Northern Trust Corporation (NTRS) Earnings Call Transcript & Summary

Great. Jason Goldberg here, U.S. large-cap bank analyst at Barclays, continuing with the afternoon session of day 2 of our 18th Annual Global Financial Services Conference. Very pleased to have Northern Trust with us. [Operator Instructions] From Northern Trust, very pleased to have Michael O’Grady, Chairman and CEO; and Jason Tyler, Chief Financial Officer. Good afternoon, gentlemen.

Good afternoon, Jason.

Mike, maybe the best place to start is the current environment we're operating in. Maybe just talk to how that has evolved or what long-standing impact, if any, you think COVID-19 has on your major businesses and customer segments.

So first of all, thanks for having us, Jason. And to your point of evolving, it certainly has been a year that has evolved through different stages. And coming into the year, we are in a business-as-usual mode. With the pandemic, we went into business resiliency and contingency mode. And our expectation at that point was that we would then go into a return-to-office mode, and then back to business as usual. And what's happened is that we've really just gone right past that return to office mode and we're in business as usual, but I would say it's a new business as usual. And there are 3, I think, meaningful dynamics in the environment that we're in right now. The first, of course, is that it's a digital world. We're experiencing this right now as a part of this conference. But also, we're seeing how that's happening with our clients, prospects and with our employees as well. Clients have moved forward. They want to be able to do all of the things that they were doing before the pandemic started. But also they're moving forward with projects and plans that they had made at the beginning of the year, and they're looking for new services. So we need to be in a position to serve those with prospects. Even though the way that we would initiate a relationship has changed, all the same, there are plenty of prospects that are looking for new providers. And so we've had to change how we do that in a digital world. And then our employees, to the extent that they're going to be able to operate in that environment and serve our clients and bring on new clients, we've had to provide them certainly with new tools on the technology front, but also really learn how to manage in a remote working environment. So we've been very flexible. We've done a lot of training, and we tried to make sure we're taking care of our partners as we call them. And so new environment, but one that we're already in it. We're not waiting for something that's going to happen off in the future. The second big dynamic, I would say, is 0 interest rate policy environment. We manage a lot of liquidity for our clients, both on the institutional side as well as the wealth side. And when rates are 0 or even negative in other parts of the world that makes it challenging to do so in a profitable manner. And so that has really caused us to, I would say, just accelerate our focus on a couple of areas. One, certainly, with efficiency and productivity, where we really are looking, I would say, beyond tactical plans or actions you could take to much more structural and the implementation of technology. Now the good news is, these are things that we've been focused on for some time period. But when the expectation is that rates will be essentially 0 for an indefinite time period, it sharpens the mind even further to get there more quickly. And also from a growth perspective, it's trying to say what else can we do with our existing client base, but also new segments to allow us to continue to grow organically in this new environment. And then the third dynamic I would mention is just the fact that diversity has become essential. So it's not just another thing that you would do, but rather it is demanded on the part of your constituencies. So our clients demand that we have a diverse, not just workforce in general, but diverse leadership team. Our shareholders demand that we have a diverse board and that it is -- permeates throughout the company as well. And when it comes to attracting talent, talent wants to be a part of very robust companies that have diverse leadership and diverse partners. So something, again, that we've been doing for some time period. But I think in the environment we're in and going forward, it will be a dynamic that will continue to be top of list for us.

Helpful. Maybe, do you want to say something, Jason?

No, not yet.

Maybe we just kind of run through each of the 3 main businesses. But first, Mike, on asset servicing, in the past, you guys have mentioned delays with custom installations amid the pandemic. Maybe update on kind of trends in that business, any color on pipelines, pricing and just what you're seeing against this COVID backdrop?

Well, once again, coming into the year, we had a backlog or pipeline of business that we had won, so mandates that needed to be implemented. And we started to do that January, February. Of course, the pandemic hits, and there was a pause in that implementation activity in March and to some extent, in April. However, I would say, to my previous comments about clients moving forward, they've moved forward now and they want to implement. And they're in a position and we're in a position to be able to do that. So there's been some deferral. So there's no doubt that there were target dates in June and July that have been moved back in the year, but all the same, the activity is happening. I would also say with regard to new business, again, there was a pause, but we've seen the RFP activity and new opportunities pick back up again. And so that activity is there. The way that it happens has changed, so once again, it's happening in a virtual environment, where not only is the RFP process occurring virtually and meetings are occurring virtually but due diligence is happening. The negotiation of contracts is all happening virtually such that they're then awarding mandate. So that's enabled us to continue to win new business and actually see that pipeline grow. And now we're trying to get it implemented basically as fast as we can.

I guess you've been busy in the wealth management side as well. You recently launched Navigate the Now digital marketing campaign, introduced a Northern Trust Institute. Maybe just talk to the impact of those initiatives. And then more broadly, I'd like to -- what are you hearing and seeing kind of from your high net worth customer base and how is Northern Trust differentiating itself in the current backdrop?

So what we are hearing from our clients is they're in a pretty good position. As we know, monetary policy has been effective in the markets. And so when you look at equity market levels, and that generally translates even in balanced portfolios in a very positive way. So in that sense, after a somewhat frightful first quarter, they've seen a rebound and so that's a positive. But also it has caused them to really think about the longer term. So survived this jolt in the market, but what does this mean as far as longer-term planning for them, and that plays to our benefit and to our strengths. And you mentioned 2 areas there, Jason. The first being the Northern Trust Institute, which is something that we rolled out earlier this year. And this is really -- it's the embodiment of our intellectual capital. So if you think about our client base and our expertise over a long period of time, we really understand the needs and the behaviors of our client base better than anybody else. And so it's combining that understanding of our clients, along with our differentiated expertise. So thinking about fiduciaries, thinking about estate planners, obviously, on the investment side with portfolio managers, it's taking that expertise and putting it into this institute, which is really like the think tank for us. And this institute has 175 faculty members, and it was an internal competitive process in order to determine who within wealth management really had those differentiated capabilities that we wanted to put into the institute so that we could then leverage that across our entire wealth business. So there are multiple subspecialties that are within that that focus on either a capability, as I mentioned, or on personas. So particular profiles for client segments, such as business executives or family-owned businesses, things like that, where we understand their needs, frankly, better than they even do in many respects. So using data that we have in order to provide better services for them. So extremely excited about the potential of the institute. And then you also mentioned our advertising campaign as well, which we really think about it more as an omnichannel campaign. And I say that purposefully because it didn't start in the traditional way, but rather started on the digital side. And from there, then rolled out to, I would call it, more traditional media. So you may have seen some of the TV ads, some of the print. But then also, we've used this environment to take advantage of webinars, where we found a very high demand, not only with our clients, but with prospects that are interested to get on something like this and hear from an expert about a particular area of expertise or something that's happening in the environment. So it's so far, I would say, been very promising for us. A lot of that, Jason, as you know, is really developing the leads that we can then use to build the relationships and then ultimately bring on new clients.

Maybe shift gears to the asset management side of the house. Last quarter, you won several new mandates across different products and strategies, you had significant inflows into global money market funds. Maybe just comment on key trends and your strategies within that business.

With monetary policy, where we saw literally over $1 trillion effectively moved into the markets, it, of course, has to find a home. And when you have a strong capital base and a conservative profile, fortunately, that home can be Northern Trust, both for our clients and for new clients. So through that time period, we did see this liquidity come to our asset management business. And I would say, over that time period, not only did we benefit from just the monetary policy, but we are also able to increase our share of the market. And that was not just by chance and just by that strong balance sheet and conservative profile I mentioned, but also a very purposeful strategy around working with our clients on their liquidity, but also establishing new channels for clients and prospects to be able to access our funds. So being very active on the portal front in order to make sure that we're in a position to bring on that liquidity. And so we'll see what happens in the market for liquidity overall, of course, but we think that this is something that really is a permanent part of their portfolios. And it may shift out of liquidity, but it could shift into other asset management products for us. And on that front, I would just highlight 2 other areas where we've been focused. One is on the quant front, where, again, we've been successful with some new mandates in that business. Our low volatility strategies have been very successful for us. And then finally, I would just add ESG, where, again, we have strong capabilities, but we think that it also is very well aligned with our brand and our culture. And we see significant upside to ESG overall for the market, but also the potential for Northern Trust Asset Management.

Helpful. Jason, maybe we'll bring you into the fold, but I think I might kind of a lot of -- might talk to kind of help drive the income statement. When you kind of look at 2Q, fee income was adversely impacted by lagged market performance. I suspect this quarter look -- will look better. Can you maybe just kind of walk us through that impact? What trend are you seeing from your more volatile in this fee income businesses like FX and SEC lending? And maybe update us to expect the fee waivers that you talked about on the July call?

Sure. So I'll try and go through that sequentially, but if I forget any of them hold me to your list. The -- from a market's perspective, you're right, we'll get a lift from lag markets. I -- what I try to remind people of, though, is to just make sure to differentiate. We all look so heavily at the S&P or the Dow, but we've got a lot of international clients that are tied more to EFA. And so -- and that can perform significantly differently than we're experiencing that now. And so that's just something to make sure that people fine-tune in a lot of ways. As we think about capital markets, we did hint at the end of last quarters we were on the call that we had seen elevated levels. We were anticipating those to come down a little bit as the capital markets reverted back to normalcy. We've experienced that, we've seen that come back to more normal levels. And then as we think about other elements of things like fee waivers, Mike touched a little bit on the fact that we've had this significant increase in the liquidity base. And we think about that cumulatively, even thinking about the liquidity product from a money market mutual fund perspective, but also the balance sheet, and on the -- from the money of our mutual funds lens, we saw a significant growth in second quarter. And now at the end of the second quarter, we're up to almost $300 billion in aggregate amount of money market mutual funds. And people are always trying to figure out what -- how the math works on the waivers. Even though we've got roughly 30 money market mutual funds, it really comes down to a half dozen that you really have to look at to see where there -- would they have higher AUM levels, and also fee rates where the yield on the funds can come underneath those fee rates. And so we hinted that at the -- as we were coming into the quarter, the waiver rate was very, very low. We've still seen that in third quarter. We wouldn't change what we said there. We did say that as we got toward the end of the fourth quarter, we'd be experiencing higher exit rates, higher launch point coming into next year, $20 million, $30 million. It depends on what rates look like, Jason, people really have to follow that. And you think about where rates were at the time. And now where Fed funds is, you look at where even maybe more importantly, where T-Bill rates are, those rates have come down a couple of basis points. But if you look at our treasury complex, if you look at the 2 largest funds, there are over $50 billion in total. And so 1 basis point there below those fee rates is going to cost over $5 million on an annual basis. And so wouldn't change the overall outlook that we put in place there. But I've been trying to get people to understand the math and what to follow a little bit more closely along the way so people can look at it themselves.

That's helpful. Maybe shift gears to the balance sheet and deposit trends. Last quarter, we saw a really strong average growth, period end balances fell, costs came in. On the current environment, maybe just talk to your balance sheet expectations.

On the balance -- on the deposit side, the deposits -- and Mike hinted at it, they've held in well. And clients are still at a point where they're not ready to go back into equity markets and the Fed has certainly put a lot of liquidity into the market. And so we're getting the benefit of that and still seeing deposit levels in a -- in good place. I did mention that even if deposit levels are higher than normal or lower, that's actually not going to drive NII as much because on the margin, we're still thinking about central banks, whether it's U.S. or foreign as primary place of depositing those and the rates just not needle moving. That said, we also were hinting that we wanted to get to the point where we could think about where we could reinvest that a little bit longer. And at a point we were going to reach an inflection point where we had the confidence that our strong desire to be there for clients was still reflected in the balance sheet we had. And so we would be able to leg out a little bit, not just in duration, which frankly isn't helping that much in this environment, you look at where rates are on 2, 3, 4, 5-year treasuries, but where it can help more is thinking about non high-quality liquid assets, non-treasuries. And there, you can get much more lift once you have the confidence level that you can invest those dollars like the rest of the portfolio. And the thing that does matter also is I think 2 things. One, this dynamic, when do you feel more comfortable investing longer. And then secondly, loan volume. And even though loans are much lower relative to our deposit levels, the yield that we get on those is so much more attractive. And so to the extent that we have dollars going from deposits into loans as opposed to -- into central bank assets, that's a very significant difference. That's a significant driver of our NII.

Helpful. I guess on that front, clearly, the rate environment creates headwinds for NII. On the second quarter call, you talked about third quarter net interest income down 13% to 16% sequentially. Maybe I don't know if you want to provide an update to that 3Q outlook. And just maybe talk to what needs to happen to ultimately get NII to stabilize.

Yes. So the thoughts we gave in -- on the call still hold that no update on that number, we still feel good about it. And we also hinted that even looking into fourth quarter, we felt we would start to see strong stabilization and still feel that as well. I think one of the things that investors should look at is the fact that in second quarter, we all experienced the 30-day assets repricing. We hadn't actually yet experienced the 90-day repricing. And that's why I think this third quarter is kind of the last significant drop-down before we start to get this stabilization. And I think once we get there, then we'll be in a flatter environment, we'll start to get strong stabilization. Then these dynamics of what happens with loans and what happens with balance sheet volumes, in general, will start to have more of an impact, but the resetting of the rate curve that we experienced in February and March is going to have played through by the time -- largely by the time that we exit third quarter.

Maybe shift gears from income to expenses. You benefited from value for spend. Any more efficiency to be had? And then just with NII being pressured, does more of that efficiencies decline some efficiencies to far to the bottom line? Or do you have to kind of reinvest that?