performance hit on a strategic value. We went through that a few minutes ago. They are doing exactly what they said they were going to do, exactly for the clients. So the flows continue to be good there.

And if you look at September, they were positive equity flows for us. October, as I mentioned in the call, are positive for us. And we have those two big hits over the summer. That is why I went and spent so much time on the 12 mandates that are top quartile for 3 years, and the 12 that have positive flows. That is what it is about. Basic blocking and tackling.

So it is a combination of those. We are seeing some good numbers here. They obviously weren't enough to offset the lumpy ones, but that is what you have got to do, is continue to pump out the performance. And I think the 200 person, 210 plus distribution is working well. That is why I highlighted the up performance in the broker-dealer, where we just expanded that sales force. And it is the forces of redemptions that are tough to overcome, but I think we are well on our way to doing that. And we are looking for good growth in all of those equity areas.

And Marc, the other thing I would add is on the institutional side, where we have about $0.5 billion to fund, which is a big number. A big number in particular for us. And with the performance that Chris mentioned, we are seeing a lot of interest. We continue to see on strategic value dividend. We have seen a lot on Clover, a lot for our international product. We mentioned, on the last call, interest on the NDT side. So there are a number of bright spots there that we have that we fully expect to blossom into higher flows, both for our mutual funds and for separate accounts.

Okay, great.

Cynthia Mayer, Bank of America.

A couple questions. One is on the two big equity outflows over the summer. Were those removals from platform, so that might be some follow through in terms of slower sales? Or were those just one-off?

There will not be follow ups on that. They were one-offs, if you want to call them one offs. They were pretty big one offs.

Were those removals from platforms where, had they stayed, some sales might have continued?

Yes.

Okay. And then just a narrow modeling question on expenses. Appreciate the comments on comp. But beyond comp, the professional fees advertising have been a little bit elevated recently. And I assume that is a function of the all the regulatory work you guys have been doing. But as that continues, should those remain elevated? Or is the bulk of that done for you guys, so that it would tail off in 4Q and next year?

Yes, Cynthia, we talked to the -- actually started our budget process, and started talking to the people spending that, and they said well, it could either be similar to last year, or lower. So we will have to see where things go, where the SEC comes out, and we will see where it comes out. I guess when we go to do our budget, we probably will have it decrease, but that doesn't mean that is what will be the answer.

Right. You'll budget for less, but then play it as it happens. Okay.

There are no further questions at this time. I would now like to turn the floor back over to Management for closing comments.

Thank you very much. That concludes our call, and we appreciate your joining us today.

Thank you. You may now disconnect your lines at this time. Thank you for your participation.