Northern Trust Corporation (NASDAQ:NTRS) Q1 2024 Earnings Call Transcript

Northern Trust Corporation (NASDAQ:NTRS) Q1 2024 Earnings Call Transcript April 16, 2024

Northern Trust Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, and welcome to the Northern Trust Corporation First Quarter 2024 Earnings Conference Call. As a reminder, today’s call is being recorded. At this time, I’d like to turn the call over to Director of Investor Relations, Ms. Jennifer Childe. Please go ahead.

Jennifer Childe: Thank you, Maddie, and good morning, everyone. Welcome to Northern Trust Corporation’s first quarter 2024 earnings conference call. Joining me on our call this morning is Mike O’Grady, our Chairman and CEO; Jason Tyler, our Chief Financial Officer; John Landers, our Controller; and Grace Higgins from our Investor Relations team. Our first quarter earnings press release and financial trends report are both available on our website at northerntrust.com. Also on our website, you will find our quarterly earnings review presentation, which we will use to guide today’s conference call. This April 16th call is being webcast live on northerntrust.com. The only authorized rebroadcast of this call is the replay that will be made available on our website through May 17th.

Northern Trust disclaims any continuing accuracy of the information provided in this call after today. Please refer to our safe harbor statement regarding forward-looking statements on Page 12 of the accompanying presentation, which will apply to our commentary on this call. During today’s question-and-answer session, please limit your initial query to one question and one related follow-up. This will allow us to move through the queue and enable as many people as possible the opportunity to ask questions as time permits. Thank you again for joining us today. Let me turn the call over to Mike O’Grady.

Mike O’Grady: Thank you, Jennifer. Let me join in welcoming you to our first quarter 2024 earnings call. We’re off to a good start for the year. Our results for the quarter reflect both strength in underlying equity markets and the solid progress we’re making against our strategic priorities of optimizing growth, driving productivity, and strengthening resiliency. We generated organic growth relative to both the prior period and prior year and saw healthy momentum inflows across our businesses. Within Wealth Management, we continue to see solid growth in client advisory fees and product level fees increase due to favorable markets. Our Global Family Office performed particularly well in the first quarter, adding several high-profile client relationships.

The launch of our book, Secrets of Enterprising Families and the nationwide events created around it have generated significant client engagement and proven to be an attractive source of new lead flow. Asset Servicing generated solid new business growth at attractive margins in the first quarter. As we’ve discussed, our goal is to generate new business that is scalable. This means, a greater proportion of new mandates that require lower levels of incremental costs. There were several notable wins in the quarter. Northern Trust was appointed to provide a full suite of asset servicing solutions to True Potential, a rapidly growing UK-based wealth management firm, supporting approximately $33 billion in assets under management. Our open architecture approach, derivatives expertise, and consultative manner were key factors in helping us secure this win.

We were also appointed as the sole asset servicing provider for Sanlam Asset Management’s $9 billion of funds domiciled in Ireland. The award builds upon an existing relationship with Sanlam Investments UK, an integrated trading solutions client. This win shows how increasingly our capital market solutions are becoming leading products for us, bringing new clients to the firm whose relationships then expand into core asset servicing and other ancillary products. The progress we’re making and success we’re seeing from our One Northern Trust strategy is most evident within asset management. By both enabling and encouraging teams to work in tight coordination, we’re delivering clients the solutions and capabilities of the entire firm. More joint meetings between our asset management and asset servicing businesses is leading to more new business opportunities and wins.

Asset management has also bolstered the internal team that coordinates with our wealth management business and recently completed a national roadshow meeting with wealth clients and advisors in 29 markets. This provided increased visibility into NTAM’s product leadership and performance, which should lead to increased flows from wealth clients over time. And in the first quarter, asset management also launched several new laddered muni products geared towards wealth clients and a proprietary offshore money market fund for Japanese institutional clients. Overall, asset management generated positive liquidity flows for the fifth consecutive quarter and continued to generate strong momentum within active fixed income and alternatives. In closing, we entered the second quarter with strong market tailwinds and positive new business momentum and are well-positioned to navigate the ongoing macroeconomic and market uncertainty.

And with that, I’ll turn it over to Jason to review our financial performance. Jason?

Jason Tyler: Thank you, Mike. And let me join Jennifer and Mike in welcoming you to our first quarter 2024 earnings call. Let’s dive into the financial results of the quarter starting on Page 4. This morning, we reported first-quarter net income of $215 million, earnings per share of $0.96, and our return on average common equity was 7.3%. As noted on the slide, our reports — our reported results included a $189 million loss on the sale of securities related to a repositioning of the portfolio we completed in January. They also included a $12.5 million FDIC special assessment, which is in addition to the $85 million we recognized in the fourth quarter. Our assets under custody and administration and assets under management were up sharply on both a sequential and year-over-year basis.

Strong equity markets coupled with favorable client flows drove most of the improvement in both periods. Excluding notable items in all periods, revenue was up 6% on a sequential quarter basis and 5% on a year-over-year basis. Expenses were up 4% sequentially and up 6% over the prior year. Trust, investment and other servicing fees totaled $1.1 billion, a 5% sequential increase and a 7% increase compared to last year. Excludable note — excluding notables in both periods, all other non-interest income on an FTE basis was up 11% sequentially and up 16% over the prior year. We experienced good momentum in our capital markets businesses, particularly FX trading where we saw strong client volume levels. Bond underwriting referral fees were also unusually strong, recognized within securities commission and trading income.

Net interest income on an FTE basis was $535 million, up 7% sequentially and down 2% from a year ago. Overall, credit quality remains very strong. Our allowance for credit losses declined 9%, reflecting a reserve release of $8.5 million and the impact of a $10 million charge-off during the quarter, largely due to a large commercial loan. Non-performing loan levels decreased from $64 million to $37 million, the lowest level since 2008. The non-performing loans as a percentage of total loans remain stable at 8 basis points. Turning to our asset servicing results on Page 5. Assets under custody and administration for asset servicing clients were $15.4 trillion at quarter end. Asset servicing fees totaled $640 million. Custody and fund administration fees were $437 million, up 6% year-over-year, reflecting the impact from strong underlying equity markets and new business activities.

Other fees were up $6 million sequentially due to seasonally higher fees for benefit payment services and other year-end activities. Assets under management for asset servicing clients were $1.1 trillion. Investment management fees within asset servicing were $140 million, up a strong 11% year-over-year and 7% sequentially. Moving to our wealth management business on Page 6. Assets under management for our wealth management clients were $421 billion. Trust, investment and other servicing fees for wealth management clients were $503 million and up 9% year-over-year and 5% sequentially. Growth within our GFO business is particularly strong, up 11% year-over-year and 9% sequentially. Moving to Page 7, and our balance sheet and net interest income trends.

Our average balance sheet increased 6% on a linked quarter basis, primarily due to higher deposit levels. It declined 2% compared to the prior year due to lower borrowings. Average deposits were $112 billion, up nearly $11 billion, or 11% from the fourth quarter, and were meaningfully better than our expectations. We experienced a stronger-than-expected surge in deposits late in the quarter, with an ending balance up $8 billion or 7%, to $124 billion. Despite significant leverage capacity, we reduced our average short-term borrowings by 11% relative to the fourth quarter and total borrowings by 6%. This translated to $535 million in net interest income and a net interest margin of 1.61%. Moving to the asset side of the balance sheet, following the securities sales completed in November and January related to our portfolio repositionings and the increase in deposits, average cash on our balance sheet increased by nearly $10 billion or 38%.

The duration of our securities portfolio is now 1.7 years. Average loan balances were just below $42 billion, down 1% both sequentially and relative to the prior year. Our end-of-period loan balances were again elevated at $47 billion, reflected — reflecting market timing dynamics. Our loans have since returned to approximately $41 billion. The heightened activity at the end of the quarter did not have a material impact on net interest income in either the first or second quarters. The total balance sheet duration continues to be less than one year. Our average liquidity levels remain very strong, with highly liquid assets comprising 58% of our deposits and nearly 50% of total earning assets on average. Our net interest income is highly sensitive to deposit levels and will continue to be driven largely by client deposit behavior.

Assuming a stable rate environment, minimal incremental pricing pressure and some variability in deposit volume, we currently expect a 3% to 5% sequential decline in NII. Turning to Page 8. As reported, non-interest expenses were $1.4 billion in the first quarter, down 2% sequentially and up 6% as compared to the prior year. Excluding notable items in both periods as listed on the slide, expenses in the first quarter were up 4% sequentially and up 6% year-over-year, translates to 145 basis points of year-over-year trust fee operating leverage in the quarter. Our expense to trust fee ratio, however, remained elevated at 118%. I’ll hit on just a few highlights which exclude all notable items. Compensation expense was up a little over 5% versus the prior year and up 11% sequentially.

The sequential increase reflected approximately $45 million in seasonal equity incentive payments and the impact of current-year incentives from higher profitability. Full-time equivalent headcount was essentially flat sequentially and down 800 or 3% over the prior year. Non-compensation expense was up 7% year-over-year, mostly due to increased depreciation and amortization expense within equipment and software as new projects continue to be put into service and growth in tech spend and other consulting areas within outside services. Market-related expenses such as market data, third-party advisory fees and costs associated with our supplemental pension plans, which are sensitive to underlying equity and fixed income movements were also up $13 million year-over-year, which added 100 basis points to our expense growth.

Finally, we experienced favorability in the occupancy line, reflecting actions we took last year to rationalize our footprint. As we look out into the second quarter, I’ll touch on our largest expense categories. Compensation expense will no longer contain the seasonal equity incentives from Q1, but will include the impact from last year’s base pay adjustments of $65 million in the aggregate spread over the second, third, and fourth quarters. It also reflects modest employee headcount growth associated with growth in the underlying businesses. All in, this should translate to a sequential decrease of $35 million to $40 million. Within outside services, we could see as much as a $10 million to $15 million sequential lift, reflecting ongoing technology, including costs related to cybersecurity and other resiliency expenditures.

We also expect to incur the lagged impact from various market-related fees. Within equipment and software, we also expect to see a $10 million to $15 million sequential increase, of which roughly half is incremental depreciation and amortization. Sequentially, growth was flat in the first quarter, so there’s some timing-related impact, but we don’t expect to see the same step up in the second half of the year. Our capital levels and regulatory ratios remain strong in the quarter, and we continue to operate at levels well above our required regulatory minimums. Our Common Equity Tier 1 ratio under the standardized approach was flat with the prior quarter at 11.4% as capital accretion offset a modest increase in risk-weighted asset levels. This reflects a 440 basis point buffer above our regulatory requirements.

Tier 1 leverage ratio was 7.8%, down 30 basis points from the prior quarter. In quarter end, our unrealized pretax loss on available-for-sale securities was $710 million. Overall, we returned $285 million to common shareholders in the quarter through cash dividends of $153 million and common stock repurchases of $132 million. And with that, Maddie, please open the line for questions.

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Q&A Session

Operator: Thank you. [Operator Instructions]. We will take our first question from Alex Blostein with Goldman Sachs.

Mike O’Grady: Good morning, Alex.

Alex Blostein: Hey, good morning, Jason, Mike, [John and everybody] (ph). So I wanted to start maybe with NII guidance down 3% to 5% for the second quarter. Sounds like the biggest driver there is your assumptions around deposits. So maybe give us a sense of kind of where deposits stand today, perhaps what was the source of upside that you saw over the course of the quarter? And then just curious on within that guide, do you guys assume any benefits from the Visa proceeds that I’m guessing is going to be at least temporarily parked in cash?

Jason Tyler: Yep. So, I’ll go through a couple of dynamics there. One, just going back to first quarter and what happened that we saw really nice improvement in deposit levels, and it was across both asset servicing and wealth management. And the overall base increased nicely, but that end of quarter level of $124 billion, there’s some very chunky large clients that we always have in place and that sometimes can have — lead to significant increases. That was definitely the case at the end. So we have seen deposits come down, and in the first couple of weeks of the quarter. And — but that said, the run-up we had at the end of the quarter, that wasn’t really the driver of the average. It happened very late in the quarter. So the end of first quarter in general was good.

As we look out into second quarter, we’ve got to remember that things like the buildup that we have in April for tax payments. which, frankly, was part of the dynamic of where we ended the quarter, that starts to go away as tax payments get made and so deposits come down. That’s one of the factors. And so we could even at this point, be at a peak for the quarter. And then you asked about Visa. No significant lift from that in the quarter. You’re right, it’s going to be parked at least in the short run. We’ve got ideas on what to do there. But in the very short run, would be parked in cash but not a significant lift. The impact is more from a capital and leverage perspective more than NII in the short run. And just in general, you got to remember, this has just been — it has been very hard to predict deposit levels.

And it’s not us driving it. We’re — we did a lot of work with clients to make sure they know that we want deposits and feel like we did a really good job on that. But this has been the most difficult area of the income statement to predict.

Alex Blostein: I got you. Yeah, and all makes sense. I guess as a follow-up to that, so we’ll stick with the NII related questions. You guys saw a pretty meaningful pickup in cash as you highlighted, so $10-ish billion sequentially. How are you guys thinking about redeploying that over time? Should we generally expect the cash balances on the asset side of the balance sheet to remain fairly elevated, especially given the sort of uncertain rates backdrop and perhaps higher for longer or at what point do you feel comfortable extending that into securities?

Jason Tyler: Yeah. It’s another dynamic that feeds into your first question, actually. We brought duration [on] (ph) the securities portfolio. And more importantly, which feeds into your question, the duration of the balance sheet is very short right now. That was strategic. We felt like that was the right thing to do. That’s a big part of why we did the repositioning of the balance sheet. But at a point, we also might take the opportunity to extend a little bit. Usually, the rate curve means that, that would be helpful. But in this rate curve environment, you might end up giving a little bit — giving up a little bit on NIM. And so you’re right that cash, very elevated part of that is because of the chunky nature of some of the deposits.

And you just want to stay very short there. And — but part of it has been strategic as we’ve let a lot of maturities just roll and then obviously, the repositioning was done intending to come to the shorter part of the yield curve. But where we are now and our anticipation of — our view of the yield curve, we’re more at a neutral point right now. And depending on what we see in the economy might take an opportunity to step out.

Alex Blostein: I got you. All makes sense. Thanks very much, Jason.

Jason Tyler: Sure. Thanks.

Operator: We will take our next question from Ebrahim Poonawala.

Jason Tyler: Good morning, Ebrahim. How are you?

Ebrahim Poonawala: Good morning, Jason. How are you? So I guess maybe moving on expenses. I just want to make sure we heard you right. Comp expense is down about 35% to 40% sequentially. And then I think you counted services and equipment and software both up 10% to 15% quarter-over-quarter?

Jason Tyler: That’s right.

Ebrahim Poonawala: So does that imply relatively flat expenses in 2Q? And I guess the question is, just give us some visibility around — you’ve talked previously about the focus in terms of flexing expenses lower, bringing the expense growth below last year’s 4.8%. Just give us a sense of the work that’s being done, your level of confidence in terms of hitting some of those targets around the expense to trust fee asset ratio?