Raymond James Financial, Inc. (RJF) Earnings Call Transcript & Summary

Hi, good afternoon. Thank you, everyone, for joining us. [Operator Instructions] And also for important disclosures, please see the Morgan Stanley research disclosure website at www.morganstanley.com/researchdisclosures. And if you have any questions, please reach out to your Morgan Stanley sales rep. With that out of the way, we're pleased to have with us Raymond James' Chairman and CEO, Paul Reilly; and CFO, Paul Shoukry. Paul and Paul, thanks so much for joining us.

Great to be here with you.

Thank you, Manan.

Great. Yes, so maybe let's start with the current environment. Can you talk about how COVID-19 and the work-from-home environment has impacted how you run this firm? And can you talk a little bit about how the firm is adapting to the new environment?

Great question. And honestly, the transition has been almost seamless, which if you were to ask me to make a bet, we go from 99% of people working from the office to 95% working from home in a week that we would be seamless, and it really was. Even in the record days where we had 3x retail volume and 7x institutional volume, we're able to -- systems all held up, we're able to handle all the calls. And I think it's really 2 factors: First, for any firm, the culture of pitching and helping each other out no matter if you're home or in the office came through loud and clear; and second has been our investment in technology. We now -- almost 4 years ago, rolled out our Advisor Mobile app, where an adviser can do about everything from their iPhone, they can do from their desktop in the office, and that just worked so well. We converted to Zoom a while ago also. So people were used to the technology, and it was almost completely seamless. So I give, really, a hand -- big round of applause to the IT and the Ops team that enabled it to be so seamless, and the advisers have been terrific. I mean, right, keeping and communicating with our clients, and our account openings haven't slowed down during the whole process. We even had some record account opening days, and you would think with everyone at home and all these new technologies, the adoption of the technologies are going up multiple because the tools were really needed when anybody was from home and everybody was virtual. So it's been very, very positive.

So I do want to get into what you're doing on the technology side, but maybe before that, what longer-term changes do you see coming out of this environment?

Yes. I think it's kind of early to tell. I think that we've learned that if 95% of people can work from home and productivity doesn't fall, certainly we don't need 99% of the people in the office. So I think the office and the meetings from a cultural standpoint, a bonding standpoint and really deep strategic discussions are certainly helpful for any organization. But we had -- there is no reason why people can't work more often from home or that some number, I don't know what it will be, 30% plus of the sales force will be working from home and other people can work mobilely as they travel, so I think that we will see longer term more people working from home. And ironically, just a week before we kind of really shut the offices, we had hired someone who had the mobility efforts of PwC, and I told him he had 5 years to get us to what we are working, 30% of our people working from home and then everyone having the mobile capability. So after he's here a month, I said, I really meant 5 weeks, not 5 months because we virtually were there. So I think that's going to be a change. We've learned that we can have effective meetings like this conference without flying. We've learned that even client engagement, the clients have learned these technologies where they were afraid of them before. We have 80-year old clients on Zoom and doing e-signature, which didn't happen before the pandemic very often. So I think it is going to change how we work, but we're going to have to learn. And I think part of that depends on the course of the virus. If we get into a heavy second wave, I think it's going to be -- people are going to be more leery about getting into the offices or crowded spaces. If it's something we get a vaccine, and it kind of goes away, we'll see what that new normal is. And I think -- I don't think it's going to be 80% working from home, but I don't think it's going to be 80% or 90% wanting to come to the office every day.

So what I'm hearing from you is that technology is going to be more and more important. You have an annual tech budget of about $400 million. Can you talk about what your priorities have been? And how you expect to expand your functionality over the next 3 years or so?

Yes. So when I came into Raymond James a little over a decade ago, we're spending about $100 million. And we've made the bet that we -- one of the advantages that we wanted to recruit and retain, which has come to pass, is through our technology. And our investment has been a little different. A lot of people have gone right to the client-facing or robo-facing electronic types of investments, and we made a conscious decision that, that client interface is critical, but what's first and the most critical for us was to have the adviser to have the absolute desktop and for them to be able to do that anywhere. So many years ago, we started investing in our Advisor Mobile solutions, and again, from the iPhone to their laptops to make sure that they had the best desktop to service a client and for wealth management, and so we were ahead on that investment area. And then after that, we really started updating the client apps, which we will continue to do to get the same functionality. But what we didn't want to do is to compete with our advisers. And secondly, for clients to have one up on the adviser, we wanted the adviser to be able to see everything, know everything and get to choose so they could service their clients. So now our investment has shifted more towards those kind of apps. We already had invested in the Zoom types of apps into the -- a lot of the mobility apps, and we'll continue to do that. We've also had an outsized investment, honestly, when we had excess interest rate spreads when spreads went on cash to 230 basis points. We knew that wasn't going to happen forever. So we invested more heavily in a lot of our infrastructure technologies, so Mantas, Actimize. So for our compliance and supervision because we wanted those scalable. And we do have Mantas in, we have Actimize almost all the way in, will be in this year. And we also believe our back office and our supervisory and compliance will all be much more scalable. So -- but our focus is going to be going forward really on a lot of those client apps to keep trying to be in the lead in wealth management into the adviser-facing apps.

And then what is the uptake been amongst the adviser base? Has this technology basically allowed you to boost the productivity of the advisers?

Yes. I think, absolutely. Yes, we could see without -- when I see $10 million and $20 million, $30 million accounts come over and advisers told me they've never personally met with the client. It was all over Zoom. They were even introduced over Zoom or referred over Zoom. It really shows the power to advisers of having clients anywhere. Now in order to do that well, they have to be able to use all the mobile apps well. So our use of Zoom meetings like everyone is multiples, but more importantly, our adviser uptake were always frustrated. We didn't understand why everyone didn't want to get on their iPhone at a dinner and show their clients something, they had a question, and as they were leaving, dictate a note, and it automatically populate their CRM. I mean the productivity of that tool is just incredible. And now we're seeing one of the few positive things of COVID was those apps have all been adopted. Each signature has gone up multiple times. The adviser apps 20% to 30% more penetration. So I think that when they had the opportunity, you almost had to use those apps, the adoption has gone way, way up. And so we find that as a differentiator and a retention tool because right now on some of these tools, we're the only ones with that kind of functionality, and we need to keep investing to make sure they -- it stays that way.

Got it. And then I want to talk a little bit about recruiting. You've had a lot of success in the recruiting front. I think you've said that fiscal 2019 was your second best year on recruiting. What would you say is driving that? And how is that trending in this environment right now?

Yes. So what we found is, we were actually even off to a better start this year. We had great recruiting and great pipeline. So certainly, when COVID hit, at first, everything kind of stopped. And what we've learned during COVID now is that we could learn to do things virtually in that regard, too. So at first, what we did was we were able to onboard some clients virtually, I mean some advisers as they come on board. More in the independent space because they had their own offices, right? So they felt much more comfortable coming into their own space when we had closed our corporate offices. So -- but we have even virtually onboarded a number of the advisers during that period of time, and what advisers have told us was actually surprising. They said it was easier to come on board because where they left was shut down. And when they went to call their clients, they were at home, and they could reach them easily instead of chasing them down to get them to go and move their accounts over. So we had to look at as people -- we have a great backlog of deferred people that keep moving back by 1 or 2 weeks of join dates because they want an open office to go to. And so we've got a great backlog to sign up. So what we found in the interim is we have nothing to lose with virtual recruiting. And so we actually have reconstituted what we call our home office visit, which is the center of our recruiting. We require people to come in and visit the home office. We want them to understand all our products, our services, our culture, who to talk to, the tools or cyber security. And it gives us a chance to assess them to make sure they're a right fit for Raymond James. And now we've conducted about 50 virtually in the last month or so. So it's not the same, but we've had people agree to join us virtually, and so we have more of backlogs. And the recruiting demand in the last few weeks, the numbers of calls have just skyrocketed. So I think that hopefully for us that COVID, we were on a great trajectory and COVID just gave us a bigger backlog and those people interested in coming will still come. So I'm convinced in any normalized environment, our recruiting will do extremely well again this year. Now I don't know what normalized environment is in this next year, but we see a pickup both in interest and in our virtual home office visits. And I'm sure when we open up someday our home office, that those will accelerate also.

Got it. And then let's pivot to the current market environment. Can you talk a little bit about the current market backdrop? The last quarter, I think you said that your top 10 trading days ever all occurred in March. Has some of that strength continued into this quarter?

We've certainly seen some elevated trading days since then. They weren't as high as some of those peak days. So the businesses that benefit from volatility, particularly the equity sales and trading, certainly, an interesting part of the cycle as research has become, I think, more valuable to clients as they first wanted more macro research and positioning and then to our advisers in the individual companies. So -- and fixed income business has done very well. The first 2 weeks, we got hurt a little bit because we made the decision that is some -- for the first time ever, like in '09 our muni inventories, which are not only investment-grade, most of them are A or AA, traded right through '08 and '09 without hiccup that didn't happen this time. And we went ahead and sold a lot of that for a loss, and we energized it because we felt that fresh inventory would move, and that was a good decision. Even though, it cost us some money, but since then, it's been -- that was last quarter. Since then sales and trading has been very good in the fixed income business. So they generate positive from volatility. On the PCG side, certainly, it's in the cash balances that we can see that investors are still on the sidelines because the cash balances have held really remarkably steady since they surged up in the month of March.

So that's not been redeployed back into the market?

No, we had -- we were a little over $51 billion, I think, when we reported at the end of March. And that was a 2% decline, but almost all of that was from our own fee-based billings out of accounts. As we build the accounts, cash comes out to pay our fees. And -- but since then, it's held remarkably at those levels. So even through today, so the cash is -- we still have plenty of cash.

And how are you thinking then about deploying these deposits versus -- or deploying it at the bank versus third-party deposits? Has that changed given the rate environment that we're in?

Well, there's been a few. First, we've expanded our cash sweep, the Raymond James Bank sweep and got $3 billion to $4 billion of extra capacity through third-party banks to sweep some of that too. And we're growing our securities portfolio. We said we'd grow it by another $1 billion to $6 billion by the end of the fiscal year. So we're deploying some cash in that area, but we've been pretty clear on our strategy as we will continue during this time of uncertainty to grow the private client group types of loans like securities-based loans, mortgages, things that help our clients and frankly, have very low risk. Even though, we had some people that quit paying during the downturn on our mortgages, after the forbearance period, they started paying right away, and most of them are clients. So we know they have the assets and income, so their loans were safe. We said we weren't going to grow the commercial loan book during this time. I think that except for clients, long-term clients that we are comfortable, and we're in COVID extremely affected industries until we saw where -- how this recovery is. And frankly, I can't tell you if it's -- I've heard a V that chalks all the pathway, a V. we think it's more of a U with bumps. And as we're a consumer-driven economy, and we want to make sure that our loans in the C&I space, we think, in general, have more risk than some of the other ones. So as you'd expect for Raymond James, we're being conservative and it's been easy for us to make loans over this last couple of decades. So it's -- what we need to do is just stay disciplined until we're pretty confident where the economy is heading.

Got it. And while I have you on credit, are there any early indications or any direction that you can provide on where provisions could go this quarter or maybe for the rest of this year?

Paul wants to take that.

Great. It's Shoukry. Thanks, Paul. Yes, I would say, last quarter, the provision, as you know, was $109 million, and we're trying to be as proactive as we can with those provisions. I would expect where we are today -- based on where we are today, I would expect the provisions for this quarter to remain elevated, but down from the $109 million that we experienced last quarter. The credit environment hasn't deteriorated maybe to the extent that we would have expected either the corporate or the retail loan portfolio forbearance request, as Paul indicated, as they -- not only have they come down to a trickle on both the corporate and the retail side, but as the forbearance period had come to an end, we've seen very good experience in terms of the repayments, in terms of both the -- again, retail and corporate clients are continuing their repayments. And then we also, on the corporate side, we have a secondary market -- relatively liquid secondary market even through the stress period. And so we track that to kind of get an indication of pricing levels and those levels -- those pricing levels have recovered dramatically since March, and that's largely due to the kind of, I think, economic recovery. Again, who knows whether it be a V or a U or something else, but also because the debt capital markets has been very strong for a lot of our borrowers who have wanted to access the markets to strengthen their liquidity. They had been able to do so. In the last 1.5 months have been a record level of DCM issuances industry-wide, which has strengthened the liquidity profile of a lot of our corporate borrowers.

Got it. And anything on the mortgage or SBL side? I know you mentioned that the forbearance rate has gone down, but overall, how are you feeling about the credit of those 2 portfolios?

Yes. I mean, particularly the SBL and the margin loan portfolio at the broker dealer, both of those performed exceptionally well even in the middle of March when prices were plunging. And obviously, that has continued as prices -- stock prices have recovered. So those are over collateralized, and we are very proactive in taking measures to ensure that we are staying over collateralized and/or asking the clients to post more collateral liquidity. So those portfolios have performed exceptionally well, which is -- was our expectation before the downturn in March, but it's nice to see that our expectation was reinforced here in March. And then the residential mortgages, again, our forbearance request rate was much lower than the industry average. But again, our average loan-to-value in the 60s, and these are to our clients for the most part. And so these are high-quality mortgages to begin with on a relative basis. And those forbearance requests, I probably would have assumed that those would have continued to tick up after we reported earnings, but I was wrong. They've actually declined dramatically, and so that portfolio is performing very well also. But again, we're cautiously optimistic, but we're also realistic in that, both for the corporate and retail portfolios, it's going to be largely -- the credit quality going forward is going to be largely contingent on how this economic recovery truly plays out. And so we don't -- we're not ready to declare the end of the COVID softness in the economy. So we're still being cautious, as Paul indicated.

Got it. And then maybe let's talk about low rates. This is your fiscal third quarter. So the June quarter should be your first quarter where you see the full impact of low rates and LIBOR has come down quite a bit. You said your NIM should be about 2.5% over the next couple of quarters. Are there any updates on that? Or how should we think about net interest margins beyond this quarter?

Yes. And you kind of mentioned the LIBOR. I think LIBOR has gone down much more than we would have expected or much more rapidly than we would have expected since we had our earnings call. And so that would put downward pressure on the NIM, obviously, all else being equal, since most of our assets at the bank are based off LIBOR. So 2.5% was based on what we expected LIBOR would do when we announced earnings, and LIBOR has performed -- has declined more than we expected. So I would expect our NIM at the bank -- and we also have some excess cash balances at the bank still. Even though, we did move a lot of it off balance sheet, I would expect the NIM to come in below 2.5%. And then the third-party bank balances, we've talked about that declining to somewhere around 30 basis points. So obviously, lower rates are significant headwinds to our interest earnings and the fees we earn on the cash balances to third-party banks. And as you know, most of those are not directly compensable. So that has a negative impact to our pretax margins as well.

Got it. And then low rates obviously put some pressure on your pretax margins. Do you have any updates on where you think your pretax margins can stabilize with rates at 0?

Yes. We're not really -- again, given the high level of uncertainty, we're not ready to come out with new guidance just yet. We're looking at it closely and either in our next earnings call or we're moving our Analyst Investor Day to a virtual format to August, I think we'll be ready to come out with new guidance, hopefully by then, unless there is a second outbreak of the COVID-19 virus. But obviously, everyone is expecting, to your point, downward pressure -- significant downward pressure to the margins, given the rates going from 2.5% for the Fed funds target down to close to 0 and the commensurate move in LIBOR rates as well. So...

And then, I guess, how are you thinking about expenses in this environment? Is there anything that you can do to offset the impact on EPS over time?

Yes. Paul Reilly and I really commenced a process. I mean, we were -- as you may recall, even before the COVID-19 pandemic, we were really focused on decelerating expense growth throughout the organization as we've had significant infrastructure investment, as Paul discussed at the beginning of this call, across the board in terms of our technology, the regulatory requirements, et cetera. And so the guidance that we provided well couple of months before COVID was that we would decelerate the expense growth just due to the rapid expansion and investments that we made, which we're happy we made particularly because of the COVID virus, that we're happy we have the technology that we have, et cetera. But with lower rates, obviously, that just essentially reinforces the need to look hard at expenses. And so Paul Reilly and I have worked with the Executive Committee on what we're calling more strategic expense initiatives. And we're still in early innings because we want to be thoughtful and deliberate about it, but one of the things that all firms should be looking at, certainly, Raymond James has a track record of doing in tough periods, is making sure that we're positioning ourselves to be even stronger when the economy and with rates, et cetera, recover. And so we're certainly going to do that this time as well.

And let me just add. I think we have to remind people, we've gone through our firm at -- since the '09 recession, just a significant fast-paced growth. I mean, we've -- it's -- most of it organic. It's kind of amazing. We've been able to attract and more importantly, retain some of the advisers, and we've significantly grown the platform and made very, very big investments. And honestly, years like this, you don't want it for a pandemic, but a year of pause to, say, okay, let's look at these investments, let's look where to trim. Let's -- how do we make ourselves more efficient, are good things for the business. So we were starting down that path and certainly with COVID the -- as we look at the impact with rates and everything else, we're saying, okay. As we start it now, it's just time to really do this really well dig in and get it done. And hopefully, we'll get it done this fiscal or calendar year and be able to get it behind us and just focused again on the great growth trajectory we've enjoyed. And I think we'll continue to enjoy in recruiting still as we get out of this pandemic period.

Yes. I think that's an important point. Just last point on this topic that Paul Reilly has emphasized over and over again through this process is again, even before COVID-19 is that we want to become even more efficient, but one thing that we're not going to do is cut back on our growth investments. And so growing the business and becoming more efficient allows us to double down on those growth investments to some extent. And so to the extent that we can continue recruiting in the private client group across all of our affiliation options, to the extent that we can pursue acquisitions, et cetera, I mean, we are -- we have a strong capital liquidity base and Paul Reilly has told all of us that we're going to continue to focus on investing for growth.

You also mentioned adviser retention there. Is there -- what steps are you taking to make sure you're retaining advisers along with recruiting new advisers?

Yes. So I think we -- first, we acknowledge both internally and externally and all of our management team. It's great to get a new adviser and to grow the business, but it's more important to keep what we have happy. One, it creates a culture that a lot of firms end up having to recruit a lot of advisers and pay them a lot just to breakeven. And a lot of our net growth has not only just been great recruiting. It's we've had a stronger base because we kept people here. Secondly, that culture of keeping those advisers happy through just fantastic service and great technology helps recruit other advisers because they're always -- when advisers come over, they've had friends or they talk to people, and they can't believe. We can tell them this is what it's like, but they -- honestly, the hardest thing about recruiting is having them believe it because everyone will tell them, well, our advisers are really important to us, advisers are first, and we have to prove to them that we mean it and there is a difference here versus where they're coming from. And the people that have joined from their other firms in the last year or 2, to tell them, yes, it really is different and here is why. If we ever lose that, we'll lose that recruiting momentum. So we know our first job is to focus on keeping who we have. The second, the way we help keep them is providing them great technology. And you can see in our -- I call it our organic growth numbers that their productivity because of our tools, they're doing well here, right? So that's what keeps them. It's first, the culture and environment that they know we're on their side. We don't compete with them. Our trust company doesn't make calls on clients. You can't open an account at Raymond James unless an adviser opens it. We never go around them, that support that we're there and we're on their team is tantamount to our strategy and it's our culture. That's what keeps people here, and that's what helps us recruit people because we can prove that, that culture exists. So we get to keep the culture and keep making sure that our platform is extremely competitive. So not only does it feel the best place to be, but they feel it's the best place where they can grow their business, and I think it shows up in our growth numbers.

Got it. Then maybe last couple of questions. Just on the capital side, you have about $2 billion in cash at the parent company right now. But you recently suspended your buybacks, just given the uncertainty in the environment. Can you talk a little bit about how you're thinking about capital deployment here?

Yes. Our capital deployment hasn't really changed. I mean what we've said is that we do have some excess capital. And during this period of time, the first part -- in the first couple of weeks, certainly, we were buying stock as it was going down. But when the crisis first hit, and there were a couple of weeks there where the financial markets were very stressed, we suspended buybacks. And frankly, I mean, politically, buybacks in our business isn't a very smart thing right now. So what we agreed is during this COVID time is we were going to suspend buybacks. However, we wanted to be ready for any opportunities, whether that was acquisition or if the markets remained really bad to be liquid. So we went to the market at a time where people pull us, we couldn't raise that, and we did a 10-year deal against A-rated players that we were multiples oversubscribed. So we went from having very good liquidity to even stronger liquidity. So our position on capital really hasn't changed. We're hoping that there is an opportunity to do an acquisition. It's still early days. It seems like forever from all of us who have been locked in our homes, but it's still early days, but we certainly are talking to a lot of people. Secondly, we made a promise, and we showed that commitment to manage dilution at a minimum and to buy back stock, and we were buying back stock. And if we can't deploy it by acquisition or investment, we're going to -- we'll resume buying back stock, but we have to wait for at least this COVID period of uncertainty to get over before we resume something like that.

And what are you looking for in a potential acquisition? Is there something specific that you're out there looking for?

Yes. So it's -- we kind of just have a chart, first it'd have to be a cultural fit. Our industry is strewn with acquisitions that just for years and years locked up firms because they're battling cultures. Secondly, it has to have a strategic advantage. Morgan Keegan put us in the top 10 of public finance underwriting, strengthened our fixed income department plus lot of advisers. 3Macs in Canada gave us French-speaking back office capability. Alex. Brown gave us capabilities in the ultra-high net worth space. So there has to be a strategic reason. Third, we have to be able to integrate it and port this price. So we are -- we don't want to buy things to be bigger. There has to be return for shareholders, and that's the criteria that we've gone down. So we do have a number of what we think people would be great additions to what we call the Raymond James family. In the last run up, they weren't interested, and we'll see if this change in environment and longer term and even technology helps change that. But we're -- we stay in active dialogues. We think there are a number of firms that we would be the only stop or the first stop, but they have to get to the point where they'd be willing for sale. And so there is a lot of conversations, but we'll see what happens over time. But if we can't execute that, we'll have to start returning capital again.

Got it. With that, we're out of time. Paul and Paul, thank you so much for joining us.

Thanks, so much.

Thank you. Appreciate it.