The Bank of New York Mellon Corporation

We're about to begin. Good morning and welcome to the 2020 First Quarter Earnings Conference Call hosted by BNY Mellon. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. Please note that this conference call webcast will be recorded and will consist of copyrighted material. You may not record or rebroadcast these materials without BNY Mellon's consent. I'll now turn the conference over to Magda Pulchinska, BNY Mellon's Global Head of Investor Relations.

Please go ahead. Good morning. Good morning. Today, BNY Mellon released its results for the first quarter of 2020. The earnings press release and the financial highlights presentation to accompany this call are both available on our website at BNYMellon.com. Todd Gibbons, BNY Mellon's CEO, will lead the call. Then, Mike Santomasimo, our CFO, will take you through our earnings presentation. Following Mike's prepared remarks, there will be a Q&A session. As a reminder, please limit yourself to two questions. Before we begin, please note that our remarks today may include forward-looking statements. Actual results may differ materially from those indicated or implied by our forward-looking statements as a result of various factors, including those identified in the cautionary statement in the earnings press release, the financial highlights presentation, and in our documents filed with the SEC, all available on our website. Forward-looking statements made on this call speak only as of today, April 16, 2020, and will not be updated. With that, I will hand over to Todd.

Thank you, Magda, and good morning, everyone. Before getting into our results, I want to call out the heroic efforts of medical professionals and first responders in the U.S. and abroad. I have doctors in my immediate family, so I'm acutely aware of the risks and what they're dealing with. We're also grateful for the extraordinary actions taken by central banks, regulators, and governments to minimize to the extent possible the financial fallout as we all face this unprecedented crisis. Now let's shift to our financial results. I'll briefly highlight our first quarter performance and then focus on how we're navigating the current realities, discuss what the immediate impact has been on our business, and then look at how we think about the potential impact going forward. Mike will then go through the financials in more details. For the first quarter, we reported earnings of $944 million and earnings per share of $1.05. That's up 12% over the first quarter of 2019, with revenue up 5% and expenses flat, as we benefited from heightened levels of market activity and volatility, partially offset by the impact of lower interest rates. All of our investment services business showed solid growth. Clearly, we have entered an unprecedented environment where things are changing quickly and it's going to be a very challenging time for everyone. As the situation has evolved quickly, but from the start, our focus was on the health and well-being of our people and the continuity of service to our clients. We quickly transitioned the vast majority of our people to working from home, which opened up space for us to create social distancing for the small number of essential in-office staff. Fewer than 5% of our global employees remain in the office. These essential in-office staff are primarily performing roles that cannot be done remotely. The investments we've made in our infrastructure, operating platforms, and cyber information security have clearly benefited us, enabling us to support this broad-scale remote working arrangement. All of the controls and security oversight that govern us when working inside the office are in full effect when we're working remotely. The response from our people has been exceptional. You couldn't ask for greater professionalism or dedication to our clients at a time when we're also dealing with unprecedented levels of market activity and personal challenges. Please note that while our people are caring for our clients, we're caring for them. We've made available to them a host of health and well-being resources, including access to telehealth services, free testing for COVID-19 in the U.S., along with us covering all costs related to outpatient and urgent care, or emergency room visits for the evaluation and treatment related to COVID-19. Recognizing the mental health challenges during these uncertain times, we made available a stress management program and emotional support services and resources to help our people cope and deal with the social isolation. And we're supporting our colleagues who are unwell or may have been exposed by guaranteeing full pay for absences for those who have tested positive or are self-quarantined. We're also providing paid time off to care for immediate family members with COVID-19 or COVID-19-like symptoms. Finally, to support our people, we made the decision that we will not do any additional layoffs during 2020. It's absolutely the right thing to do at a time when the pandemic is creating so many personal uncertainties for our people. Since the crisis began, we've remained fully operational and open for business, and we've been there for our clients during this unprecedented period of market disruption. We engage early with thousands of clients globally to discuss their own continuity plans and work with them to ensure minimal disruption to their operational processes and transaction settlements. We stood up client command centers for our operations and client-facing staff to centralize, escalate, and quickly resolve client inquiries. We accelerated training on our digital tools to help clients reduce their physical and manual process footprint, minimizing their operational risk profile. We've also taken a series of humanitarian actions in an effort to and help those negatively affected by the virus. That has included making philanthropic commitments to important support organizations in regions where employees live and work, including organizations working in the front lines in the U.S., EMEA, and mainland China, and other affected areas in Asia and India. Announcing a two-for-one matching program for employee donations. We've also donated hundreds of video-capable tablets to public hospitals in New York to help patients and medical staff communicate with their loved ones. And partnering with nonprofit organizations to provide aid to first responders, healthcare, transit, and other first frontline workers, as well as serve some of the most vulnerable populations through the provision of critical items such as meals, shelter, medical equipment, educational supplies, and financial support, as well as 50,000 face masks we donated to New York City hospitals dealing with shortages. We'll also continue to look for opportunities to do more. Lastly, we are focused on maintaining the strength, liquidity, and lower risk profile of our balance sheet while using it to support our clients and markets. We have been in regular dialogue with the regulators and key market participants to ensure we're coordinated and see how we can help bring stability to markets. When the markets first came under pressure last month, the Federal Reserve activated a primary dealer credit facility to provide funding to primary dealers. They achieved that through our tri-party repo services. That's something we're uniquely positioned to do, and it's been a privilege to help. Given our strong capital and liquidity position, we have used our balance sheet to support our clients. That means accommodating their elevated deposits and funding about $3 billion in incremental draws on committed facilities. In March, we also purchased more than $3 billion in assets from money market funds, including our own, to help create liquidity for fund holders, and we have continued to do so in April. Looking ahead, we and our clients face extreme market and economic uncertainty. While it is too early to predict the impact, we have a well-diversified and financial resilient franchise that is relatively well-positioned to withstand what's to come. In terms of the immediate impact on our business, March had extremely high levels of volatility and market stresses. We experienced much higher client volumes than normal, and activity is up across all of our business lines. Let me just share a few data points that bear this out. In foreign exchange, we saw higher volumes across all parts of our business, up approximately 50% in March, and large spikes in volatility. In U.S. dollar payments, Treasury service on average processed 2.5 trillion payments per day in March, peaking one day at over $3 trillion in mid-March, compared to $1.7 trillion in recent quarters. At times, Pershing saw elevated trading volumes at 2.5 to 3 times normal levels. In clearance and collateral management, U.S. government securities clearance volumes in March were up more than 20% from February levels, driven by the heavy U.S. Treasury issuance coupled with increased market volatility. In asset servicing, during March we experienced an increase in U.S. accounting trade volumes, of more than 50% versus the first two months of 2020, and global security settlement volumes were up approximately 40% over the same period. We've also experienced substantial deposit inflows. In asset management, we experienced net inflows driven by cash inflows of $43 billion, and our performance fees were up due to solid performance across our largest strategies. As you think about our company's performance over the rest of the year, I would caution against extrapolating these results for the full year. The full ramifications of the lower rates and the moves in the capital markets are not yet being fully felt. The decline in our capital ratios this quarter reflects large deposit inflows, mostly due to the flight to safety from current market conditions and Fed balance sheet expansion. Share repurchases of $985 million were completed prior to deciding, along with the other big banks, to temporarily suspend further buybacks so that we can use our significant capital liquidity to provide maximum support to our clients. We believe that we will have the ability in a wide range of scenarios to continue to pay our dividend and to support our clients. Looking ahead to the remainder of 2020, it is difficult to forecast the impact of the coronavirus on our results with certainty because so much depends on how the health crisis evolves, its impact to the economy, and actions taken by central banks and governments to support the economy. We have a lower-risk, fee-based business model that positions us relatively well in an environment like this. We perform stress tests regularly, as do our regulators. In CCAR, we consistently perform well. We have a highly diversified business model with a conservative risk profile, and fees in general are skewed towards recurring revenue streams. We should benefit from increased activity in clearance and payroll management, from increased issuance of U.S. Treasuries and U.S. tri-party cloud management, although the latter somewhat depends on Federal Reserve Bank of New York operations. Monetary policy turns times of uncertainty, tends to have a positive effect for us through higher deposit volumes, and we will continue to manage our expenses tightly. All that having been said, the lower interest rate environment, which impacts us both through net interest revenue and through money market fee waivers in Pershing, asset management, and corporate trust, as well as the market decline and certain industries being under pressure, will have an impact. And Mike will cover those items in more detail later. Still, we believe we have the capital and liquidity to withstand multiple scenarios, pair dividends, and continue to support our clients. Finally, I wanted to take a moment to convey how deeply honored I am to be CEO of this great company. While my near-term focus is on safeguarding the well-being of our employees, supporting our clients through this period, and maintaining our balance sheet, we are looking ahead to ways to build on our solid foundation with a strong business model and balance sheet to drive improved performance and capabilities across our company. With that, I'll turn it over to Mike.

Thanks, Todd, and good morning, everyone. First, let me echo Todd's opening comments. There are an incredible number of people in our communities who are either out there on the front lines or are providing essential services to help the rest of us and our families, not to mention all the people in government and our industry who are working together to help the economy, help people pay their bills, and ensure the smooth functioning of the global markets. We're thankful to all of them. With that said, let me run through the details of our results for the quarter. All comparisons will be on a year-over-year basis unless I specify otherwise. Beginning on page five of the financial highlights document, in the first quarter of 2020, we had earnings of $944 million and earnings per share of $1.05, up 4% and 12% respectively. Comparisons versus the fourth quarter of 2019 are impacted by the notable items we incurred last quarter, specifically the gain on sale of the equity investment, which was partially offset by severance and litigation expenses and net security losses. Total revenue was $4.1 billion or up 5%. Fee revenue increased 10%, primarily driven by higher foreign exchange and other trading revenue, higher transaction volumes, and increased activity from existing clients across investment services and higher performance fees in investment management, which were partially offset by equity investment losses and losses from consolidated investment management funds. Net interest revenue declined 3% to $814 million year-over-year and was flat to the fourth quarter. We increased our provision for credit losses by $169 million in the quarter. This was driven by the macroeconomic outlook in conjunction with the application of the new CECL accounting standard. Our actual losses or net charge-offs were $1 million during the quarter. Expenses were essentially flat. driven by continued investment in technology and the higher pension expenses we spoke about last quarter, partially offset by lower staff expense and the favorable impact of a stronger U.S. dollar. We had a solid return on tangible equity of 20% and maintained a pre-tax margin of 30%. In terms of shareholder capital returns, we repurchased 21.7 million shares for $985 million. The majority of the repurchases were completed in January and and were all completed ahead of the March 15th announcement by the Financial Services Forum member banks regarding the temporary suspension of repurchases. We also paid $282 million in common stock dividends in the first quarter. Now moving to capital and liquidity on page six. Our capital and liquidity ratios remain strong and well above internal targets and regulatory minimums. The declines versus the prior quarter primarily reflect this quarter's very strong deposit growth that increased the size of the balance sheet. Common equity Tier 1 capital totaled $18.5 billion as of March 31st, and our CET1 ratio was 11.4% under the advanced approach and 11.3% under the standardized approach. Our average LCR in the first quarter was 115%, and our SLR was 5.6%. And a reminder that effective April 1st, the revised rules will allow us to deduct central bank deposits and U.S. treasuries from the SLR denominator. Under the new rules, the SLR would have been approximately 7.6%. Turning to page 7, my comments on net interest revenue will highlight the sequential changes. Net interest revenue was $814 million flat to the fourth quarter. Despite lower rates in the quarter, the results were better than what we had expected, driven by the elevated deposit levels, particularly in the last three weeks of March. We also benefited from higher securities and loan balances and the widening of LIBOR to Fed fund spreads. This was offset with the negative impact of hedging activities, which are mostly offset in trading and other revenue. The increase in loan balances in March was primarily driven by clients drawing approximately $3 billion from their committed credit facilities and elevated overdrafts. Higher overdrafts are normal when there is an increase in market volatility, and the overdrafts are generally well secured. The net interest margin of 101 basis points was down 8 basis points versus the fourth quarter. Page 8 describes how deposit balances trended over the course of the quarter. Deposit balances were close to flat to the fourth quarter average for the first two months. And if you recall, we had some episodic activity last quarter, so balances were running a little ahead of where we modeled before the increased market volatility in March. In March, deposits increased to over $300 billion on average and $337 billion on March 31st, which you can see in our supplement. All of the businesses saw increases with the largest dollar increase in asset servicing. Through the first two weeks of April, deposit balances are down from the March 31st levels but remain elevated. Moving to page nine, our average interest earning assets increased to $324 billion. Approximately 41% of these assets are held in cash or reverse repos, while 42% are in our securities portfolio and 17% are in the loan portfolio. In addition to the funded loans in the page, we also have unfunded committed lines. The details can be found in our annual report and will be updated in the 10Q. I will give you an overview of the funded loan exposures. Twenty-six percent of the portfolio is related to high-quality mortgages and well-secured investment credit lines provided to our high net worth wealth management and purging clients. To date, we have received a limited number of forbearance requests related to the mortgage loans and are working through them with clients. The investment credit lines performed well during the market volatility. 21% are margin loans, primarily in Pershing. These loans are well secured and have performed well during the recent volatility as well. 23% are to financial institutions and are composed primarily of short-term, trade-related loans to investment-grade banks with tenors less than one year and secured loans to clients, including asset managers, who often borrow against marketable securities held in custody. 10% of the portfolio is in commercial real estate. Approximately 70% of the loans that are secured with moderate leverage and solid loan-to-value ratios. Roughly 10% of this exposure is related to hotels and retail. These are predominantly with clients with whom we have longstanding relationships, many over multi-generations. The remaining exposure is primarily to REITs, the majority of which are investment-grade and are well-diversified across industries. and the remaining 6% is commercial lending. These bars are primarily investment grade. Now turning to the securities portfolio. We have a high quality liquid portfolio. Much of it is in U.S. government agency securities, U.S. treasuries, and sovereign debt. The portfolio increased as we deployed more cash into securities, including the commercial paper and CDs we purchased from our affiliated and third-party money market funds. The $4 billion of CLOs are highly rated, with 94% AAA and the remainder AA or better. 97% of the non-agency CMBS are AAA and have solid subordination. The rest of the ratings breakdown can be found in the supplement. Page 10 provides an overview on expenses. On a consolidated basis, expenses of $2.7 billion were up slightly, driven by higher technology expenses and pension costs, offset by lower incentive expenses. Now turning to page 11, total investment services revenue was up 9%. Assets under custody under administration increased 2% year-over-year to $35.2 trillion as higher client inflows were partially offset by lower market values and the unfavorable impact of a strong U.S. dollar. Within asset servicing, revenue was up 8% to $1.5 billion, primarily reflecting higher volatility and higher client-driven volumes in our foreign exchange service higher transaction activity, higher deposits, and new business growth with existing clients. In Pershing, revenue was up 16% to $653 million, primarily reflecting higher clearance volumes, particularly in March. It was also driven by a one-time breakage fee related to a potential client that will not affect the run rate and higher client assets and accounts from new business onboarded as well as existing clients. Issuer Services was up 6% to $419 million, with growth in both corporate trust and depository receipts revenue. Depository receipts revenue was driven by cross-border settlement activity, while corporate trust reflected net new business and higher deposit volumes. Treasury services revenue was up 7% to $339 million, driven by higher deposit balances and higher payment volumes. Deposit balances increased year-on-year by 22%, reflecting the environment and our investments in new capabilities and increased focus on deposit gatherings. Clearance and collateral management revenue was up 9% to $300 million, reflecting elevated volumes and balances across clearance, tri-party repo, and collateral management, global collateral management. Average tri-party collateral management balances in the U.S. and globally were up 15% and 11%, respectively. Page 12 summarizes the key drivers that affected the year-over-year revenue comparisons for each of the investment services businesses. Now turning to page 13 for investment management. Total investment management revenue was down 4%. Asset management revenue was down 3% year-over-year to $620 million, primarily reflecting equity investment losses, including seed capital, as well as unfavorable change in the mix of AUM since the first quarter of 2019, partially offset by higher performance fees and the positive market impact. Performance fees of $50 million were up from $31 million a year ago due to good performance in some of our international active equity portfolios. As a reminder, our performance fees tended to be the highest in the first and fourth quarters and lower in the second and third quarters. We had inflows of $38 billion in the quarter, most of which was in cash. Overall assets under management of $1.8 trillion are down 2% year-over-year due to the unfavorable impact of a stronger U.S. dollar. Wealth management revenue was down 6% year-over-year to $278 million, primarily reflecting lower net interest revenue due to lower interest rates. Now, turning to our other segment on page 14, revenues were roughly flat year-over-year while expenses declined by $18 million, primarily due to lower staff expense. And finally, a few comments about the second quarter. I'll walk you through a number of variables that we're watching closely. Having said that, I would encourage you not to put too much emphasis on a point in time view as the variables are changing quickly. As for net interest revenue, as I mentioned, deposit balances continue to be elevated, but lower than the March 31st levels. We are expecting balances to stabilize above the February average, but below the March 31st surge. We will see the full run rate of lower interest rates on our funding costs and asset yields, including the securities portfolio. we would expect between 25% to 30% of securities portfolio to reprice in the second quarter. The forward curve for LIBOR Fed Fund spreads shows a narrowing from today's levels. In the portfolio, we are monitoring prepayment speeds of the mortgage-backed securities as they may be volatile in the current environment. So using the forward market curves and our best estimates right now, we would expect that interest revenue to be down sequentially between 2% to 5%, Changes to any of the variables mentioned could both positively or negatively impact the estimate. We also expect that the low interest rates will begin to impact money market fee waivers. This impact will be felt more in Pershing initially, but will also impact other parts of the firm. The total impact is difficult to estimate, but could be between 50 to 75 million in the second quarter net of lower distribution expense. Higher yields and short-term instruments may help reduce the impact in the second quarter. The first quarter foreign exchange and trading revenue was impacted by the significant increase in market volatility and associated client volumes, primarily in March. Levels have subsided somewhat in April, but still remain elevated compared to the recent historical lows in 2019. Additionally, the substantial increase in transactional activity in March across many of the businesses, which Todd noted, was exceptional and not likely to reoccur. We will also see the full impact of lower equity markets, although some have begun to recover. On expenses, we're continuing to focus on driving down discretionary expense while protecting our most important investments and continue to reprioritize spending given the environment. We would now expect full-year expenses to be approximately flat year-on-year, including the expected 50 basis point increase from the increase in expansion expense. Credit costs will be highly dependent on individual credits and how the economic forecast change by the time we get to the end of the second quarter. And in terms of our tax rate, we would expect the full year 2020 effective tax rate to be between 20% and 21%. Now, before we go to Q&A, I just want to congratulate Todd on behalf of the management team on being named CEO. It's well-deserved and really good news for us and the company. And with that, operator, can you please open up the lines for questions?

Absolutely, and ladies and gentlemen, if you'd like to ask a question, please press star 1 on your telephone keypad. And as a reminder, we ask that you please limit yourself to one question and one related follow-up question. Thank you. Our first question comes from the line of Gerard Cassidy with RBC. Please go ahead.

Thank you. Can you hear me? We can, Gerard. Great. Congratulations, Todd, on the new role. You certainly deserve this, so congratulations.

Thanks, Troy.

Can you give us a big-picture answer? Obviously, you guys are one of the chief plumbers of the financial system, and we saw, as you pointed out, extraordinary volumes in so many different areas. Can you give us a read from the inside how the system handled all of this surge? It appears to have handled it well, but maybe you can give us some firsthand examples of how well the macro system work to the surge in activity?

Yeah, I'll take that, Gerard. So it's Todd. I think it's impressive how well the system did handle the huge increases in activity. I mean, there were a couple of glitches, but not many. And, you know, for example, in our clearing and collateral management business, we went to 100% work from home very early on. and all of that worked quite smoothly. And so we saw volumes increase 50% overnight, but we had the technology and the capacity to manage it. So I think I'm pretty impressed across the board where we saw resiliency and disaster recovery plans that had to change a bit, too, because typically a disaster recovery plan would be focused on a region, but this was obviously global. And so the move to work from home was wherever it could be executed was executed. So a couple of occasional glitches, constant conversations between the clearing counterparties as well as our clients. We had many thousands of conversations to make sure that we were connected and that they knew how they could connect with us. There was a lot of mobilization to the use of our portal and electronic means of communication, which made things much simpler. So, I mean, I think it was an impressive reflection of the strength of our financial system and the infrastructure of it.

Thank you. And then a more specific question. Obviously, CECL hit your provision for the quarter similar to other banks' Two parts. First, what kind of economic assumptions were used to come up with that provision that we put into the first quarter results? And then second, if you could identify where most of that was allocated, was it to, you know, you mentioned some hotel exposure or to financial customers would be helpful as well. Thank you.

Mike, you want to take that one?

Yeah, sure, George. I'll take that. So I'd say first, as you sort of think about the reserve that we built, a very small piece of it was due to individual either borrower downgrades or the incremental loans that we saw drawn. And most of it was really reflective of the changing economic environment and the new accounting standards. And, you know, as we sort of think about the outlook that was in there, you know, the outlook takes into account multiple scenarios, and we sort of used that changing environment to sort of, you know, inform what we did. And as you sort of look at it, it was a meaningful waiting towards a very prolonged recessionary scenario that doesn't fully recover until you get into 2021. So I think that's the way I would sort of think about it.

Thank you.

Thank you. Our next question comes from the line of Brennan Hawkins with UBS.

Hi, good morning. Can you hear me?

We can, Brennan. There's a little noise in the background.

Sorry, it's another earnings call. It's overlapping, but I kind of have a dueling cell phone here. Apologies. First off, Todd, congratulations on the... on getting the role of CEO. They kept us in suspense for a while, but glad to see we got to the right choice. Quick one on deposit cost trends. So, you know, they came in better than expected. It was probably helped by some of the time in the deposit growth. But, you know, is there a way you could help us think about that line in 2Q? Maybe how much was averaging? And then what you expect to continue to see as far as some relief on the deposit cost front would be great. Thanks.

Okay. Mike, you want to take that one as well? And thanks. Yeah, sure. Thanks.

Go ahead. Yeah. Yeah, sorry. Sorry about that. So, yeah, so, Brendan, as you sort of think about it, so as you know, the Fed moved pretty substantially in the latter or middle of March, I guess, and We adjusted our pricing there, and so you only saw really a couple weeks of that sort of embedded in the first quarter averages. And so as you sort of look at the full run rate impact of that, it's going to be a pretty substantial increase down for the cost of interest-bearing deposits. And so the beta obviously changes as you sort of get close to zero, but I think you'll see a pretty significant decline as you get down for the rest of the quarter.

Okay. All right. Thanks for that. And then when we think about servicing lines, I believe, Mike, that you talked about how there was some strength from volumes, which aided the line, which you guys flagged, you know, during 1Q as well in early March. And it was great to see it come through. But it seemed as though you sort of cautioned about that sustaining. is that because you have seen some of those volumes already subside? And can you help us think about maybe how much of a contributing factor that was so we could maybe calibrate for how to adjust in our forecast? Thank you.

So, Mike, you want to start, and maybe I'll add a little color.

Yeah. I think if you sort of think about what we saw, as Todd mentioned in his script or in his is the volumes we saw in the latter part of March were exceptional. And they went from, you know, for lack of a better way to describe it, sort of zero to 100, you know, overnight. And, you know, as we sort of look at, you know, what we're seeing post-quarter end, you know, the volumes are still higher than they were before the surge, but certainly off the peaks that we had in the latter part of March. And I think as you sort of look at the you know, the go-forward expectation, it's really hard to predict with a high degree of certainty how long they'll stay, you know, elevated and come down back to normal.

Yeah, I'd add a little color. I mean, in some of the businesses like clearing and collateral management, so if you think about our government clearing business, that's continued to sustain itself at a very high level because the government is issuing a lot of debt and there's a lot of trading going on around that. The collateral management business is probably a little bit off from where we saw it at the peak, but I think secured lending will continue to be important in the industry and we're likely to see growth there. But the very high volumes, for example, that we would have seen at Pershing, and the transaction volumes are going to fall back to what we think more normalized levels, which we've begun to do, and we've seen that in asset servicing to certain extent as well.

Okay. All right. Well, I'll try and triangulate those factors. Thanks a lot for the call.

Thanks, Brennan. Thank you. Our next question comes from the line of Betsy Grasick with Morgan Stanley. Please go ahead.

Hi, good morning. Congratulations, Todd. That's great news. Thanks, Betsy. I had a question around the press. Now that the rules are set and April 1st is, you know, the kickoff date for the new rules, could you give us a sense as to how you're thinking about that capital stack and what you would do with the press here?

Okay, Mike, I'll turn that one over to you.

Yeah, look, obviously, Betsy, as you know, we're in the middle of CCAR. So, you know, we're not going to, you know, talk much about sort of what our capital plan looks like at this point. But as you sort of think about where, given the increase in the balance sheet, where we're most constrained right now is Tier 1 leverage. And I think as you sort of think about perhaps that, you know, that could be a good – depending on how long we sort of remain constrained there, that could be a good way to continue to fund that. I think we're going to continue to look at opportunities to either refi, perhaps if that comes back in the market and pricing comes back to where it was just four, five, six weeks ago. So we're continuing to look at the capital stack, and we'll give you more once CCAR is done.

And then when I'm thinking about the funding mix, you know, there's room for your funding cost to come down, obviously, with not only deposits, but in looking at the long-term debt, is there some opportunity there as well in this environment to reduce the funding cost?

Mike? To reduce long-term debt? Is that what you're suggesting, Bethany? Yes.

Yeah, well, just looking at the yield on the long-term debt, you know, is there room there to bring that down in addition to the deposit cost of funds here?

Yeah, you know, lower rates are going to, you know, impact our funding costs overall, right? And I think you're going to see that come through in, you know, in the second quarter. So I think you will see that.

Okay, thanks.

Thank you. We'll next move to Ken Newsom with Jefferies. Please go ahead.

Thanks. Good morning, everyone. Mike, can you talk a little bit more about just helping us understand, because it's been a while now on the fee waiver side. So the 50 to 75, can you just help us understand what that means when you say net of distribution expense, where it shows up in the income statement, and then Would there be logically just because rates are going down a bigger potential impact as you move past 2Q just on the direction of rates?

Yeah, I think I'll try to give you a little bit of the things that we're sort of thinking about related to that. So first and foremost, this is going to have an impact on government funds first, right, as you sort of think about where yields are. One of the variables that makes it pretty hard to estimate right now is just where T-bill yields are. Over the last three weeks, they've gone from negative to 20 plus basis points, back down a bit now over the last day or so. That's going to be a big driver of when fee waivers start to kick in and the depth of them as well. You have to keep that in mind. As you think about the funds in our asset management business that may get impacted by it, that may be distributed through other parts of the company, some of those fee waivers will be offset by lower distribution expenses in those businesses. You'll see the fee waivers come through the fee line, and then you'll see distribution expenses lower as they start to impact those funds. Okay, got it.

Can I add a little bit to that? It's important to note the difference between prime and government funds. So the yield in prime funds can certainly support the fees. Initially, there was avoidance of prime funds, and we're starting to see some investors come back to them, so that could have an impact that would neutralize some of it. And Mike's point is, is there going to be enough yield in assets and government funds to generate the fees. And the huge amount of issuance in T-bills has kind of surprised us a little bit and put a little bit of yield into that. But that can't be certain. That could come down again.

Got it. And just to follow up on the cost side, obviously you're adjusting to try to keep costs flat in this environment. Can you just talk a little bit more about What do you shift? Do you push out some investment spend? Is it an incentive comp adjustment? What are the ins and outs of your ability to hold the line there that you're attempting to do? Thanks, guys, and best of luck, Todd. Okay.

Thank you.

Mike, you want to take that? Yeah, we haven't seen – so first, we haven't really seen any impact on our most important investments. And as you sort of look at the investment portfolio – and you get deeper into the list, there's always opportunity to reprioritize the timing of some of those things. And so we're doing that. You're going to see, I'll state the obvious, but you're going to see lower travel and business development costs that will be part of it. Although Todd said we're not going to have any restructuring or layoffs through the rest of the year, we're also putting a lot of discipline around new hires that we're bringing in during this environment. So I think it's a multitude of factors that you highlighted that help us have the confidence to get there.

Thanks, guys.

Thank you. We'll next move to Brian Bedell with Deutsche Bank. Please go ahead.

Great. Thanks. Good morning. And also, congrats, Todd. Good to see you get the permanent role. I need to start with maybe Todd. Thanks, Mike, for giving us a pretty good outlook for the activity levels coming into the second quarter. But, Todd, maybe you can give us some perspective on what you can see for the rest of the year. Obviously, extremely difficult to predict. But with the government intervention and the uncertainty about the path to recovery, how are you seeing that potentially impact some of the key business lines in activity and also, you know, including comments on the backstop on the Fed on prime money funds to the extent you get much more confidence in people investing in prime funds versus government?

Yeah. Well, first of all, as I had mentioned, we're seeing a little bit of that, so we are seeing a little bit of positive flows into the prime funds. But if you look at activity levels, we would expect them to obviously come down from the surge that we saw toward the end of March, but probably be elevated. And, again, anything we say, there's just so much uncertainty to the environment and the situation that we face, and it's really hard for us to look out. long-term until we get on the other side of the health crisis. But that being said, we wouldn't expect to stay at the extraordinarily high levels that we saw in March, with the exception perhaps of our clearing and collateral management business, just because there is going to be so much debt issuance. But in the rest of our businesses, the transaction volumes component of Pershing's business, the same thing in asset servicing, we would expect that to moderate just about under any circumstances, unless we just saw another couple of blips and more of what I call a seesaw activity that could take place over the remainder of the year.

And then the organic growth efforts that you're doing as well, like in deposit gathering and then collateral management, is that on track or is that sort of a bit suspended in its environment?

Yeah, I would say if you look at the organic growth, especially around the deposits, I mean we have seen some positives there. Obviously there were surge deposits that are just going to be associated with this interest rate environment and this financial environment. But when we look out at our other businesses, we have room to gain some market share. I think we've done that in our payments business. We had some good wins in the first quarter in our asset servicing business. I would expect under this environment, people are probably going to slow down making a whole lot of transitions. We've got a healthy pipeline, both in our asset servicing and purging business. I'm not sure a lot of people are going to make a whole lot of change. We are seeing some new fund complexes come on, but we're also seeing some being deferred.

That's great. That's helpful. And then, Mike, just real quick on NII outlook into the second quarter. Does that exclude FX hedging activities?

Yeah, I mean, the hedging activity is hard to predict because it's at a point in time at the end of the quarter. So, you know, we're not making an assumption either way on that at this point.

Okay, great. Thanks so much for taking the questions.

Thank you. And ladies and gentlemen, as a reminder, that is star one to signal for a question. We'll next go to the line of Brian Kleinhantel with KBW. Please go ahead.

Great. Thanks. Good morning. Congrats, Todd. Quick question on Pershing and kind of what you've been seeing with all the changes going on in the industry and kind of what that means for the pipeline from that business. Has it helped or is it too early to say at this point in time?

Yeah, I'll make a couple of comments and Mike can add some color. First of all, I think it's a little early to say. You know, Pershing has a different model, and I think clients are quite interested in seeing a more open, architected approach to what some of their competitors are doing. So I think the conversations are quite healthy there. I think the pipeline continues to be strong. They've come out with a very competitive subscription price alternative to meet whatever the demand of that client base is. in our advisory services business. So I don't think there's any significant impact that we're seeing from some of the consolidation elsewhere in the business, other than it's making us a little bit more of a differentiated alternative. And I'd also mention that Pershing did quite well through the crisis, so it was able to keep its technology up and running and accommodate the surge in the growth, which in some instances we point out was three to four times. Mike, do you have anything to add to that?

I would just say more broadly outside of just Pershing, I think we're seeing the benefits of a lot of the investments we've been making over the last couple of years, and I think clients are seeing that as well. I know anecdotally we heard from a client that just, you know, we brought on to our middle office service late last year saying, you know, I'm not sure how I could have done this without you and couldn't have dealt with all of the increase in volatility on my own. And so I think, you know, we're seeing that sentiment really across, you know, more broadly across the client base.

Okay. And then just a separate question. On those deposits that you saw come in and surge and marks that are rolling off, the balance sheet now, are those just going more so into your own liquidity products and that's been factored into the few waivers that you gave? Or are they just rolling off completely?

Well, why don't I take that one and then, Mike, you can jump in. If you think about what happened in the ecosystem, so when there was a lot of draws, for example, under these commitments around the country, a lot of that cash had to go somewhere. Some of it was deposited back in banks. And a lot of it went into government funds. Initially, government funds had nowhere to invest. So a lot of that ended up in the money market funds where we were the custodians. So we saw that big spike. That's now a lot of that spike has normalized itself out as there are other alternative investments for those government funds. Some of those were our own money market funds, and some of them were competitor money market funds. I think that's the biggest, the biggest, most volatile component of the cash that we saw move.

Thank you. Thank you. Our next question goes to Mike Mayo with Wells Fargo Securities. Please go ahead.

Hi. So I guess you are provisioning 169 times your level of charge-offs. I only bring that up because what sort of economic scenario are you assuming in taking those provisions?

Mike? Yeah, Mike, as I said earlier, we use a multiple, you know, many scenarios that sort of go into sort of thinking about what the ultimate reserving looks like, but it's a scenario where you don't see a meaningful sort of uplift or doesn't fully recover until you're into the middle of next year. So you start a recovery in the latter part of the year and it doesn't fully recover until later in 2021. You know, as I said earlier as well, only a small portion of the reserve is related to either actual borrow downgrades or the increase in the loan portfolio. The remainder of it is related to the changing economic environment and the way that flows through the new accounting standard.

I guess so. What I'm getting to is it's not just unique to you. It's the industry. So it seems like you're planning for kind of a U recovery. but you have an infrastructure for a V recovery, like you're retaining your employees, your expenses should be kind of flat this year. I'm going to guess you're not changing tech spending, but I'm not sure if that's correct. So help me reconcile keeping an infrastructure for a V recovery while your underlying premise is for a U recovery.

Do you want to take that, Mike, or do you want me to take it?

Either way, you want to start? Okay. Yeah, well, why don't I start? So we did give guidance, and Mike gave guidance, that we do expect expenses, Mike, to be lower than they otherwise would have been. We think that having the human resources here is the right thing to do, not only for them, but also to position ourselves well to service our clients through this kind of an environment and trying to make any significant changes just wouldn't be particularly prudent on our part. That being said, we are controlling other components of our costs. We want to continue to make the investments in technology that we can. I'm sure some of that will be delayed and could be somewhat different prioritizations. but we're going to keep a very close eye on our expenses. We think we can do a little bit better than the guidance that we had previously given for a number of reasons. And we are talking about a U-shaped type of recovery, which means you do need those resources to continue to support our people in this kind of an environment.

And just last follow-up then, just on the tech spending, do you expect some delay or – Like what was your tech spending going to be? What will it be now? Or how should we think about that part?

Yeah, we are committed to continue with the spend that we've gotten, and that's what we've indicated. I'm certain that a couple of things might end up being delayed a bit. But I'm not going to pull that out of our plans at this point in time by any means.

Okay, thank you. Thank you. We'll next go to Alex Postein with Goldman Sachs.

Great. Thanks. Thanks for taking the question. And to echo everybody's comments, congratulations to Todd. A question for you guys with respect to just broader liquidity in the system. Clearly, there's been a tremendous amount of cash flows coming to the sidelines, and that's both the Fed action as well as the general risk-off backdrop. How – how should we think about DK's ability to sort of absorb these deposits? So changes to spot SLR definitely help, but there's lots of other considerations. So kind of help us think through the ramifications of this a little bit longer term and how the balance sheet could ultimately be in terms of size beyond the first quarter.

Okay, Mike, you want to take that?

Yeah, Alex, you know, I think the SLR, you know, change is sort of helpful, you know, that's out there. But I think if you sort of look at our constraints, you know, on balance sheet, it's been 2-1 leverage based on the overall size of the balance sheet. And, you know, I think, you know, we have been able to sort of work through that with our clients pretty effectively so far. As Todd said, as the environment normalizes a bit for the money funds and the rate environment settles down, we've seen those real surge balances come off. Our expectation as things normalize more is that the balance sheet will either hold steady or come down from where we are right now. We feel like we can work through that pretty effectively with the current current capital that we've got.

Got it. Thanks for that. And there's just a couple of cleanups around NIR. Can you help quantify the hedging benefits in the quarter? I know it hits NIR and shows up in FX, so just to clean that up. And also, any sense of new money yield on the fixed portion of the securities portfolio as that matures and gets reinvested? Just trying to get a sense of the headwind to NIR beyond the second quarter on that fixed sale of the portfolio. Thanks.

Sure. So I'll take the first piece on the hedging benefit. So this is kind of really sort of simple. We have interest rate swaps in the portfolio, and the way they're valued every day sort of creates some basis risk between OIS and LIBOR. And really all we're doing is sort of hedging that basis risk that's created from interest rate swaps. And that impact for the quarter is based on where it all ends up on one day at the end of the quarter. So there's really nothing else happening there. And you can kind of see the relative impact on the slide in the presentation. And so that's a hard thing to sort of predict in terms of where it's going to end up at the end of the quarter. As you sort of think about the securities portfolio, I mean, you can kind of see where rates are right now as you sort of think about both the fixed rate and the floating rate piece of the portfolio. And, you know, I think as we sort of look at our investment, you know, strategy going forward, you know, we're doing whatever we can to try to get, you know, some yield out of out of it and I think the reinvestment rates are down from what you saw obviously in the second quarter. Just a reminder, the overall duration of the portfolio is just a couple of years. We're not buying a lot of 30-year treasuries as we think about this portfolio and I think we're doing our best to try to keep that spread up as best we can within the risk appetite we're in. Great. Thanks very much. Thanks, Alex.

Thank you. And, gentlemen, we have no further questions in the queue at this time. I'd like to turn the conference back over to Mr. Todd Givens for any additional or closing remarks.

Okay. Thanks, Derek, and thanks, everybody, for your interest in our company, and have a good day.

Thank you, and this concludes today's conference call webcast. A replay of this conference call webcast will be available on the BNY Mellon Investor Relations website at 2 o'clock p.m. Eastern Standard Time today. Thank you. Have a good day.