Raymond James Financial, Inc.

Good morning and welcome to Raymond James Financial's fourth quarter and fiscal year 2020 earnings call. This call is being recorded and will be available for replay on the company's Investor Relations website. Now I will turn it over to Christy Waugh, Vice President of Investor Relations at Raymond James Financial.

Good morning. Thank you for joining us. Appreciate your time and interest in Raymond James Financial. With us on the call today are Paul Riley, Chairman and Chief Executive Officer, and Paul Schupry, Chief Financial Officer. The presentation being reviewed this morning is available on Raymond James' Investor Relations website. Following the prepared remarks, the operator will open the line for questions. Please note certain statements made during this call may constitute forward-looking statements. These statements include but are not limited to information concerning future strategic objectives, business prospects, financial results, anticipated results of litigation and regulatory development, impacts of the COVID-19 pandemic, or general economic conditions. In addition, words such as believes, expects, could, and would, as well as any other statement that necessarily depends on future events, are intended to identify forward-looking statements. Please note that there can be no assurance that actual results will not differ materially from those expressed in the forward-looking statement. We urge you to consider the risk described in our most recent Form 10-K and subsequent Forms 10-Q, which are available on our investor relations website. During today's call, we will also use certain non-GAAPs management measures to provide information pertinent to our management's view of ongoing business performance. A reconciliation of these non-GAAP measures to the most comparable GAAP measures may be found in the schedules accompanying our press release and presentation. With that, I'm happy to turn the call over to Paul Reilly, Chairman and CEO of Raymond James Financial. Paul?

Thanks, Christy. And good morning, everyone. Thank you for joining us today. Fiscal year 2020 brought some incredible challenges. What a year. In many ways, I'm glad to get it behind us. First, we had the unfolding of the COVID-19 pandemic. Everyone started working from home almost overnight. We experienced social unrest in our country, uncertain economic outlooks, a presidential and congressional election, and a reduction in force, which is extremely rare at Raymond James. On the other hand, while this year was one of my more difficult years in my career, in many ways it was also more rewarding. because of the way our associates and advisors came together to respond to the crisis, really reinforced our unique culture at Raymond James. We kept true to our guiding principles, our core values of conservatism, looking long-term, and focusing on serving our clients. That resulted in great growth even during this period of time, and recruiting was very strong. Met new assets. great retention, all resulted in record client assets under administration. So I want to take this opportunity to say thank you. Thank you to all of our associates and advisors for their tremendous contributions and their unwavering commitment to serving their clients. Now let me turn to the financials, starting on slide three. In the fiscal fourth quarter, the firm reported net revenues of $2.08 billion. net income of $209 million, and earnings per diluted share of $1.50. Excluding expenses of $46 million associated with the reduction of workforce, any $7 million loss associated with the pending disposition of certain non-core operations in France, adjusted quarterly net income was $249 million, and adjusted earnings per diluted share was $1.78. Return on equity was 11.9%, and adjusted return on tangible common equity was 15.3%. Quarterly net revenues grew 3% over the prior year's period and 13% over the preceding quarter, primarily driven by higher asset management and related administrative fees, strong fixed income brokerage revenues, and record investment banking revenues. which were partially offset by the negative impact of lower short-term interest rates. Quarterly expenses were higher due mainly to compensation expense associated with higher compensation compensable revenues and reduction in workforce expense incurred during the quarter. While the loan loss provision was higher on a year-over-year basis, it declined significantly from the preceding two quarters as the economy and economic conditions tended to stabilize, and credit quality of the loan portfolio remained resilient. But given the high degree of market uncertainty, we still wanted to be prudent in adding to our reserves. Looking at the fiscal year 2020 results on slide 4, we generated record net revenues of nearly $8 billion, but lower short-term interest rates and higher loan launch reserves caused the net income to decline to $818 million. On an adjusted basis, net income was $585 million, down 20% compared to the adjusted net income in fiscal 2019. Record revenues grew over the prior year as the continued growth of client assets, along with record fixed income brokerage and investment banking revenues, offset the negative impact of lower interest rates. We generated record revenues in the private client group, capital markets, and asset management segments during the fiscal year, reinforcing the value of having diverse and complementary businesses. Moving on to slide five, we ended the quarter and fiscal year with perioded records for total client assets under administration of $930 billion, private client group assets and fee-based accounts of $475 billion, and financial assets under management of $153 billion. The strong client asset growth was predominantly driven by equity market appreciation and our continued success in recruiting and retaining financial advisors across all of our affiliation options. During the fiscal year, we had a net increase of 228 financial advisors to end with a record number of 8,239, a solid result, particularly given delays in recruiting and onboarding of advisors during the onset of the COVID-19 crisis. During the fiscal year, financial advisors with over $275 million of trailing 12 production and approximately $49 billion of assets at their prior firms affiliated with Raymond James domestically. That includes recruiting results during the fourth quarter of $82 million of trailing 12 production and $13.8 billion of assets at their prior firms, which was by far our best quarter for recruiting during the fiscal year. As for our net organic growth results in the private client group during the year, we generated domestic PCG net new assets of $49 billion, representing 6.5% of domestic PCG client assets at the beginning of the year. Based on what we've seen, we believe this to be amongst the very best in our industry, even including the e-brokers who benefited from the surge of day and online trading during the year. Looking forward, we are continuing to experience strong recruiting activity across all of our affiliation options as we enter fiscal year 2021. At the quarter end, net bank loans were $21.2 billion, as growth of loans to the PCG clients was offset by a decline in corporate loans. Moving to segment results on slide six. The private client group generated quarterly net revenues of $1.39 billion and pre-tax income of $125 million. Quarterly net revenues grew by 12% over the preceding quarter, predominantly driven by higher asset management and related administrative fees, reflecting higher assets and fee-based accounts, which will continue to be a tailwind for the first quarter of fiscal 2021. This strong revenue growth helped PCG's pre-tax income grow 37% sequentially, although it was down 13% on a year-over-year basis, primarily due to the negative impact of lower short-term interest rates. The capital market segment generated record quarterly net revenues of $410 million and record pre-tax income of $106 million, a truly amazing quarter for capital markets. driven by broad rate-based strength across fixed income, global equities, and investment banking, as well as the Raymond James tax credit funds. During the quarter, fixed income brokerage revenues continued to benefit from a high level of client activity, particularly with small and mid-sized depository clients. Record investment banking revenues were driven by the strength in equity underwriting, M&A, and debt underwriting. The asset management segment generated quarterly net revenues of $184 million and record pre-tax income of $78 million. Record quarterly pre-tax income was driven by the growth of financial assets under management as equity market appreciation and net inflows into the PCTT-based accounts more than offset the net outflows for Carillon Tower Associates. Lastly, Raymond James Bank generated quarterly net revenues of $161 million and pre-tax income of $33 million. Compared to a year ago quarter, net revenues declined primarily due to lower net interest income as lower short-term interest rates caused net interest margin to decline 121 basis points compared to a year ago period. The quarterly loan loss provision of $45 million increased the allowance for loan losses as a percentage of loans to 1.65%. On slide 7, you can see the fiscal year and results for all of our segments. The firm's record revenues were driven by record revenues in the private client group, capital markets, and asset management segments. a reflection of our attractive organic growth and consistent market share gains across businesses. Additionally, the capital market segment management segment generated record annual net pre-tax income, as both segments generated significant operating leverage during the year. Meanwhile, the pre-tax income declined in both private client group and Raymond James Bank segments due to lower short-term interest rates and higher loan loss provisions at the bank. And now for a more detailed review of the financial results, I'll turn the call over to Paul Shukri. Paul?

Thank you, Paul. I'll begin with consolidated revenues on slide nine. Record quarterly net revenues of $208 billion grew 3% year-over-year and 13% sequentially. Asset management fees grew 9% on a year-over-year basis and 16% sequentially, commensurate with a sequential increase in fee-based assets. Private client group assets and fee-based accounts were up 7% during the fiscal fourth quarter, which will provide a tailwind for this line item for the first quarter of fiscal 2021. Consolidated brokerage revenues of $495 million grew 10% over the prior year. This continued strength in fixed income trading helped fuel this growth. For the year, consolidated brokerage revenues were up 8% to almost $2 billion. lifted by strong institutional fixed income brokerage revenues of $421 million, which were up 49% over fiscal 2019. While the fixed income business is continuing to benefit from high client activity levels, these revenues are inherently difficult to predict. So I think a reasonable assumption for fiscal 2021 is that these brokerage revenues may end up somewhere between the results in fiscal year 2019 and the record achieved in fiscal year 2020. But again, it is highly uncertain and will largely be driven by market conditions throughout the year. Accountant service fees of $140 million declined 22% year over year, primarily due to the decrease in RJBDP fees from third-party banks due to lower short-term interest rates, which I'll discuss along with net interest income in more detail on the next two slides. Consolidated investment banking revenues of $222 million grew 41% year-over-year, achieving a record result driven by strong equity underwriting, debt underwriting, and M&A advisory revenues. For the fiscal year, we generated record investment banking revenues of $650 million, which were up 9% over the prior year's record. Really an amazing result given the high degree of market uncertainty during the year. While our investment banking pipelines are robust, closings will largely be dependent on conducive markets, which we can't necessarily count on given we are still in the middle of a global pandemic. Turning to other revenues, which were $57 million for the quarter, this line included $12 million of private equity valuation gains, of which approximately $3 million were attributable to non-controlling interests reflected in other expenses. Additionally, tax credit fund revenues finish the year with a very strong fiscal fourth quarter. Moving to slide 10. Clients' domestic cash relief balances, which are the primary source of funding for interest-earning assets, and the balances with third-party banks that generate RJBDP fees, ended the quarter at $55.6 billion, increasing 7% sequentially and representing 6.7% of domestic PCG client assets. On slide 11, the chart displays our firm-wide net interest income and RJBP fees from third-party banks on a combined basis, as these two items are directly impacted by changes in short-term interest rates. As you can see, the interest rate cuts have put significant pressure on these revenue streams, which on a combined basis are down $143 million compared to the prior year's fiscal fourth quarter. and is expected to continue to have provided significant headwinds for our compensation ratio and pre-tax margins, particularly as these revenue streams are not directly compensable. On the bottom of Site 11, RJ Bank's NIM was 2.09% in the fourth quarter, just below the range we guided to last quarter. The sequential decline in NIM was predominantly caused by the decline in LIBOR, as well as a higher concentration of lower-yielding agency-backed securities on the bank's balance sheets. But remember, while the agency-backed securities reduce the bank's NIM, they do represent an increase in spread compared to what we earn off balance sheet with third-party banks. If LIBOR rates have bottomed out, going forward, the bank's NIM should really be impacted more by asset mix and market spread. But based on what we know now, we are expecting the bank's NIM to be around 2% in fiscal 2021. On the bottom right portion of the slide, the average yield on RJBDP fees of 33 basis points, while down significantly year over year due to the lower short-term interest rates, was flat sequentially. We expect this to remain around 30 basis points in fiscal 2021. Moving to consolidated expenses on slide 12, first, compensation expense, which is by far our largest expense. The compensation ratio decreased sequentially from 69.6% to 68.1% during the quarter, primarily due to record revenues in the capital market segments. which had a 56% compensation ratio during the quarter. The year-over-year increase in the compensation ratio was primarily due to the negative impact from lower short-term interest rates, as I explained on the last slide. During the quarter, we announced a reduction in force, which is something we very seldom do, given our strong culture and the value we place on stability at Raymond James. But the reduction was unfortunately unavoidable. given the significant impact of the unexpected interest rate cuts in March. All else being equal, we expect the reduction in force to benefit the compensation ratio and consolidated pre-tax margin by approximately 100 basis points starting in the fiscal first quarter of 2021. However, it is important to remember that the compensation ratio is also impacted by revenue index, given the different compensation ratios in each one of our segments. TCG has the highest compensation ratio due to the independent contractor channel, where advisors receive high payouts because they cover most of their overhead expenses like real estate. The compensation ratio is also impacted by the level of recruiting activity as transition assistance is amortized in the compensation line. For example, this year, advisor transition assistance and retention amortization had an impact of approximately... 340 basis points to the firm's overall compensation ratio. So a lot of moving parts, but given near zero short-term interest rates, we are confident we can maintain a compensation ratio of 70% or better, especially after the reduction in force, and that's utilizing conservative assumptions relative to the record capital markets results we achieved in the fiscal fourth quarter and fiscal year 2020. I will touch a bit more on compensation on the next slide. On to non-compensation expenses. Non-compensation expenses of $408 million increased 17% year-over-year as lower business development expenses were more than offset by a higher bank loan loss provision, along with $46 million associated with reduction in workforce expenses and a $7 million loss associated with the pending disposition of certain non-core operations in France. Other expenses also increased during the quarter due to several items hitting during the quarter, including a reserve for state franchise taxes, the affirmation non-controlling interest associated with the private equity valuation gains, and a couple of other items. I know many of you may ask, what are guidances for non-compensation expenses in fiscal 2021? Unfortunately, there's just too much uncertainty to provide guidance on that line item. For example, business development expenses and bank loan loss provision expenses are two items that will be heavily influenced by the COVID-19 pandemic and the economic recovery throughout the year. What I can tell you is we are extremely focused on managing each and every single one of the controllable expenses while still investing in growth in high service levels for our advisors and their clients. Turning to slide 13, there's been a lot of focus on our expense management over the past few years. So we thought it was appropriate to take a minute to reflect on the trend. This chart depicts the year-over-year growth rates of administrative compensation expense in the private client group segment since fiscal year 2016. We highlight this particular expense item because it incorporates the majority of the compensation growth associated with the infrastructure build-out we have been focused on over the past several years, including the majority of technology, operations, and risk management and control areas as we fully allocate almost all of these expenses to the businesses, then BCG is by far our largest business. As you can see, after short-term interest rates started increasing at the end of 2015, we reinvested a large portion of the spread benefit into our businesses to strengthen our platform. About two years ago, we told you that we would start decelerating that growth, which you can really see this fiscal year with a 4% growth rate. And after a recent reduction in force, we expect this growth rate to be even lower, maybe even close to flat, in fiscal year 2021. And remember, this administrative compensation also includes growth-related expenses, like new sales assistants that joined a firm with a recruited advisor. So we hope to see this line grow over time, just as long as we keep it lower than long-term revenue growth. So this slide really highlights two things. First, we use this benefit of higher spreads to reinvest in our business and ensure we have a platform that can support our future growth. And we are glad we took advantage of that window of opportunity, as we wouldn't want to be playing catch-up with our infrastructure investments in this rate environment. And secondly, the deceleration of these expenses reinforces our longstanding approach to managing controllable expenses, especially during difficult market environments. Slide 14 shows the pre-tax margin trend over the past five quarters. Pre-tax margin was 12.3% in the fiscal fourth quarter of 2020, and adjusted pre-tax margin was 14.9%. Again, I know many of you would want our guidance for this metric, but there's just simply too much market uncertainty in the midst of this pandemic to give you targets with any level of confidence. But the margins this quarter were obviously boosted by the record capital market results as this segment generates a 26% pre-tax margin, which is a record. On slide 15, at the end of fiscal fourth quarter, total assets were approximately $47.5 billion, a 6% sequential increase. This increase was primarily attributable to shifting client assets from third-party banks to Raymond James Bank for the continued purchases of securities. Liquidity is very strong. Cash at the parent was more than $2 billion. of which about $1 billion are excess cash over our conservative targets. But we are intentionally maintaining even more cash than we typically hold given the high degree of market uncertainty. So with cash at the parent of more than $2 billion, a total capital ratio of 25.4%, and a Tier 1 leverage ratio of 14.2%, we have substantial amounts of capital and liquidity with plenty of flexibility to be both defensive and opportunistic. Slide 16 provides a summary of our capital actions over the past five quarters. In the fourth quarter, we repurchased approximately 678,000 shares for $50 million, an average price of approximately $73.75 per share. As of October 27, 2020, $487 million remained available under the Board's current share repurchase authorization. In total, over the past five quarters, we returned nearly $680 million to shareholders through dividends and repurchases under the board's authorization. With our strong capital liquidity position, we expect to continue share repurchases of at least $50 million per quarter to offset share-based compensation dilution in fiscal 2021. And we will certainly consider doing more buybacks during the year as well as appropriate. On the next two slides, we provide additional detail on the bank's loan portfolio. Slide 17 provides some detail on Raymond James Bank's asset composition. In the pie chart, you can see we have a really well-diversified portfolio with a focus over the past few years to grow residential mortgages and securities-based loans to private client group clients, as well as significantly increase the size of the securities portfolio, which ended the quarter at $7.7 billion, or 25%, of the bank's total assets. These securities are almost all agency backed securities. So we have a much more diversified portfolio now than we did before the last financial crisis. The slide also highlights the diversification we have within each segment of the portfolio. Lastly, on slide 18, we provide key credit metrics for Raymond James Bank. During the quarter, we opportunistically sold approximately $340 million of corporate loans at the average selling price of 92% of par value. In total, over the past two quarters, we sold nearly $700 million of corporate loans associated with industries we believe are most vulnerable to the COVID-19 pandemic. While we are now much more confident with the remaining corporate loans in our portfolio, we will continue to be opportunistic in selling certain corporate loans, but we have also recently resumed being opportunistic and deliberate in investing and new corporate loans that are in sectors that we believe are less negatively impacted by the COVID-19 crisis. Quarterly net charge-offs of $26 million were all related to the aforementioned loan sales during the quarter. The quarterly loan loss provision of $45 million resulted in the allowance for loan losses as a percentage of total loans to increase to 1.65%. And for the corporate portfolios, the allowance for loan losses as a percentage of C&I loans increased to 2.7%, And for CRE loans, it increased to 3.1%. While non-performing assets remained low at just 10 basis points of total assets in the fourth quarter, the amount of criticized loans increased as we have still been proactive in downgrading loans as we get more information. But we have experienced positive trends with deferrals during the quarter. As of September 30th, only 11 of our corporate loans representing 1.7% of balances were on COVID-related deferrals, which was down from 3.1% in the preceding quarter. Similarly, residential mortgages on COVID-related deferrals declined from 2.6% of balances in the preceding quarter to just 1.6% of balances at the end of the quarter. We implemented CECL on October 1st, which we expect will increase our allowances by approximately $40 to $50 million, with the majority of that increase attributable to recruiting and retention-related loans to financial advisors and PCG, which now require a larger allowance under CECL than it did under the incurred loss method. Going forward, our allowances and provision expenses will be impacted by macroeconomic conditions, as well as individual loan performance using the CECL model. And as the surge in COVID cases over the past two weeks has reminded us, we are not out of the woods yet. Now I'll turn the call back over to Paul Riley to discuss our outlook. Paul?

Thank you, Paul. As for our outlook, we are extremely well positioned entering fiscal 2021 with strong capital ratios and quarter end records for client assets and the number of private client group financial advisors. However, We will face continued headwinds from a full year of lower short-term interest rates, and there's still a high degree of uncertainty given the COVID-19 pandemic and upcoming presidential and congressional elections. In the private client group segment, our financial advisor recruiting pipeline is strong across all of our affiliation options. And the segment is going to benefit by starting the fiscal first quarter of 2021 with a 7% sequential increase of assets and fee-based accounts. In the capital market segment, investment banking activity levels remain strong, and we're cautiously optimistic so long as the economic conditions don't deteriorate that that will continue. And in fixed income, brokerage revenues have remained strong thus far in October, but we've set a high bar to keep up with for next year. In the asset management segment, results will be positively impacted by higher financial assets under management as long as the equity markets remain resilient. And Raymond James Banks will continue to benefit from the attractive growth of mortgages and securities-based loans to DCG clients. Given the high degree of uncertainty, we'll continue to be conservative and cautious with adding to the corporate loan portfolio And we will be ready and willing to resume more significant corporate loan growth when the economic outlook is more certain. Our growth priorities remain unchanged. Our top priority is organic growth, which is primarily driven by retaining and recruiting advisors in the private client group. And as I stated earlier, our annual organic PCG domestic net new asset growth of 6.5% in fiscal year 2020 has been best in class despite the COVID-19 related challenges. Additionally, we are continuing to add senior talent in our other businesses, such as investment banking. We also continue to actively pursue acquisitions. We will still be deliberate and pursue only transactions that are a great cultural fit, as well as a strategic and economic benefit. We are entering into more discussions than ever as we see the year-end coming closer and the economic uncertainty has brought more people to the table. As Paul Schucke mentioned, we are still continuing to repurchase shares to offset share-based compensation dilution and are prepared to increase repurchases as appropriate when the economic outlook is clear. Before we open the line for questions, I want to thank all of our associates and advisors again. for their invaluable contributions during these trying times. I'm incredibly proud of our accomplishments and the tireless efforts to support each other and our clients. We are entering fiscal 2021 well positioned in all of our businesses, and we have significant opportunities for continued growth. We have something special here at Raymond James, where we have the scale and scope of services to compete with the largest firms in the industry. while at the same time having this unique advisor and client-facing culture that's increasingly difficult to find in our industry. As long as we preserve that unique competitive advantage and advisor-centric attitude, I am confident in our ability to generate relatively attractive long-term returns for our shareholders in any market. With that, Operator, I'd like to open it up for questions.

Certainly. We'll now begin the question and answer session. If you would like to register for a question, press the one followed by the four on your touchtone phone. You'll hear a three-tone prompt to acknowledge your request. If your question has been answered and you'd like to withdraw your registration, press the one followed by the three. One moment, please, for a first question. Our first question comes from the line of Manan Gosalia with Morgan Stanley. Please go ahead.

Hi, good morning. I know you don't have any guidance around pre-tax margins in the near term, and I noted that there is a lot of uncertainty, especially on the non-com side, but I was wondering if you could help us with where you think you can manage the business once we're past the loan loss cycle, but we still have lower rates. And as you speak to that, maybe you can also talk to what the puts and takes are from the 14.9% adjusted margin you had this quarter and what the headwinds are from here. I know it's rates and hiring, but it also sounds like you have some more room on the expense side. So if you can give us more details there.

Yeah, like you said, a lot of moving parts. Obviously, the record results in capital markets, which generated, I think, a 26% margin, certainly lifted the firm's overall margins. And that's just a high bar going forward. And then business development expenses obviously still subdued given the COVID-19 pandemic. And the provisions are elevated. Hopefully they're elevated. Hopefully they get better going forward as we have more economic certainty. So a lot of puts and takes, which is why it's hard to give you guidance here near term. What I can tell you is if you look historically at our pre-tax margin, last time we were in a kind of near zero rate environment, we were generating roughly a 15% type pre-tax margin. Now, we're entering this period with higher recruiting results coming into this period, so that leads to higher transition assistance amortization. I think the impact of that relative to that period of time is about 100 basis points. So, you know, we're not really ready to give targets yet, but if you just do that math, it gets you to about a 14% to 15% type pre-tax margin. But again, that could be two years out, I mean, depending on market conditions.

I think the other challenge is Private client group will have tailwinds with 7% start in their asset base into the quarter. But obviously capital markets had very, very strong results. And that's when to go quarter. I mean, capital markets is lumpy by nature. Closings are lumpy by nature. So it's just challenging to come with a number. But again, we're razor focused on expenses. We've operated in that. 14 to 15% margin when we had no help from interest rates, not that many years ago, so in the same team. So we're focused on managing our expenses and on growth. So it's just hard to give guidance given, you know, a pandemic may impact loan loss reserves, which will certainly impact the numbers or, you know, if companies continue to operate in our portfolio, they won't be elevated. So it's just too difficult to give a number.

Got it. And then maybe on the security side, you added about $2 billion to your securities book this quarter. But at the same time, it looks like deposits at both third-party banks and RJF Bank were up quite substantially in the quarter. So you're getting a fair amount of deposit growth. Do you have some sort of target amount that you're comfortable holding in securities? And can you talk a little bit about how you're thinking about the duration risk if the long end of the curve goes up from now?

Yeah, I think we still want to be more exposed to the short end of the curve than the long end of the curve, just given the floating rate nature of our deposits. So we did grow securities substantially, but if you think about our balance sheet priorities in terms of where we want to grow the bank, the first priority would be growing loans to private client group clients, both mortgages and securities-based loans. really because it has a two-pronged benefit. The first is it helps our advisors strengthen their relationships with their clients with really what's a competitive mortgage and securities-based loan offering. And it also generates a very good risk-adjusted return for the bank. So it's sort of a win-win, which is why that's the highest priority. And it fortunately has been growing pretty consistently at an attractive rate. Our second priority typically is growing the corporate loan portfolio. But obviously, given the pandemic that we're in the midst of, we've actually been selling loans, as you know, and we're going to be very selective in adding new loans that are less exposed to the COVID-19 pandemic. And then really, our third priority is growing the securities, particularly now when the incremental yield you get for the duration exchange is paltry relative to the risk-return trade-off. So we're going to do that all in the context of trying to keep the bank's standalone Tier 1 leverage ratio at around 7.5%, give or take, which is where it is now after we've grown the securities portfolio right around 7.5%. Now, we have a lot more capital. We have a 14% ratio at the firm overall, so we could always contribute more capital to the bank. if one of those three categories of assets at the bank generate higher volumes at attractive risk-adjusted returns. So that's kind of how we're thinking about it. So while we have a lot of capital and cash capacity to grow the bank more rapidly, given where we are in the midst of this COVID-19 pandemic, I think we're going to be very patient in deploying that capacity.

So it sounds like you would end up quick. Sorry, go ahead.

I was just saying, so it sounds like you would end up growing the securities book just in line with the cash inflows that you're getting from clients.

That's probably an oversimplification. I think we'll just grow it sort of as we have excess capacity to grow the bank's balance sheet relative to the loan growth.

thank you and thank you for your question up next we have a question from the line of Steven Chewbacca with wolf research please go ahead hey guys this is Michael and Agnes August filling in for Steven congrats on the great quarter just wanted to start off with one on the expense savings opportunity and I guess my question is, based on the expense actions you're taking, assuming some normalization of activity, how should we think about efficiency levels or how we're going to see that impact flow through the expense run rate? And should we expect a slower pace of expense growth from here? Thanks so much.

I think what I said in my prepared remarks was that the reduction in the workforce would benefit the compensation ratio and the pre-tax margin, all else being equal, which it never is, but all else being equal would benefit those two metrics by about 100 basis points starting in the fiscal first quarter of 2021.

I think that certainly the difference is you saw the expense chart that Paul talked about earlier. So we're managing expenses very tightly. So it's certainly, we see this year on an apples to apples basis, that growth, as Paul said, could be zero. So we're managing it very tightly now. If the economy opens up and there's more to business development and conferences, certainly that will impact expenses. But I think you can see the expenses managing down before the pandemic by the principles last year and the expense from the reduction in force really benefits starting this quarter. So I think you're going to see tighter, much better business expense management given the environment just as years ago in a zero rate environment.

All right. Great. Thanks. My follow-up, maybe just pivoting over to M&A. We've seen continued consolidation in the asset management space. Could you give some color around your appetite for potentially doing a deal in that space or maybe other areas? Thanks again.

I think our priorities on M&A haven't changed. First, we've focused on the private client group as an area where it's our main business, but There aren't a lot of opportunities generally in that space that move the needle in our type of wealth management business, but certainly are active there and are proactive in reaching out. That is the same. We continue to grow that business organically through recruiting and through strategic niche acquisitions and certainly are looking there. Asset management is also an area we've looked to add to the products. and opportunities, so those are the areas we focused on, but we're open to parts that actually improve our businesses and strategically will have a long term impact. We aren't looking at deals for size, so there's been trades in the market that's really just a, I call it financial engineering or lower revenue or advisor or, you know, it will We're looking at really staying true to our core businesses and growing them, expanding our service offerings, not just being bigger for bigger sake.

Thanks. Thanks for the call, guys. Appreciate it.

Thank you. Continuing on, we now have a question from the line of Bill Katz with Citigroup. Please go ahead.

Okay. Thank you very much, John, for taking my questions this morning. First question, just maybe staying on the capital management theme for a moment. You mentioned that you obviously have a lot of firepower in the balance sheet, and that you look to sort of pick up, buy back, you know, as sort of things improve. Could you give us a sense of what milestones you might be looking at at the macroeconomic level to sort of get that comfort, or perhaps some kind of valuation metric of your own stock that we can monitor to sort of see or anticipate something more than just the offset of stock-based comp pollution?

I mean, that's a very complex question. questions. So, I mean, in terms of we've long-term about, you know, kind of evaluation metrics as we've looked to repurchase. The difference right now is the environmental outlook, which is hard to see. So, there's a lot of, there's also a lot of negative implications. The regulators look a lot harder on share repurchases and so does, I'll call it public interest in share repurchases. So, you know, we're at a time right now where as we look at wave two, which is obviously hitting the country, is when do we think we're through that? And that we want capital, not just, you know, for defensive purposes, but we also believe that there is a more difficult economic time, as we've seen this period drag out a little longer, more interest in people doing things. So that's going to be a judgment call. I don't not clear what's going to happen these next couple of quarters with the pandemic and school until we get a view on that, that we think we can get solid economic returns off that. We're going to hold back, make sure that we have plenty of capital, um, to, uh, you know, to be both defensive and offensive. So I can't get a clear answer on it.

Okay. That's helpful nonetheless. Um, and then maybe just Bob question, uh, Friday with Paul. I just in turn appreciate all the guidance around expenses where you can. Given your very strong recruiting pipeline, and I appreciate that this is a very fluid fiscal year for you, the business development costs in this particular quarter, is this a fair run rate relative to the recruitment pipeline, or is there some potential lift in that given the very strong recruitment pipeline that you're speaking to?

Yeah, I mean, the business development costs, down 50% I think year over year just reflects a lack of travel, client-related activity relative to normal activity levels. So I would expect as we get through the COVID crisis for business development costs to expenses to get much closer to where they were, maybe even going back to the first quarter of the fiscal year, even with that elevated recruiting But, again, it will depend on how much recruiting we do going forward. But I would say certainly this quarter's number was very low.

And a lot of that, too, there are big numbers in conferences and things that have been postponed that we don't see, you know, really coming, certainly. We've moved back everything through the first half of the year. But, you know, our chairmen's, you know, reward trips are – You know, educational conferences are important to us in our culture, but those will resume at some point, but we don't see them coming in these next few quarters. And the truth is, in recruiting, we have a lot of deferred recruiting. We have a lot of commits that have pushed back join dates because of COVID. And when that breaks through, I think we'd expect... It's still very, very robust recruiting, but I don't think that recruiting line in itself is a big driver of short-term business development expenses.

Okay, thank you both.

Thank you for your question. Next, we have a question from the line of Chris Harris with Wells Fargo. Please go ahead, sir.

Thanks, guys. It's a really strong quarter for investment banking. You highlighted that. Can you guys maybe unpack the drivers for us a little bit more? And really just kind of interested to know how broad-based the strength is that you're seeing in investment banking, or whether it's somewhat concentrated and a handful of transactions. And then how are you feeling about the sustainability of the revenues that you're seeing in iBanking?

I can just tell you it's been pretty broad-based. Our largest groups, tech services and real estate, have continued to perform well and continue to perform well. And I think their backlogs are very strong, as well as banking across all of our sectors, as you can see from the industry is up. So I would say our top performing sectors have continued to outperform and the other sectors are having good years also. So it's pretty broad based and Uh, if you look at backlog for, you know, it's backlogs, not any good. And once the deal closes, it's very, very strong. So, uh, again, uh, we've seen, we've seen deals shut off and we've seen deals accelerate. And, uh, I don't know if there'll be a rush at the end of the year, if there's a presidential and congressional changes and anticipated tax rate changes, whether that rushes deals to close at your end, you know, but, um, So it's just hard to tell, but I can just tell you the activity is broad-based.

Okay, great. And just a quick follow-up for Paul Shukri. I know there's a lot of moving parts to the loan portfolio. You want to be selected with CNI, but you could potentially see some growth in other areas. Maybe you'll sell some more loans, maybe not. Given all that, could we potentially see growth in the loan portfolio for fiscal 21?

I think it's possible, especially depending on the growth in the private client group loans, securities-based loans. I think we hope to still continue growing that over 10%, and the mortgage growth has been pretty strong as well. That's certainly possible. I think what we're trying to do going forward is if you look at the slide that shows the combined net interest income and the BDP fees from third-party banks, because you have to really look at it on a combined basis. What we're hoping is that this quarter, I hate to call it trough because you never know, but certainly the short-term rates have sort of been fully reflected in the In the loan portfolio, all the floating rate loans, almost all of them have reset. And so we hope to grow that number from this point forward, assuming cash balances remain relatively resilient at the current levels. So that's the hope. But again, if we don't grow loans this year as much as we can given our cash and capital capacity, then they'll just give us more dry powder for the next year. We're going to grow loans, especially the corporate loans, when we're comfortable with the sort of economic environment and the lack of certainty. There's less uncertainty than there is now, and we're looking at this. We're making long-term decisions, so if it takes two years to get to that level of comfort, then we'll have more dry powder then, and that rate of growth will be higher then if we don't grow it as much this year. So we're going to be patient and, you know, make the best decisions based on what we know in the economic environment.

We are starting to see some corporate opportunities would look like some spreads and some floors and some, you know, you go through cycles. And so, you know, what that continues or strengthens, I don't know. But again, I agree with Paul. We're going to be cautious on those. We are staying in the flow and looking at those opportunities.

Thank you, sir. Continuing on, our next question comes from the line of Jim Mitchell with Seaport Global. Please go ahead.

Hey, good morning. Maybe just a question on the recruiting, a little bit more detail, if you could just sort of share where you're seeing the growth, it does seem broad-based, but is there any kind of geographic concentration? Is it mostly from the wirehouses still? And maybe a little bit of an update on sort of the west coast where I think you've been, have the least amount of penetration. How has that been going in terms of ramping that up?

So the color on recruiting, you know, we look and recruiting is great across all of our affiliation options from employee independent to the RA channel. So We've been very pleased at the growth in all three. I'd say recruiting's been broad-based as much as we focus southwest, where we continue to gain momentum. There's still a lot of recruiting going in places where we're strong, like the Midwest and other areas. So it's very broad-based. The wire houses continue to be the primary contributor to our recruiting pipeline. although there are, you know, other firms where we, you know, through periods of time also get recruits, but it's mainly wire house driven. And the recruiting outlook looks very, very good, and the commit that joins that pipeline looks very strong. And, again, a part of that is due to deferrals, especially the employee channels. Our branches have been closed. They're open now. but a lot of the folks during that period of time didn't want to move into a closed branch. So the employees lagged a little bit to independent channel during this last year, but we're seeing activity across all the channels now.

Okay, that's helpful. And maybe just on a second question on the investment banking business, obviously it's strong, pipeline strong. Is that an area that you're investing in to grow, or is this just, you know, kind of,

reaping a good environment just trying to get a sense of what you think of sort of the organic or market share growth that you might be targeting in across investment banking i'm sorry you guys haven't noticed the investment because a lot of a lot of focus on growing the m a business uh acquiring a firm in europe which has done terrific a few years ago that's really added to our cross-border adding a lot of very, very senior bankers in health care and other areas. And, you know, looking at boutiques and tuck-ins. And so I think both the environment's good, you can see that through earnings releases by everybody. But the reason that our numbers are so good is we've invested in the bankers that have made a big difference. And we'll continue to, especially in M&A. We're probably undersized given our size and our great capital market strength. We'll continue to invest particularly in that area. Hopefully, given the rest of the business and our good research, we can continue to grow that. Okay. Thank you.

Thank you. Continuing on, our next question comes from Devin Ryan with JMP Securities. Please go ahead.

Hey, good morning, guys. Hey, Devin. Most have been asked here, but just a couple kind of cleanups. So the first one on just the election next week and trying to think about some of the considerations to the extent they're is an administration change. And I appreciate there's a lot of nuance in terms of what happens there. But, you know, are there any regulatory items that you're kind of focused on in an administration change, whether it be the potential for a more onerous, you know, rule relative to the SEC's reg BI? I'm not sure if the TOL, you know, could reinsert itself or that's at all in the conversation or states. Specifically, you could feel more emboldened to disrupt kind of where the industry has been moving towards. I'm curious if there's any kind of chatter of that. And then just more broadly, you know, thinking about the potential for, you know, higher tax rates and, you know, any businesses that you guys feel like that could impact for you.

Yeah, it's evident, you know, complicated. So first, the world always seems to turn when parties change. you know, change. So despite the changes, and we have to, we all compete in the same environment. So we feel very comfortable competing in whatever that environment is. So I think that if there is a congressional and presidential party change, that certainly taxes are the ones that will be, I mean, I think in most businesses shouldn't have a huge impact. Businesses will go on, our tax credit business will probably benefit from it. You know, the higher the tax rate, more value those credits, and I think low-income housing will still be a target for the administration. So I think relative, you know, unless tax rates go totally crazy, that the world will go on. So regulatory, you know, we always monitor regulatory change, and even with what is considered a business-friendly regulation, White House, we've had some pretty big regulatory changes with the Reg BI. And so I think you're talking about matters of degree. And could there be tweaks to that? Yes. It doesn't look like the number one platform of the Democrat nominee is the regulatory reform. So it really more counts that who's put into the office and a number of the key ones, but people are in those positions for a couple of years, even at the elections. They usually set the tone on enforcement and other things. So I don't think there's going to be a short-term impact, no matter what the election is. Longer term, certainly there could be. So, you know, I think it's all speculation. We were the states, you know, you always worry about individual states because it makes the business very complex, but most of those changes have not come forward that have had major impacts to our business. So it's been unknown, but we'll compete in whatever the environment is and whatever the rules are.

Okay. Thanks, Paul. And just to follow up here, just I want to bring together the extensive conversation and just make sure that we're fully appreciating all the moving parts. So I guess first and foremost is the evaluation that you guys referenced last quarter. Is that now complete with all the changes and some of the detail? that you provided here, and then obviously the reduction in force, or are there more things that you're looking at internally that could also move the needle on the expense trajectory from this point? And then also just want to make sure that it doesn't feel like there's probably any big revenue considerations, but just want to make sure that we're understanding that as well.

So I'd say that, you know, first the major was the risk and we're not playing anymore. So, I mean, so, you know, last time we really had any kind of reduction, of course, was after 09. And after a couple of years after the Morton Key acquisition where we did a small one, but, you know, we waited a couple of years trying to get everybody employed. So I think that's behind us. So there's nothing of that size, but we are managing infrastructure spend. technology spend, you know, you go across the board. We are still looking at how do we get more efficient and continue to bring in costs. We have a big service initiative going on as we believe we have high service levels. But we want to increase those from an advisor standpoint. We'll look at areas not even become better at service, but be more efficient, which is a longer term project. So we're all over expenses, but there's no big needle movers. as the reduction in force was.

Okay, perfect. I'll leave it there. Thank you, guys.

Thank you. And our next question comes from the line of Kyle Boyd with KBW. Please go ahead.

Hi, good morning. Thanks for taking my question. Maybe first just on the AFS portfolio, wondering if you could help us understand where current reinvestment rates are with an average three-year duration that's still sitting just under 100 basis points. And secondly, when or if you're able to start opportunistic buybacks later this year, does that change your desire to allocate capital to growing that AFS portfolio at this pace?

Yeah, Kyle, you're right on with your kind of estimate on the yield. It's right around just under 1% for sort of the three-year type duration. And in terms of the decision whether to buy back shares or grow the portfolio, we have enough capital, frankly, to do both if we're comfortable doing both. So we have a lot of capacity and flexibility and certainly the ability to do both just as we have been over the last couple years.

Got it. And just on the cash balances, I mean, those continue to grow quite nicely. Just wondering if you can, um, just provide an update maybe on a long-term target for the percentage of those balances or how you're thinking about the percentage of those balances that you're comfortable migrating to the, to the balance sheet over time.

Yeah. I mean, I think again, a lot of variables in terms of the, you know, the capital, the returns that we were getting on, uh, the assets that we're funding with the cash and frankly, what the demand is, uh, from third party banks, uh, which. It was very high in March when these banks were seeing revolver draws. They needed the cash to cover those draws. And since then, a lot of those revolver draws have been paid back. And, you know, the banking system is generally flush with cash right now. So we are on a net basis seeing, you know, some banks still want that cash, but on a net basis, the demand is diminishing. So that's really the benefit of having a bank in our business is it gives us a lot of flexibility and flexibility If the demand from third-party banks continue to diminish and things continue to recover in the economy and we have good risk-adjusted returns on the assets that the bank can invest in, then we would be comfortable putting a large portion of those cash balances on the balance sheet so long as it doesn't compromise the client's ability to get the maximum FDIC coverage. We're one of the few firms that offer up to $3 million for a joint account of FDIC coverage through our waterfall program. And so it gives us a lot of flexibility to continue growing the balance sheet.

Yep. And then lastly for me, and I'll leave it there, just a really clean-up question on the reduction in force. Should we expect any additional one-time charges this quarter? And I know you said it'll impact the admin line within TCG. Just wondering what other segments we could see some level of impact on the competition.

Yeah, we took the vast, vast majority of the associated expense in that $46 million this quarter. So I don't think that there will be any meaningful numbers kind of going forward related to the reduction in force in terms of costs. And then in terms of, you know, PCGs are our largest business. Most of the support costs, control costs, risk management costs gets allocated to PCGs. But I think the reduction was fairly broad-based in terms of the businesses. So I think you'll just see it on a consolidated basis in the administrative compensation line item in each business. But private client group business is by far the largest consumer of that administrative expense.

Yeah, thank you, Paul.

Thank you. End. Our final question comes from the line of Chris Allen with Compass Point. Please proceed with your question.

Good morning, guys. Two quick ones. One, I'm wondering if you've seen any changes in the competitiveness of the recruiting environment. Just given some of the commentary we've heard from some of the big banks, and I totally sound like some of them get a little bit more aggressive on packages. I'm wondering if you're seeing any change there.

Yeah, I'd say that first. Everyone, since I've been in this job, everybody asks that question, and it's always competitive, right? So sometimes the players change. Sometimes the, you know, even people say they're getting out of the market, they're recruiting, they get out for a quarter or two, and they're right back in. So it's always been competitive. And firms change. There are firms that have done better who are paying a lot of money, you know, relative to what we pay. for transition assistance, and I think we've kind of kept our great balance of being fair to the people coming over and having them come over for the environment. So we get outbid sometimes, yeah, but that's not new for us. But what we believe is we offer the best home and the best tools and the best platforms. So it's competitive out there, and sometimes it's more competitive in the independent channels. People get aggressive. The employee channel, I think, in this last quarter, two people have really kind of been more aggressive in what they're willing to pay. And, you know, we continue to sell our long-term value proposition. So it's always competitive. And we've done pretty good at this for a long time now. So we're keeping our focus and very happy with the great teams we're bringing in.

Yeah, and just another quick one. I saw a news article just in terms of, You reorganized the custody divisions, combining the broker-dealer and hybrid RA custody units. I'm just wondering if that was done as looking to be more offensive, just given the mergers with Schwab Ameritrade and Morgan Stanley E-Trade, just in terms of the opportunity around RA custodial. Any comment there would be helpful.

Yeah, it's a focus or a growth question. You know, we've had that division for a long time. We felt that... Eventually, with enough regulatory change, I think BI was one. I think acceleration of movement, which we saw before June 30th and somewhat slowing down now, but the RIA channel has been the fastest growing percentage-wise in the industry for a long time. The move was really just to consolidate the scale of the businesses, the custodial business and their much more related than they're not. So we want to combine them to make sure that we have more size and scale to focus on that for management there.

Thank you. I'll now turn the presentation back to Mr. Riley to continue for his concluding remarks.

Well, thank you all for joining us. So we know it's hard. Your jobs are like ours are predicting what's going to happen. Remember, a lot of years where we could just kind of draw a line and look at trends and, and be pretty, pretty much tell you what was going to happen. And certainly, that's not this environment right now. So we'll try to give you as much guidance as we can, when we think we can see it, we don't want to make up numbers or make up things that just to help, you know, help you put in a model that don't have a base. So I think with the outlook, it's more difficult Having said that, I think you can see the commitment to expense reduction that we've talked about. You can see it coming through last year. It's certainly even better this year. And we are really focused on growth. We've still been focused on growth. And the one thing, if you really manage your expenses and continue to grow, you get pretty good financial results. So we think long term we're doing the right thing. We've got the focus. And as we get more clarity, we'll try to give it to you and hopefully have an analyst day soon when we can give you better targets than we could in the middle of this hopefully not a bad second wave of the pandemic. But thank you all for joining us, and we'll talk to you next quarter.

Thank you. And that does conclude the conference call for today. We thank you all for your participation and ask that you please disconnect your lines. Thank you once again. Be well.

Thank you.