雷蒙詹姆斯金融 (RJF) 2014 Q3 法說會逐字稿

Good morning and welcome to Raymond James Financial's fiscal third-quarter 2014 earnings call. My name is DeShante and I will be your conference facilitator today. This call is being recorded.

Now I will turn the call over to Mr. Paul Shoukry, Vice President of Finance and Investor Relations at Raymond James Financial.

Good morning. First, on behalf of our entire management team I just want to thank all of you for joining us this morning for our fiscal third-quarter 2014 earnings call. We certainly do appreciate your time and interest in Raymond James Financial, so thank you.

After I read the following disclosure, I will turn the call over to Paul Reilly, our Chief Executive Officer, and Jeff Julien, our Chief Financial Officer. Following their prepared remarks, they will ask the operator to open the line for questions.

Certain statements made during this call may constitute forward-looking statements. Forward-looking statements include information concerning future strategic objectives, business prospects, anticipated savings, financial results, industry or market conditions, demand for our products, acquisitions, anticipated results of litigation and regulatory developments, or general economic conditions. In addition, words such as believes, expects, anticipates, intends, plans, projects, forecasts, and future of conditional verbs such as will, may, should, and would, as well as any other statements that necessarily depend on future events are intended to identify forward-looking statements.

There can be no assurance that actual results will not differ materially from those expressed in the forward-looking statements. We urge you to carefully consider the risks described in our most recent Form 10-K and subsequent forms 10-Q, which are available on the SEC's website at SEC.gov.

So with that, I will turn the call over to Paul Reilly, Chief Executive Officer of Raymond James Financial. Paul?

Thanks, Paul. Good morning, everyone. Jeff and I and Steve Raney, actually, are calling you from the beautiful city of Nashville. We have our summer development conference, which is the conference for our traditional top advisers, our employee advisers.

And if you don't think it's a unique event, us and the advisers and 700 kids are here at Opryland. It's I think a testament kind of to our family culture that we still have, not just spouses and others, but also children attending the event.

We just finished a similar conference, or independent contractors conference, in Washington, DC. Again, it was fantastic with a few thousand people also.

I now will provide a brief overview of our results and Jeff will give you a little more detail. We achieved many new records in this quarter: net revenue of $1.2 billion, net income of $122.7 million, earnings per diluted share of $0.85, and client assets under administration of $479 billion. All records for us.

Our largest segment, Private Client Group, generated record revenues, pretax income this quarter also. So there is a lot to be proud of. However, this quarter also benefited from certain favorable items that don't necessarily recur every quarter. The major ones we highlighted were the $8 million in private equity valuation adjustments; an exceptionally strong quarter for tax credit funds, a business that tends to be lumpy but is having a very good year; and a continual beneficial tax rate.

You guys can do the math, but even without those numbers we had a very solid operating quarter.

Just as we said in last quarter's earnings where we had many items going against us, we think it is more valuable to look at the three quarters of the fiscal year in aggregate to evaluate our performance instead of quarter by quarter because of the noise inherent in any quarter. If you do that you will see we have generated a 15% pretax margin on net revenue and delevered 11.9% annualized rate of return against a 12% ROE target in this current interest rate environment.

We think with interest rate changes we told you that the 15% targets in range, we get 100 basis point rise where we get the majority of our benefit in short-term interest rates, overnight interest rates, which give us another about $150 million per year in pretax income. Meanwhile, we think the 12% ROE is very reasonable compared to other firms in our industry, especially considering our very conservative capital position, a total capital to risk-weighted assets ratio of over 20%.

So going back to this quarter, we generated record net revenue $1.2 billion, up 9% compared to last year's June and 3% over the preceding quarter. Record net income of $123 million, 46% over the GAAP results in June's quarter and 33% over the non-GAAP results of last year's June, which did include some adjustments related to expenses associated with the Morgan Keegan acquisition.

So a quick view by segment. The Private Client Group segment generated record revenues and pretax incomes, as I said, driven by record levels of assets under administration, which reached $454 million client assets hundred ministration, $454 billion in the segment. Net revenues of $187 million grew 10% over a year ago's June quarter and 1% over the preceding quarter.

The revenue growth has really been led by a growth in assets and fee-based accounts in the Private Client Group, which now account for 37% of our client assets in that segment as equity and fixed income activity in the segment remains tepid. Despite the rising equity markets, we think that many clients are still waiting on the sidelines, although our average cash balances, even to our historic mean per client, are down. So shows the advantage of our recurring revenues now has reached 70% of total revenues this segment.

Another thing we are very proud of is the advisor front. We continue to be extremely effective in retaining and recruiting the highest quality advisors. During the quarter we added 49 new net advisors, growing our total count to 6,251. Activity levels, which we measure by home office visits, a leading indicator for recruiting, are still robust. We expect the trend to continue as deals -- retention deals from other firms through the financial crisis burn off.

I also have to talk about the profitability of the segment since pretax income of $81.5 million grew 39% over last year's June quarter and reached a new record. The segment has benefited from operating leverage and disciplined expense management, which has enabled us to hit our 10% pretax margin on net revenue for the quarter sooner than expected. We previously had told you by the end of the fourth quarter.

I know that sometimes people get confused on our pre-margin target of 10%; it seems much lower than our competitors. But as Dennis Zank explained at our analyst day, almost all of it is attributable to just different economic -- not to economic measure but how we count the beans. So, for example, most of our peers would include their bank earnings in their segment. Raymond James Bank is not included in our Private Client Group, nor is our asset management, which is accounted for separately.

Now turning to the Capital Markets segment, we generated net revenue of $237 million and pretax income of $28 million for the quarter, representing 11.8% pretax margin. That is below our 15% target, but given the fixed income environment with headwinds and the trading activity which has been tepid in the equity capital markets, we don't expect much improvement in the short term.

Until -- especially on fixed income. We need rising rates and/or interest rate volatility to really generate more activity there.

On the Equity Capital Markets division, underwriting revenues grew 24% on a year-on-year basis and 17% sequentially. A lot of that driven by Canada, but really offset by weaker M&A markets in the segment for us in this quarter. The M&A activity was softer than last quarter, although our backlog still appears very strong and building.

It's really the same story this quarter for our fixed income division. Low interest rates and low volatility continue to drag on commissions; were down 22% from last year's June quarter. So I don't expect much upside in the short term for fixed income again until rates start to move.

Probably the big surprise to many was the number in capital markets for our tax credit fund business. It is a lumpy business as syndication fees increased by more than $10 million over the preceding quarter, but we account for it as deals close and we just had a good closing quarter, especially in the month of June.

The asset management segment continues to benefit from record levels of assets under management. We reached a record of $65.3 billion this quarter, an impressive 25% over last year. Net revenues of $91 million grew 19% over the prior year and pretax of $31.3 million grew 31% over the prior year. This business should continue to perform well because of net inflows, partly the market, but also because of strong Private Client Group recruiting.

Raymond James Bank continued to generate strong results. Total net loans of $10.4 billion grew 19% over prior year and 3% over the preceding quarter, driven by growth in the C&I and securities-based loan portfolios. Compared to the preceding quarter, the Bank's net interest income in the quarter was almost completely offset by higher loan-loss provisions, which is due to growth, not to issues.

I know a lot of you were concerned about the OCC's annual review of our shared national credit portfolio and you can see by the release that we had very good results. The review reinforced that the vast majority of our loans were in great condition and we had additional provision expense of $1.6 million compared to $5.6 million in the prior year. The Bank also experienced a few positive items this quarter; lifted its pretax results by about $8 million, which Jeff will explain in a little more detail.

So with that overview of the segments I am going to let Jeff get into some more details into the line items. Jeff?

Thanks, Paul. I know that we typically talk about segments, but all of you do models and we report obviously in line items on the P&L, so sometimes it's a little difficult to translate the segment info into the line item.

So I thought this time I would walk down some of the line items as they differed from what we put together, which is a consensus of your models -- those of you that are kind enough to supply them. We actually do a consensus by line item so we can see where we are not giving enough guidance or color and we can help explain some of the differences. By the way, I guess we're doing pretty well at it because about half the line items are within $1 million of the consensus to actual, so we seem to be doing something pretty much right.

Running down the line items quickly, securities commissions and fees were pretty much right online and you have the detail in the press release on page 9. You can see it's the usual mixture that we've had so far this year, which has been a steady improvement in Private Client Group offset by some more difficult times in the capital markets commissions. But that has trended as it did during the monthly operating specific releases, so no big difference there.

The investment banking line we did better than your consensus projections. As Paul mentioned, it's primarily driven by the Raymond James tax credit fund syndication business, $10 million swing from last quarter to this quarter. Excluding that, investment banking revenues were pretty flat, maybe down slightly, which again on page 9 there's detail where you can see underwriting revenues up and M&A actually down slightly from last quarter.

Investment advisory fees, we came in below your expectations. One of the things I guess we didn't do very well at, because we didn't mention it last quarter, was that there was a couple million dollar performance fee in Canada that came in in the March quarter that was -- came in and a bunch of it was paid out as subadvisory fees, a couple million dollars total. So it was kind of an in-and-out on both sides of the P&L, but that distorted last quarter a little bit.

We spent most of the time last quarter talking about the difference because of the performance fee in the December quarter, but this factor obviously makes a difference in looking at June to March. So we are taking that couple million dollars out, that annual fee. It was more in line, both on the revenue and the subadvisory expense side.

Interest, we were just slightly below projections. Paul mentioned client cash balances. Actually, versus the year ago our cash balances are up about $75 billion -- I'm sorry, our total client assets are up about $75 billion, but our cash balance are actually lower than they were a year ago. They were 8.4% of assets a year ago. They are down to 7.1% now, so clients are certainly a little more invested, or at least holding less cash here, or in short-term cash equivalents such as CDs or very short term bonds and other things for the time being.

Accountant service fees were pretty much in line. Trading Paul already addressed. In the Other Revenue line we did better, obviously driven by the private equity valuations. And the other -- another factor in there, compared to last quarter at least, is one of the items at the Bank that drove their gain. There were really two items at the bank level.

While the net interest improvement of $3 million was roughly offset by a $3 million higher provision for loan losses, there were two items that changed quarter to quarter that caused the Bank to have a pretty dramatic improvement. One was in the March quarter there was a foreign exchange loss and in this quarter there was a foreign exchange gain. We still hold $30 million to $40 million of loans in the US bank that are denominated in Canadian dollars that we so far have not hedged. So that has been a little bit of a volatile item, but from quarter to quarter about a $4 million swing.

The other item that's in there has to do with a charge and a liability related to unfunded loan commitments, which is not part of the provision and loan-loss reserve, but is part of the P&L as a charge and it is in another liability account. There was one particularly large item that was a special mention credit that still was not in covenant violation. We had taken a bigger charge in March related to the potential of them drawing on that line and us having to take a reserve provision at that time.

It turns out that loan either -- we no longer are in that credit. We sold that loan out in the June quarter, so we -- that was about a $1.7 million charge in March and we reversed that in June, so that's about a $3.5 million item. So those two items make up the vast majority of the bank swing.

But going back to line items, the foreign exchange part and also the reversal of this credit charge are in this other revenue line. I'm sorry, the reversal of the charge in other expense, my apologies.

On the expense side, compensation; we are pretty much in line with everybody's expectations. A little higher maybe because the revenues were higher. We did achieve the 68% comp ratio for the quarter, but I guess obviously people can say, well, it was only because of some of these extraneous revenue factors like proprietary capital and things like that.

So we probably, on an operating basis, weren't quite there, but we still have that as our objective for our run rate in the fourth quarter to get to that 68% total comp ratio. But we are getting very, very close.

Datacom, you remember last quarter we talked about some seasonal factors such as the mailing of 1099s and then an unusual item, which was the move to the new datacenter in Denver. Most of you had adjusted that correctly. It actually came in a little better than your projections and probably our expectations as well.

We had some projects wrap up early in the quarter, so we ended some of the consulting agreements and things, but my guess is those will be replaced with other projects going forward. I would say we are still kind of guiding to the mid-60s per quarter on that, which is where you had us this quarter.

Occupancy, clearance, and floor brokerage business development were all right in line with your consensus. Investment subadvisory fees I talked about. The loan-loss provision we've talked about.

Then we are down just to other expense, which -- a lot of which is, and there's detail of this of course on page 9 in the press release as well, has to do with the consolidated tax credit partnerships. A lot of those losses come in every quarter now; it's not a once a year thing. We are going to have a number like that in our expenses, most of which comes out through non-controlling interests, which is another line item that was pretty far off from where the consensus chart was.

So you can see that almost all the $12 million expense from these partnerships came out through non-controlling interests.

The tax rate, I know we've been guiding you a little higher than it has been because we don't typically project a 5% a quarter market increase. We have been experiencing that and so we have been benefiting from the corporate-owned life insurance appreciation. That is a nontaxable gain to us, so in a rising market perhaps you could, if you wanted to be precise, factor that a little bit into the tax rate.

It has about been about a 1%, 1.25% boost to us so far on the tax rate this year. It's running about $7 million a quarter. We've got about $200 million in corporate-owned life insurance. It's not all in equities, so it's not all impacted by that, but it has been about $7 million a quarter so far this year.

A couple of the other things I will point out, we are frequently asked about the asset mix. We have seen a shift from a year ago. Equities were a little under half of our client positions a year ago. They are up to about 53% now. And that 5 percentage point increase came about 4% out of fixed income and 1% out of cash, as I mentioned earlier.

I would also like to point out that our firm-wide recurring revenues for the quarter were over 62%. For the year-to-date they are 61%, so we are nicely over that 60% plateau. I'm not sure if I would say we would like to stay there or we would like to grow it or not, because if it shrinks back under 50% it's because we had a whole lot of transactional revenues. And that's not necessarily a bad thing if there's a really active trading environment or investment banking environment.

Lastly, I would just point out that it was nice to see our shareholders equity top the $4 billion mark for the first time. So with those comments I will turn it back to Paul.

Thanks, Jeff. Just want to make a few comments before I open it up for questions. First, maybe to preempt a question I know will come on kind of our targets, I think as I said earlier we think the 15% margin and the 12% ROE targets are good targets for now in this operating environment. Certainly we are affected by the market.

People have been waiting for a market correction for a while. It may or may not come and for us it depends when it comes. If it comes in the middle of the quarter and rebounds, doesn't have a lot of impact. If it's on a quarter end it has more impact.

But we are well-positioned and we think these targets are good targets, given this interest rate environment. Until interest rates move, I guess if they move, we are maintaining kind of that outlook.

Our Private Client Group business has really been doing extremely well. I am proud, not just of the recruiting, but more importantly of the retention. We're getting great retention.

Coming from both of these conferences, the spirits of our advisors are very, very high. Part of it is the market is good and people are happy, but a lot of it is they are very happy with all our investments in technology and our continued high-level support. People just believe the firm is really helping them with their business, which is kind of our model.

We believe that that is kind of our unique position that we have advisors continue to move to what we call independent. And whether they are in the independent or the employee channel, we give our advisors a lot of freedom to practice business the way they want within our guidelines. As the deals in the wirehouses tend to burn off our recruiting pipelines stays very robust, so we expect as recruiting continues to grow and in a decent market that the Private Client Group business should do very, very well.

Capital Markets business is kind of the tail on the other side. Certainly over-the-desk commissions are challenged across the industry. We have been underwriting.

Certainly when the segments that we are really strong in do well. When the segments we don't participate in do well, we don't participate as much, which I would say has been the last quarter or two. We have had good syndicate activity, but not high this quarter of what I call lead activity, although July has been so far a good month.

Fixed income, like I say, we've got an A franchise -- I would say an A+ franchise -- operating in a D market. Until volatility and rates move, they are doing a good job at double-digit margins in really one of the toughest markets you could have, so I am proud of what they have done.

In our public finance business we have actually continued to look to recruit in this tough down market as we are solidly of the top 10. I think we are number eight year-to-date in the league tables in our public finance, so I am proud of that group.

Asset Management, because of inflows, partly because of the recruiting and the market increase, our year should be pretty well set. They should have another good quarter since a lot of their assets are already billed in advance, so they should have another solid quarter.

And the Banks continue to perform well. The challenge for us is we have been very clear at the Bank, if you can find loans that meet our conservative underwriting standards that are reasonable yield, continue to grow. And if you can't, don't make loans. They've been very good so far at finding good credits that meet our standards. This market is unpredictable, but the Bank has done a great job.

So overall we are in a good position, proud of what we have done. I think this quarter I would characterize as not as good as it looks, but very good, where last quarter we told you it was better than it looked. And I think the average, if you looked at nine months running (multiple speakers) so I think if you look at our first nine months operating and average it out, you can see that I think that's our operating level and feel very, very comfortable about where we are.

So with that, operator, I would like to open it up to questions.

(Operator Instructions) Chris Harris, Wells Fargo.

Thank you. Good morning, guys. Great quarter for recruiting. You kind of talked about that a little bit.

Just wondering, Paul, you guys are getting the benefit of some of these legacy retention bonuses rolling off. Based on your conversations, based on the flow you are seeing, how long do you expect that trend to kind of persist? Is this something that could go on for quite a long while or is this maybe something that might be just kind of a quarter or two benefit?

Remember what Tom said, and Tom is the master of phrases in opening this, he said when recruiting slows down we just wait for some of the big competitors to do something else stupid, which makes sense for them, but sometimes the advisors don't like what they view as the institutionalization of their business. As their banks tend to look at doing more products direct or relationships direct we seem to get the benefit of.

So I think there's an awful lot of people still, because the merger activity is pretty fresh, that grew up in firms like ours that don't like that kind of operating environment and tend to come. I'm sure the big banks own firms, from their strategy it makes sense because they are trying to institutionalize. And maybe over time they will get the advisors that fit their business and their business model, but I think we will continue to be the beneficiaries for a fairly decent period of time here.

Chris, I think that has probably caused a little bit of a wave. Generally when markets are as good as they have been lately you don't see a lot of movement, so that's probably what's driving some of it. But if the markets ever do slow down that just shows what the potential is here, because we are really in a pretty sweet spot.

I've been talking to a lot of managers and regional managers here at this conference and they say it's just a little bit out of the ordinary how many incoming calls we are getting from people because they like the story. They like the stability. They like that we are a private client group-focused firm.

They like to own their book. They like all the things that we've talked about as our differentiating features and I think that is sustainable. The market environment and model is what is going to change.

The other thing is that if you look at our record year, it was 2009 and we were just kind of a haven. We were the firm out of the news in a terrible market. So this has been a very, very good market for advisors, so to get this kind of flow -- most advisors don't want to upset their business when it's doing very, very well. I think it's a showing there are a lot of people searching a platform like ours.

That's all good to hear. Maybe just if I can ask a follow-up question or two on margins and I appreciate you guys already given us a lot of color there. As it relates to the bank, Jeff, you called out a few items.

Is it safe to assume then that under reasonable set of circumstances that the bank margin might drift back down from the level we are at now? And any comment you could maybe give us about potentially extra costs you guys might have to absorb when your bank trips the $10 billion asset threshold?

Chris, it's Steve Raney. Good morning. We are over $10 billion now. We are actually a little over $12 billion and subject to all of the regulatory changes looking to grow over that $10 billion, so that is really in effect now.

We have, I would say, over the last few years added to compliance and audit and oversight, meeting some of those regulatory changes, but it's not a material difference at the Bank. Clearly inside of Raymond James Financial we have had to add expenses. Being a bank holding company, we've added to risk management and that enterprise as well, but really I would say in general a lot of the expenses are already kind of in our numbers over the last couple of years.

In terms of net interest margins, we continue to see some pressure on margins. And as Paul indicated, we are not under any pressure to grow loans just for the sake of growing loans. We have been even more selective on credits, particularly if it's not meeting our return hurdle.

That said, as we have provided comments in the past, I would expect some slight net interest margin compression to continue over the next few quarters. It was down 9 basis points this last quarter.

I would say the bulk of that is in our corporate lending area. Most of the other areas there may be some slight deterioration of net interest margin, but it's primarily in our corporate lending and commercial real estate book. But, frankly, we are just passing on deals where we don't think that the net interest spread that we are being offered is commensurate with the type of credits that we are extending, so --.

My only add to that is that in looking at the new production, we are not really doing much new production at rates that would compress this. What is happening is, even if the new production is at steady rates or steady spreads, the fact is that older loans are what are running off or being refinanced. So you still have -- that's what's driving it down. It's not the new production coming on at lower and lower rates going forward.

I would mention, and we shared a line item in our numbers, our supplemental information on the bank and it was mentioned to you in the past, but we've gotten into the tax-exempt lending business. The net interest margins are actually -- on a tax equivalent basis are actually a little bit higher, but without the tax adjustment that does -- that will potentially have a negative impact on our net interest margin. That business is just under $100 million in outstandings as of the end of June, so still relatively small but a growing part of the Bank now.

Steve, if I can maybe get you to kind of identify a number for us or maybe a range, what would you say the bottoming of the NIM, what that number might look like assuming kind of rates don't change from here?

You know, we've been providing some guidance I would say maybe over the course of the next couple of quarters maybe another 15 to 20 basis points.

I was going to say 270-ish is my guess. Just a gut feeling; we don't have any economics to support that.

So far we have been able to use loan growth to offset NIM compression to keep earnings flat so --.

And that could continue.

But we don't know and production has been good.

It's interesting, embedded in the net interest margin is a fee recognition. The March quarter, for example, we had an extraordinarily high fee recognition quarter where loans were paying off where we had unamortized fees that we took into income. That actually kind of artificially inflated net interest margin in the March quarter relative to the June quarter, so that can contribute a couple of basis points.

But as Jeff said, I think kind of bottoming out at 270 or maybe even a little bit higher than that is probably a reasonable number for us to expect over the next few quarters.

Helpful. Thanks, guys.

Steven Chubak, Nomura.

Good morning. Steve, I think I'm not ready to let you off the hook just yet. I do have a follow-up question on expectations for loan growth. What I'm trying to do is reconcile -- some of the comments you had made in actually the last monthly metrics release highlighting a reduced level of or increased risk aversion within the commercial or C&I space given the deals that were coming across.

And I wanted to -- I just wanted to understand what our expectations should be for loan growth, particularly within that channel going forward. And maybe if you can give some context on the other channels as well, that would be really helpful.

Let me -- this is Paul -- make one big comment before Steve talks. Every time we give you guidance on loan growth it goes the other way. So Steve says it's going down, we just -- it's so hard to get visibility and we look credit-by-credit.

So with that, it's just -- I wish we could give you guidance, but it's based looking on the flow. If we like the loans, we will participate. If we don't, we don't. So go ahead, Steve.

I would just offer up that we have diversified the business over the last few years. As you know, we are doing business in Canada. That business has grown actually a little bit more rapidly than our US business. I mentioned the tax-exempt business, a business that we were not in six months ago that we are now in.

We do some project finance infrastructure type lending. Obviously we've got a commercial real estate business as well that we have selectively grown. So we've got a lot of different businesses and obviously a lot of different industries inside of our pure commercial and industrial portfolio, energy, healthcare, technology, consumer, a variety of different industries.

And those businesses they don't all run the same and they are -- some of them are countercyclical with each other and we've been able to pick and choose across this broad spectrum. We have been able to grow the C&I book. We've got the tax-exempt business now growing. Growing our residential business and our securities-based lending business we will go through $1 billion in outstandings this quarter.

We've got a lot of different businesses that can contribute to just being able to selectively grow. You saw the group loans 3% this last quarter. I think that growth in the 2% to 3% range per quarter is an achievable number given all of our different businesses that we are in.

But as Paul mentioned, if we are in one or two quarters, if there's not enough deal flow that we like that's in our sweet spot from a credit selection standpoint, then we will -- we can run flat or even shrink the Bank potentially.

Okay. Then moving over to the expense side at the bank; it's a follow-up to one of Chris's questions. Excluding the provision, we actually saw the core expense come down or rebase pretty meaningfully to $24 million versus $28 million last quarter. And I just wanted to get a sense as to whether there's any seasonality that's driving that decline.

It seems as though you have already invested in terms of regulatory and compliance or have made the necessary investments. So how should we think about that expense run rate going forward from a modeling perspective?

I know Jeff mentioned before the foreign exchange as well as the --.

That's in other revenue, but in the other (multiple speakers).

Yes, I guess just on the expense side.

We had the unfunded, that was a big number. It was almost $4 million change right there in terms of our unfunded commitments. We have a reserve for unfunded commitments, the unfunded portion of lines of credit.

We had a criticized loan that actually we exited in the June quarter, so we, in effect, released unfunded reserves that had a material impact to that line item. So our true expense run rate is relatively stable. There is no seasonality to it.

But the truth is probably in between the last two quarters or maybe trending a little more toward the March quarter actually.

Okay, thanks. That's really helpful. I guess switching gears and moving over to the investment banking side, the business did show growth in the quarter. The pace of growth has lagged some of the results that we've seen at your bulge bracket peers.

Looking at the M&A business specifically, and maybe taking Paul's comments -- constructive comments, if I should say, on the M&A backlog into consideration here, it does appear as though the recent M&A surge has been concentrated in larger deals. And wanted to see if this is potentially limiting your participation in the recovery that we are seeing.

I think two areas. In the banking area is where our flagship practices historically have been REITs, downstream energy, because of the MLP business; healthcare. When you have bull markets in bioscience or industrial or stuff we don't compete as much, because those are not our strongest spots, and we are building out some space in the consumer and others right now.

So on the banking side when banking activity in our sectors do well, we outperform. And when they are in the other sectors, we probably underperform the market just because that's not our sweet spot.

The same on M&A. I think our M&A backlog is good, but you're right on the headline numbers are very, very big or very big deals and they tend to hit the money center banks and the very, very large M&A firms. So as those big deals headlines come our market share is going to be down because we don't participate in those.

Makes sense. Then just one final one from me on the trading profits line. I suppose given the subdued volatility we have seen in fixed income markets, the revenue stream there has actually been quite resilient and I would argue has really bucked the trend that we have seen at some of your larger peers.

I was hoping you could explain really the factors that are driving that resilience. I would have expected that a higher volatility backdrop would in fact be better for that business, but we've also seen some favorable inventory marks, particularly in the month of June and wanted to get a better sense as to maybe -- whether that provides some incremental support.

I would say you have two things happening, which is when we -- part of the acquisition strategy at Morgan Keegan was that -- we had a good fixed income department. They had a great fixed income department and I will tell you they are better than we thought. The inventory -- the reason we can get still good trading profits on our inventory is because it just turns and the profits are just little pieces of lots of transactions.

They have a very good salesforce. We don't keep inventory long at all. We turn it rapidly and it's just very, very good management. Sure, if rates come in a little bit, we make more money because whatever we are holding is more valuable. But we do hedge a lot of the pieces of it; when hedges work we would have big movements in certain areas.

And so they have continued to consistently perform. If rates come in on some months it does better, but they have consistently every month -- the exception was last June a year ago when everyone got bit and everyone -- we got bit a lot less and traditionally carried bigger inventories than our competitors. They just do a good job of turning it, hedging it, moving it, and it's been pretty consistent. It's been consistent for a number of quarters, but that's what I say we have an A franchise in a D market.

So I don't see in the short term that changing much. Now if we get steep rise in rates it will probably hurt us.

If commission volume grows in the institutional fixed income side, you will see trading profits grow with it as there will be more transactions.

And we just don't like -- if it's a gradual growth, great. If it's steep rises, we could get hurt a little bit in inventory valuation. But it's well-managed and I think well-hedged and they just do a good job.

Okay, great. That's it for me, thank you for taking my questions.

Jim Mitchell, Buckingham Research.

Good morning. I just want to follow-up on -- you mentioned the capital ratios improving and I know you talked about in your investor day about looking at bolt-on acquisitions in asset management. Do you have any color; do you see any opportunities out there? Is it still you haven't really seen a deal? Are you struggling to find acquisitions?

Just want to get a sense of if you feel I guess more optimistic or less about the prospects of adding on to the asset management business or other acquisitions.

I would say the acquisition areas we have highlighted are both asset management and M&A opportunities, both in North America and Europe. I would say I am more optimistic in that there are -- I think it's a market where there are a lot of people and businesses that we like that are willing to talk, but it's hard to handicap.

We have a screen on culture and we found people with the right cultures, but a lot of those cultures are independent and typically independent firms don't trade. So it's a longer-term process. So discussions are good and if we get the right firm who's willing to join us and join the team, we will do something. If we can't, it's very lumpy. So I would say I am more optimistic, just because when there's more activity I am more optimistic, but I can't give you any guidance on probability or timing.

Okay, that's helpful for the color. Maybe just on the wealth management side; it appears like, if I can back into some numbers, that flows in your fee-based assets continue to be very strong.

Can you just help me think through is that a conscious effort on your part to move more assets into fee-based versus more traditional commission-based, or is that just more of demand from your client base that that's where they are putting their money more and more into the fee-based accounts? I just want to make sure I know if it's push or pull on that front.

With our FAs we let them choose the kind of business, but I would say a lot of that is driven by recruiting that we tend to -- a lot of the big teams that we recruit tend to be more fee based. It's interesting that before if we got a million-dollar team it was a big deal. Now we're talking to $5 million and $6 million teams and a lot of those tend to be fee-based businesses, so I think that's driving a lot of the numbers.

We see a lot of the more traditional Morgan Keegan advisors also who were more transaction-based slowly moving to a little more fee-based. That's helped some in those numbers, but I think a lot of it is driven by recruiting.

Okay, that makes sense. And with the recruiting, it seems like after being flat for about the last year, you ticked up about 1% in net advisors outstanding.

What is sort of the -- how long does it take to get them ramped up once they come on? Is it pretty immediate? Is it a couple of quarters until you see the full impact of the new hires? Just want to get a sense on the timing.

We would say the full book is over in a year, so the first two quarters I think a good chunk of the book moves over. So a couple of quarters to get the bulk of it, maybe a year to get them back up and running, so that's kind of the lead time. That should continue to drive results.

Right, okay. That's helpful. That's all I got, thank you.

Alex Blostein, Goldman Sachs.

Good morning, guys. First question I guess on the retail business. Clearly you guys are -- retention levels are good and asset gathering is very strong. I was wondering if you could comment on the retail activity trends in the quarter it all, because it looks like when you look at just the PCG commissions they were up about 1% sequentially. Presumably majority of that has been driven by just higher market values and higher asset value, so can you talk a little bit I guess about the level of activity within the channel?

Yes, I think that the results are driven partly kind of recruiting in the market, but the truth is that the transaction level is down just like it is in fixed income and ECM over the desk. So if you look at the whole market, transaction business is down; it was true in PCG. So the 1% growth was net and so the fee-based business was actually up and it was brought down by lower transactional business.

This environment I think our competitors that are more transactional based will have lower results, just because activity in the market is down. And our model has been and continues to perform in this environment.

Makes sense. At the investor day you guys pointed out the fact that the amount of retail cash that is still on the sidelines is quite low, towards the low end historical ranges. And it's the same kind of dynamic within the some of the other retail-oriented brokers.

Do you see that drawdown still happening over the course of the quarter, or do you think we have kind of troughed out and it will just be more challenging to find kind of incremental dollars for retail investors to sort of put to work?

If you look at the shifts, the shift has been to equities. We have had a pretty good shift to equities really over the last year. A lot of it out of fixed income, and as Jeff mentioned, some out of cash.

I think there's more activity, because it's hard to tell in our numbers but I think cash is down because people are tired of earning 1 or zero bps wherever they were. And I'm not sure all that money -- part of the equity growth has been the market growth, so the share changes. I think people are just using short-term bond funds and other vehicles -- I can't prove it -- to park money because they want more of the yield.

So I can't tell how much -- there's certainly been some move to equities, but I'm not sure it is as dramatic as it looks and I'm not sure drop in cash is as dramatic as it looks. And this is the problem with any time somebody fixes something in the environment, in this case the government and interest rates. You get all sorts of behaviors that are hard to figure out until the rate protection comes off and you see the market normalize. It's a good question, just difficult to answer accurately.

Got it, I appreciate it. The last one from me is just I wanted to follow-up on Steve's question around fixed income trading. The way I'm trying to characterize it is we have been in a, to your point, a D type of environment in fixed income trading for quite some time.

You guys are not alone in it. Your fixed income commissions have been kind of like in the low $60 run rate for the last four quarters or so. I was wondering if you were just to think about no inventory marks, no big changes in interest rates, is this effectively kind of like the trough level of activity that we could expect, i.e., if you just kind of show up and turn the lights on like that's kind of the amount of run rate revenue that you think the business is capable of generating without the environment getting better?

We hope so. First, our guys work really hard so we do want to turn the lights on. They work hard to generate that and hard to keep the relationships.

And I think we're at the trough. We thought so for a couple quarters but it's gone down a little bit. We get some really good days and then it flattens back out, so I think we are at this run rate level until something happens in the market.

I don't think it will deteriorate much from here. I think we are probably at a trough level. I always hate to say that because something happens that you don't anticipate, but I think -- this has been a tough environment. They are doing a good job and I think this is kind of the run rate until something happens in commission.

Got it, good. Thanks for the answers, guys.

At this time there are no further questions.

Okay, thanks very much. I think in summary we are very pleased with the operating result of the quarter. I think we showed strong underlying businesses, especially proud of the dynamics in the Private Client Group.

I know that sometimes through the last year people have said, well, where's the results? Where's the results? We are kind of a slow, steady long-term producer and I think it's showing up in Private Client Group and Asset Management. Of course, we are subject to market fluctuations like anything, but I think our model is strong.

Hopefully, we will get some rate movement which I think will help all the capital markets business and activity flows, but feel good about where we are going. We are well-positioned and we will continue chugging along. So appreciate your time this morning and we will talk to you soon.