Stifel Financial Corp (SF) 2016 Q2 法說會逐字稿

Good afternoon, my name is Chrissy and I will be your conference operator today. At this time I would like to welcome everyone to the Stifel Financial Corp. second-quarter 2016 earnings conference call.

(Operator Instructions)

I would now like to turn the call over to Jim Zemlyak. You may begin.

Thank you, Chrissy. Good afternoon, this is Jim Zemlyak, CFO of Stifel. I would like to welcome everyone to our conference call today to discuss our second quarter 2016 financial results. Please note that this conference call is being recorded. If you would like a copy of today's presentation you may download the slides from our website at www.stifel.com.

Before we begin today's call I would like to remind listeners that this presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are not statements of fact or guarantees of performance. They may include statements regarding, among other things, our ability to successfully integrate acquired companies, our branch offices and financial advisors, general economic, political, regulatory and market conditions, the investment banking and brokerage industries, our objectives and results, and also may include our belief regarding the effect of various regulatory matters, legal proceedings, management's expectations, our liquidity and funding sources, counterparty credit risk or other similar matters.

As such they are subject to risks, uncertainties and other factors that may cause actual future results to differ materially from those discussed in the statements. To supplement our financial statements presented in parts of GAAP we may use certain non-GAAP measures of financial performance and liquidity. These non-GAAP measures should only be considered together with GAAP results. To the extent we discuss non-GAAP measures, the reconciliation to GAAP is available on our website.

And finally, for discussions of risks and uncertainties in our business, please see the business factors affecting the Company and the financial services industry in the Company's annual report on Form 10-K and MD&A results of the quarterly reports on 10-Q.

I will now turn the call over to Chairman and CEO of Stifel, Ron Kruszewski.

Thanks Jim, and good afternoon, everyone. Thank you everyone, for taking time to listen to our second quarter 2016 results. Earlier this afternoon we released our press release with our second-quarter results and posted a slide deck on our website.

First, I'll run through our financial results for the quarter, as well as the continued progress we made in growing our balance sheet. I will then discuss some of the key questions impacting our business, such as non-core expense runoff, the Department of Labor rule, our recent asset sale and capital raise, before opening up the call to questions.

With that, let's start off with my opening comments and some of the highlights for the quarter. We are pleased with the results in the second quarter as we posted a second consecutive quarter of record revenue and increased adjusted EPS by 21% sequentially, despite a less than ideal market environment. The diversity of our business model was again illustrated by a rebound in investment banking activity and growth in our banks, which more than offset the sequential decline in brokerage revenue from the first quarter's record level.

Although the market environment remains challenged as macro level events in the first half of 2016 led to spikes and volatility that weighed on investor and corporate activity, we believe that Stifel remains well-positioned to capitalize as markets improve. In the past month we have sold off the lower margin legacy businesses from the Sterne Agee acquisition, raised preferred equity and refinanced higher cost debt. These actions have further strengthened our already strong balance sheet and will facilitate our continued efforts to optimize our capital base and increase shareholder returns.

In terms of the result from the second quarter, total net revenue for the quarter was a record $652 million, up 5% sequentially and 9% year over year. Much of the growth was driven by a rebound in the institutional group that generated revenue of $261 million, up 8% sequentially. The higher institutional revenues were the result of a 43% sequential rebound in advisory revenue and a 25% sequential pickup in capital raising, which more than offset a 7% decline in institutional brokerage revenue.

Additionally, our global wealth management business posted another record revenue quarter of $386 million, up 2% sequentially and 12% year over year. Brokerage revenues slowed following a strong first quarter, but revenue growth benefited from balance sheet growth at the bank and improved syndicate activity. More specifically, revenue at Stifel Bank & Trust was up 5% sequentially and 36% over 2015 due to both higher short-term rates and balance sheet growth. Assets at the holding company level increased to $15.2 billion at the end of the quarter, and are up 50% from the same period a year ago.

So, overall revenues are up 9%, but EPS on a core basis declined 3% -- these are year over year -- to $0.69. The decline from the same period a year ago was due to headwinds that included weaker commissions, lower underwriting revenue, a higher comp ratio and increased bad debt expense. Again, all as compared to the second quarter 2015.

Since the end of the first quarter we have repurchased 600,000 shares of stock. In May we completed the acquisition of ISM. In June we announced the sale of the legacy correspondent clearing and independent business of Sterne Agee. In July we raised $150 million of preferred equity, issued $200 million of our 4.25% senior notes and redeemed $150 million of the 5 3/8% baby bonds. So we've been pretty busy.

Let me get a little more granular and go through our revenue and segment results. We increased net revenues again sequentially and annually. Improved sequential results were the result of improved investment banking revenue. The improvement in this line item augmented continued improvement in asset management revenue and net interest income, which both increased sequentially and annually. Both Global Wealth Management and Institutional benefited from improved Investment Banking results and our recent acquisitions, as well as our increased balance sheet.

Total Investment Banking revenues of $133 million increased 32% sequentially and offset a sequential decline in brokerage revenue from the record levels that we achieved in the first quarter. We continue to generate strong fixed income brokerage results despite a pullback from first-quarter level.

Turning to the next slide, our Global Wealth Management segment continues to benefit from our recent acquisitions as well as growth in the balance sheet, revenue of $386 million. These growth initiatives helped maintain relatively flat brokerage and asset management revenues sequentially, but resulted in year-over-year growth of 8% and 21% respectively. Net interest income was the largest driver of growth both sequentially and year over year, as we added $1.1 billion of assets to the bank balance sheet during the quarter. Total advisors were 2,838 at the end of the quarter, but I would note this includes 540 independent advisors that were included in the sale of the legacy Sterne Agee business.

Total client assets reached almost $238 billion, but this includes, again, about $11.5 billion of assets are included in the Sterne Agee sale. Fee-based assets totaled $65.6 billion, up 3% sequentially and 13% year over year. There is some geography things, some of the analysts may note, and that we re-classed some of these assets into fee-based assets, and that's something that we can talk about in questions and answers, if there's any questions on that. Increased revenue and sequential declines in both comp and non-comp expenses resulted in the Global Wealth pretax operating margin of 27.2%, which is up 260 basis points.

On the next slide we look at the results of Stifel Bank & Trust, which benefited from growth in assets as we continue to conservatively lever our balance sheet. Total bank assets are now $9.4 billion, increased 14% sequentially, it's almost doubled from a year ago. Bank loans of $4.6 billion increased 23% sequentially, primarily due to growth in residential mortgage loans.

Investment securities totaled $4.6 billion, and highlights that despite the flattening of the yield curve in the quarter, we've been able to grow this portfolio with reasonable yields of more than 2%, duration of approximately two years and certainly solid credit quality. Even in the current rate environment we continue to be able to grow the bank by investing in loans and securities that generate a 15% return on equity, inclusive of our interest rate hedges. Consequently, the current market environment is not impacting our strategy.

The NIM at the bank, though, declined 12 basis points sequentially, 236 basis points. The decline in the NIM is attributable to an increased investment in security-based loans and mortgage loans, as well as increased agency MBS holdings. The loans carry lower yields, and in terms of the agency MBS portfolio we experienced faster prepayment speeds that led to increased amortization expense, which of course impacts our NIM.

Additionally, the NIM was negatively impacted due -- in many ways we had rapid asset growth, as a result we funded it with an increased level of federal home loan bank deposits, which we did repay at the end of the quarter with our sweep deposits. But this increase, by funding to a federal home loan bank funding, accounted for about six basis points in the decline of our NIM. Again, those have been substantially repaid by core deposits.

The provision expense in the quarter declined to $1.8 million from $4.4 million in the prior quarter, but is up $1.4 million compared to 2015. Really, the additional reserve is primarily due to loan growth, that is to be expected as we grow the balance sheet. The percentage of reserve to loans decline in the quarter, was really driven by residential mortgage growth and security-based loans that carry lower provisions for that asset class.

Net NPLs and NPA ratios in the quarter were 80 basis and 37 basis points respectively, up from 63 basis points and 28 basis points in the first quarter. The increase was due to a single loan that was placed in non-accrual status.

Moving to the next slide, our Institutional group generated $261 million net revenue, up 8% sequentially, again due to stronger investment banking revenue. More specifically due to strong advisory and equity underwriting revenue. They each increased 43% versus the first quarter. Not saying much as it relates to the first quarter, it was a difficult quarter but we did, as did the Street, see sequential improvement in both advisory and equity underwriting.

The stronger investment banking revenues helped to more than offset sequential decline in brokerage revenue from the record levels we achieved in the first quarter of 2016. The improved revenues in the quarter and lower comp ratio drove a 410 basis point sequential improvement in the segment's pretax margin, which came in at 16.2%.

On slide 8 we look more closely at some of the components of Institutional revenue. Our business benefited from less market volatility in the second quarter than what we experienced in the first quarter, except at the end of the quarter we did see volatility which related to the Brexit vote. The increased business benefited advisory, or the stability, if you will, benefited advisory and the underwriting business and more than offset less active trading markets as both equity and corporate bond buyouts declined.

Our quarterly fixed income brokerage revenue was $81 million for the quarter, and was down 3% sequentially but up 50% year over year, due primarily to our Sterne acquisition. While net that revenue declined modestly, sequentially our fixed income business continues to benefit from our recent acquisitions and represented 60% of our institutional brokerage revenues in the second quarter of 2016. We continue to increase market share in both investment-grade and high-yield, while also gaining traction in our new emerging market business.

Institutional equities revenue up $55 million declined 12% versus a strong first quarter of 2016, and was relatively in line with the 15% decline in industry-wide average daily buying during the quarter. As I've said in the past, the diversity of Stifel's business model is a tremendous asset, and the rebound in our investment banking business is an illustration of this.

Advisory revenues totaled $68 million and was up $20 million from the first quarter of 2016. It was the strongest quarter since the fourth quarter of 2014. The improved performance driven by overall increased activity as we did not have one single large fee that stood out in the second quarter, unlike the first quarter when we benefited from a large fee tied to the Microsemi deal.

As far as out pipeline, it remains solid as we continue to see decent activity from the tech and consumer sector. ECM equity underwriting revenue was $27 million and it was up 43% but again, from a very weak first quarter of 2016. While we are pleased with the improved performance, I'd note that year-over-year equity underwriting is still down 46%.

The number of US equity offerings increased 50% sequentially, but is down nearly 30% from the second quarter of 2015. The number of IPOs rebounded to 33 from nine in the first quarter, which had been -- the first quarter had been the slowest quarter since the first quarter of 2009. While it remains difficult to predict near-term issue windows, our pipeline continues to build with quality issues preparing to access the market, so overall for equity underwriting, we continue to believe that despite the improvement, there is still significant upside to this business for us as markets improve.

In terms of our debt capital markets business, we continue to see very solid results in our public finance business, as Stifel ranked number one in the number of issues underwritten in the first half of the year nationwide.

Next we will move on to our expenses. On slide 10 we walked through both compensation and non-comp expenses, as well as the reconciliation of our non-GAAP results to our GAAP results. We are presenting this slide differently this quarter to better illustrate the non-GAAP charges we incur as we get closer to the vast majority of these charges coming off of our books.

Adjusted compensation expense of $410 million was up 4%, the quarterly increase was mostly due to higher revenue as our comp ratio was 62.8% which declined from 63.6% in the first quarter. It is actually below the midpoint of our targeted range of 62% to 64%. As we continue to grow the balance sheet, and if investment banking revenue continues to improve, we would expect to see the comp ratio decline as these revenues carry a higher margin. But we continue to be comfortable with our prior guidance of 62% to 64% as it relates to compensation. Non-comp OpEx came in at $158 million, up 2% sequentially, at the high end of our forecasted range of $153 million to $158 million.

The ratio in terms of expenses to revenue was 24.2%, down from 25% in the prior quarter. Sequentially the increase is mostly attributable to higher travel, promotion expense as well as elevated expenses on the litigation side, and increased FDIC insurance costs. I just want to caution that legal expenses generally are lumpy and can move around.

In terms of the reconciliation of our GAAP results, the vast majority of adjustments that we make, the expense items are primarily the result -- well they are all the result of acquisitions, and much of it is related to how we look at purchase -- the way we purchase companies.

The total expense adjustments in the quarter were $68.1 million, with $50 million related to comp, and $18 million related to non-comp. In terms of our outlook for the third quarter of 2016, we think it relates to non-comp OpEx, we think in the range of $155 million to $165 million as appropriate. The low end of the range accounts for the cost savings from the Sterne Agee sale, and the higher end accounts for the potential of the more volatile items which would be, again, increased loan loss provisions and any legal expenses, which again, tend to be more volatile.

This is a pretty good segue into slide 11,that provides further details on the specific deals tied or non-GAAP charges. I've consistently said that our long-term approach to acquisitions and sub-structure transactions that maximize both associate retention and acquisition fees, which we believe we have achieved in each of these transactions, the total charges as we had forecast for the quarter were $69 million.

It was lower than what we talked about, but that was because the stock-based comp for Barclays will be fully realized both in this quarter and next quarter, and that has to do with timing issues associated with informing employees as to the final dollar amounts of the grants. So net-net, about $24 million of the charges that we expected this quarter will occur in the third quarter of 2016.

After 2017, I would note that we have no further non-GAAP charges associated with this transaction, or frankly any transaction that's on our books now, as core and GAAP will come together, start to come together a lot in the fourth quarter, but totally comes together at the end of 2017 -- actually the first quarter of 2018. I would also note that as a function of the sale of the Sterne Agee businesses, some of the expected charges that we had in the third quarter of 2016 were realized in the second quarter of 2016.

Turning to the next slide, this is an update of the slide that we showed last quarter that focuses on the convergence of our core and GAAP EPS as our current deal-related expenses run off. GAAP EPS was impacted in 2015 as we not only have legacy deal costs coming to an end, but the impact of two large acquisitions, Sterne Agee and Barclays. This resulted in a $1.24 share differential between core and GAAP EPS. In the first half of 2016 we have incurred $0.78 of GAAP charges, barring further acquisitions, as I've said, we expected GAAP charges to substantially wind down beginning in the second half of 2016. So if you look at the impact of these deal-related charges compared to current consensus estimates for 2017, our GAAP EPS could effectively double in 2017 from 2016.

We remain highly focused on integrating our current acquisitions in the most accretive way possible. This was illustrated by the recent sale of Sterne Agee. Over the past year we analyzed how to integrate these businesses into Stifel. Our analysis indicated that the risk-adjusted returns didn't make sense for us given the changes in the regulatory environment and the lower margins -- really coupled with the lower margins generated in these businesses. Our focus on integration does not preclude us from doing another acquisition if the economics would be compelling, but we felt it was the best use of shareholder capital to do this divestiture.

On the next slide we quickly review the balance sheet and our repurchase activity. Total assets continue to increase in the quarter. I think we'd said that we would achieve over $15 billion by the summer, I think we said that last year, and we came in at $15.2 billion as we continue to use our excess capital conservatively to lever the balance sheet. Interest-earning assets averaged $11.4 billion during the quarter. It's up 63% from a year ago. Firm-wide NIM was 171 basis points. I've already talked about the decline in NIM, and I would say that the same reasons are true here, firm-wide as in the bank.

One thing that I want to mention was the change to the chart on this slide. We increased the level of historical IEA in the slide as we believe that some of the revenue attributable in the past should've been attributable to specific assets. So the adjustment here drove a decline in NIM. As we continue to refine our disclosure, we believe this disclosure will better reflect what's going on in the balance sheet.

We continue to maintain strong capital ratio despite the growth in our balance sheet. As you can see, our Tier 1 risk-weighted assets improved in the quarter despite the asset growth, as we continue to focus on agency MBS and security-based loans that carry much lower risk weightings.

In terms of rate sensitivity we see modest benefit from the 25 basis point December increase in fed funds due to some of our loans that are tied to 90-day LIBOR. But the impact to our financials from this is immaterial, and we are maintaining our guidance of $66 million of incremental pretax income annually from a 100 basis point increase in fed fund rate. We currently have 7.6 million shares remaining on our existing authorization. As I said, we've purchased 600,000 shares to this date from the first quarter.

In the last few slides before we take Q&A, I want to touch on a few of the more important topics to Stifel in the near-term. We will continue to be opportunistic in repurchasing shares. We continue to believe that utilizing our excess capital increases leverage in our balance sheet, also offers very attractive returns. We've used the bar chart here for the past four earnings releases, first as a way to illustrate how we manage our balance sheet as we invest in infrastructure in preparation for crossing the $10 billion threshold, and more recently to show how rapidly we have been able to grow assets while effectively managing risk.

Our balance sheet, as I've said, is over $15 billion. We added $1.2 billion during the quarter. Our risk weighting asset density decline, and so I overall, I think that what this shows is that we have been able to do what we've said with the balance sheet. So, subsequent events and industry issues, as I said, we closed the sale of Sterne Agee, we issued $150 million of noncumulative preferred shares, think that's the effective way to optimize our balance sheet. We issued $200 million of senior debt while recalling $150 million of our 5 3/8% senior debt.

So with that, let me conclude by saying I'm happy with our results in the first half despite the challenging market condition. I believe we continue to operate well below our capacity and that our shares remain meaningfully undervalued. With that, I appreciate you taking the time to listen to our call and your interest in Stifel and operator, with that I will take questions.

(Operator Instructions)

Christian Bolu, Credit Suisse.

Just a couple of questions on the bank. On the investment securities line, I think you mentioned your getting about 2%-type yield on assets that have about a two-year duration. Just give us a bit more detail on what you are invested in, and then just talk also about the credit dynamics in the loan book. Really strong loan growth but I believe loan losses were actually down. So explain the dynamics there, and how we should think about provisioning going forward.

I think what we have been doing is what we have been doing in the past. Our portfolio consists of agency MBS, CLO, corporate bonds. We have purchase some securities and we purchase some loans, all of which are at attractive risk-adjusted returns. I think some of that question can be, in some of the cases I believe that when you purchase loans, you are purchasing them at effectively fair value versus originating, where you put some provision on.

But that's not that material, but we have -- Overall what you will see is what we have always said in the bank, is that we believe that with our low funding base and our efficient model we can generate 15% ROEs by not taking a lot of risk, and that is evident in our NIM. There is nothing really that changed in the quarter other than the fact that, as I said previously, we had really throttled our growth for a few years, and this is just indicating that we can grow and grow with acceptable Return on Equity.

Okay. I only ask because the yield is a little high than some of what we get from some of your peers, but I hear you. Maybe just on how you pay, or how you compensate on bank-related earnings? I guess the comp ratio is higher year over year, that is by the significant increase in interest revenues. How do you think about compensation for that line?

That's a fair question. Compensation is, all things being equal, if we were operating what I felt was more full capacity of the investment bank, which we are not. I'm very pleased with record revenue but will tell you that in this environment, all things being equal, I'm actually disappointed with where our revenue is. We've had -- it's a very difficult environment and despite our record revenue we can be higher.

So as we have less revenue, our expense ratio might otherwise be higher. Of course net interest income, which carries a much lower comp ratio should drive it lower. I can't give you the components but I understand what you are asking and if we were operating at a more, what I would view, robust environment on the non-interest income, the operating revenue side and our comp ratio would be lower.

Okay. And trying to understand how much more of the potential balance sheet side, we know you target on the $18 billion, but just can you let us know how much client cash you still have off balance sheet today?

Well, at this point, I would say we have more than we can deploy right now. Okay? To get to $18 billion, and we have obviously, looking forward, but we have customer deposits core as I view them, it's our clients' sweep deposits. We have more than we can utilize right now, Christian.

Okay. My final question, taking a step back on acquisitions, when you look at the contribution of Sterne and Barclays post acquisition, maybe any lessons learned, or does it in any way change the way you think about M&A going forward?

No. I would say that, as I said in the Sterne deal. As I said at the time we did the deal, we wanted the traditional branch offices. We wanted the fixed income of businesses that really supplemented and improved our credit business.

We did not want the mortgage business. We sold it. We did not want the institutional equity business. We sold it. And we looked at the independent clearing with optionality.

Since we have done that deal some things have changed on the regulatory front that have changed our overall view towards those businesses. We sold them well within our model, as to how we valued them. So I do not know -- I am not sure what was learned.

I think what you can take away, or what investors can take away from this is that we evaluate all of our businesses on risk-adjusted returns. We are not just looking to grow for growth's sake. If we don't think a business fits our core objectives we will do what we have done in the past, and that is in this case we divested of that business.

As I have said the potential of the Department of Labor rule I think has sort of a disproportionate impact potentially on the independent business, and that certainly weighed into our thought process. Plus, the business needed restructuring with what we had with the low-margin business. We just felt that with everything we were doing we would be better to redeploy the capital, and this transaction is accretive to what we're doing going forward.

As it relates to Barclays that's a great transaction. Almost all of that transaction is, the purchase price is in compensation expense. Some people don't like that we transaction --do things by doing compensation expense instead of purchase price, but that's how we do it and we would do it again, so that effectively the purchase price is retentive over eight to nine years. The only thing that I've learned from that transaction is I would like to do it again.

Okay. Do you have a number for what, when you look at the contribution today of those two deals, what their risk-adjusted returns are?

Of course we do, and I think that while I don't have them here, you can go back and when we did the Sterne Agee deal we showed the contribution and what we expected on our risk-adjusted return on investment, return on investment including any non-GAAP charges that we had. We included that in our investment. I would say that as I've said of Sterne Agee, the fixed income and traditional wealth management businesses are performing very good on a relative basis. The markets are difficult and obviously we divested the businesses that we did.

We also disclosed our effective purchase price of Barclays, which included what we paid the seller and what we paid for retention. In stock-based comp, that's running through, you can go back and look at that slide. I would say that, that business is performing with the exception that there and elsewhere the equity calendar, the last thereof of syndicate has impacted the same-store sales if you will, both in that business and overall on Stifel. That is more market-driven than it is any client engagement or any other performance issues. There is very little going on in equity capital markets.

Okay. I appreciate the detailed answer. Thank you.

You are welcome.

Steven Chubak from Nomura.

Just had a follow-up relating to Christian's earlier question about some of the NIM guidance, and recognize there are a lot of different moving parts this quarter. I'm just wondering how we should think about the NIM outlook or trajectory based on the current forward curve, given that the FHLB deposits have been repaid, and assuming that some of the other variables you mentioned, the 2% reinvestment yield and the targeted 50-50 mix of loans versus securities you've talked about before is maintained?

I would think that as we continue to grow I would think that 50-50 would -- as it becomes more loans the NIM will expand by definition. I would say that as it relates to this quarter, all I will really say is I believe the NIM was compressed this quarter for the reasons I gave you. Looking forward I would expect it to go back to what it was more historically. And that historical NIM is reflective of our low funding costs, our hedged strategy and our conservative viewpoint both on loans and on investment.

But for the quarter there were factors which I've discussed that compressed the NIM by 13 basis points, if I remember what I said. As I said six of that, we had a lot of growth and we ended up funding some of that growth with advances versus sweep deposits, although we did move those sweep deposits toward the end of the quarter. Kind of an immediate switch from a funding perspective. I think the NIM was compressed. I think it will go back to more historical levels, and I think we will continue to grow our balance sheet.

And thinking about the capacity to onboard some additional deposits, I know you were speaking about that earlier and noted that given some of the capital constraints that might preclude you from doing so. But thinking about optimizing your capital structure and the fact that you guys had actually issued some qualifying preferreds in the quarter, how are you thinking about optimizing that mix of common versus preferreds, and would you maybe use the additional preferred issuance as a vehicle for expanding the balance sheet, possibly beyond that $18 billion interim target?

Look. First of all I don't think I said we were constrained. I did not mean to imply, if I did, that we were constrained in balance sheet growth by our capital ratios. In fact, we are not at our target level. What happened with that is that, first of all as it relates to that growth we're generating a lot of cash, we're generating a lot of earnings, we have a lot of deposits, so I can see if you put all of those together we are not constrained with balance sheet growth.

The flipside of that is to the extent that we decide that a better use of capital is to repurchase shares that obviously impacts our capital clearly. But we have been growing and I do not feel constrained by the capital ratios at this point, nor do I feel constrained by funding constraints.

As it relates to the preferred, it is really pretty simple math and that as we continue to leverage, and if you look at it just from a perspective of whether or not we repurchase shares or we use that preferred -- which is Tier 1 capital, as you know -- when we look at our capital structure, we just need to beat the hurdle rate of the preferred interest rate.

And so we believe that preferred, with that coupon, helps us leverage our ROE to common. It is really just a component of Tier 1 capital, and it is a way to trade, if you will, returns on Tier 1 capital which we believe will be above the six and change yield on the preferred.

One more follow-up for me, maybe switching gears to the fixed income side. You managed to put together a string of two to three really solid quarters in a row, the fees running in that $75 million to $85 million a quarter range, and I am just wondering whether that is a reasonable expectation going forward?

Also, how we should think about seasonality in your business? I know it's quite a bit different in terms of the mix and how much flow versus derivative compared to some of your bulge bracket peers.

First, we have never been really a manufacturer and where we are driving revenues through securitizations and buying and packaging and doing that. Our business is a more traditional advice, servicing clients business.

I view the fixed income market, a lot of people who question it, the way I look at it, the fixed income market has expanded substantially. Just look at corporate issuance over the last four to five years. Corporate bond outstandings are up 400%, yet the industry is producing capacity to service that.

We have a talented group of people across the spectrum of both rates and credit, and at one point sort of the tailwind of declining rates might be replaced, eventually hopefully will be replaced as rates rise, but the need for having what we've built when the flow is reversed, the Company is issuing bond funds buy, that's easy. Bond fund sell and you have to place that, that's going to enhance what we have built on the sales and trading sites. We like what we have done, we've put some good quarters together. I think it's a highly fragmented market where people are pulling back, so we like our prospects.

As it relates to muni finance a little bit different story, muni finance because of the rates, muni finance is a business that many could argue is near cyclical highs because of refinancing activity. I certainly would not argue with that, but as I look forward what I see is the potential for policy decision at the fed level which encourages, to various means, infrastructure spend -- I think that is actually, everyone is saying that -- and so to the extent infrastructure spend may then help the muni finance business as refis tend by definition to go away.

So overall, I think our fixed income business is in great shape. We have great business. We're gaining market share. We don't take a lot of risks.

Thank you for the helpful detail. Appreciate it.

You are welcome.

Conor Fitzgerald, Goldman Sachs

First, I appreciate the new breakdown you gave on the adjustments on the expense side, but I'm hoping you can elaborate on a couple of items. One, just what exactly are the duplicate costs in compensation? And on that same topic is, why have duplicate costs for non-comp grown quarter over quarter? Appreciate some clarity on both of those.

Yes, well, as we disclosed the biggest item is the stock-based comp that we, the way we structure transactions is that when we determine a value for a deal -- and you have to go back and look at our analysis of Barclays, I do not have it in front of me now, but we said that of that deal, that there was stocks-based compensation of approximately $60 million that we would, instead of giving to the seller, we would give to our new partners and then we run that through a fact-based comp as a charge. That's the stock-based comp. Let me look at the slide. Are you asking on the slide about the duplicate comp, the $3.3 million?

Yes, $3.3 million.

That is really related to the Sterne business, which we were converting. So we had duplicate comp for running two operations centers that we built into purchase price because we expect it to go away. You won't see that going forward anymore. We sold that business so that is gone.

Okay. And that's what drove the increase in the non-comp, the $11.3 million? The same Sterne business?

Yes. Again, if you look, this is consistent and will be consistent, we projected these costs and those were the expenses that were acquisition-related that we intended to go away as we fully integrated those businesses and in fact that in this case we changed our mind as related to these last businesses, and we sold them, so they go away that way.

Okay. Got it. And then maybe a two part question maybe just to help in the modeling. Can you give us a little bit of a better sense of exactly when you expect the Sterne corresponding business clearing, the sale to close in 3Q?

It closed.

Okay. So following up on that, if I back out some of the non-comp costs from that, I guess you are saying that was not included in core? So your core $158 million of the adjusted non-comp did not include anything from Q2 perspective from the correspondent business?

No, again, what we do, what we do is that we looked at, on a core basis with what we expected to keep after we eliminated the duplicate expenses, the Sterne business contributed about $100 million in revenue and was marginally profitable on a core basis. It was a low-margin business and so we have not disclosed what the non-comp OpEx in that business was, but I am telling you that it was marginally profitable. And then we do disclose what the non-comp expenses that primarily relate to the duplicate operating center that we were going to close.

And so going forward I would say that you will see on a quarterly basis about $25 million in revenue go away, a little bit, very little core profitability, but more than offset by the fact that we had capital deployed down there and we will redeploy that capital. Net-net in the sum of all of that is accretive.

Okay thanks, that's actually very helpful. Just following up on the guidance for non-comp expenses on a core basis, next quarter to be, I think I heard you right, the $155 million to $165 million range. Can you talk about what is driving the quarter-over-quarter increase?

We are at $158 million, right, and I think that as you look at these things, and there are items that can fluctuate that are not as easily predictable. Take loan loss provisions, depending on how and what you do in C&I loans and how that runs through non-core expenses of provision. And so I am comfortable with the range.

We have a little bit of downside because we do save some expenses on Sterne, and we have an upside but I would rather have a little bit more of a range here than trying to have precision where precision does not exist. And that's it. So I'm trying to give you the best I can.

Okay. Appreciate the color. Thanks for taking my questions.

Chris Harris, Wells Fargo.

Question about the bank. We have not really seen a full credit cycle there yet. I think you had less than $200 million or so of loans there back in 2007. So, really just wondering how you feel like the bank is positioned if we do get a turn in the cycle, and in particular would like to hear how your C&I loan book is positioned for that kind of environment?

Well look, I think that, as evidenced again by the NIM and where we take credit risks, I think we are well positioned. We went through a pretty severe energy cycle here, as one, so it isn't that we haven't had any credit events since 2009. We positioned the bank to be very high quality, both our investment portfolio is very heavily weighted towards agency-type portfolios so that hopefully takes away credit risk. And the US government is AAA and then we hedged interest rate risk and so, that's how we look at it and we have been consistent on that.

The C&I book, as I look at it we have grown, we have been over, we've grown from $200 million to $9 billion and we've had the bank for nearly eight years. So there is some history there. I think we are well positioned.

I am not going to give out a prediction on that. I look at our MPLs and our nonperforming assets and look at it historically and that is what we would like to believe, but I am not sure what the next credit cycle or credit crisis is going to look like, so I am not going to try to predict it. I believe relatively we have a very conservative balance sheet.

Got you. Okay. And then in the advisor business, if we just look at your productivity ratios, they are down quite a lot year on year. And it is just not a Stifel phenomenon, this is sort of happening everywhere, and a lot of the explanation we've been getting is market-oriented reasons. I'm wondering if you could expand on that, whether you think that is the only reason, or whether you think the regulatory overhang with the DOL is having an impact on the advisor productivity business?

You just look at the numbers, and you have to go all the way back to 2009 to see these kind of productivity numbers, so it just seems like really a pretty big overhang just from recent market events. Maybe you could expand a little on that.

Look. I don't know what numbers you are looking at and I don't know how you are calculating it. But what I will say to you is that if you look at what we've disclosed, one of the things for us and one of the reasons we looked at it, is the average productivity in the independent business was significantly below the traditional business. So the increase that you saw as it related to the Sterne independence and the number of people we added, and then we have said that we divested relative to the $25 million quarterly revenue that I gave you, is going to give you a big chunk of what you are talking about.

DOL has really not had an impact. I think that, that rule is still being digested. As it relates to getting down to the advisor level, I doubt they would be very many firms at all that would say that the DOL has impacted productivity at the advisor level, because they've not even known about some of the things that are going to be done. We are like everyone, well along in our analysis and have plans but I don't believe that's impacted advisor productivity or client engagement in any measurable way at all.

And overall I would tell you that the industry and maybe us, if you looked at it, if average production in traditional is down 5% to 8%, 9% that is reflective of the market. That sort of year over year, I don't really know what it was back, and I believe that the productivity is certainly up compared to 2010. But I would look at your numbers after you exclude the independent contractor impact on productivity per advisor.

Okay. Helpful. Thank you.

Devin Ryan, JMP Securities.

Maybe one here on Brexit. Obviously the UK and Europe are smaller businesses for Stifel today, but you have done a couple of acquisitions over there with Oriel and ISM in recent years, and I'm just trying to think about, is that an area is maybe, peers are not investing? Or retrenching where kind of in your contrarian way may actually look to get bigger there, or is this a backdrop where you say; we are actually happy that Europe or UK is not a bigger driver of our overall business as you look out over the next year or couple years?

Yes, you know, Devin, I hesitate to even ever say to you that I like to grow when other people aren't growing, that doesn't seem to be a popular comment. But I do, and we are contrarian, and my view on Brexit is first of all, is it even going to happen? We can leave that for other people in terms of what it actually means in both the article and actually do it. I think there is a lot going on over there. What it means for us is interesting, in that what it means for is that our business in London, which is ISM, Oriel, Knight, and in our distribution primarily to a lot of UK accounts to the UK and to London in particular.

And to the extent that Brexit overall causes a decline in economic activity in the UK in and of itself, that is our biggest impact, is because we are focused on that. But the way I look at is, what I keep hearing from everyone, and that would really don't look at London as a passport into Europe, and we don't have a bunch of people sitting in London that are really doing business elsewhere. What I think might happen is that there may be some real opportunities for us, as people consider what they are going to do there.

So it's not a big business for us. It is profitable but net-net I would look at that market as, actually from where I sit today, I would look at it as more opportunity than something I would be concerned about.

Got it. That's helpful. And just on the DOL, I understand, complicated rule and still being digested, and I know we're still waiting for some follow-up clarification from the DOL. But you spoke to having plans and just trying to think about, we are getting closer to a point where I suspect we are going to start to see real actions from companies we haven't seen a heck of a lot yet.

I'm not sure if you can share anything else around what you are thinking about as the next steps internally, and then if there is any you can share around what some of those plans entail, that would be very helpful.

Devin, I am really not prepared to discuss on an earnings call execution and implementation plans around DOL, other than to say we have teams looking at this. We're in contact with many industry participants. More lawyers than I can count in some cases.

It is a complicated rule that, the devil is always in the details when you start looking at these things, and I think we in the industry are digesting it. I feel that we do have a plan that will provide our clients and our advisors the ability to properly navigate this rule when it is required to be done so. Which is April, and then many of the rules in many ways is January of 2018. So I would tell you, I am confident with our strategy and I'm confident with our position, but specifics I am not prepared to talk about.

Okay. Figured I would try. Thanks a lot, Ron, appreciate it.

There are no further questions in queue at this time, I will turn the call back over to our presenters for any closing remarks.

I would say all things considered, what we have talked about at the end of last year, which was that we would like all of our shareholders to look at us as we continued and levered our balance sheet, you will see the earnings potential that we have today despite the fact that I still believe that the overall market environment is quite challenging, that our revenue potential for what we built is higher.

I still believe that you will see the continued earnings power of the Company as markets improve, even as they are today, they certainly are acceptable but we will continue to properly lever our balance sheet and we will continue to effectively look at our capital levels from share repurchase and leveraging perspective.

We have shown how, and will continue to show how our core and our adjusted and our GAAP numbers come together, and we will continue to do what we've done for a long time, which is to build a premier investment bank and wealth management firm and that is our strategy. I thank you for your interest and look forward to talking to you next quarter. Have a good evening.