Northern Trust Corp (NTRSO) 2015 Q3 法說會逐字稿

Ladies and gentlemen, welcome to the Northern Trust Corporation's third-quarter 2015 earnings conference call. As a reminder, today's call is being recorded. At this time I'd like to turn the call over to Director of Investor Relations, Bev Fleming for opening remarks and introductions. Please go ahead, Bev.

Thank you, Aaron. And good morning, everyone, and welcome to Northern Trust Corporation's third-quarter 2015 earnings conference call. Joining me on our call this morning are Biff Bowman, our Chief Financial Officer; Jane Karpinski, our Controller; and Allison Quaintance, from our Investor Relations team.

For those of you who did not receive our third-quarter earnings press release and financial trends report via e-mail this morning, they are both available on our website at Northerntrust.com. Also on our website you will find our quarterly earnings review presentation which we will use to guide today's conference call.

This October 21 call is being webcast live on northerntrust.com. The only authorized rebroadcast of this call is the replay that will be available on our website through November 19. 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 and expectations of future events or future results. Actual results, of course, could differ materially from those expressed or implied by these statements because the realization of those results is subject to many risks and uncertainties that are difficult to predict. I urge you to read our 2014 annual report on Form 10-K and other reports filed with the Securities and Exchange Commission for detailed information about factors that could affect actual results.

During today's question-and-answer session please limit your initial query to one question and one related follow-up. This will allow us to move through the queue and enable as many people as possible the opportunity to ask questions, as time permits. Thank you again for joining us today. Let me turn the call over to Biff Bowman.

Good morning, everyone. Let me join Bev in welcoming you to Northern Trust's third-quarter 2015 earnings conference call. Today I will review our results for the quarter, after which Bev and I would be happy to answer your questions.

Starting on page 2 of our quarterly earnings review presentation, this morning we reported third-quarter net income of $235 million. Earnings per share were $0.96 and return on common equity was 10.9%. Environmental factors which impact our businesses as well as our clients were mixed this quarter. Equity markets were lower both year over year and sequentially.

In US markets, the S&P 500 was down 2.6% year over year and down 6.9% sequentially. In international markets, the MSCI EAFE index was down about 11% in both comparisons, with the year-over-year decline in particular being driven by the impact of a stronger US dollar. In bond markets the Barclays US aggregate index was slightly lower year over year, but higher sequentially.

Currency volatility as measured by the G7 index was 60% higher than the third quarter of last year. In the sequential comparison, currency volatility was 1% lower. You'll recall that currency volatility influences our foreign exchange trading income, as does the level of client activity.

Currency rates influence the translation of non-US currencies to the US dollar and therefore impact client assets and certain revenues and expenses. The dollar was stronger year over year which tempered custody asset growth and related fee growth but benefited expense growth. Sequentially, the dollar was stronger against all major currencies except the euro and yen.

US short-term interest rates rose slightly yet remained at very low levels, continuing to pressure our net interest margin and resulting in fee waivers on our money market mutual funds. Three-month LIBOR and Fed funds effective rate averaged 31 and 14 basis points, respectively, both higher sequentially. The overnight repo rate was also higher, increasing 3 basis points to 21 basis points.

Let's move to page 3 and review the financial highlights of the third quarter. Year over year, revenue increased 7% with both non-interest income and net interest income up 7%. Expenses increased 5%. The provision for credit losses was a credit of $10 million in the quarter, primarily reflecting ongoing improvement in credit quality. Net income was 15% higher year over year.

In the sequential comparison, recall three items which were reported to you last quarter -- a pretax gain of $100 million on the sale of 1 million Class B Visa shares, a pretax charge of $46 million related to voluntary cash contributions to four constant dollar net asset value funds, and an $18 million impairment of the residual value of eight aircraft under leveraged lease agreements. On an adjusted basis, excluding these second-quarter items, revenue decreased 2% sequentially with non-interest income down 2% and net interest income essentially flat. Adjusted expenses were also flat. As a result, adjusted net income was 5% lower sequentially.

Client assets under custody of $6 trillion increased 1% year over year but declined 4% sequentially. In the year-over-year comparison, strong new business and higher bond markets were essentially offset by the currency impact of a strong dollar as well as lower global equity markets. In the sequential quarter comparison, the positive impact of new business was more than offset by sharply lower equity markets and the impact of a stronger dollar against most major currencies.

Assets under management were $887 billion, down 4% year over year and down 6% sequentially. In both comparisons, a decline in equity assets was the primary driver, driven by lower markets as well as outflows from certain sovereign wealth fund clients in light of economic conditions in their regions. In addition, fixed income assets were lower primarily due to the loss of one sizable passive mandate from a non-US institutional client.

Let's look at the results in greater detail starting with revenue on page 4. Third-quarter revenue on a fully taxable equivalent basis was approximately $1.2 billion, up 7% year over year. Adjusted for the second quarter items that I mentioned earlier, revenue was down 2% sequentially.

Trust investment and other servicing fees represent the largest component of our revenue and were $749 million in the third quarter, up 4% year over year and down 1% sequentially. New business and lower money market mutual fund fee waivers were the primary drivers of year-over-year growth, with currency translation, as I mentioned earlier, detracting from overall fee growth by about 2 percentage points. Fee waivers were approximately $28 million in the third quarter, down $6 million year over year.

The sequential quarter decline in trust and investment fees primarily reflects sharply lower third-quarter equity markets and the typical seasonal pattern in securities lending, both of which combine to more than offset new business. I'll go into further detail on trust and investment fees shortly.

Foreign exchange trading income was $63 million in the third quarter, up 36% year over year and 16% lower sequentially. Currency volatility was higher versus last year but muted versus last quarter. Other non-interest income was $75 million in the third quarter, up 15% from last year and up 1% sequentially when adjusted for the Visa gain.

Within other non-interest income, securities, commissions and trading income was $20 million, up 44% year over year due to higher income on interest rate protection products used by our personal clients. Other operating income of $38 million in the quarter increased 12% year over year, reflecting a number of categories including higher income associated with a third-party servicing agreement which was modified in December. Net interest income, which I will discuss in more detail later, was $275 million in the third quarter, increasing 7% year over year and unchanged sequentially when adjusted for last quarter's lease impairment.

Let's look at the components of our trust and investment fees on page 5. For our corporate and institutional services business, fees totaled $430 million in the third quarter, up 7% year over year and down 1% sequentially. Custody and fund administration fees, the largest component of C&IS fees, were $294 million in the third quarter, up 7% year over year and flat sequentially, while assets under custody for C&IS clients were $5.5 trillion at quarter end, up 1% year over year and down 3% sequentially.

The year-over-year growth in custody and fund administration fees primarily reflects new business, partially offset by the currency translation impact of a stronger US dollar. In the sequential comparison, new business was essentially offset by lower equity markets and currency translation. Investment management fees in C&IS of $83 million in the third quarter were up 10% year over year and 2% sequentially, primarily due to new business and lower fee waivers.

Money market mutual fund fee waivers in C&IS were $12 million, 27% lower year over year, and 10% lower sequentially, driven primarily by higher gross yields in the funds. Assets under management for C&IS clients were $662 billion, down 6% year over year and down 7% sequentially, primarily reflecting lower equity markets and the outflows that I mentioned earlier.

Securities lending fees were $20 million in the third quarter, 10% lower than last year and 26% lower sequentially. The year-over-year decrease primarily reflects lower fee splits on average. The sequential quarter decline reflects the typical season pattern, with the international dividend season driving wider spreads in the second quarter of each year. Securities lending collateral was $122 billion at quarter end, up 1% both year over year and sequentially.

Other fees in C&IS were $33 million in the third quarter, up 21% year over year and 7% sequentially, primarily reflecting higher fees from investment risk and analytical services. The year-over-year increase also reflects higher fees from benefit payment services.

Moving to our wealth management business, trust investment and other servicing fees were $319 million in the third quarter, unchanged year over year and 2% lower sequentially. Global Family Office fees increased a strong 15% year over year and 4% sequentially, reflecting new business. Lower fees in the geographic regions, both year over year and sequentially, primarily reflect the sharp downturn in the equity markets during the third quarter.

Money market mutual fund fee waivers in wealth management totaled $15 million in the current quarter, down 9% year over year and up 5% sequentially. The year-over-year decline in wealth management fee waivers reflects higher gross yields in the underlying funds. The sequential increase reflects lower yields in municipal and tax exempt funds which are used predominantly by personal clients. Assets under management for wealth management clients were $225 billion at quarter end, up 2% year over year and down 3% sequentially.

Moving to page 6, net interest income was $275 million in the third quarter, up 7% year over year and flat compared to the second quarter's adjusted net interest income. The year-over-year growth was driven by a higher level of earning assets and a higher net interest margin, while the flat result in the sequential quarter comparison resulted from a lower level of earning assets offsetting a higher net interest margin.

Earning assets averaged $101 billion in the quarter, up 4% versus last year, and down 3% sequentially in both comparisons, driven primarily by the level of demand deposits which averaged $24 billion, up 21% year over year, and down 5% sequentially. We saw solid loan growth again this quarter, particularly in private client, commercial and institutional and commercial real estate. Loan balances averaged $33 billion in the third quarter, up 10% year over year and 1% sequentially.

The net interest margin was at 1.08% in the third quarter, up 3 basis points year over year and 2 basis points sequentially when compared with the second quarter's margin adjusted for the lease impairment. The sequential improvement in the net interest margin primarily reflects a reduction in the lower yielding interbank and Federal Reserve deposits as funding from demand deposits declined, as well as a higher yield on the securities portfolio due to the lower premium amortization in our mortgage-backed portfolio. Premium amortization was $14 million in the third quarter compared to $15 million in the second quarter and $13 million one year ago.

Turning to page 7, expenses were $812 million in the third quarter, up 5% year over year and down 5% sequentially. As I mentioned earlier, the second quarter included a charge of $46 million. Adjusting for that item in last quarter's results, expenses increased less than 1% sequentially.

Compensation expense increased 4% year over year, primarily reflecting staff growth, the impact of annual merit increases, and higher incentive compensation, partly offset by the favorable impact of movements in currency rates. Staff levels increased approximately 5% year over year with more than 80% of the growth emanating from our global operating centers in Bangalore, Manila, and Limerick, and our newest operating center in Tempe, Arizona. On a sequential basis, compensation expense was essentially flat.

Employee benefit expense of $70 million decreased 1% year over year as lower employee medical expense offset higher pension expense. On a sequential quarter basis, employee benefit expense decreased 5% due primarily to seasonally lower payroll taxes.

Outside services expense of $158 million was 11% higher year over year and 8% higher sequentially. The increase in both comparisons primarily reflects higher consulting expense due to evolving regulatory requirements and higher technical services expense.

Equipment and software expense of $114 million was up 13% year over year, reflecting higher software related costs in support of client and regulatory technology initiatives. Equipment and software expense declined slightly on a sequential quarter basis.

Other operating expense of $65 million declined 6% year over year and 43% sequentially. Recall that the second quarter included a charge of $46 million associated with our voluntary cash contributions to four constant dollar NAV funds. Excluding that item, other operating expense decreased 5% sequentially, primarily driven by lower charitable donations.

Turning to page 8, we continue to focus on sustainable improvements in core profitabilities and returns. As shown on page 8, the ratio of expenses to trust investment fees increased from [107] adjusted for last quarter's items to [108] in the third quarter, a sequential pattern that is not unexpected given seasonal strength in some revenue lines in the second quarter and the typical second-half ramp and some regulatory-related spending.

This metric remains an important barometer of our progress, having improved from 120% in 2012. And we remain committed to lowering it on a sustainable basis going forward. Our return on equity was 10.9% in the third quarter, within our target range of 10% to 15%, and, while lower than last quarter's adjusted 11.8%, demonstrates improvement over time.

Turning to page 9, our capital ratios remained solid with Common Equity Tier 1 ratios of [12.4%] and [10.4%], respectively, calculated on a transition basis for both advanced and standardized. On a fully phased-in basis, our Common Equity Tier 1 capital ratio under the advanced approach would be approximately 12.1%, and under the standardized approach would be approximately 10.2%. All of these ratios are well above the fully phased-in requirement of 7%, which includes the capital conservation buffer.

The supplementary leverage ratio at the Corporation was 6.4% and at the Bank was 5.7%, both of which exceed the 3% requirement which will be applicable to Northern Trust in 2018. With respect to the liquidity coverage ratio, Northern Trust is above the 80% minimum requirement effective as of January 1, 2015, and is also above the 100% minimum requirement that will become effective on January 1, 2017. As Northern Trust progresses through fully phased in Basel III implementation, there could be additional enhancements to our models and further guidance for the regulators on the implementation of the final rule which could change the calculation of our regulatory ratios under the final Basel III rules.

In the third quarter, we purchased 1.9 million shares at a cost of $141 million. Our 2015 capital plan provides for the repurchase of up to an additional $437 million of common stock through June of 2016.

In closing, Northern Trust continued to perform well in a difficult third-quarter macroeconomic environment. Revenue growth was solid at 7%, and our focus on profitable growth was evidenced by 14% year-over-year earnings per share growth and a return on equity of 10.9%.

In our institutional business, C&IS continues to profitably grow across the globe. Through the first three quarters of 2015, revenue growth in C&IS was 13% and the business generated approximately 6 points of operating leverage. Growth in C&IS was broad-based with a diversity of wins by geography, particularly in Europe, the Middle East and Asia, and by product, such as our onboarding of two Fortune 100 defined contribution plans in the quarter.

In our personal business, wealth management year-to-date revenue growth of 6% was coupled with strong expense management, as wealth management kept expenses flat, yielding operating leverage of approximately 6 points. We also were pleased with the new business results from several markets in which we are focusing resources, including New York, Texas and the Global Family Office.

Our commitment to returning capital to shareholders was reinforced with a third-quarter total payout ratio of 99%. End of the quarter, we declared dividends of $85 million and repurchased $141 million of common stock. This was accomplished while continuing to maintain strong capital ratios that support our growing business.

Thank you again for participating in Northern Trust's third-quarter earnings conference call today. Bev and I would be happy to answer your questions. Aaron, please open the line.

(Operator Instructions)

We'll go first to Luke Montgomery with Bernstein Research.

Good morning, guys. I think I asked you last quarter about C&IS custody fees as a percentage of client assets and that it had ticked up nicely. You spoke to Bridgewater and a mix shift towards global fund services as positive drivers. I think now we've done a round-trip back to where we were in Q1. So, just wondering if there's anything unusual to call out in Q3 results -- business mix, pricing, seasonality. I'm just trying to understand what the core trend is there and why it's looking more volatile lately.

There really isn't anything unique to call out in the third quarter, Luke, from previous conversations. It's business as usual in that space.

Okay. With the C&IS asset management fees, the sequential trend was positive. You had lower AUM. You cited the equity markets there. The revenue yield on AUM jumped considerably. Was that explained more by the low fees on the sizable index mandate you called out or did the average versus period-end levels factor in there?

The C&IS investment management fees increased slightly in the quarter due primarily to lower money market mutual fund waivers, as you suggest, and the gross yields improving in the underlying funds. That was one of the key drivers of that. And you talked about the fee realization, I believe, as well, Luke, in that comment, and it is a factor on those are largely lower-yielding type assets in terms of fees. So, that actually improves the overall fee realization as those large passive outflows are at the lower end of our fee spectrum.

Okay. So we can think about maybe the current level going forward as a good proxy?

Yes.

Okay. Great. Thank you very much.

We'll go next to Adam Beatty with Bank of America.

Thank you and good morning. Just wanted to get your thoughts on flexibility, in this volatile market environment, around tactical cost cutting. I know Northern Trust has made significant efforts over the years to improve the margin and cut the core costs. What's your capacity and maybe willingness to make tactical cost cuts to defend the margin in the case of market volatility? Thanks.

Thanks, Adam. We are absolutely committed to, as we said in our scripted points, we are committed to improving the expenses to trust fee ratios. And that is a mixture of both strategic expense and tactical expense initiatives. And it can be items that we talked about in the past -- our location strategy, technology spend using different storage techniques.

I would also argue that around procurement, for instance, that is a very tactical and strategic investment that we're making to improve our procurement process, and it's helping to continue to drive that ratio meaningfully. So we do look at both tactical and strategic investments to drive the expense in our firm, particularly in relation to the fee growth.

That's great detail. Much appreciate it. Then as a follow-up, just on the outside services, it looks like that came up with some additional regulatory or compliance needs. Was there anything unusual there, something that we should layer in going forward?

On the outside services, there were two drivers of the increase you saw, particularly the sequential increase. The first, as you described in yours, was a move-up in consulting spend, particularly related to regulatory initiatives. It's not uncommon for us to see that in the third and fourth quarter as most financial institutions get feedback on their CCAR, or their resolution planning, in our case, and other meaningful regulatory initiatives in the second quarter and, hence, the work we need to do to embed that in our business-as-usual process, and to continue to move as those goal posts move forward, we need to move forward with them. So, we see some consulting expense ramp typically in the back half of the year related to that.

The second part of outside services, another part of the driver of the ramp in that was really what we refer to as technology, technical services expense. That's items like the cost of market data and also the technology support costs. This is where we perhaps use offshore situations to support the growth you see in our technology spend. Those were the two primary drivers of the growth in outside services.

Makes sense. Thanks for taking my questions.

We'll go next to Ashley Serrao with Credit Suisse.

Good morning. Another question on expenses. As you push ahead and try to drive towards 100% expense to fee ratio, I'm curious to get your sense around the time line there because it feels like absent higher markets and rates we've plateaued here. We've been in this 109% to 107% band for about six quarters now. So I was curious, how should we be thinking about the payoff from all the efficiency initiatives that you just spoke to?

Thanks, Ashley. The ratio, as you rightly point out, is both a revenue and an expense component to it, and they both matter. So, the ability to continue to grow new business and grow the fees line is important in improving that ratio. But we do still believe that there is opportunity in items we've talked about before. For instance, in our location strategy we do think there are still drivers in that in some technological efficiencies -- IE, the way we use storage, the way we use the cloud. We do believe there are still items there.

It is fair to say that that ratio gets harder and harder to drive down as we have taken some of the higher and perhaps easier expense initiatives over time. But we're focused on both the growth of the fees and the improvement in the expenses. So, we do believe we can continue to drive that down.

The pace will be helped or hindered by the markets in which we're operating on the fee line. But we're continuing to, with a strong focus on the expense side, continue to drive those because we feel those are much more in our control.

And then just a follow-up on your employee location strategy, your latest slide deck points to about 27% of your employees being located in lower-cost jurisdictions. Are you working towards some sort of target? Is there an optimal state as we think about the evolution of your employee base?

As you've seen, we've moved that from zero to 27% over the last 10 to 15 years. We do not believe that that's done. We have not set a finite target and we've certainly not publicly disclosed a finite target. But we don't believe that it is done at 27% and we still think there is opportunity.

As we opened in various locations -- Manila is a good example -- some of our work that supports some of our Asia works has been done in Chicago at an off-time zone. There's opportunities to move that work from Chicago to Manila over time. We're continuing to look at that which will help move that number to something higher than 27%.

Okay. And just a clean-up question. What was expense growth on a constant currency basis?

It added about 2.5 points on a currency-adjusted basis, similar to the revenue growth. As we discussed, both were impacted -- revenue about 2%, expense about 2.5%.

Okay. Thank you for taking my questions.

We'll go next to Brennan Hawken with UBS.

Hi. Thanks for taking the questions. One more on expenses, sorry -- a big topic here this quarter. The increase that we saw in outside services from regulatory and tech, how much of that was sustainable, do you think? And can you help us unpack the forward shift in that line?

That's a little difficult to say as the bar around the regulatory world continues to move. We would suggest that in the second half of the year that that spend could continue. And then as we finalize and get ready for resubmissions of a capital plan or of a resolution plan or other documentation, we'll wait for feedback and see if the progress we want to make matches up with the expectation.

But I'm he's hesitant to give you any more than that. In the second half of the year we will continue to need to spend as we continue to try to embed the process and, quite frankly, generate a return on the investment we're making in that business on the regulatory side for our shareholders. So, second half is traditionally where you see that kind of ramp and we'll wait for feedback in the first part of 2016.

But, given that the CCAR timing is now mid-year in 2016, that doesn't change that pattern at all?

It would change it by a quarter, right? It's been pushed back by a quarter.

Okay. So sustainable at these -- just paraphrasing, just to make sure I understand -- levels up through 1Q of 2016?

Yes. I think you're saying -- let me make sure I understand -- are you saying that there's a ramp through the end of the first quarter when we submit in April? Are you saying we could see heightened level of consulting spend through the first quarter?

What I was trying to understand was the uplift that we saw this quarter, is that sustainable through 1Q of 2016?

It could be. We have to wait and get feedback. I think we're seeing how we need to respond to the issues we have in front of us.

Okay. Understood, that visibility's not perfect there, but this is as good of a starting off point as any.

I think so.

All right. I'll move on. I understand and I appreciate the comments about the outflows in C&IS, but could you help us maybe with a bit more granularity there, just so we can understand some of these AUM shifts in particular on the fixed income side? I know there was the index mandate that outflowed. But can you maybe help us understand, was that everything as far as the shift? Was there some beta and FX drop, as well? I'm just trying to unpack that rather significant and dramatic drop, especially in the fixed income line.

We would suggest that it was largely a result of the flows that we just talked about, that it was the outflows of one significant fixed income passive mandate from a non-US client and it was a significant outflow. And then we have large sovereign wealth passive mandate clients who, for their own strategic purposes in their region, have needed to make asset decisions, and we saw significant outflows in some of those large sovereign wealth funds, as well. Those were the primary drivers as opposed to some macro trend that I think you're suggesting elsewhere.

I just want to understand what it is. But thanks, that color helps. And I know this is normally Luke's push, but I'll second it. It would be really helpful to get the specific flows disclosed, just for consideration. Thanks.

I appreciate that and stay tuned for the next quarter 10-K. Stay tuned for the 10-K.

We'll go next to Betsy Graseck with Morgan Stanley.

Hi, good morning. I had a question around the balance sheet. I was intrigued by the fact that your deposits came down a bit and I was wondering what drove the increase. Is it around conversations you're having with clients? Is it around pricing?

On the balance sheet, some of the sequential decline that you saw was just normal flows. We have large clients that from time to time can leave large balances and (inaudible) in any quarters. But I would add to that, we have instilled, I think, a strong discipline around looking at large additions to the balance sheet and have a rigorous process around dialogue with the clients on those, on really a transaction by transaction basis, where we look at what the returns, what the liquidity costs of that would be to the firm, and have active dialogues.

We like to think about the needs of our clients, really, from a liquidity perspective. And that dialogue -- is the balance sheet the right vehicle or are there some off-balance sheet vehicles that are equally attractive. So, that dialogue could very well have them move to a money market fund of some type. Our Treasury and our asset management groups are linked and work closely to solve those demands or needs of our clients, so, we've managed that constructively.

I thought that was great because I know the industry's working to try to make sure that you bring in as little nonoperating deposits as possible, for a variety of reasons. Should we expect that this will continue in the sense that your balance sheet size could come down a little bit more? And obviously it supports the NIM, as well. Just wondering how you see that projection here.

I think the discipline that I described will absolutely continue. But we're a liability-driven business model, as you know well. So, if we continue to grow our asset servicing businesses, working with them, you can see that growth come with just what I would call organic growth in the Firm. So, we have to manage that. It's the, as you described it, nonoperational deposits that we're monitoring very closely.

And have you disclosed what those nonoperating deposit balances are?

We have not.

Okay. All right. Thanks.

We'll go next to Glenn Schorr with Evercore ISI.

Hi, thanks very much. Curious, in the comments on lending down 10% year on year, you mentioned about the different fee splits, and I remember that being the case last quarter. So I'm just curious, when did that kick in? I know there's no magical date but when that kicked in. I'm more asking from the standpoint of, once it's anniversaried, I doubt we'll see the same magnitude of down year on year. So, I'm asking, do we see it again next quarter?

The anniversary would be, I think, the first quarter of 2016, so we could see that one more quarter. And, as we described, it's the, as you will see, on a sequential basis, Glenn, really, the spreads on a year-over-year basis, the spreads and the volumes are fairly similar. It was clearly split driven, the performance. That is that the clients, our clients, whose securities are being lent just have an unfavorable split relative to what we've had historically, and that has moved that split against us, if you will. That trend, we think, will lap in the first quarter of 2016.

Okay. Perfect. Thank you. And then the last one is, just the big difference between family office and rest of wealth management fees. You noted new business. I'm just curious how much of it is new business versus just mix to the clients on different asset mix, more fixed income oriented, and that would explain some of the big differences, as well? Or is it all new business?

It's meaningfully new business is the driver. If you think of that space, the mandates in that space are very large. Those are large, $100 million to $1 billion-plus type mandates. So they have a scale when they come in. Some of it is the mix in the business, as you described, the asset management mix. They have more cash in the GFO which, while lower yielding we haven't seen any degradation in those balances like we have in other areas.

And then the other areas in the regions, while the size of those portfolios may be smaller, there's flows. And if you think about a $10 million account in a low-yielding environment is using some of their principal, if you will, to live more frequently, and that creates some issues. In the larger GFO space there's many more assets to help deal with that issue you.

Totally understand. Appreciate it. Thanks, Biff.

We'll go next to Alex Blostein with Goldman Sachs.

Great. Hello, everybody. Just to follow up on the balance sheet discussion, we've seen most of the bigger banks trying to push deposits out. You guys are not constrained by SLR like some of your larger peers. I think that's come up in the prior calls, as well, but I'm just curious to hear what you guys are seeing in terms of industry pricing, and whether or not if some of your larger competitors start to jack up pricing to get a little bit more aggressive on pushing deposits out, what kind of an opportunity does that create for your business? Would you consider that opportunity and how you would approach that?

Thanks, Alex. I'll take that in two parts. The first is, as I mentioned earlier, we do look at those opportunities transaction by transaction. And we do see some of those where they've been -- I don't want to say pushed out -- they've had discussions with their current provider and don't like the economics of that trade. We look at those but we're also looking at it with a lens towards what we can generate from a return on our capital on those transactions.

On the second part of that, and pricing, if you will, in this space, in particular, we stay very closely abreast of the market. We evidence that when we went negative in Europe, say, for instance, and some of those rates in Europe are moving even further negative. I think we went to negative 20. We are still at negative 20. But we will continue to look at how those rates move.

In the US, in US dollars, there are some competitors who appear to be charging for nonoperational deposits in the marketplace. We will keep a close eye on that. We have not made that decision today. We have some different constraints, as you point out, but we want to stay abreast of market pricing to generate the appropriate level of returns.

Okay. Got you. And then, sorry, just one more question around expenses, just to round out that discussion. There's been lots of back and forth over the course of the call, obviously, on the topic. But if we take a step back, and in the past you guys talked about getting the expenses to core fees ratio not necessarily to 100 but even potentially below that, like as in 100 is not the end goal, with the flattish equity market backdrop and slightly higher regulatory expense spend like we've seen this quarter, is it still reasonable to think you have enough flexibility to get that ratio lower over the next 12 to 18 months? Understanding there's going to be quarterly volatility in this number but just taking a step back I think that would be helpful to sum that up.

Yes, we do think we have enough initiatives ongoing inside the firm to help drive that. Again, as we pointed out, the revenue side of that equation is important, as you described. Flat markets don't help that ratio. But we do believe just in the series of expense initiatives we have, over the long run we can continue to drive that down. You may get some quarterly volatility, as you described, but we do believe we can drive it down.

Okay. Thanks.

We'll go next to Brian Bedell with Deutsche Bank.

Hi, good morning, folks. Just maybe even longer term on expenses and really focusing more on the investment in the business. Obviously you guys have been very aggressive longer term in building EBIT and investing for organic growth. How do you balance that desire to bring the 108% down with further investments in the asset servicing capabilities, particularly in alternative services and middle office? And do you have things on the near-term horizon that make you think you want to do that sooner rather than later? Or do you think you can postpone that until we get a much better revenue environment?

We have a portfolio of businesses, some of which will require investment, as you describe, and we may run that ratio different. But we have other businesses that are at different levels of maturity. What we do as a management team and as a firm is think about the overall growth rate in the firm. We think 7% revenue growth rate in this environment was a meaningful achievement for the Firm. We gear those expenses to try to be able to fund that level of growth.

So in this period it was 5% to generate 7% of growth. Still leverage in the business. In any given business, say servicing asset managers, we may have that investment period for a period of time create little to no leverage for a business line but not at a firm level. We still are looking at driving that leverage into our business where, at the top line, if we can grow 7, funding it with (inaudible) is something that we think generates an acceptable return for our shareholders.

No initiative is big enough to really move the needle enough in that regard.

Yes. It's a series of initiatives.

And then maybe just switching gears a little bit back to asset management, again, longer term, how do you view the sovereign wealth dynamic? Obviously this quarter for the entire industry there were a lot of outflows but how do you view that client channel longer term? And, also, how do you think you're positioned within your asset management business passively and actively for longer-term demand in non-US institutional clients?

Particularly the large asset management clients and the sovereign wealth funds you describe generally have very broad-based relationships with the banks. So, we have asset servicing and asset management relationships with them. And we have seen over time some of them, for instance, are geared to oil prices. They have ebbs and flows in the valuations and the wealth they create.

While we see this as a difficult environment currently, at current oil prices, for instance, those will change over time and their asset allocation and their recommitment to certain passive has, over periods of time, moved back up. So, we've seen them add assets into the passive capability in the best of times and retrench, if you will, in times where they need to use those for their local.

But we have broad-based relationships where you know those clients well and we think their commitment to the passive space is probably in the long term something that will continue. We happen to be in a period where it's creating more outflows than inflows. But those generally have been what we would consider to be accretive clients over time. They're adding assets to their portfolio.

And, importantly, you have the whole relationships with the broad suite of services that you're providing for those clients. Thanks. Okay, great, thanks. That's very helpful.

We'll go next to Geoffrey Elliott with Autonomous Research.

Hello. Thank you for taking the question. Maybe I could start by asking about distributed ledger technology and blockchain, which seems to be a very hot topic at the moment. How do you think that's going to impact the custody business and Northern Trust specifically looking out a few years?

Thanks, Geoffrey. We are, like many firms, looking into blockchain and its potential implications. We're working under the premise, really, that if something can help us perform more effectively and efficiently in service to our clients, in areas like operational optimization or asset safety or transparency, then we're going to continue to pursue it aggressively.

Currently we're close to formalizing a proof-of-concept effort with a third party that will help us prove or disprove some of what has been theorized around blockchain in the institutional space. I think I'll probably leave it at that, to say we're on the case and there's significant efforts inside the organization to see how this will impact us.

And then just a follow-up on some of the earlier questions. On regulation, you mentioned that there are a couple of areas you're focusing on now following the feedback earlier in the year. How would you characterize the size of those projects compared with what you've done in previous years?

While we won't give any specific feedback that we got from our regulator, they continue to look for us to enhance, if you will, our modeling capabilities around how we model certain elements of our submission and our documentation around that. The feedback we're trying to do is how can we embed this into our business-as-usual processes so that it's not a standalone exercise. I'm talking specific around CCAR. For instance, how can we use the tools and the models that we use to further enhance processes that we have inside the Bank. We're investing in that with outside expertise to understand how others have done that and how we might best maximize, if you will, the work we need to do from a regulatory standpoint to further leverage it into our business-as-usual processes.

So, similar projects to previous years or bigger or smaller?

I would say they're different. I don't know if they're bigger or smaller but I just think they're different types of products. For instance, it could be certain line items that you want to fund this year to build models for versus in previous submissions different items.

Great, thank you very much.

We'll go next to Ken Usdin with Jefferies.

Hi, Biff and Bev. Just a follow-up question on the business environment. Obviously it's tough to see the good growth you guys are having underneath the surface given the market levels. But has anything changed over the summer in terms of client activity, new business potential, whether it's on the core servicing side or inside the regional side of wealth management?

In both of our businesses, the new business opportunities remain robust and they remain robust across geographies, across product types, across client types. Our new business momentum, again, in both is quite strong. As we look into the fourth quarter and beyond we still see that that robust opportunity set exists in both businesses. We really haven't seen any diminution in that.

Okay. And then on the wealth management business specifically, if you just look at it excluding the fee waiver delta, the business has just flattened out growth-wise. Can you just help us understand, is that pricing inside the business, perhaps? Is it activity levels, like you were alluding to a little bit before? What are just the ins and outs of the growth dynamics inside the regional wealth management business?

If you look at either the flattening out or the decreases, depending on if you're looking sequentially or year over year, it was almost entirely driven really by the negative impact of the sharply lower equity markets that we had in the third quarter on a sequential decline and the relatively flat on a year over year. Money market fee waivers, perhaps somewhat ironically in that business, sequentially were a little bit of a drag as opposed to year over year where they were a benefit.

There were some positives in that business, if I could highlight them. The new business remains strong. We've been able to look at some fee discount reductions that was a positive influencer in that business on a year-over-year basis. But again, the markets produced a drag.

And then, lastly, I would say is around the product usage in that space, as we've seen some trends, if you will, from active equity, say, passive equity. That has created some compression in the fee realization in the space. The combination of those has flattened that business out.

I would only highlight one thing, though. When we look at our competitive landscape, particularly in the quarter, we think this is probably a result that is still relatively strong. It's been a tough set of comparable financials for this space.

Understood. Okay. Thanks, Biff.

We'll go next to Marty Mosby with Vining Sparks.

Hey, guys. I had two different or larger kind of questions. One is, Biff, we talked about a year ago balance sheet utilization and duration and assets. We've seen a lot of the banks starting to look at the lower-for-longer scenario more aggressively and starting to make some changes in their portfolio. You've made some movements over the last year and just wanted to get a feel for what's your thought process at this moment looking out over the next year and the potential to go ahead and take advantage of the yield curve a little bit more.

Thanks, Marty. Our asset and liability committee meets monthly and has a very active dialogue about our thought process around rates and where we are from a duration standpoint. I would only add one comment. I think that, generally, our investors, while they care a lot about net interest income, big duration bets is not something that the Bank has looked at as enhancing to the overall economic return of the Bank.

That being said, we certainly have interest rate forecasts that we consider. We have a view on what we think rates will do inside that committee and we'll make the appropriate duration bets -- I shouldn't say bets -- the appropriate duration for the portfolio through the ALCO committee.

And then the other thing is you talked about your capital position continuing to get stronger, which it has been, and you're well above what would be your required levels. Just curious in a sense of any types of window or opportunity. You can't really go above 100, or let's assume that you can't go above 100, because of regulatory constraints. What incremental opportunities do you have to utilize more of that capital that's sitting on your balance sheet for business opportunities?

As you saw, we were at a 99% total payout ratio in the quarter and we've had a fairly high total payout ratio. We would tend to agree that we think anything above 100% will be very difficult in this environment. So, we continue to look at where that capital could be deployed, whether that's in M&A or whether that's in other investment inside the Firm. And we make those decisions on a regular basis with the Firm. We do look at opportunities from time to time and we'll continue to do that as alternative uses of the capital.

Thanks, Biff.

We'll go next to Mike Mayo with CLSA.

Hi. I guess no good deed goes unpunished. You were one of two large banks that did not cut the dividend and here you are with all these extra expenses to deal with CCAR. But I guess that's the way things are. But why are your regulatory consulting expenses so much higher, so much later than your peers? Is this just the life cycle of dealing with the regulators since you were the second wave of CCAR.

And just to clarify the answer earlier, the elevated level of consulting expenses will be there in the fourth quarter and it's likely to be there in the first quarter also? Because that would be three quarters in a row, three of four quarters of the year. Is this something that should be around for a while?

I would say on the first part of the question we've only submitted twice under the CCAR regime, to your point. Our experience at the CCAR level is still relatively early versus our peers. So the feedback and the work that we need to do will continue in that space. And it's not just CCAR related. We were a wave three in resolution planning, for instance. So, really getting first sets of feedback around resolution planning versus what you would consider GSIB or other listing providers. I would say we're in different phases in different spaces.

In terms of being clear on the ramp in consulting spend, it clearly manifested itself in the third quarter. Don't have line of sight completed in the fourth quarter but it could remain elevated. At this level -- unsure. And then in the first quarter of next year it could still be elevated from levels the year before but not sure that it will be at the level of Q3. Then we'll wait and get feedback shortly thereafter. So, hopefully, I don't know that I've portrayed that as a diminishing level of this spend, because we still have to see, but right now it will be elevated on a year-over-year comparison basis.

And when you talk about getting a return on this investment, isn't the main return just not failing and being allowed to return more capital and having less concern for the regulators?

That's a meaningfully desired outcome. But I would you say some of the models and tools that we can use can be used, for instance, to help us model trust fee growth and projections to help build our own planning scenarios, our own internal planning scenarios. We can use some of the tools we use for better loan loss estimation techniques. And there are many other tools that we can embed into our business and not use them just as a standalone CCAR model but really help run elements of the business.

All right. Thank you.

We'll go next to Gerard Cassidy with RBC.

Thank you. Good afternoon. Biff, can you share with us -- you talked about loan growth was 10% year over year this quarter, and it seemed like there was some loan growth outside your traditional wealth management area. Maybe can you give us some color behind what was driving the loan growth this quarter?

It's similar to the story we've talked about in previous quarters, Gerard. We've got a ramp, if you will, or growth rate in commercial real estate, C&I, and what we would refer to as investment secured lending or personal lending secured by your investment accounts. Those all have double-digit type growth rates offset by a decline in residential real estate. I think those are largely the growth areas we've seen in our lending portfolio. It's also lent ourselves to our portfolio shift, mix shift, which has allowed for the credit quality and the strengthening in the credit quality that you saw to improve, and allowed for some of the reserve release to occur.

And one thing that I would add to that, Gerard, is that some of our commercial and institutional lending, as well as some that is not a large part of our commercial real estate lending, is in the wealth management business unit, so ultimately to a personal client relationship. So, despite the name of the category having commercial in it or institutional in it we do a lot of lending to our personal clients in those areas, as well. As a matter of fact, the total loan portfolio at Northern Trust is probably 75% to 80% wealth management or personal loans. Does that help?

Yes. Thank you. It does. Shifting gears, coming back to the global family office business, you guys have obviously had good success here. Can you share with us, on the new business wins that you talked about earlier, are these newly-created wealthy folks or are you taking the business from another servicer? And if you're taking the business, what are some of the advantages that you're bringing to the table that they want to leave their current provider and move to you?

The answer is it's some of both. In many cases this is wealth that's already been created and the family office exists. The interesting dynamic here is this business often looks like a large institutional investor. They want high end technology and high end sophistication to support that family office.

The technology that we've built and the platforms we've built to support our institutional asset servicing plays very well in that space with the global family offices. It's a very attractive set of sophisticated solutions that is attractive and allows us to demonstrate to those individuals that we've got a capability to serve these very high net worth families. So, it's really leveraging what I would say is our institutional platform for these family offices that have many similarities to a large institutional asset owner.

Thank you.

We'll go next to Vivek Juneja with JPMorgan.

Hi. Thanks for taking my question. A quick one. The Bridgewater deal that you added in the second quarter, was it in the second quarter for the full quarter or was that partly 2Q and partly 3Q? And along that line, any other such administration type mandates you added in the third quarter?

The Bridgewater came fully into our run rate in the middle of the third quarter of last year. It came on in August, so you have a little bit of it split in this year's quarter run rate. When we go to the fourth quarter it's fully in from both a revenue and expense standpoint in the next quarter's comparator.

In terms of other large mandates, as we called out, we had some very significant mandates in the defined contribution space. I won't call out any on the asset servicing side other than what we've publicly disclosed. We have had great success in Australia in particular around some large asset manager opportunities, and several in our European, Middle East and Africa region, as well. So, the new business continues to be buoyant.

And, Biff, those wouldn't show up in your AUC numbers, so those would be just additive through the fee line. Is that right? Are you referring to those as really coming into the AUC line that we would see?

Some of those have been won and have not been implemented yet at this point so you wouldn't see them in an AUC or an AUA line. But if we're the custodian obviously you'll see them in the AUC line. Today you would not see that in an AUA. You'll just see the fees.

Similar to your comment earlier about seeing the flows in the 10-K potentially, should we expect to see AUCA also in the 10-K?

We are working on that and I am hopeful that you will see that in the quarter.

Okay. Thanks.

And we'll go next to Brian Kleinhanzl with KBW.

Good afternoon, Biff. I just had two quick questions. One on the credit. Second quarter in a row that you've booked a $10 million credit in provision expense even though charge-offs are ticking up. Is there something here that this should be an ongoing trend in that you're seeing overall improvement, NPAs are down? And the reason being that NPAs were down in previous quarters but you didn't see that negative provision coming through.

A couple things. In this quarter the charge-offs -- you're right -- slightly higher. But we had specific reserve for over 70% of the charge-offs already accounted for. So that really was a meaningful driver of the release because we were releasing reserves that had already been accounted for, if you will, in this.

And in terms of, as I discussed before, the mix of credit in our portfolio is producing stronger credit dynamics. You saw nonperformers were down 10%. The mix has improved really the credit dynamics in the portfolio. So, we continue to evaluate that on a quarter by quarter basis. We look at macro trends.

So, I can't really say whether that will continue or not because it depends on how the market evolves. But I know that the overall credit quality right now of our portfolio is improving because of the mix shift I described away from residential real estate and into secured by securities or C&I type loans.

Okay. And then just a second question on the money market fund fee waivers, you mentioned that the yields were improved in the quarter but it looks like towards the end of the quarter and into the fourth quarter yields could be down a little bit. Was this just a one quarter impact on the fee waivers, seeing a little bit of benefit, and we expect it to be elevated again in the fourth quarter?

That depends on how the yields play out during the course of the quarter. We did see the improvement at the end of the third quarter, as you've seen. We've seen some erosion in that and we have to see how that plays out for the yields during the course of the quarter in the funds. I don't have much more on that.

Okay. Thanks.

(Operator Instructions)

We'll go next to [Kirrol Pashkin] with [Mirabok].

Hi. I had a question about the technology glitch that some of your competitors had in August. With that regards, have you had any discussions that may show that you'd benefit from that by winning clients? I don't know what you could share with us.

We've not had any discussions that we would disclose here. The industry is certainly looking at that. I'm sure the mutual fund industry is certainly looking at what I will call a business continuity response to that and how they, if you will, secure with their providers the right type of business continuity planning around that. We'll leave it at that at this point, I think, for that, for us. We as a firm feel that we have the right controls in place and evaluated that type of scenario internally, but we feel that that's something that we have our own contingency planning around.

Okay. Thank you.

And that does conclude the Q&A portion of today's conference. I'd like to turn the call back over to our speakers for any comments or closing remarks.

Thank you, Aaron, and thank you, everybody, for calling in today. We look forward to speaking with you soon and to speaking with you again on our next earnings conference call in January. Have a good day. Thank you.

Thanks.

This does conclude today's conference, everyone. We thank you for your participation and you may now disconnect.