Northern Trust Corp (NTRSO) 2009 Q1 法說會逐字稿

Good day, everyone, and welcome to the Northern Trust Corporation first quarter earnings conference call. Today's call is being recorded.

At this time I would like to turn the call over to the Director of Investor Relations, Bev Fleming for opening remarks and introductions.

Thank you. Welcome to Northern Trust Corporation's first quarter 2009 earnings conference call. Joining me on our call this morning are Steve Fradkin, Northern Trust Chief Financial Officers; Eileen Blake, Controller; and Preeti Sullivan from our Investor Relations team.

For those of you who did not receive our first quarter earnings press release or financial trends report via e-mail this morning, they're both available on our website at NorthernTrust.com. In addition this April 21, call is being webcast live auto NorthernTrust.com. The only authorized rebroadcast is a replay available through April 28. Northern Trust disclaims any continuing accuracy of the information provided in this call after today. Now for our Safe Harbor statement.

What we say during today's conference call may include forward-looking statements which are Northern Trust's current estimates or expectations of future events or future results. Actual results of course could differ materially from those indicated by these statements because the realization of those results is subject to many risks and uncertainties. I urge you to read our 2008 annual report and our periodic report to the Securities and Exchange Commission for detailed information about factors that could affect actual results.

Before I hand the call over to Steve, let me remind you that our results in last year's first quarter included a pre-tax nonoperating benefit of $244 million or $0.68 per share realized in connection with Visa's March 2008 initial public offering. Our first quarter 2009 results do not include any items associated with Visa. In our press release issued today, we have provided operating earnings for the first quarter of 2008 which are exclusive of the Visa related item. We believe operating earnings provide a clear indication of the results and trends in our core businesses. Therefore when referencing a comparison with results achieved last year, we will fobbing us on the operating results achieved in the first quarter of 2008 which exclude Visa related items. Thank you again for your time today. Let me turn the call over to Steve Fradkin.

Good morning, everyone. Let me join Bev in welcoming all of you to Northern Trust's first quarter 2009 earnings conference call. Earlier this morning Northern Trust reported first quarter 2009 net income of $162 million. Net income after preferred dividends equaled $139 million equal to $0.61 per common share. This compares with operating net income which again excludes Visa related items of $232 million earned in last year's first quarter equal to $1.03 per share.

Dramatically lower equity markets and difficult fixed income market conditions adversely impacted our results in the first quarter. These environmental headwinds were offset in part by our continued success in attracting new clients, both personal and institutional while expanding and retaining relationships with our existing clients. Notwithstanding the environmental tumult and the impact it had on our current quarter results, we're very pleased with our overall competitive standing. Whether viewed from the perspective of financial strength and stability, product leadership and expertise, service, or other dimension, our competitive position across many fronts is better than we can recall in some time.

To assist you in understanding our performance this quarter, we've organized today's remarks into the following section. First, I will review with you certain first quarter market conditions that impacted our performance. Second, I will review our financial performance focusing on those items that most impacted our results. Third, I will offer a few perspectives on the strong strategic and financial positioning of Northern Trust against the backdrop of a very difficult economic environment. Finally, Bev and I will be pleased to answer your questions.

Let me begin by providing you with a brief overview of the equity market conditions that weighed significantly on our results in the first quarter. As the audience on this call knows all too well the equity market environment was yet again weak in the first quarter. The S&P 500, Dow Jones industrial average, EAFE index and many other indexes around the world declined for the sixth consecutive quarter. The S&O 500 fell 39.7% compared with one year ago and declined by 11.7% in the first quarter.

Equity market performance calculated on a one quarter lag basis which is the methodology used for calculating some of our C&IS institutional and PFS wealth management fees was also week as the S&P 500 declined by 38.5% year-over-year and 22.5% sequentially on a one quarter lag basis. Similarly, using the month lag methodology that applies to PFS fees excluding wealth management the S&P 500 was down 41% versus the prior year and 19% versus the fourth quarter. All told, the equity market environment continued to exert very significant headwinds across both PFS and C&IS trust fees. These equity market factors impact the value of client assets that we report both in assets under management and assets under custody. They also impact the fees that we earn for services provided to clients. However, as I said earlier, we continue to have excellent momentum in adding new clients and doing more for existing clients which serves as a partial offset to market related headwinds.

With that environmental perspective, let me review our first quarter results beginning with revenue. Revenues in the first quarter equaled $904 million, down 8% or $74 million compared to last year. Revenues decreased 21% or $246 million on a sequential quarter basis. Trust investment and other servicing fees of $411 million decreased 22% year-over-year or a decline of [$116] million. On a sequential quarter basis trust investment in other servicing fees declined 16% or $77 million. In our institutional business C&IS trust investment and other servicing fees equaled $207 million in the first quarter, a decrease of 31% or $91 million year-over-year and a decrease of 24% or $67 million on a sequential quarter basis. C&IS fees include three primary revenue areas. Custody and fund administration, institutional asset management, and securities lending. Let me discuss the performance of each in the first quarter.

C&IS custody and fund administration fees equaled $136 million in the first quarter down 22% or $38 million year-over-year. On a sequential quarter basis C&IS custody and fund administration fees decreased 9% or $14 million. We were able to partially offset the negative impact of market value decline with new business successes in both global and domestic custody and in fund administration.

As I mentioned earlier, we feel very good about the competitive positioning of our C&IS business both in the United States and around the world. Investment management fees in C&IS equaled $60 million in the first quarter, a decrease of 19% or $14 million year-over-year. On a sequential quarter basis investment management fees declined 3% or $2 million. In both the year-over-year and sequential quarter comparisons, the weak environment again served as a considerable headwind for our institutional investment management fee. New business, however, again helped to offset those headwinds, particularly in our institutional mutual funds, quantitative management, and cash businesses.

C&IS securities lending fees equaled a negative $8 million in the first quarter as compared with a positive $32 million in last year's first quarter and a positive $44 million in the fourth quarter. Once again, and similar to the results we reported to you in six of the last seven quarters, our securities lending fees reflect the ongoing dislocation in the fixed income market. For us this again took the form of negative pricing marks in one mark-to-market securities lending collateral fund. The impact of the negative marks on our first quarter securities lending fees equaled $52 million which compares with the negative impact from these marks of $98 million one year ago and a negative mark of $44 million in the fourth quarter.

Let me offer a few reminders on the mark-to-market fund to assist you in your evaluation of our results. First, this mark-to-market fund has followed its investment guidelines consistently and appropriately. No atypical portfolio management decisions have been made in the fund. Second, the fund does not use leverage. Third, the fund is managed with a conservative interest rate sensitivity of 42 days and a credit based weighted average security of 1.66 years as of quarter end. 48% of the securities held in the fund are rated either AAA or AA. Approximately 78% of the funds' portfolio is invested in corporate notes with the remainder invested in asset-backed securities and cash. By sector the corporate notes are invested 40% in banks, 27% in finance and insurance, and 11% in commercial and industrial.

Let me pause here and add two other bits of perspective on the negative marks that we have incurred in this one mark-to-market collateral reinvestment fund. First, I would remind you that this phenomenon coincides with some of the most difficult fixed income market conditions in recent memory if ever. Second, the performance of this mark-to-market fund has corresponded reasonably well but not perfectly with the Merrill Lynch U.S. corporate master index, a U.S. dollar investment rate corporate bond index. While the index is not a match for the fund, its monthly returns over the last few years relate reasonably well to the monthly returns of the mark-to-market fund. That said, I cannot make the statement that this relationship will continue in the future, only that it has corresponded reasonably well in the past.

In addition, it is noteworthy as I mentioned earlier that two-thirds of our funds holdings are invested in notes issued by financial services firms such as banks, finance and insurance companies. The financial sector of the fixed income market remained under significant pressure in the first quarter of 2009. Excluding the impact of the market to market fund in all periods, our securities lending fees would have equaled $44 million in the first quarter which would have equated to a decrease of 66% year-over-year and a decrease of 50% compared with the fourth quarter.

The year-over-year decline was primarily attributable to lower volume as market depreciation contracted the value of securities on loan and borrower demand was down significantly compared with a year ago. The sequential quarter decline was attributable to both lower spread and lower volume. The three components of our institutional fees that I just discussed are all impacted by the value of assets that we custody, administer and manage for our clients. Let me take a few minutes to review our various client asset levels with you.

Institutional assets under custody equaled $2.6 trillion at quarter end, down 30% from a year ago and down 6% versus last quarter. Global custody assets which are a component of total C&IS assets under custody equaled $1.4 trillion at quarter end, down 33% year-over-year and 5% on a sequential quarter basis. The year-over-year and sequential quarter declines reflect the quarter's lower market values as the S&P 500 fell 39.7% year-over-year and 11.7% in the first quarter and the EAFE Index declined 38.8% year-over-year and 10.8% in the first quarter. In addition, the lower level of institutional assets under custody was also negatively impacted by the stronger U.S. dollar. As an example, on a year-over-year and sequential quarter basis, the British pound sterling depreciated by approximately 29% and 2% respectively versus the U.S. dollar. The strengthening of the U.S. dollar had a downward impact on the U.S. dollar equivalent market value of assets that we custody for clients, particularly in the year-over-year comparison. Recall that global custody assets have traditionally represented approximately 50% of our total C&IS assets under custody.

Managed assets for institutional clients equaled $392 billion at quarter end, down 38% or $241 billion compared with one year ago and down 8% or $34 billion sequentially. Excluding securities lending collateral, which I will discuss in a moment from C&IS assets under management, managed assets for institutional clients were down 19% year-over-year and 6% sequentially. Notably better than the downdraft in the market. Securities lending collateral equaled $95 billion at quarter end, down 64% versus one year ago and down 14% compared with December 31. The lower level of securities lending collateral included in our institutional assets under management reflect three factors. First, lower market values due to weak equity and fixed income markets drove about 60% of the year-over-year decrease and about half of the sequential quarter decrease. Second, a reduction in borrower demand drove approximately one-fourth of the year-over-year decrease and about 40% of the sequential quarter decrease. The remainder was explained by client decisions to reduce or suspend their securities lending during this turbulent market environment.

Let me now switch to our personal business which we refer to as personal financial service or PFS. Trust investment and other servicing fees in PFS equaled $204 million in the first quarter, representing a decrease of 11% or $25 million year-over-year. On a sequential quarter basis PFS fees decreased 5% or $11 million. Our PFS net new business results were again solid in the first quarter, although softer than the very strong levels experienced in the third and fourth quarters of 2008 when significant industry turmoil fueled a flight to quality and safety that benefited our personal business. New business success was particularly strong in our wealth management group which serves clients with $200 million or more in investable assets. Fees in PFS are derived from the assets that we manage in custody for personal clients. PFS assets under management equaled $130 billion at quarter end, down 11% from a year ago, and down 2% from last quarter. Assets under custody in PFS equaled $282 billion on March 31, down 13% year-over-year and down 2% from year end.

This performance compares once again with the backdrop of a very difficult market environment which saw 39.7% decline in the S&P 500 year-over-year and an 11.7% decline in the first quarter. Net interest income equaled $288 million in the first quarter, up 8% or $22 million when compared with the first quarter of 2008. On a sequential quarter basis net interest income decreased 7% or $61 million off an elevated level experienced in the fourth quarter. The year-over-year increase reflects wider spreads between earning assets and funding liabilities as well as 16% year-over-year growth in average earning assets. Offsetting those two factors was a lower net interest margin. Our net interest margin equaled 1.68% in the first quarter down 11 basis points year-over-year. This decline in the net interest margin was due to dramatically lower year-over-year interest rates which reduced the value of noninterest related funds.

The sequential quarter decline in net interest income reflects both lower spreads when compared with the exceptionally wide spread experienced in the fourth quarter as well as the impact of lower interest rates on the value of prefund. As a result, the net interest margin declined by 32 basis points from the elevated level seen in the fourth quarter returning, if you will, to a level more in line with that experienced across the first three quarters of 2008.

Foreign exchange trading income equaled a strong $131 million, up 16% or $18 million compared with the first quarter of 2008. This represents our third best quarter ever in foreign exchange trading income. On a sequential quarter basis foreign exchange trading income decreased 44% or $104 million off the extraordinarily strong performance last quarter. The key driver of our quarterly result in foreign exchange was volatility which was higher when compared with the year earlier period but fell from the exceptionally high level seen in the tumultuous fourth quarter of 2008. Other operating income equaled $37 million in the first quarter, up 17% or $5 million year-over-year. On a sequential quarter basis other operating income was down 56% or $47 million. The year-over-year increase primarily reflects the impact of $8 million in gains related to the sale of certain leased equipment. Also recall that the first quarter of 2008 had a gain of approximately $5 million related to our sale of CME group stock. The sequential quarter decline primarily reflects two unusual items recorded in the fourth quarter, an elevated level of non-trading foreign exchange gain and a gain on certain credit default swap contracts.

During the first quarter we recorded a loan loss provision of $55 million compared with a $20 million provision last year and a $60 million provision in the fourth quarter. The loan loss provision in the first quarter primarily reflects continued weakness in the overall economy. Nonperforming assets equaled $172 million at quarter end representing 57 basis points of total loan. Nonperforming assets increased $72 million in the quarter reflecting the addition of ten loans to nonperforming status. Very importantly, credit quality within our balance sheet investment portfolio also continues to profile very well when compared with the banking industry peers. Our gross unrealized losses on available for sale securities equaled approximately $324 million pre-tax on March 31, down 10% from $360 million at year end.

Now, let me shift my comments to a review of key expense categories that impacted our first quarter performance. Expenses equaled $594 million in the first quarter representing a decrease of 3% or $18 million year-over-year. Compensation expense equaled $258 million and decreased 10% or $28 million from the year ago period. The year-over-year decrease in compensation reflects lower incentive compensation partially offset by higher year-over-year staffing levels and annual merit salary increases. Staffing levels equaled approximately 12,200 full time equivalent positions at quarter end, an increase of 8% year-over-year and essentially flat sequentially. On a sequential quarter basis compensation expense decreased 17% or $52 million primarily reflecting lower incentive compensation accruals and the impact of a fourth quarter 2008 severance accrual.

Employee benefit expenses equaled $66 million in the first quarter, an increase of 15% or $8.5 million versus last year and 29% or $15 million sequentially. The year-over-year and sequential quarter increases primarily reflect higher defined contribution plan expense and higher FICA insurance expense. Outside services expense equaled $96 million, an increase of 2% or $2 million compared with last year. The year-over-year increase resulted from higher technical services offset by lower subcustodian and investment management subadvisory expenses. Outside services expense was down 11% or $11.5 million sequentially resulting primarily from lower expenses related to subcustody, legal, and technical services.

Equipment and software expense equaled $62 million, up 14% or $7.5 million year-over-year yet was down 11% or $8 million sequentially. The year-over-year increase reflects higher levels of technology investment and related amortization expense. The sequential decline reflects fourth quarter 2008 software writedowns as well as the typical annual pattern where expense associated with depreciation and amortization of equipment and capitalized software is typically lower in the first half of the year. Other operating expense equaled $70 million in the first quarter down from $78 million one year ago yet up from $4 million in the fourth quarter.

Recall that our fourth quarter 2008 other operating expenses included three items that benefited expenses by $55 million, including a $9.7 million decrease in the expense accrual associated with the fair value of our liability related to the capital support agreement that we entered into in early 2008. The first quarter 2009 included $8.3 million of increased expense associated with the capital support agreement bringing the total noncash expense accrual associated with the capital support agreement to $322 million. Excluding those items other operating expense would have equaled $62 million in the first quarter representing a decrease of 11% year-over-year and an increase of 4% sequentially. The year-over-year decrease was broad based across a number of expense categories reflective of various expense management initiatives. The sequential quarter increase of $3 million reflects seasonal expenses related to marketing and higher FDIC insurance offset by lower charges associated with securities processing activities. Income tax expense in the first quarter equaled $83 million and the effective tax rate equaled 34%.

Let me close by offering a few thoughts on our strong strategic and financial position. From a strategic perspective, Northern Trust continues to be very well-positioned. We serve clients in attractive businesses that have real needs. Our business model is differentiated from a revenue and earnings profile based upon financial activities and ever-shifting opportunities, separate and distinct from ongoing client needs. We have successfully practiced highly disciplined and consistent business allocation decisions over the years focusing on those sectors where we have outstanding competitive positioning and avoiding certain businesses that do not fit our client centric, highly focused strategy. As we have managed those businesses over the years, we have done so conservatively but with consistently high performance results. Though we are not immune to financial markets and economic conditions, our longstanding strategies position us as a safe haven in these trying times. This approach has led to strong new business results, particularly in our private client business.

From a financial perspective we have long believed in the maintenance of very strong capital levels, both in absolute terms and relative to our own risk profile. No matter what capital ratio one chooses to evaluate, we compare very favorably within the banking industry as having attained and maintained robust capital strength across cycles. Our tangible common equity ratio, for example, equaled 5.9% at the end of the first quarter. While credit quality is soft by historic standards given the economic environment, it remains manageable and well ahead of levels seen across our bank peers. Likewise we have minimal unrealized losses in our balance sheet securities portfolio and no off balance sheet conduit.

As we move through 2009, we will continue to focus on balancing environmental considerations with prudently managing our personal and institutional client businesses. We will continue to be vigilant in risk management across our loan and securities portfolios as well as in other matters. We will continue to prudentially manage our expenses in this difficult revenue environment, an action that was well in evidence as seen in the significant deceleration of the growth of our expense base in the first quarter. We will continue to work with our regulators as we progress toward our objective of redeeming the U.S. Treasury preferred stock investment as quickly as prudently possible. Most importantly, we will continue to focus on the needs of our client which is of the utmost importance in these tumultuous times.

Before I conclude I want to point out that our annual shareholders meeting begins at 10:30 Central time this morning. As is customary for our first quarter calls, I will need to end today's call allowing sufficient time for all of us to get to the annual meeting. Accordingly, please accept my apologies in advance in the event that we have to close off the question and answer period earlier than we would otherwise normally do. Now Bev and I would be happy to answer your questions. Please open the call for questions.

(Operator Instructions) We'll take our first question from Brian Foran with Goldman Sachs.

Good morning, guys, how are you.

Good morning.

I guess first on TARP potential repayment, do you expect or have you been given any guidance to return the funds without replacement or do you think that you may need to partly replace TARP with new equity or capital more broadly?

Well, I think -- recognizing that this was not meant to be a source of permanent capital, Northern Trust, we have engaged with our regulators with the goal of repaying the TTTP fund as soon as we prudently can, and to that end we're continuing within an iterative dialogue with the Fed as part of their process, so I really can't comment beyond that. We go through their process, and we'll see how that process moves forward.

Then on the mark-to-market SEC lending fund, I am looking at the indices you referred to, I wasn't sure if you were referring to the investment grade or high grade version of this Merrill index, but it looks like it's flat to up a little bit in the second quarter. So I realize a lot can happen between now and June 30, but is the message from your prepared remarks that eventually this stuff will settle out and if the quarter ended today, the mark-to-market SEC lending fund would not be an issue for the second quarter and might actually be a slight positive?

Brian, just to clarify, it is the investment grade index that we referred to here.

Okay.

Just so you know that.

And I think as we said, Brian, and I want to be very clear about this, it is not a perfect match, so it is not the benchmark index, but it is directionally consistent based on what we have seen. I think some of the differences to keep in mind as you use that as a thought is that the index has all securities maturing one year or longer, in our fund we have many maturities that are shorter. All the securities are investment grade, and in our fund some have dropped below investment grade. The index has all fixed funds, and we have almost all floating bonds, and we're less diversified than the index, but directionally I would say, yes, based on what we have seen, using that as a proxy at this point in time, you probably have a different outcome.

And, Brian, you are correct if you do take a look at that index and how it has performed month to date in April, it has performed better than it did in some of the prior months. They were not far along in the quarter, but using that index as a proxy, you can see that from the data from the index.

Lastly, if I could, if deposits continue to kind of normalize, your agency NBS portfolio is fairly sizable, and I would imagine is in a fairly decent unrealized gain position. Is that a source of -- would you expect to sell some of that agency NBS as we move through the year to delever the assets out of the balance sheet or is the deposit shrinkage just matching the normal assets maturities you would have anyway?

I don't think we have any material change contemplated for our portfolio, so, no, there is nothing that I could point to that would -- that I could give you guidance on a definitive shift.

Okay. Thank you.

You're welcome.

Our next question comes from Mike Mayo with CLSA.

Good morning.

Hi, Mike.

I know you don't try to have operating leverage, positive operating leverage on a quarter to quarter basis, and I know linked quarter comparisons have problems, but when you look from the fourth to the first quarter, it looks like revenues were down more than expenses, so I guess my question is what additional expense levers do you have? How much in fixed costs do you have relative to variable costs? Just how you feel about generating positive operating leverage at a time when I guess securities lending and spread revenues are going lower?

Well, one, remember that the fourth quarter was a very, very strong quarter, particularly on the FX side, and remember that our first quarter we're struggling with the mark on the mark-to-market fund. Net interest income was also extremely strong in the fourth quarter, so your starting point, at least in our view has to be that the comparison point is not a very normalized one. I think, Mike, from our vantage point we would argue that our expense management, our expenses have been very well managed in the quarter, compensation, business promotion, et cetera. We handled very, very well. Recall that we had announced some actions in the fourth quarter of 2008. We took a $19 million charge at that time to account for the reduction in force of about 450 people, and we have been progressing on those series of actions. We're not done, but we have moved along very well, so I think what we try and focus on is how is the core of the franchise, and one of the things that was really -- we were very pleased with, is if you look at those core PFS and C&IS trust fees and you adjust for the markets, in our view you will see a very solid, very solid performance.

The noise around that of Fed rate cuts and volatility in FX and step marks and securities lending fund mark-to-market, you're going to get some gyrations there, so we don't really try to manage operating leverage quarter to quarter, so we feel good about where we are but obviously if the revenue environment is going to be persistently difficult, we will continue to be aggressive in managing expenses as much as we can. I guess the last thought I have on that is, remember, we're in the enviable position of a growing franchise. We have more clients today than we had a quarter ago, and we had more clients today than we had a year ago. What we have to wrestle with is the way in which we get paid for the services that we provide to those clients is declining as market values come down, but that we believe is a temporary thing, so we want to be judicious about how we manage expenses in that environment. So bottom line we think we have done well, but we'll continue to focus on it going forward.

Just a quick follow-up, it sounds like you're controlling what you can control, but are the margins higher in FX and NAII and securities lending than the other areas or is it similar?

Well, sure. With using foreign exchange as an example, we don't have to add traders to our trading desk as foreign exchange trading profits go up. There is incentive expense that obviously goes up, but no, clearly those are high margin products. Again, they will move around quite a bit. We've had that in the past, and I am sure we will continue to have that in the future. What we're trying to make sure we do is continue to grow that core franchise, and sometimes we'll have a little bit of positive noise around that with these variable streams and sometimes negative, but we want to keep our eye focused on the horizon and again each quarter matters, but I think we have done well to continue to build that franchise and manage our expenses within context around that.

Thank you.

You're welcome.

We'll take our next question from Howard Chin with Credit Suisse.

Good morning, Steve and Bev.

Hi, Howard.

Thanks for taking my questions. Steve, on the corporate initial services business management has always been consistent that being bigger is not necessarily better. Given the disruption in the overall operating environment, questions about capital adequacy weighing on competitors, how aggressive are you being with winning new business there and are you pleased with the pace of the market share gains so far on the C&IS side of the business?

Well, the first quarter new business was very good. It was the fourth best quarter for new business out of the last 13 quarters, last three years or so. I think we feel very, very good about our positioning. We're competing effectively globally. Clearly, and I think you've heard this from others, the capital strength dimension, for many years it has always been about capability and price and service and reputation, and it still is, but clearly capital strength, solidity and so forth have become bigger issues in the industry, but, look, we have got some terrific competitors there, and we have got a terrific set of capabilities, and we're continuing to fire on all cylinders, and compete effectively. So from our vantage point there is not a huge change in the story other than at least our perception would be that clients and prospects are more focused on capital strength and so forth than they had been prior to this crisis.

Okay. Thanks. And then my follow-up on credit quality for a minute, your charge-offs this quarter were really modest but can you give some color on the meaningful uptick and the nonperforming loans this quarter and your outlook for credit quality and provisioning as we pace through '09 and the credit cycle?

Well, again, let me remind you, we have a $30 billion loan portfolio. That portfolio is up 14% year-over-year, so we have been growing right through this environment. We do continue to set aside more reserves which just reflect the impact of the weak economic environment, and I think you can anchor to any metric you want. It is clearly tougher out there. From our vantage point our credit quality remains very, very strong. Nonperforming loans did increase to $168 million, but they represent 55 basis points of total loan, and that's about the industry average at the end of December, and it's gotten worse since then was about 4 times worse than that. So obviously we are not immune to the environment, but I think we feel still very solid about our portfolio, and if we think about our nonperformers, that was really driven by about 10 loans, so and again, I don't want to imply that there isn't stress across the whole system, but the challenge that we always have is that our portfolio historically has been so pristine that when you start comparing it, when you start seeing moves that they really show up in a big way.

One other data point that might be interesting for you, our 7 and 8 rated loans which are the lowest rated loans in our system, equaled about $538 million at quarter end, and our previous peak of 7 and 8 which was September 30, 2002, equaled about $319 million. In both instances those were about -- in the current quarter it is 1.77% of total loans and leases which coincidentally is almost the exact same level, 1.78% from that peak in 2002.

Thanks for that color, Steve, and maybe just to follow-up on that and realizing it is a more modest risk for you versus traditional banks and peers, but with respect to those 10 loans, is there any anything common with respect to size or geographies amongst kind of the more troubled loans this quarter?

I think order of magnitude about 70% of that relates to commercial and residential real estate, and the remainder is really C&I type loans, but there is nothing -- there is a real estate dimension to it, but nothing beyond that.

Okay. Thanks so much for taking the questions.

You're welcome.

Our next question comes from Tom McCrohan with Janney.

Good morning. Steve, were there any specific institutional deals won during the quarter on the basis solely of capital levels?

No. There never would be. That's a -- these are big sophisticated investors that are looking at lots of dimensions, and a typical RFP in that business is hundreds of pages of responses to various questions. So I would not want to anchor only to that, but clearly that's a factor that is decisively more prominent than it has ever been.

And when you talk about feeling really good about the competitive position, is it more weighted towards the high net worth side or the institutional side?

I think from our vantage point, Tom, it is really both sides. We continue to sit in a very good spot. With the core business is growing well. We have been very focused. Whether you look at us from a capability perspective, a brand perspective, the new business momentum, the capital strength, we think we're in a good spot, and if you look at the competitive landscape, and I am talking about both CFS and C&IS today versus 18 months ago, and you think about where it is going to be tomorrow, there are a bunch of firms particularly in the personal business that are gone, and there are a bunch of firms that are, I guess I would say going to be on a very different competitive footing over the long-term based on some of the challenges that they have had, so we think that our performance and strength has been very good. We think the competitive environment is not only different today but likely will be different particularly on the personal side going forward, and across a variety of fronts we think that works to our advantage.

That makes sense. Just had a question regarding repaying TARP money and how it plays into the dividend. You have strong capital levels and no need to cut the dividend but as you know some of your peers have reduced their dividend somewhat due to their desire to repay back TARP money. So are you considering any changes to your dividend policy and what circumstances would you consider kind of reducing the dividend going forward?

Well, we have not cut our dividend, and I have nothing to announce that would be a decision of our Board of Directors, but we have not done anything, and I have no change that I can comment on.

Okay. One last question, credit quality, big portion of your loan portfolio is the residential mortgages. Can you talk a little bit about and give some granularity and color on the Florida real estate related loans, you have some clients I am sure that have vacation homes and that market has been under a lot of stress, so is there anything you can provide like loan to value and any type of expectations of how these residential loans in Florida might migrate going forward into other risk categories would be really helpful.

Sure. Our residential real estate portfolio at March 31, was about $10.6 billion, Tom. That represented approximately 35% of our total $30 billion loan and lease portfolio. Now, remember as you think about that portfolio, our approach is this is residential lending to our high net worth clients, and it is concentrated in the geographic markets where we have offices, so the Midwest, Chicago area, Florida, Arizona, California, Texas, and so forth. We're primarily a jumbo mortgage lender, and we retain those loans on our balance sheet.

I guess the other thought we have is we maintain very conservative policies on loan to value, typically 70% on a first mortgage and 80% on equity credit lines, and we're not underwriting any subprime loans. So our portfolio continues to hold up well. Again, we can't be immune, and if there is a challenge in the broader system, we'll certainly feel some of it, but I would say we are very, very differentiated from the typical bank on this front, Tom.

Tom, if you want to take a look, if you want to dig deeper into the performance, particularly our Florida franchise which you mentioned.

Yes.

Keep in mind that we do file Call reports for each of our legal entity banks, and Northern Trust NA would be the legal entity bank that would file a Call report that would encompass the Florida franchise. There is other states in there as well including Arizona, so if you wanted to do a comparison by geography, I would recommend that maybe you take a look at the Call report. Of course the first quarter Call report hasn't been filed yet but you certainly can look at the fourth quarter.

Would that have loan to value information in it?

I don't think you would be able to fine other loan to values anywhere.

Thanks.

You could get NTAs to loans and charge-offs, and again in Florida we would still look very very good relative to any industry metrics that you would find.

Great. Thanks very much.

You're welcome.

Our next question comes from Ken Usdin with Banc of America Securities.

Hi, Steve and Bev. A question about the SEC lending business and just two quick things on it. First of all, the cumulative losses, the mark-to-market, I should say, the liquidity marks are now about $350 million. Has anything changed with regard to the potential recovery of all of that? Meaning, I know it is a time issue and a market-based directional issue, but is there anything changed as far as those being liquidity marks as opposed to anything credit related?

No, there's no change.

Okay. So over time if things improve that's still fully recoverable as markets improve?

Yes. That is correct.

And then secondly on the securities lending business, obviously your collateral balances have continued to decline as you indicated and as shown in the trends package, but can you give a little discussion as far as your view on, we talked about how that business is going through secular change -- have you seen any semblances of people stopping -- kind of the starting to come back into the programs as far as your clients are concerned and have you -- and in accordance with also adding new business on the C&I side-- C&S side, is that also coming with it, SEC lending mandates are coming with new custody mandates as they used to?

Sure. Well, as we've talked about, I think -- remember the big drop here has been driven by market value decline and to some extent by borrower demand. It has not been driven heavily by client exit, although there certainly has been some or client pause. I think, Ken, what we're seeing is there was certainly a sense, and I am giving you anecdotal. I am cautious about leaping from the anecdotal to the definitive trend, but we absolutely saw some clients going back in, and as we had talked about in prior quarters, we thought this might be a pendulum effect where with the disruption everyone starts focusing on it and pausing and also you have leverage coming out of the system and the demand is less. There was anecdotal evidence that we may be seeing a shift as I say. Whatever, a quarter ago we weren't seeing clients come in, this quarter we did see clients come in, and certainly it is a part of new business wins as well. So when I refer to the clients coming in, these were existing clients who had paused but decided to step back in in addition to new business wins with securities lending. So very difficult to call the bottom, and I certainly don't want to do that, but anecdotally it is feeling better.

Okay. My second question just relates to balance sheet mix on the liability side, and you had spoken to the kind of normalization, and we have seen it in some of those non-U.S. time deposits. There were, even into this quarter huge growth that you had in both the demand and noninterest-bearing funds, and I was just wondering if you could give some color on whether that's just a natural mix shift or is that a purposeful reshifting that you have made from an asset liability management perspective and what implications has that had for margin?

I think we've always had -- remember, our balance sheet is client driven, and we have a lot of slow, particularly on the institutional side that can move around on us as large sovereign wealth funds and other clients are redeploying or sitting on the side lines. So I don't think there has been any strategic shift on our part. I would say we are more managing as we go. We have been a, generally speaking a recipient of flight to quality on the personal side as deposits have moved up and on the institutional side on average over time that's moved up a lot, but it can gyrate quarter to quarter based on client decisions. I don't think there is anything more to it than that.

Okay. So the shift from the non-U.S. into some of these other categories, does that have either a permanent or a cyclical effect on the margin at all?

Generally not. I would say the margins overall are consistent from category to category. So again we try to stay very short and very well matched in each currency, so I don't think there is a material effect there.

Okay. Great. Thanks a lot, Steve.

You're welcome.

Our next question comes from [Phil Keaton] with Galyon.

Thanks. Could you give us any color on the type and size of loans that have driven the 14% year-over-year growth and given the economy and class 7, 8 migration, will you look to build the reserve to nonrecoverable accrual coverage back above 2? Thanks.

I would say the growth in the loan portfolio year-over-year has been pretty much across the board, commercial, residential, personal, so I would say on that front it has been pretty consistent on cross the board. In terms of the reserve build we continue to assess both on a loan by loan and a environmental perspective, and we don't have a target per se. We're just continuing to make our assessment of the environment. I think clearly in the first quarter we felt that the environment was more difficult, and we reacted accordingly. But no, we don't have a target per se to get to.

Thank you.

You're welcome.

Our next question comes from James Mitchell with Buckingham Research Group.

Good morning.

Hi, Jim.

Most of my questions were asked and answered, but I just want to maybe have a follow-up question on the margin. What's your sense, do you feel like most of the narrowing of short-term interest rates, the spreads and the narrowing of that has kind of washed through the system and you're kind of bouncing along here at the bottom or do you feel there is still some catch up as we go through the next couple of quarters from the lower rate environment? How should we think about the margin?

We typically say there is kind of a one month, when the Fed moves we typically will see a little bit of noise up or down on a one-month basis, so I think we're certainly closer to where we have normally been. Remember, net interest income in the fourth quarter you had rate cuts and you had a lot of balance movement, so I think this feels more normal to us.

Right. And maybe one last question on the foreign time deposits and maybe I just didn't hear it well enough. What has been driving the pretty steep decline there? Obviously it is customer driven, but is it just people -- customers taking on more risk after flight to safety or do you have a sense what's been driving the decline?

I think it is difficult to give you any real color. Again, just to put it in perspective, we're working with some of the largest institutional investors in the world, and there are times where they can just put $5 billion in or $5 billion out which is impactful to us as they redeploy, as they hire managers, as they fire managers, and I don't know if Bev has anything to add.

The only other thing I would add Jim, I think Ken got to this earlier is that with deposits rates being so low, and we do believe that some of our clients have chosen to hold their cash in demand deposits but now enjoy full insurance coverage. So I think there is a bit of a shift there from the interest bearing to the noninterest-bearing.

Which isn't so bad for you.

Right.

Okay.

Although value of those noninterest-bearing funds are obviously not what they were.

Right.

Affecting the margin as well.

Exactly. Okay. Thanks a lot.

You're welcome.

Our next question comes from Betsy Graseck with Morgan Stanley.

Thanks. Just a quick question on how you're thinking about the securities portfolio. I know it is fairly short duration and you've been very conservative in your investment strategy. Would you see anything in the market that would suggest that you might be a little bit more risk taking going forward or would you stick with the very conservative bias that you have in that portfolio? And then just a follow-up on how you're thinking about the gains that you might have in there and is there any interest that you might have in recognizing gains in your securities portfolios ahead of when they mature?

Well, I think Betsy, what I would say is we are rock solid consistent in the way we think about this. It is a little of the tail wagging the dog. We do not think about our securities portfolio in an adventuresome way at all, and never have and don't today, and I am not suggesting that you're asking if we would go over the edge here, but we really view that as a client driven portfolio based on the activities of our clients, so we want to keep it short, we want to keep it very high quality, that's not the core franchise of our business, the core franchise of our business is the personal and institutional clients that we serve, and so we're not entertaining a change there at all, and similarly I don't think we would do anything different with the gains either.

Separately on securities lending when we were in earlier last quarter I think you had, talking a little bit about opportunities to increase choice for the client, the securities lending client. How far along are you with that and is that at all driving the pipeline?

My sense, Betsy, would be it is less about choice and when I say choice I mean custom funds versus collateral reinvestment vehicles, and I think more about this phenomenon that you had a lot of clients that did very well in securities lending for a very long time and never saw any form of problem. When the market seized up and did some unprecedented things, there were hiccups and industry wide, not just specific to Northern Trust. Naturally when you have that you pause, you pull back, you question, you clarify, you try and reunderstand, and I think what we have seen, and again I don't know if we're at the bottom or not, but certainly the anecdotal evidence suggested that there were a number of clients who, having done that and reassessed it and understanding what the opportunities were and how to manage those risks decided to drop this. So I think it is less about the vehicles that we offered and more about the risk reward trade off in clients feeling that that was appropriate and they wanted to grab some of that.

Okay. Thank you.

You're welcome.

We will take our last question from Gerard Cassidy with RBC.

Hi, guys.

Hi, Gerard.

I jumped on and off the call, so I apologize if you have address this. But if General Motors and Chrysler do file bankruptcy, I know a lot of people expect that. Do you see that in talking to your loan guys on the front line that that could lead to greater credit deterioration of suppliers and that whole distribution chain that they have that would possibly affect your credit quality going forward?

I think General Motors and Chrysler are very large organizations, and the effect that -- their financial health would clearly have down stream effects to others, so it would be hard for me to conceive of a scenario where they go bankrupt and there is no ripple effect, but we continue to assess the environment including the automotive sector as we do our reserving, and I think we feel comfortable with where we are relative to that.

Thank you.

You're welcome. Well, I think -- any further questions, Ben?

No. We have no further questions at this time.

Let me again thank you for joining Northern Trust first quarter 2009 conference call, and we'll look forward to updating you on our second quarter financial results on July 22. Have a great day.

This does conclude today's conference. Thank you for joining us, and have a wonderful day.