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spk14: Good morning and welcome to State Street Corporation third quarter 2020 earnings conference call and webcast. Today's discussion is being broadcast live on State Street's website at investors.statestreet.com. This conference call is also being recorded for replay. State Street's conference call is copyrighted and all rights are reserved. This call may not be recorded for rebroadcast or distribution immediately. in whole or in part without the expressed written authorization from State Street Corporation. The only authorized broadcast of this call will be housed on the State Street website. Now I would like to introduce Eileen Faisal Beeler, Global Head of Investor Relations at State Street.
spk13: Good morning, and thank you all for joining us. On our call today, our CEO, Ron O'Hanley, will speak first. Then Eric Abloff, our CFO, will take you through our third quarter of 2020 earnings slide presentation, which is available for download in the investor relations section of our website, investors.state.com. Afterwards, we'll be happy to take questions. During the Q&A, please limit yourself to two questions and then re-queue. Before we get started, I would like to remind you that today's presentation will include results presented on a basis that excludes or adjusts one or more items from GAAP. Reconciliations of these non-GAAP measures to the most directly comparable GAAP or regulatory measures are available in the appendix to our slide presentation. In addition, today's presentation will contain forward-looking statements. Actual results may differ materially from those statements due to a variety of important factors, such as those factors referenced in our discussion today and in our SEC filings, including the risk factors in our Form 10-K. Our forward-looking statements speak only as of today, and we disclaim any obligation to update them, even if our views change. Now, let me turn it over to Ron.
spk16: Thank you, Eileen, and good morning, everyone. Earlier today, we released our third quarter and year-to-date financial results. Let me start by saying how proud I am of our team members worldwide who continue to put our clients first and deliver strong results for our shareholders in these extraordinary times. Turning to page three, our vision is clear and remains that of becoming the leading services and data insight provider to the owners and managers of the world's capital. Despite the challenges of the current operating environment, we continue our strategic pivot in investment services from being primarily a fund servicer to being an enterprise outsource provider, further enabled by our differentiated State Street Alpha platform. We are forging ahead with the implementation of our strategy, developing new business opportunities, and continuing to drive productivity improvements. As we successfully navigate the COVID-19 environment, we are operating against four priorities. One, delivering growth through deeper client engagement. Two, improving our product performance and innovating. Three, driving efficiencies through improved productivity and optimization. And four, supporting the financial system and planning ahead for our team members. I will provide you a short update on each of these areas before moving on to our results. First, our clients are at the center of everything we do. This year we have proven that as a result of our strong operational capabilities, we are able to effectively and efficiently onboard new clients and install new assets in even the most volatile of market environments. and we continue to see proof points of our operational excellence. For example, this quarter we successfully installed approximately $800 billion of investment servicing assets. This was accomplished while also driving sales and expanding the pipeline, as demonstrated by the strong level of new investment servicing wins this quarter, which amounted to $249 billion. Our front-to-back alpha platform drove approximately one-third of these wins. Of note, Included in these wins was a front-to-back CRD, middle office, and core custody mandate with a large European asset manager that was not a pre-existing client relationship. Also, despite the challenges, we continue to expand in critical growth markets with the opening of a new office in Saudi Arabia to support our growing opportunities in the Middle East. Lastly, we continue to win new business and maintain a strong pipeline at CRD where this quarter we more than doubled new bookings, both year over year and quarter over quarter. The institutional investor market is experiencing significant disruption. Our clients are facing increased pressures to effectively employ data to achieve better investment outcomes and drive efficiencies within their operating models. We are positioning ourselves strategically to meet our clients' needs and help them with their own strategic pivot. Second, Product differentiation and innovation are critical elements of how we are driving revenue growth across the franchise. Clients continue to turn to State Street for our comprehensive and differentiated servicing capabilities. For example, we recently launched our new NavInsights product for our hedge fund clients. Elsewhere, the open architecture and interoperability of our platform will enable us to expand our capabilities and attract new clients by partnering with other service providers. such as our recently announced partnership with Simcorp for the insurance segment in EMEA. At Global Advisors, where assets under management reach a record level of $3.1 trillion this quarter, we continue to expand our product offering, including expanding our range of fixed income ETFs. Third, we remain highly focused on driving productivity improvements and automation benefits as we strengthen our operating model and key cost efficiencies. even during this challenging period. Company-wide productivity and efficiency efforts in just the first nine months of 2020 have so far achieved gross savings of 5% of our 2019 year-to-date total expense base, excluding notable items, as we continue to gain efficiencies through IT optimization as well as other measures. The efficiencies we gain from the optimization of our business model to date are enabling both margin expansion and further investments to support our operations, client needs, and technology innovation, including our ongoing investments in CRD and our Alpha platform. Last, throughout this crisis, State Street has supported the financial markets and our employees. Our human capital is critically important to our success. We have safely reopened most of our office locations across the world and have brought back critical functions that operate more effectively full or part-time in office, though most of our workforce remains work from home. At the same time, we are planning for the post-pandemic workplace of the future. We believe that enabling better productivity, innovation, and fostering cultural attributes that set us apart are critical to our success. As many of you know, Global Advisors has long been a leader in its stewardship efforts and its focus on diversity and good governance with portfolio companies. We are also addressing racial and social injustice by improving the diversity and inclusion within our own organization and advocating for the same in our industry. This is critically important to our leadership team, and we are taking a number of concrete actions aimed at reducing these injustices, including 10 specific actions we have committed to executing. which I encourage you to review on our website. Turning to slide four, we present our third quarter and year-to-date financial performance highlights. You will see that as we continue to implement our strategy and improve our productivity, these actions are bearing fruit. First, looking at our third quarter results relative to the prior year period, total revenue decreased 4%, largely driven by the impact of interest rate headwinds on our NII results. However, fee revenue increased 2%, demonstrating the progress we are making as we work to reignite fee revenue growth, as well as the year-over-year contribution from CRD. Turning to expenses, here again I am pleased to report that as a result of our continued productivity improvements, we have reduced both third quarter and year-to-date expenses by 2%, excluding notable items. Productivity management is now a way of life for us, and we will continue to build on this strong culture of expense management we have successfully established. On a year-to-date basis, and excluding notable items, we have driven three percentage points of positive operating leverage, improved our pre-tax margin by 1.3 percentage points, and generated 19 percent of EPS growth relative to the year-ago period. We have achieved these improved results in a very challenging operating environment, particularly the low interest rate environment that I just mentioned. Lastly, reflective of our business model, our balance sheet and capital position are strong, and we continue to operate with capital levels well in excess of our regulatory requirements. As we await the outcome of the latest Federal Reserve stress test in the fourth quarter, given our strong capital levels and unique business model, we are considering a full range of capital return actions, in line with Federal Reserve instructions and market conditions. To conclude, despite the challenges of the current operating environment, we are navigating it well. We are implementing our differentiated front-to-back alpha strategy, developing new business opportunities, and continuing to improve our operating model, thereby driving productivity improvements. I am pleased that our third quarter and year-to-date performance demonstrate this and how we are making measurable progress in improving State Street's financial performance. And with that, let me turn it over to Eric to take you through the quarter in more detail.
spk02: Thank you, Ron, and good morning, everyone. To begin my review of our 3Q20 results, I'll start on slide five. As you can see on the top left panel, during the third quarter, we recorded good growth in both servicing and management fees. Our expense discipline continues to bear fruit, too, with total expenses down 4% year-on-year and 2% ex-notables. On the right-hand side of the slide, you can see two notable items, including a small legal release this quarter. Separately, and for comparison purposes only, we have also called out some of the noteworthy impacts within NII, which I will discuss more in more detail shortly. Turning to slide six, period end AUCA increased 11% year-on-year and 9% quarter-on-quarter to a record $36.6 trillion. The year-on-year change was driven by higher period end market levels, client inflows, and net new business. Quarter-on-quarter, AUCA also increased the result of higher equity market levels and net new business installations. AUM increased 7% year-on-year and 3% quarter-on-quarter to $3.1 trillion, also a record. Relative to the year-ago period, the increase was primarily driven by higher period and market levels, coupled with net ETF inflows, offset by some institutional net outflows. Our SPDR Gold ETF continued to perform strongly, generating $6 billion in net inflows this quarter and taking in a record $23 billion year-to-date. Quarter-on-quarter, AUM increased mainly due to higher period and market levels, partially offset by cash net outflows as very strong inflows during the first half of the year reversed with a recent risk-on sentiment. Turning to slide seven, third quarter servicing fees increased 2% year-on-year, including FX, reflecting higher average market levels, increased amounts of client activity, and net new business, only partially offset by pricing headwinds, which continue to moderate. Servicing fees were also up 2% relative to the second quarter, including the effects of FX driven by higher average market levels, partially offset by a sequential normalization of previously elevated client activity. As a result of our commitment to clients and our strong operational capabilities, we have continued to close deals and successfully onboard new client business throughout this pandemic. On the bottom left of the slide, we summarize the statistics. On the bottom right panel, we summarize the actions we're taking to further ignite growth. In 2019, you may recall that we saw servicing fees decline 6% year over year, partly as a result of elevated pricing pressure, which is now moderating. We quickly intervened by rolling out a client coverage model to our top 50 clients, instilling pricing governance, launching the new alpha front-to-back offering, and working more closely with our clients. The result was to not only stabilize servicing fees, but also begin and drive growth in servicing fee revenues. which are now up 2% year-on-year and year-to-date. The next phase is to extend our enhanced sales coverage model to another 150 clients, leveraging both country and regionally-focused segment teams to further develop our pipeline. We think this is worth another couple percentage points of servicing fee growth over time, as we saw across our top 50 clients. Turning to slide eight, let me discuss the other important fee revenue lines in more detail. Beginning with global advisors, third quarter management fees increased 2% year-on-year and 7% quarter-on-quarter, with the year-on-year performance largely driven by higher average market levels, as well as net ETF and cash inflows, partially offset by institutional outflows. For a complete view of our investment management segment revenues, we've included a page in the addendum, which also includes fees we earn as a marketing agent as we do for our SPDR Gold ETF, which are both in other gap lines. All in, total investment management segment fee revenues increased 5 percent year-on-year and 7 percent quarter-on-quarter, and the business segment margin reached 29 percent this quarter. With the third quarter complete, we anticipate that the likely impact of money market fee waivers net of distribution expense will be within the previously announced $10 million to $15 million range for full year 2020. Turning to FX Trading Services, third quarter results were up 4% year-on-year, but were down 15% quarter-on-quarter as we saw the second quarter bump recede. Securities finance revenue decreased 28% year-on-year, primarily driven by lower client balances and lower agency reinvestment yields affecting the industry. Securities finance revenue was down 9% quarter-on-quarter, mainly as a result of those lower yields. Finally, third quarter software and processing fees increased 21 percent year-on-year, but were 30 percent lower quarter-on-quarter, largely driven by CRD, which I'll turn to next, as well as market-related adjustments. Moving to slide nine, we show a view of CRD's business performance and revenue growth. As you can see, we have separated CRD revenues into three categories, on-premise, professional services, and software-enabled revenues. The slide illustrates the lumpy revenue pattern inherent in the 606 Revenue Recognition Accounting Standards for on-prem, and more importantly, it demonstrates the consistent growth in the more predictable streams of software-as-a-service and professional services revenues. As a reminder, second quarter CRD standalone revenue of $145 million was primarily driven by a large wealth on-prem implementation and several large asset manager renewals. This quarter, CRD standalone revenue was a more normalized $99 million. Looking over a broader time horizon, you can see that total revenue, as well as the SAS and professional fee revenue growth, are strong, up 16% and 20%, respectively. As we continue to invest in and expand the CRD platform, we are seeing good momentum in the business, and we now expect full-year CRD standalone revenue growth to be in the low double digits. Turning to slide 10, third quarter NII declined 26% year-on-year and 14% quarter-on-quarter. Excluding the impact of episodic and true-ups, NII was down 20% year-on-year and 11% quarter-on-quarter. As a reminder, the year-ago period included approximately $20 million of episodic market-related benefits related to the FX swap mark-to-market and hedge effectiveness. This quarter's NII included a negative true-up as we recognized approximately $20 million from OCI to net interest expense related to the prior period transfers of securities from AFS to HDM. Year on year, the change in NII was primarily driven by the impact of lower market rates, the impact of these two items partially offset by larger investment portfolio and loan balances. Relative to the second quarter, The decline in NII was primarily driven by the impact of lower market rates, the roll-off of MMLF balances, and this quarter's true-up, partially offset by a $5 billion expansion of the core investment portfolio, which was worth about $10 million of additional revenues. On the right-hand side of the slide, we show our end-of-period and average balance sheet trends. We currently expect to operate at around $190 billion of average deposits. though that may actually increase given the Fed's continued expansion of the money supply. As a result, this puts us in a position to continue to consciously expand the investment portfolio in the coming quarters to mitigate the effect of the low-rate environment. On slide 11, we've again provided a view of the expense base this quarter, X notable, so that the underlying trends are readily visible. Pre-Q20 expenses were down 2% year-on-year but up 1% quarter-on-quarter, excluding notable items, but including the impact of FX. As we continue to concentrate on driving productivity improvements and cost management in a challenging environment, we reduce expenses across four of five gap lines, common benefits, transaction processing, occupancy, and other, relative to the year-ago period. Infosys costs remain lumpy, but we continue to focus on technology optimization and are making good progress. On a year-to-date basis, total expenses are down 2 percent ex-notables relative to the year-ago period, demonstrating the solid progress we are making in improving our operating model as we reduce gross expenses by about five percentage points, which is partially offset by natural growth and reinvestment of approximately three points. Moving to slide 12, In the left panel, we show the growth and evolution of our investment portfolio. The investment portfolio increased to $112 billion as we thoughtfully put more client deposits to work, even as MMLF securities continued to run off as anticipated. You will see that we continue to maintain a high percentage of HGLA assets, and as the short-dated MMLF securities matured, the average duration of the portfolio extended to almost three years at period end. In the right panel, we show the evolution of our CET1 and Tier 1 leverage ratios. As you can see, we continue to navigate this challenging operating environment with strong and elevated capital levels. As of quarter end, our standardized SET1 ratio increased by 10 basis points quarter-on-quarter to 12.4%, driven by solid retained earnings, only partially offset by modestly higher risk-weighted assets. Tier 1 leverage ratio was improved by 50 basis points to 6.6%, as a result of our higher retained earnings and lower average assets. Consistent with the restrictions imposed in large banks by the Federal Reserve, we made no common share repurchases in the third quarter and cannot do any in the fourth. As Ron noted, we are confident in our strong and elevated capital position, and we will consider a full range of capital actions, including the resumption of share repurchases in upcoming quarters when regulatory and market conditions allow. Turning to slide 13, we've again provided a summary of our 3Q20 and year-to-date performance. Our third quarter results reflect our focus on not only stabilizing but also reigniting fee growth, as well as the obvious headwinds from the low-interest rate environment. Both our third quarter and our year-to-date results show clear evidence of how we are successfully executing on our strategy to improve State Street's financial performance and create shareholder value, all the while temporarily holding elevated capital well above our regulatory requirements. Turning to the rest of the year outlook, throughout the pandemic, I've discussed our outlook under a certain set of assumptions. Now, with three-quarters of the year behind us, let me share with you our current thinking, but with the caveat that the macroeconomic environment could continue to change. We expect global central banks will keep short rates at current levels and long-end rates will stay at current spot rates through year-end. We also assume that average global equity market levels for the remainder of 2020 will be flat to current levels. With that backdrop, we now expect that full-year 2020 fee revenue will be up approximately 2.5% to 3%, with servicing fees expected to be up approximately 2% for full year, both of which are up from our previous guide. Regarding NII, given the impact of continued lower long-end rates, we still expect full-year NII to be down approximately 15% in line with our previous guidance. Turning to expenses, we have successfully transformed the expense base and remain laser-focused on driving sustainable productivity improvements and operational efficiencies. We therefore still expect that full-year expenses will be down 2% year-on-year, excluding notable items, as we continue to find ways to reduce expenses. In regards to our provision for credit losses, we continue to see a range of outcomes based on evolving economic conditions and any credit quality changes. On taxes, we continue to expect our tax rate for the full year to be at the low end of our 11 to 19 percent range. And with that, let me hand the call back to Ron.
spk16: Thank you, Eric. Operator, let's open it up to questions.
spk14: Thank you. To ask a question, you will need to press star 1 on your telephone. To withdraw your question, press the pound or hash key. Please stand by. We compile the Q&A roster. Your first question comes from the line of Glenn Shore from Evercore ISI. Your line is open.
spk17: Hi, Glenn. Hi. Thank you. Hello there. So it's good to see the consistent and good new business growth And I know that we get that on a gross basis all the time, but it looks good enough to be very positive on a net basis. I don't know if I can get you to comment on that. But the follow-on question that I have is, it's also good to see the pricing moderation over the last couple of quarters in your conversation. The question I have is, how do you know how durable that is, meaning how much of the book has gone through it, the confidence in what the pricing committee is doing? the next 150 clients, and then can clients just stick you up next year too? I'd love to get just the overall feeling of confidence that we can keep this trend going in the right direction. Thanks.
spk02: Glenn, it's Eric. Let me start on pricing, and then we can cover the broader topics of pipeline and momentum. I think on pricing, we continue to feel that the actions we took literally you know, centralizing and turning pricing into a very senior, you know, conversation internally here and management process, for one, have made a real difference in a practical way. And so while, you know, you turn back the clock and you see that historically this industry has always had some pricing compression, literally because there's always appreciation in our fees due to markets, right? So there's always a natural balance that we play out with our clients. That history was in a range of 2% per year. We saw that expand to a 3% and 4% headwind last year, which obviously was not something that we want to or expect to repeat. This year, we thought it would be down to 3%, and we updated our view that it'll be down at around 2.5% for the year. And I think the perspective that we have is that that is largely due to a more heightened set of actions, governance, education, to be honest, both of our team and clients. I think what happens next, time will tell, but I think there is not only the continuation of our intensity and actions here, but I think the other feature is that as our value proposition offering, that kind of front-to-back offering which connects the Charles River, the middle office, the custody and accounting, becomes a bigger part of what we offer, those contracts tend to be longer. They tend to be more integrated. They tend to be stickier, and we think that's going to continue to provide some support to the pricing benefits that we've accrued and at least keep us at this level. If we can do better, let me tell you, we'll lean hard into that, but I think we're confident in where we've gotten to and operating in this area.
spk17: Okay, so I couldn't get you on the net new business. That's cool. Maybe, Ron, last one for me is you mentioned considering the full range of capital return options, which is cool. You've got a lot of capital to consider options on. You particularly have had a good long history in consolidation on the asset management side. I'm just curious your take or observation of what's going on in the industry and if there's room for to participate, not that you're not already a huge player. Thanks.
spk16: Yeah, I mean, your observation is accurate. There's a heightened amount of consolidation going on. We think about it from two dimensions, not just as an asset manager, but also as a servicer to asset managers. So it's something that we're looking at carefully. We're always trying looking at our two businesses, investment services and investment management, and trying to determine how we best optimize them. And we like what we have, but to the extent to which we could add to it through some kind of a tuck-in, we'll consider that also.
spk17: Okay. Thanks for all that. Thanks.
spk14: Your next question comes from the line of Alex Bloodstein from Goldman Sachs. Your line is open.
spk09: Great. Thanks for the question. Good morning, everybody. So, Ron, just maybe building on that last point around a pickup in asset management industry M&A, obviously with Eden Vance and Morgan Stanley, and there's been speculations that there could be others. How do you think about that from a service provider perspective? Obviously, on the one hand, I could see how that could be a net positive, given you guys are kind of in a sweet spot with sort of large global kind of giants as you described them in the past. So perhaps maybe more volume, but pricing could come under pressure given kind of the benefits of a larger platforms. So help me think about that. Is it an ad positive or a net negative for State Street? And we see more consolidation in the asset management space. And then specifically with respect to in Vance and Morgan Stanley, any risk or opportunities from a revenue side you guys see for yourself? I don't know to what extent you provide services to either.
spk16: Yeah, so I'm not going to comment on any specific client situations. It's public that we serve both of them, but I'm not going to comment on that, Alex. But in terms of the impact on us, there's some negatives, but there's also a fair number of positives. The negatives obviously would be if we lost a client or if we consolidated but ended up at a different spot on the aggregate fee schedule. The positives are that in most of these situations, we often are involved in some way right from the beginning because of our knowledge of asset managers, our ability to help with operating models, the fact that we now have this front-to-back alpha platform, so there's we're often there at the table or certainly brought to the table quickly thereafter. The other thing that we believe we can stimulate with all this is if you're going to go through all the integration, you might as well go through a platform upgrade. And so we think that in some ways this is actually going to spur activity because oftentimes the synergies that are being promised or looked for have to do with the back office and operations, and you're going to get even more synergies if you actually take the opportunity to overhaul the operation and have a true front-to-back kind of implementation done. So positives and negatives, but we think over time probably more positives for us.
spk09: Great, thanks. And the follow-up question, for Eric around NIR. So just to clarify, the down 15% NIR for the full year, again, in line with prior, does that include the $20 million true-up in the quarter? You're talking about this on a reported basis, which I think implies about $480 million for NIR for Q4, so just double-checking that. And then more importantly, how do you guys think about that run rate developing into 21?
spk02: Alex, it's Eric. Yeah, we did do it on a reported basis, the 15%, so I think you're... you know, your estimate of what we're looking at for fourth quarter is, you know, is in the right area. I think the way I'd describe this is first to describe this year and then maybe talk a little bit about next year. You know, we've clearly been in this interesting environment that fell sharply, and what we're finding is that at this point we're starting to really slow the decline or the pace of decline of NII quarter on quarter on quarter. And so, you know, you saw in our results this quarter, you know, adjusted for the true up, we'll come back to that if necessary, you know, we're down 11% sequentially. If you actually just open up the lens and say, you know, how much was NII down first quarter to second quarter, it was down 16%, right? So we started at 16%, 1Q to 2Q, This quarter we're down 11% on a kind of underlying basis from 2Q to 3Q. And to your point, if you take our full year guidance and you've done the math like many others, you know, we're looking down at around four, maybe five percentage points from 3Q to 4Q. So you can see that pattern, you know, consistently slowing. And that's really the effect of the kind of grind through the portfolio coming through. which slows over time, you know, offset by our actions to expand the asset side, whether it's loans, the investment portfolio, which I said was up, you know, $5 billion on average for the quarter. It's actually up $9 billion on an end-of-period basis. And then, you know, some expansion of what we're doing in that sponsored repo program. So, you know, those are the puts and the takes. As we look at next year, it's a little early, but our view is that that pace of reduction continues to slow. And so we're probably looking at a couple percentage points from 4Q into 1Q or 2Q. And then we see some stabilization at that level. And so I think you've seen us now really intervene and slow the decline. We'll see stabilization in 1Q or 2Q. And then I think at that point, you know, we can offset the grind down from the portfolio. Very well. Thanks very much.
spk14: Your next question comes from the line of Brennan Hawking from UBS. Your line is open.
spk05: Good morning. Thanks for taking my questions. Just wanted to follow up on that, actually, Eric. The couple percentage points from 4Q levels, does that utilize the same underlying assumptions that you laid out initially, basically keeping spot rates unchanged? And then also, given the level of importance mortgage-backed securities have on your portfolio, what assumptions are you making for prepayment rates? Are you just holding those steady? Are you assuming that they ease a little bit? What's embedded there? just so we can calibrate as we move forward.
spk02: Yeah, Brendan, thanks for the question, because, you know, each of those assumptions are very important, right? We're looking for this, you know, looking for and driving towards an inflection here. So, first on rates, I think we're looking at current short rates, which have become a little more normalized. Remember, we had an inversion between repo and and treasuries, which now is normalized. So that's slightly beneficial. We're hoping that continues, that stays that way. And long-end rates in the 70 to 80 basis point range, they've been bouncing a good bit over the last week or so. So that's the broad assumption. I think as you think about the assumption on MBS pre-rememorization, prepayment speeds, we are assuming that third quarter and fourth quarter are at a more elevated level of prepayments. And then we do expect some amount of burnout into first quarter, second quarter, and going forward. And so that is an underlying assumption. We think that's a fair assumption given a look at the models. And we obviously get models from the three or four providers and have our own assessment as well. but it is driven by that. And then finally, you know, it'll be, you know, our performance will be dependent on the pieces that we can control. You know, you've seen us expand our loan book, our loan book, which is exceedingly high quality for our clients is up about 10% year on year. You see our investment portfolio is also up about 10% year on year. And, you know, our sponsored repo program, we've started to see a, you know, build the balances now that we've had a little more of a normalization. And what you're seeing us do there is effectively put more deposits to work. You know, deposits are up, call it 20% from the kind of pre-COVID era. The Fed balance sheet continues to expand. And so our view is that we have more of those deposits can be put to work, whether it's in the loan book, in the investment portfolio, over the course of a couple quarters. And, you know, you could see even this quarter I gave you a sense for the difference. It makes a real difference, and it lets us kind of lean in and drive this stabilization.
spk05: Excellent. Thank you for all that color, Eric. That's great. And then when we're shifting gears to the servicing revenue, you referenced some new business installations. we all saw the sort of rapidity of the equity market rally. And in the past, sometimes that has resulted in some, the way the street calculates your servicing fee rate to compress just because of the mix, you know, not all of your servicing mandates and contracts are purely based on asset levels. And so could you maybe help us unpack a little bit how much of the lag, how much of the servicing fee not going up as much as the AUCA was lags from new business installations where the revenue has not yet come on and how much of it might be from the market rally, which naturally would only be partially captured due to some of those contract dynamics.
spk02: Yeah, let me, Brendan, take that from a couple different angles, right? Equity markets are clearly a tailwind for our business. And, you know, there's always a little bit of timing, but that's kind of the timing is really rounding. What's important really here is the average equity markets and the average equity markets across the globe, right? So if you step back, you know, S&P is up. you know, 12%, 13% year on year. But the emerging markets are up. The international, you know, EMEA markets are actually down a smidge year over year. So it's the mix of those that matters. And then not only the EOP matters, but the average matters. And so on average, you know, year to date, you know, we've got equity markets at up around 6%, which is beneficial, right? We've always talked about equity markets up 10, you know, fees up three, fixed income markets up 10, fees up two. And so we do have a tailwind of a point, maybe a point and a half of fees that are coming through on a quarterly basis or a year-to-date basis. And we'll, you know, we'll take that. Over and above that, I think we've also got some net new business. And so, you know, to the question that came earlier and that folks are always asking about, our business wins are outpacing some of the bit of turn that you always get in the portfolio. And then, you know, we've been able to charge more on whether it's client activities or flows have been a little more positive this year. And those are coming through and offsetting some of the fee headwinds. So I think there's a good mix in general. If equity markets stay at this level, that'll help us with the compares on a year-on-year basis. But remember, third quarter to fourth quarter of 19, equity markets were up as well, right? And so that'll help us on a sequential basis from 3Q to 4Q. But year on year, we're also going to have a tougher comparison there as well, 4Q to 4Q. Anyway, there's a lot there, which is partly why I gave the overall fee guide for the year on servicing fees up 2%, because we think that's a good indication of a bit of tailwind in equity markets around the globe, but also driven by our ability to you know, drive new business growth, manage pricing, and then, you know, take advantage of some of the flows and activities that we're seeing.
spk05: Yeah, appreciate that, Eric. But just the lag in new business billing versus the AUC coming on, is there a lag with some of that? Sometimes there is, and so I just wanted to confirm. Appreciate all that. That's a great color on the market dynamics and the beta, just to
spk02: There is a bit of a lag, but I think the EOP and the averages were relatively consistent for the quarter. And so we're not expecting a large lag adjustment into the fourth quarter at this point. There'll be a little bit, but because of the end of period and the quarterly average was pretty consistent, I think it'll just play through more naturally.
spk05: Okay. Thanks for clarifying that.
spk14: Your next question comes from the line of Ken Uston from Jefferies. Your line is open.
spk04: Hi, good morning, guys. Hey, Eric, I want to just come back to the capital return question. You have an 8% CET1 minimum. I'm just wondering if you could just level set us again now that SCB is totally done. We have the stress test ahead of us and the limitation through 4Q. What do you guys see as your limiting capital ratio? And when you are able to get back into buyback's, Do you go back to, you know, 100% capital return? And how do you think about, like, what the actual excess is over just, you know, getting back to a more normal buyback plan?
spk02: Yeah, Ken, you know, it's obviously an important topic we've been working through. In a way, we've been forced to defer any of those decisions. But I tell you, it's one that we're – anticipating and, you know, eager to act upon given how strongly capitalized we are. I use the word elevated capital purposely in my prepared remarks just because that's what we're running at, right, where we've got, you know, significant headroom. I think there's a couple kind of parts to the question you asked. I think first, in terms of our capital ratio, the binding constraint, it is now CET1. So, you know, core risk-weighted assets are you know, divided by common equity tier one capital. At this point, the leverage ratio is not really any more the binding constraint. And you've seen us take advantage of that as we've reduced some of the stack of preferreds on our book. And then as you think about the CET1, you know, ratio, you know, we'd like to get that down. I mean, there's very little reason that we should run above 12%. There's little reason we should run, you know, above 11%. And so You know, there's at least a, you know, point and a half, if not more. We're working through what's appropriate, right, because we've gotten a lot of data over the last couple quarters that we want to factor in. But there's a, you know, solid, you know, billion and a half of capital there that needs to go back to shareholders. Over and above what would go back to shareholders just from the earnings that we create each quarter, right? And so we obviously want to see the results, I think, as the Fed and market participants do of the new CCAR test. We went through all the assumptions, as I think you guys did too, and we think we'll show well. We're very comfortable with our SEB. And I think what we'll do is kind of market dependent and also based on any Fed guidance for the industry. we'd like to restart capital return, and if we can do that in the first quarter, the pace of that, it needs to be a little bit paced. You've got to be careful in this environment, and we're careful bankers after all, but our view is that we need to start, and then we need to accelerate that pace of return so that we return more than what we earn each quarter and start putting that back into our shareholders' hands.
spk04: Great. Yep. Great caller. Thanks. And just to follow up on an expense question, you've been talking for a good while now that you think that the company should be able to take expenses down annually. And I know we'll hear more about this when you get to your formal outlook for the year. You did a very good job this year, still being at about down 2%, you know, with the NII still being a headwind, but fees looking better. How do you start to just think about that calibration and, you know, where are you in terms of just the ability to continue to net down the expense base? Thanks.
spk02: Yeah, Ken, and I appreciate your letting us answer that now. And then, as you say, in January we'll give, you know, our annual guidance. I think I've been clear. I think we've all been clear here from the management team that, you know, that down in expenses is the right direction of travel. And, you know, the direction and the volatility we've seen in market interest rates just reaffirm that, you know, down is the new up and that that's the kind of way we should operate in, you know, in this environment. And I think what you've seen is us being able to do that now for effectively two years in a row, right? We did that last year if you adjust for the acquisition, you know, cost. of CRD. We're doing that again this year. And I tell you, we have a lot of confidence in that momentum, partly because, you know, that frame of mind, I think, has really kind of organically expanded through, you know, not only our management team, but our one downs and two downs. So we've got, you know, hundreds of people, hundreds of senior folks working on productivity and expenses, all the while, you know, driving revenue growth and you know, fees and so forth, as you noted. But we're finding ways to do that across the line items, right? You saw four out of five of our expense line items down year over year, and many of them were down quarter on quarter as well. And I tell you, you know, in our core, you know, operations area, you know, we continue to find ways to automate and reduce manual touches, and we think that has you know, years of, you know, opportunity for us in technology. We're, you know, driving a transformation, and we've been clear there. And I think more broadly across our corporate functions, our businesses, you know, the notion of productivity, kind of more outcomes, you know, per person is something we're actually adding measurement tools on so that we can, in a more incisive way, find solutions. you know, find opportunities. And I think that's why you've seen, even with the pandemic, our comp and benefit costs are down 2% year on year. You know, even more if you adjust for the currency swing. Our occupancy costs are down. And every one of those is a result of those, you know, pretty broad-based and deep actions. Great. Thanks, Eric.
spk04: Yep.
spk14: Your next question comes from a line of Betsy Cresick from Morgan Stanley. Your line is open.
spk12: Hi, good morning. Morning, Betsy. I wanted to just dig in a little bit on the wins that you've been announcing recently. There's been several press releases on servicing wins for semi-transparent ETFs. And I just wanted to understand how you think about the you know, market opportunity there and how we should be expecting that's going to be impacting, you know, fee rates as they come in and what kind of timeframe it takes from announcement to, you know, fully loaded and in the plant. Thanks.
spk16: Yeah, so I think it's fair to say, Betsy, that virtually every active manager is thinking about these. And there's a lot of work underway at many asset management firms. There's basically five firms have come out and actually launched them, and I'm not sure what the total is. Most firms have launched multiple funds. but of the five firms that have come out, we're servicing four of them. And I think that you'll find that many others, as I said, are looking at this, and also many are looking at what's the experience of those that have gone first. So I think many firms view this as a potential new revenue opportunity. In that case, And to the extent that Cross will be an opportunity for us, we have, from a servicing innovation perspective, we've been on this now for a while. We're familiar with all the different processes. ways of doing it in an effector servicing most of the ways, if not all the ways of doing it. But I think it's too early to tell whether or not this will be a game changer. But it's certainly something that we felt like was important enough that we needed to put some innovation against it. We have. We've got great market share at this point, but on a market that's small and growing.
spk12: And then just thinking about, you know, how you – You know, the fee rates associated with it, is it something that's going to impact the overall fee rate? Is it, you know, like lower than traditional fee rate type of product or not? You know, I'm not sure how it's priced. And then the other question is just how long does it take from an announcement to be loading up into the plant? Is it like a two-, three-quarter load or it's just growing with the product itself, which is nascent?
spk16: Yeah. So, I mean, the fee rate is higher, but, you know, it's rate times volume. And, you know, I would say so far the volumes are, I mean, they're growing, but, you know, off a very low base. So I think it's just too early to tell. whether or not this will be a game changer for us. But, again, our view was that it wasn't something we should ignore. Because we'd spent time on it right from the beginning, we'd actually worked on some of the rulemaking around it with the SEC. We felt like it was something we should step into, and we'll just see where it develops. Not being evasive, we just don't know.
spk12: All right. Right, okay, and since the investment's been made, it would be a relatively high margin as these wins come onto your platform?
spk16: Yeah, I mean, certainly to the extent to which any of the existing funds grow, yes, high margin. We understand all the different models, so what it takes for us to install them, I mean, we understand it now. So it's not like a lot of new incremental costs.
spk12: Okay, thank you. I appreciate that.
spk16: Thanks.
spk00: And our next question comes from the line of Brian Bedell of Deutsche Bank. Please go ahead. Your line is open.
spk08: Great. Thanks. Good morning, folks. Just one clarification before I ask a question. The tax rate, Eric, that you mentioned, that should be 17% to 19% for 2020 at the low end. Do I have those numbers right?
spk02: Yeah, that's correct. 17% to 19% was the guidance, and we've reaffirmed that we're coming in at the low end of that range.
spk08: Yeah, I think I misheard the number. Okay, good. And then the first question is on CRD, the low double-digit revenue guidance for 2020. I think it implies a little over $100 million for 4Q. Just wanted to make sure that I was thinking about that correctly. And then as we move into 21, given the new wins that you're seeing and the momentum you're seeing on the output platform, I guess maybe an early look of what you're thinking for core CRD in 21 in terms of that growth rate potentially even accelerating from that low double digit or around the same or lower. Okay.
spk02: Yeah, Brian, on CRD, I don't want to get ahead of myself for 2021. We're still doing the pipeline assessment growth and so forth. I think what I'd tell you is that we're quite pleased with the growth that we've seen here. We bought a business that had top-line growth of 7% a year. Last year, we nudged that up to 8%. That was our first year of ownership. And this year, we're looking at low double digits with... with some upside relative to where we were a couple months back. And you saw, I think, some impressive wins in the second quarter in the wealth space and some major renewals that kind of give you a sense for the effect of the State Street backing software offering. has, you know, on the market and our ability to, you know, convert that into some significant ads to revenue. Now, you know, we'll have to lap ourselves next year. So that's obviously going to be the hard part quarter by quarter by quarter. And so, you know, we're doing all the things you'd expect us to do. We're expanding the sales force. We're expanding the technical base. We're expanding the implementation engineers. But I think we're We're real pleased with the trajectory and just a double-digit revenue performance two years into an acquisition. I think it gives us the confidence that not only did we buy the premier property in this space, but under our ownership, it's very strong and on a top-line basis. And that's just CRD itself, right? CRD is really part of that front-to-back alpha offering, and you've seen us expand that with partnerships, win business in custody and accounting and middle office with Charles River. And so I think that broader effect on our offering and our client discussions is – is shaping up nicely as well.
spk16: Brian, I want to underscore that last point that Eric just made, because we've been talking to you all right from when we acquired Charles River. We closed it in October of 2018, and we started talking about how the pipeline was developing for not just Charles River, but also for broader front-to-back kinds of offerings. You'll note that in our new business wins this year, this quarter, a third of those wins were alpha related. So remember, that means that it's not just a CRD win, but we're getting out of that some form of the middle office and the back office. And we said that we were seeing it develop. We said that not only would we drive CRD wins off of our existing custody platform, but we saw CRD and the alpha platform is potentially driving back office wins. We're starting to see that. I noted one of the alpha wins was a large European asset manager that we had no existing relationship with before. So we'll go from zero to having CRD, the middle office, and fund services. So that's how you should think about CRD both in and of itself as a software provider, but also as part of this alpha platform and our pivot to being an enterprise outsourcer.
spk08: Yep, no, that's great, Keller. And then maybe just, Ron, while I have you on some growth initiatives, ESG, obviously you guys are very strong with ESG-dedicated AUMs. Maybe if you can talk about what the plan might be to launch more product that's a sustainably focused product, maybe especially on the ETF side. Obviously, we've seen BlackRock really advance in the space. And then also on the servicing side, to what extent within your data analytic offerings are you able to integrate ESG data and analytic services for your clients?
spk16: Yeah, I mean, you've outlined it well in terms of how we think about it. Much of the visible ESG activity to date has been in SSGA. And in addition to all the stewardship work that they do, there's been much new product and more new product on the drawing board. What's as exciting for us, though, is that as As these managers are now integrating ESG into their overall investment risk framework and overall portfolio construction, that's driving more and more needs for measurement, data analysis, et cetera. So we've got a series of products that we're working on now that will help support that. So stay tuned on this. It's something that's very important to us. We're actually, you know, we're even thinking about it in terms of how we put our resources together across the firm on this and go out on a united front. So you'll see more of this in the next few quarters.
spk08: That's great. Thank you.
spk14: Your next question comes from the line of Mike Carrier from Bank of America. Your line is open.
spk07: Good morning, and thanks for taking the question. Just a quick one. Eric, on the 150 clients that you mentioned are reviewing and working on, is there any difference with this group versus the prior 50 that could create a different outcome?
spk02: No. I think the way we think about it, Mike, is that we rolled out a more sophisticated and engaged and kind of action-oriented coverage structure on the top 50 starting at the end of 2018, and that's really took effect this year. And that's about folks with a kind of a sales orientation, with a deep relationship, kind of building orientation, a sophistication to leverage the whole organization and bring it to bear to our clients. And what I tell you is that that actually has created you know, at least several points of additional fee growth for that group over and above what we're seeing for the rest of our client base, right? And so as we step back, we're saying, wow, given that that has created differential amounts of revenue growth, and we track it, right? We track the top 50, we track the rest of the client base, and then we further subsegment below. what we've decided to do is take the learnings. Now, you don't take them kind of pound for pound because there's a cost to a coverage organization. There is productivity and loading that you want to think about with a coverage organization with different size clients. But the client base, the next 150 clients are not dissimilar from the largest. They just tend to be maybe in one or two investment areas if they're servicing clients as opposed to three, four, or five. They may be $50 or $100 billion clients instead of trillion or $2 trillion clients. But our clients in the next 150 are large, they're scaled, they're They can take advantage of our custody, accounting, middle office, front office services. And so I think they're similar in a lot of ways. And that's why we think that in a more intense and orchestrated coverage organization, which really then has the ability to unleash another, you know, several points of, you know, revenue growth there. can then help lift the overall revenue growth of the franchise in a way that we've already seen for the top 50. Got it.
spk07: All right. Thanks a lot.
spk14: Your next question comes from the line of Stephen Chuback from Wolf Research. Your line is open.
spk06: Hi. Good morning. So, Eric, I wanted to start with a question on the securities portfolio. The duration increased sequentially. It now sits at about 2.9 years. And admittedly, a little bit of a surprising development just given the accelerating prepayment activity. Some investors, and admittedly not all, but some are speculating we could see some steeping in the curve in the event of a blue wave and various inflationary programs are launched. And I know that outcome is not contemplated in the NII guide. but something you could just speak to how you're handicapping extension and AOCI risk. Maybe you could just frame the capital and duration sensitivity if we do see 50 or a hundred bits of steepening.
spk02: Yeah, Steve, it's, uh, it's Eric. It's those are, those are exactly the kind of the, the, the balancing, uh, um, uh, the, you know, the balancing drivers that were, you know, quite careful of, uh, uh, to your point, you know, we, we, we, um, You know, we model out all the upright scenarios, 50, 100, 150, 200. And what you've seen us do is both be, I think, considered in how much maturity and duration we've put on. We've historically run at this two-and-a-half to three-year range of duration. So I think we're within that band. We added a little more to offset some of the shortening that came on, you know, MBS prepayments. So we did that consciously. But you also didn't see us take that up to four or five-year duration and, you know, run long on 10-year and, you know, 30-year bonds. So I think it's calibrated. One of the tools we use here, though, is not only to think about where we play on the curve, right, where this is really the middle part of the curve. This is, you know, five- and six-year, you know, maturity paper on average with some a little longer. But, you know, we're careful. But we also use the, you know, the HTM. accounting designation, because a lot of what we hold, we'd like to hold for to maturity. And you've seen us, you know, put, you know, 40, 45 billion of securities in health to maturity, which insulates it from the OCI pressure. And we do that very, very consciously. And we also are quite purposeful in what we put in health to maturity, because we think that's got to be you know, pristine. It's government paper. It's government guaranteed paper. And so that's how we balance the uprate scenarios is through a mix of kind of just carefulness on duration and then the HTM accounting. And I think in a lot of ways that lets us feel comfortable that, you know, we always need a volatility buffer in capital, but we don't want to have one that's inordinately large because then we couldn't return capital to shareholders. And That's why earlier in some of my remarks I described that there's a solid amount of capital to give back. We need to keep some for the OCI volatility, but we think we can manage that to reasonable levels given the portfolio design and some of the accounting designation.
spk06: Great. Thanks for that call, Eric. And maybe just as my follow-up, just wanted to ask on the investment management strategy. Now, the segment did see a nice lift in pre-tax margin this quarter, but the profitability has consistently lagged some of the traditional asset management peers. And just with the latest wave of consolidation, how are you thinking about scale adequacy of the platform, especially on the active side, and just given more subdued profitability, as well as the significant capital cushion, Eric, that you cited? Just how might you look to reposition the segment to compete more effectively? And I guess more specifically, how does inorganic growth fit into that strategy?
spk16: Yeah, so it's Ron. I mean, these are exactly the questions that are very much on our mind and that we're working through quite actively. We like the franchise. It's got some terrific assets to it, particularly the ETF franchise, and we're seeing more and more that that's an area where the big are getting bigger, and it's just hard if you're not in in a top three or four position there. But it also has its challenges, right? It's a fairly narrow platform from a product perspective, so it operates really at the beta, active beta and quant beta and is relatively small in things like alternatives. So we're thinking about it from a product perspective, both organic and inorganic, and then obviously from a distribution perspective. It's, you know, the only distribution we have is our institutional distribution. So, you know, we'll probably talk more about this at some of the upcoming conferences as we finish through our work, but it's something that we're actively considering and evaluating.
spk06: Great. I look forward to hearing more about it. Thanks so much, Ron.
spk14: Your next question comes from the line of Jeff Hart from Piper Sandler. Your line is open.
spk10: All right, good morning. Can you talk about the value of kind of deposits to State Street? I guess I'm thinking about it from the angle of with deposits up a lot, 20% some year over year, NIM as low as I can ever, having remember, seen it, and you're holding a bunch of capital events to balance, you're just kind of swollen with these deposits. At some point in time, does it become economically advantageous to kind of turn deposits away, say, through pricing? and, you know, de-lever the balance sheet and return more capital to shareholders, assuming the Fed lets you buy stuff back.
spk02: Jeff, it's Eric. Those are all the right questions that I think we as bankers have to navigate through. I think what's changed and is particularly important for us as a bank is that the binding constraint for us has actually shifted You know, two, three, four years ago, it was around leverage and partly around Tier 1 leverage, partly around supplementary leverage ratios, right, which have an expanded kind of view of the balance sheet. And those rules, though, were effectively adjusted over the last year, I think in such a way that, you know, they became more rational. And, you know, didn't put us in this position where we needed to any longer, you know, push away client deposits, which is something we did do. I remember in 2017 that was one of the actions that we took, and it wasn't very pleasing to us nor to our clients. But we're no longer in that position. What's really changed now is that it's the common equity tier one, the risk-weighted asset ratios that really matter, both the spot ratios and under CCAR and the SCB. And because of that shift, we're effectively in this position where we're open for business on deposits. And while in a way it's a larger balance sheet, it's 20% larger, that's not constraining for us. And what that does put us in a position to do is to carefully expand the investment portfolio. You've seen us do that this year, continue to lend more to our clients, and you've seen us do that as well. And so that's the path we're taking, which I think actually supports the financial system in the right way. As we lend and expand the investment portfolio, it supports our clients. And to be honest, that'll come back as earnings and returns to our shareholders.
spk16: Jeff, what I'd add to that is many of these deposits, to the extent to which we push them away, we create operational complexity for our clients because most of these deposits that we get are associated with our custody activities. So when you start to separate those, you're creating some operational complexity. And Eric noted that we did some of this mostly in Europe in 2016, 2017. And it would be hard for us to get those deposits back if we did that too. If you believe that these are going to be useless forever, it might be something that you'd be willing to do. But given the lack of constraint, given the fact that it creates operational complexity for our clients, and to retain that optionality if and when, in fact, you do see a steepening of the curve or even an increase in rates, we like our approach.
spk02: Yeah. Yeah, the current approach, you know, drives, you know, 85 basis point of spread income effectively on those deposits because many of those are actually priced at, you know, zero or one basis point. Not as much as we'd like, but to be honest, that's renumerating to the income line and to our shareholders. And over time, you know, there'll be some normalization of rates. We could see that expand again.
spk10: Just a quick bigger picture follow-up. It's probably too soon to tell, but have you seen or do you expect to see any impact versus the pre-COVID environment in servicing as far as the trend of industry consolidation and maybe even pricing pressure? Do you see anything changing with the whole work at home and just everything we're facing now versus a year ago?
spk16: I think the The trend that's most visible to us at this point is that investment managers, even asset owners, sovereign wealth funds, plan sponsors, are really taking a hard look at their operating model. They were before. If anything, this has put more spotlight on those operating models. I mean, we had instances where we had clients, the example I'm thinking of was an asset owner, had roughly 1,700 employees and had the ability to have 70 of them working from home from a technology perspective. So there's broad-based look at operating models, which we think will be beneficial to us. Ultimately, as long as you believe that investment markets are going to continue to function and grow, what we do will still be there. What we're positioning ourselves strategically for is that as these operating models need to be overhauled, we want to be the enterprise outsourcer there that's doing it for them, taking on as much as we can of the front, middle, and back office.
spk10: Okay, thank you.
spk16: Thanks.
spk14: Your next question comes from line of Vivek Junjay from JP Morgan. Your line is open.
spk11: Hi, Eric. A couple of questions for you folks. Firstly, can you give an update on, you know, had a good run with CRD in terms of the revenue growth, as you mentioned? Can you give an update on where you stand on the synergies that you've achieved and accretion dilution?
spk02: Yeah, the fact we continue to run well along those lines. I think we had said that accretion would turn positive by the end of the second year. We effectively have gotten to that point given that the synergies have come in and the both on the revenue and the expense side. I think the expense synergies came in actually a little faster than expected. I think we've always historically been good at expenses as a company. And the revenue synergies have come in quite nicely. They've moved around a little bit. We had some synergies from some of our sponsored repo activities sold into the CRD base, which came in a little lighter because of the compression in rates. But some of the fee activity that we have and the sales activity that came from the State Street franchise that's come in stronger. You saw the very significant wealth win and some of the other activities. So I think we're really pleased with where we are and have hit our milestones.
spk11: Thanks on that. A different one, Eric, for you. The reverse repo business, you know, it's been shrinking. You've shrunk quite a bit the last couple of quarters as spreads have diminished. Do you see it shrinking further or is it stabilizing? What are you seeing in spreads? Any color on that?
spk02: Yeah, the sponsored repo business is something that we've done. You know, it started small. It got to $50 billion, $75 billion, $100 billion of assets. It got north of that. You know, sometimes it's spiky. You know, we had months where we were at $150 billion. We're back now in the kind of $80 billion to $90 billion range. And the biggest driver has been the changes in front-end rates, right? Repo rates and kind of one-month T-bills tend to create movements in positions of asset managers who are very focused on overnight out through one-month paper. And because T-bills were suddenly more attractive during really the spring and part of the early summer, we saw that sponsored repo balances come back down. We've now seen some, I think, normalization in those rates. I think they're back to being, you know, 5, 10 basis points apart. We think that gives us some, you know, some opportunity. And we've seen a bit of growth here over the last month or two, and I think we're, you know, notwithstanding the flood of cash from the central banks, you know, see some amount of upside there, and that's what we're working towards that comes through our NII line, and that could be, you know, that is factored into some of our forecasts, but that's the kind of area that we're pushing on.
spk11: Thanks for that. If I may speak in one more, Eric, what types of securities are you adding, you know, the most recent purchases that you've done?
spk02: Vivek, I think you mean on the investment portfolio. Sorry, yes, investment portfolio.
spk11: I shifted gears on you.
spk02: I'm okay with the off-balance sheet client sponsor program questions or the on-balance sheet investment portfolio questions. They're both good ones. On the investment portfolio itself, what we've done is we've continued to to a couple things. I think first, we've gently expanded our, you know, MBS portfolios. So we were up $9 billion in securities, you know, end of period to end of period this quarter. I'd say, you know, $5, $6 billion of that would be in the MBS space. But we have rotated the types of mortgage-backed securities. You'll see eventually in the regulatory filings that, you know, we expanded a little more in CMOs. in commercial MBS, all government guaranteed, because part of what we're doing is trying to put on, you know, some cleaner duration paper as opposed to take up, you know, premium at risk. And we've also, you know, continued to hunt in the specified pools and not just the current coupons. So that's been some of the rotations there. And then we've supplemented that with a little bit of expansion in the international areas around – some foreign sovereigns, and then some of the AAA agencies have also been an area of expansion. Great. Thank you, Eric. Thank you.
spk14: Your next question comes from a line of Mike Mayo from Wells Fargo Securities. Your line is open.
spk03: Hi. I guess one kind of easy question, one tougher question, but First, so end-of-period loans were up. Is that right? And why does that seem to be a little different?
spk02: Mike, end-of-period loans were up. Well, they were up slightly. We like lending to be up in this environment, given that we're there for our clients. You had two offsetting factors. You had Number one, the continued growth in our client lending, capital call financing in particular, continues to be a real important part of our growth to the alts managers. And that was just offset by some amount of reduction in the overdraft balances on an end-of-period basis. But the net was up slightly, and I think more indicative is total loans were up about 9% or 10% year over year. Okay.
spk03: And have you said anything about cutting costs in 2021? How should we think about costs next year?
spk02: I guess you continue to ask the easy questions. So we've not given outright guidance for next year, Mike, yet. We'll do that in January. But we've been clear that we reduced costs this year 2%. Last year, adjusted for the acquisition, we were down 2%. And we continue to like the approach, given the economic environment, to drive costs down. And we think that's appropriate. So those are in our plans. And what we're working through is what's the magnitude of that next year. Because what we do need to do is continue to drive for gross cost savings. But we also need to reinvest in our business. And especially as we add new business, and you saw some of the wins this year, we're going to have to implement that. Some of that takes some some funding, and then we want to continue to invest and expand into products, features, and so forth of the platform, and that front-to-back platform in particular, which is going to take some resources. But net-net, we expect costs to continue to be down not only this year but also next year.
spk16: Yeah, Mike, what I would add to that is we've been very clear that this is not a one-and-done kind of thing. I mean, sure, there's some tactical things that if they're there and low-hanging fruit, you grab at it and you realize that. But we're on a sustained program to transform our business. Much of it is around technology. productivity improvement, and much of that is driven by the ongoing automating of processes, reduction of manual processes, et cetera. So this is, I mean, you should expect us to be thinking about this and implementing this on an ongoing basis.
spk03: Okay, and that's a good segue to my harder question, which is maybe I'll be phrased like a Jeopardy question. So the answer, I think, and correct me if I'm wrong, is what you're doing is you're improving efficiency productivity automation you're expanding your revenue streams as you said at the start ron and you're now you're expanding the total addressable market with more focus not just in the top 50 but the next 150 and i guess the the question is why and um is part of the why because assets under custody were up 11 year-over-year and the servicing fees were only up two percent um in other words I don't see the revenues keeping up with the business volume, and therefore you have to go to these alternative streams. And I guess really the question is, what are you seeing on pricing pressure? You said it was easing. You said some business has been coming on at a higher margin, but we're not seeing it in the final results that are released to us. Thanks. Thanks.
spk16: Mike, let me start here. I would add a fourth element to what we're doing, which is also basically expanding our addressable market, meaning that moving from the typical traditional custodian role of being a fund servicer to also being an enterprise outsourcer and to work with the actual management companies or the plan sponsors on their own operating model. And that's just an That's an incremental revenue stream that isn't available to us. You know, why are we doing it? I mean, it's no secret that the traditional fund services business has its series of challenges. It's not just price compression, although not with a good job at it. I mean, just think about it. You go back 10, 15 years ago, it was all about new funds being created. somebody would have a line of domestic funds, then they might go move into other asset classes. They might move into new jurisdictions, new countries. Now, if anything, you're seeing the number of funds go down as distribution platforms are saying, one, we don't want as many funds, and two, we're more interested in SMAs anyway. So it's these trends that are underlying our strategic pivot here. Now, as we've also said, it takes a while for this revenue to be realized. And you're kind of seeing that even in the way that we started talking to you about this expanded pipeline at the beginning of 19. Now we're talking to you about front-to-back alpha wins. And so you should expect to see that some of the things that we talked about in the past in 19 and early 20 will start to be showing up in future quarters as alpha wins. It's just these things take longer because going back to what I said earlier, You're actually working with the management company on overhauling the way they work, the way they invest, the way they employ data, the actual tools that they're going to be using, the actual tools they're not going to be using. So I hope that's the why in terms of what we're doing here.
spk03: And then last follow-up, just to size that. So going from a custodian to an enterprise outsourcer, at what point What percentage of the firm or revenues would be enterprise outsourcing today? Where was it a few years ago? Where do you hope that to get to? And when do I transfer my coverage to our firm's FinTech analyst? Because that's the direction I think you're going.
spk16: Yeah, I mean, it's a little early to talk about that, and we will talk about our strategy more at some of the upcoming conferences, and maybe we'll get into that. We haven't really thought about that. But I would agree with your points that you should expect to see it be a higher and higher percentage of what we do. And you're also accurate about the technology content in here. And this is very much a technology and a software-driven strategy.
spk03: Thank you.
spk16: Thanks, Mike.
spk14: Your next question comes from the line of Gerard Cassidy from RBC. Your line is open.
spk01: Thank you. Good morning, Ron. Good morning, Eric. Good morning, Gerard. Eric, can you share with us, you mentioned about the CET1 ratio as your body constraint, and you said that it's obviously too high at 12.4%, even too high above 11. How low do you think you could comfortably bring that down to? And then simultaneously, What's your thoughts about redeeming more preferred stock in 21 or 22?
spk02: Yeah, Gerard, it's Eric. Maybe to tackle those in reverse order. It's a little early to think through the preferred question because we really want to see what happens with this next round of kind of intermediate stock CCAR tests and just see if there's anything different or not there. We're keeping an eye on it. We like the fact that we've already called a couple preps. We'd certainly be happy to do more if we can. I think that one is certainly always in mind and we'll give that some more thought. I think on the broader topic of capital ratios, we're doing a lot of work here and maybe just to frame out The, the, the, you know, clearly we have too much capital, you know, given the, uh, uh, you know, given the limitations and that's fine. We'll get it back to shareholders as soon as we can. Um, the, the ratio that we need to do is we clearly need to run above the 8%, the SCB requirement, let's assume. And we, we have confidence that that will stay, you know, in that, uh, at that 8%, uh, you know, SCB, you know, obviously subject to the fed, uh, indications. But the work we're doing is how much, you know, CET1 capital volatility do you have for OCI? And that's where we're kind of working through, well, how much can we, should we put in health and maturity versus, you know, available for sale? So we have some ability to influence that. And then we have some amount of volatility, to be honest, in RWAs, right, in the risk-weighted asset denominator, just because, you know, you get volatility, you get a little bit of RWA expansion in the FX books. So You know, is that, you know, do you need volatility cushion of at least, you know, 100, 200 basis points? Probably. You know, we as bankers want to run conservatively. So I think what we're wrestling through is, you know, where in the range of, you know, 11% is too high, I've said, you know, 10% is kind of one of those kind of, areas that you want to think really seriously about crossing below because there is some volatility in our business. And so somewhere in that 10%, 11% range, there's got to be somewhere that we'd like to run. And we're doing a little work to fine-tune that. But I think if you do the math that way, you get to a view that there's really a substantial amount of capital to release from based on where we're running, because we're running at 12.5%, and 12.5% down to somewhere in the 10-11 range is a real return, a sizable return for our shareholders.
spk01: No, absolutely. That would be very positive. Moving back into that investment securities portfolio, clearly we're all focused on the rate environment and I think everybody's on one side of the boat, so to speak, in that the rate environment is going to stay low for an extended period of time. But it also brings out the interest rate risk for a securities portfolio should rates go up surprisingly for 21 or 22. What indicators do you guys keep an eye on? And you can name two or three that really would make you change the way you look at your investment securities. or where there could be a risk of a mark-to-market situation if these indicators, you know, got out of line and rates started to go up, which, you know, nobody's really planning for. The forward curve certainly doesn't call for that at the long end. So I'm just curious, how do you guys manage and keep an eye on this so that you don't get caught offside should something change unexpectedly, you know, six to 12 months from now?
spk02: Gerard, I think there are a number of indicators, but part of what we do is we manage for the concerning outcomes, the downsides, right? So what we are careful in the portfolio is you don't want to barbell between one-month paper and 30-year paper because you get a big move in rates. The 30-year hurts. Same thing with three-month paper and 10-year paper. So we're quite careful about where we operate on the curve. And it's not just an average duration that we run at, but we have a series of limits across the curve. And we'll position, to your point, to be quite careful and circumspect. So that's one. There's kind of an outright management process instead of places that we'll operate. I think in terms of indications, you know, there's clearly a set of feds indications and then market indications. The Fed's been quite clear about their policy around lifting rates. They've been quite clear about how long. They've been quite clear about inflation targets and kind of general monetary policy planning. And I think that's actually, you've got to ascribe a fair amount of reliability to that. And then there are all the market indicators, whether it's the front end of the curve, the steepening, the the volatility inherent in some of the curve structures and other indicators that we're very conscious of. And then I've got to say there's no substitute for running a battery of tests, a battery of stress tests, because you're always worried about what you don't know and what you're not seeing in the marketplaces. And the good thing about rates markets is we've got you know, 50 years plus of solid history, and we'll do all those tests, and then we'll do the theoretical ones. So, anyway, it's something we're very, you know, careful on, I think, is the bottom line.
spk01: Thank you. Appreciate the question.
spk14: Your next question comes from the line of Brian Colanzo from KBW. Your line is open.
spk15: Great, thanks. Yeah, mine's just a real quick question, clarification question. So, Eric, when you were talking about the NAI of kind of the go forward past the fourth quarter, I think you said a couple percentage points down first quarter, second quarter, but did you mean a couple percentage points down in the first quarter and then another couple percentage points down in the second quarter and then stabilize from there?
spk02: Thanks. Good question, Brian. I said a couple percentage points down either in first quarter or second quarter. We think there's a you know, a small step down from 4Q to one or the other. It's just really hard because you're always working through what are the, you know, headwinds and tailwinds at an inflection point to call the trough, but we think it's sometime in the first half, and we think it's, or we think, given what we know today and kind of the market indicators and the assumptions we've shared, we think it's one of those two quarters. Very good. Thanks. Yeah.
spk14: Thank you. That was our last question. I will now turn it over to Ron O'Hanley.
spk16: Well, thanks to you all on the call for joining us.
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