Mark Bette - Senior Vice President, Investor Relations, Northern Trust Corp. S.

Biff Bowman - Chief Financial Officer

Brian Bedell - Deutsche Bank Securities, Inc. Alexander Blostein - Goldman Sachs & Co.

Glenn Schorr - Evercore ISI Ashley Neil Serrao - Credit Suisse Securities (USA) LLC (Broker) Brennan McHugh Hawken - UBS Securities LLC Ken Usdin - Jefferies LLC Marty Mosby - Vining Sparks IBG LP Brian Kleinhanzl - Keefe, Bruyette & Woods, Inc. Mike Mayo - CLSA Americas LLC Vivek Juneja - JPMorgan Securities LLC Gerard Cassidy - RBC Capital Markets LLC Adam Q.

Beatty - Bank of America Merrill Lynch

Thank you, Derek. Good morning, everyone, and welcome to Northern Trust Corporation's second quarter 2016 earnings conference call.

Joining me on our call this morning are Biff Bowman, our Chief Financial Officer; Jane Karpinski, our Controller; and Kelly Moen from our Investor Relations team. For those of you who did not receive our second quarter earnings press release and financial trends report via email this morning, they 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 as a guide for today's conference call. This July 20 call is being webcast live on northerntrust.com.

The only authorized rebroadcast of this call is the replay that will be available on our website through August 17. Northern Trust disclaims any continuing accuracy of the information provided in this call after today.

Now, for our Safe Harbor statement. What we say during today's conference call may include forward-looking statements, which are Northern Trust's current estimates and expectations of future events or future results.

Actual results, of course, could differ materially from those expressed or implied by these statements because the realization of those results is subject to many risks and uncertainties that are difficult to predict. I urge you to read our 2015 Annual Report on Form 10-K and other reports filed with the Securities and Exchange Commission for detailed information about factors that could affect actual results.

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 able 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 Biff Bowman.

Good morning, everyone. Let me join Mark in welcoming you to the Northern Trust's second quarter 2016 earnings conference call.

Starting on page two of our quarterly earnings review presentation, this morning, we reported second quarter net income of $261 million. Earnings per share were $1.09, and our return on common equity was 12.2%.

As outlined in our press release, our results for the second quarter included five items, which I would like to highlight for you today. First, we reported a pre-tax gain of $118.2 million on the sale of $1.1 million Class B Visa shares net of swap expense.

This gain is reflected on our income statement in the other operating income line. The sale reduces our ownership position in Visa Class B shares to 4.13 million shares as of the end of the second quarter.

At the current conversion rate, that is the equivalent two 6.81 million Class A shares of Visa. These shares are recorded on our balance sheet at their original cost basis of zero.

The $118.2 million net gain included $5 million in costs relating to the mark-to-market of the swap on last year's sale of 1 million Class B shares. Second, we recorded a $46.5 million charge in connection with an agreement subject to court approval to certain longstanding securities lending litigation.

This charge is reflected within the other operating expense line of our income statement. The charge covers settlements and cases related to client losses from the 2008 financial crisis.

With this agreement, we are pleased to have resolved the most significant litigation against Northern Trust related to the financial crisis. Third, we recognized $21.6 million in losses associated with our loan and lease portfolio.

This included $14.1 million in impairment charges and the loss on sale related to the decision to exit a portion of a non-strategic loan and lease portfolio, as well as a $7.5 million impairment charge related to the residual value of certain aircraft and railcars. Of these $21.6 million in losses, $18.9 million is reflected on the other operating income line, while the remaining $2.7 million reflected within net interest income.

Fourth, we recorded an $18.6 million charge relating to contractual modifications associated with existing C&IS asset servicing clients. The impact of this charge is reflected on the other operating expense line on our income statement.

Lastly, we recorded $17.5 million in expense related to severance and personnel-related charges. I will discuss both of these last two items in further detail later in the call when we review our expenses for the quarter.

Excluding these five items, second quarter net income was $253 million, earnings per share were $1.06, and our return on common equity was 11.7%. Recall that our results in the second quarter of 2015 included a pre-tax gain of $99.9 million relating to the sale of 1 million Class B Visa shares, voluntary cash contributions to certain constant dollar, net asset value funds of $45.8 million, and the impairment of the residual value of certain aircraft lease agreements of $17.8 million.

A number of environmental factors impact our businesses as well as our clients. Let me review how some of those factors unfolded during the second quarter.

Equity markets have been mixed during 2016. In U.S.

markets, the S&P 500 ended the quarter up 1.7% year-over-year and up 1.9% sequentially. In international markets, the MSCI EAFE Index was down 12.7% year-over-year and down 2.6% sequentially.

Recall that some of our fees are based on lagged market values and first quarter markets were generally lower. In bond markets, the Barclays U.S.

Aggregate Index was higher for both the year-over-year and sequential comparisons. Currency volatility as measured by the G7 Index was 10.5% higher than the second quarter of last year and 5% higher sequentially.

Foreign exchange market volumes were down in the second quarter. As measured by two of the interbank brokers, volumes were down 9% to 13% year-over-year and down 9% to 12% sequentially.

You'll recall that currency volatility and client activity influence our foreign exchange trading income. Currency rates influenced the translation of non-U.S.

currencies to the U.S. dollar and, therefore, impact client assets and certain revenues and expenses.

Dollar strength, particularly in the year-over-year comparison, tempered custody asset growth and related fee growth, while benefiting expense growth. U.S.

short-term interest rates were higher compared to last year following the Federal Reserve rate increase in December but flat sequentially. Three-month LIBOR and the Fed funds effective rate averaged to 64 basis points and 37 basis points, respectively.

The overnight repo rate was also higher compared to last year, but flat sequentially averaging 45 basis points in the quarter. Let's move to page three and review the financial highlights of the second quarter.

My comments are on the adjusted basis which excludes the prior year and current quarter items I mentioned in my opening comments. Year-over-year, revenue increased 4% with non-interest income up 1% and net interest income up 12%.

Expenses also increased 4%. The provision for credit losses was a credit of $3 million reflecting ongoing improvement in credit quality.

Net income was 2% higher year-over-year. In the sequential comparison, revenue increased 3%, while non-interest income was up 4% and net interest income down 2%.

Expenses increased 2% compared to the prior quarter. Net income was 5% higher sequentially.

Return on average common equity was at 11.7% for the quarter, down slightly from one year ago but up from 11.4% in the prior quarter. Client assets under custody of $6.4 trillion increased 3% compared to one year ago and 2% on a sequential basis.

In both the year-over-year and sequential comparisons, strong new business and favorable market impacts were partially offset by the currency translation impact of a stronger dollar. Assets under management were $906 billion, down 4% year-over-year.

Lower equity assets were the primary driver due to outflows from certain sovereign wealth fund clients and weaker global equity markets. In addition, fixed income assets were lower, primarily due to the loss of one passive mandate from a non-U.S.

institutional client, which I mentioned during our third quarter call. Assets under management increased 1% sequentially, primarily driven by higher fixed income and equity balances partially offset by lower cash balances.

Let's look at the results in greater detail starting with revenue on page four. Second quarter revenue on a fully taxable equivalent basis was approximately $1.3 billion.

Adjusted for the items I mentioned in my opening, revenue was approximately $1.2 billion, up 4% from last year and up 3% sequentially. Trust, investment and other servicing fees represent the largest component of our revenue and were $777 million in the second quarter, up 3% year-over-year and up 4% from the prior quarter.

Lower money market mutual fund fee waivers were an important driver this quarter. Fee waivers were essentially zero in the second quarter compared to $28 million one year ago and $8 million in the first quarter.

I'll go into further detail on trust and investment fees shortly. Foreign exchange trading income was $64 million in the second quarter, down 14% year-over-year and up 6% sequentially.

Lower client volumes drove the year-over-year decline while the sequential improvement mainly reflects higher volatility. Other non-interest income was $76 million in the second quarter, up 4% from last year and up 4% sequentially.

The current quarter's results include $2.6 million in revenue associated with the Aviate acquisition, which closed on May 1. The year-over-year increase was primarily driven by other operating income, partially offset by a net investment security loss of $2 million in the current quarter due to an other than temporary impairment of certain Community Reinvestment Act eligible securities.

The sequential increase primarily reflects higher securities commission and trading income primarily due to the Aviate acquisition, and higher other operating income partially offset by the investment security loss. Please note that as referred to in our call last quarter, the first quarter results included a net gain of $2.3 million related to our decision to exit a portion of a non-strategic loan and lease portfolio.

The primary driver of the remaining sequential increase in other operating income was higher income associated with the supplemental compensation plans that have an associated expense within other operating expense. Net interest income, which I will discuss in more detail later, was $309 million in the second quarter, increasing 12% year-over-year and down 2% sequentially.

Let's look at the components of our trust and investment fees on page five. For our Corporate & Institutional Services business, fees totaled $447 million in the second quarter, up 3% both on a year-over-year and sequential basis.

Custody & Fund Administration fees, the largest component of C&IS fees, were $293 million, unchanged from one year ago and up 2% sequentially. Assets under custody for C&IS clients were $5.8 trillion at quarter end, up 3% year-over-year and up 2% sequentially.

These results primarily reflect new business, partially offset by the unfavorable impact of equity markets. Recall that lag market values factor into the quarter's fees, with both quarter lag and month lag markets impacting our C&IS, Custody & Fund Administration fees.

Unfavorable currency translation impacted the year-over-year comparison. Investment management fees in C&IS of $94 million in the second quarter were up 17% year-over-year and 6% sequentially, driven in large part by lower money market mutual fund fee waivers.

Fee waivers in C&IS were essentially zero during the second quarter, lower by $14 million year-over-year and $2 million sequentially, driven primarily by higher gross yields in the funds. Beyond fee waivers, the favorable impact of new business was partially offset by the unfavorable impact of equity markets.

Assets under management for C&IS clients were $672 billion, down 6% year-over-year, primarily reflecting the outflows that I mentioned earlier and flat sequentially. Securities lending fees were $27 million in the second quarter, flat with the prior year and 18% higher sequentially, primarily reflecting higher spreads.

The sequential performance primarily reflects the traditional second quarter impact of the international dividend season, which resulted in wider spreads. Securities lending collateral was $108 billion at the quarter end and averaged $117 billion across the quarter.

Average collateral levels decreased 7% year-over-year and were up 2% sequentially. The decline in loan volumes compared to the prior year was across most asset classes.

This asset class has been most impacted by the regulatory landscape as actions have been taken by agent lenders and borrowers to calibrate capital usage in the securities lending business. Other fees in C&IS were $33 million in the second quarter, up 5% year-over-year, reflecting higher fees from investment risk and analytical services and other ancillary services.

In the sequential quarter comparison, other fees were down 8%, reflecting the normal seasonal pattern in our benefit payments business. Moving to our Wealth Management business, trust, investment and other servicing fees were $330 million in the second quarter, up 2% year-over-year and 5% sequentially.

Within Wealth Management, the global family office business had strong performance, with fees increasing 14% year-over-year and 6% sequentially due to lower money market mutual fund fee waivers and new business. Performance in the regions was lower on a year-over-year basis as lower money market mutual fund fee waivers were offset by the impact of unfavorable lag markets and lower fees on equity mutual funds.

On a sequential basis, fees within the regions benefited from lower money market fee waivers and favorable lag markets. Money market mutual fund fee waivers in Wealth Management were essentially zero in the current quarter, down $14 million year-over-year and $6 million sequentially, primarily reflecting the impact of higher short-term interest rates on the gross yields in the underlying funds.

Assets under management for Wealth Management clients were $234 billion at quarter end, up 1% year-over-year and 2% sequentially. Moving to page six, net interest income was $307 million in the second quarter, up 19% year-over-year, and down 2% compared to the first quarter.

$2.7 million of the $7.5 million impairment on certain aircraft and railcars from my opening comments was included in this quarter's net interest income. Also, recall that the prior year's results included $17.8 million lease impairment.

Excluding these two items, net interest income was up 12% compared to one year ago, driven by a higher level of earning assets and a higher net interest margin. Earning assets averaged $107 billion in the second quarter, up 3% versus last year, driven by a higher level of deposits.

Demand deposits, which averaged $27 billion, increased 5% year-over-year, and non-U.S. office interest-bearing deposits, which averaged $50 billion, were up 2% year-over-year.

We saw solid loan growth again as loan balances averaged $34 billion in the second quarter, up 5% year-over-year. On a sequential quarter basis, excluding the previously mentioned $2.7 million impairment, net interest income declined 2%, primarily driven by a lower net interest margin as average earning assets were up 2% sequentially.

When adjusted for the impairment, net interest margin was 1.17% in the second quarter, up 11 basis points year-over-year and down 4 basis points sequentially. The improvement in the net interest margin compared to the prior year primarily reflects a higher yield on earning assets as short-term interest rates rose following the Fed's move in December.

In the sequential quarter comparison, the lower margin was driven by higher premium amortization in our mortgage-backed securities portfolio. Premium amortization was $20 million in the second quarter, up from $6 million in the first quarter.

Turning to page seven, expenses were $925 million in the second quarter, up 8% year-over-year and 12% sequentially. As I mentioned earlier, we recorded three expense-related charges in the quarter.

First, as described in my opening remarks, we recorded a $46.5 million charge in connection with an agreement to settle certain securities lending litigation. This charge is reflected within the other operating expense line.

Second, an $18.6 million charge related to contractual modifications associated with the existing C&IS asset servicing clients. These were previously incurred implementation costs that were being deferred over the life of the client contracts.

As a result of the contractual modifications, these costs are no longer considered recoverable and had been brought forward into the current period. The expense associated with this charge would have been amortized into expense over the next two years to three years.

This $18.6 million charge is reflected in other operating expense. Third, we recorded a charge of $17.5 million related to severance and other personnel-related costs.

Of that, $15.2 million relates to severance and other costs associated with the elimination of approximately 150 positions. As outlined in our earnings release, $13 million of that charge appears in the compensation line, $1.5 million in employee benefit expense and $0.7 million in outside service expense.

Our actions taken this quarter reflect a continued focus on improving profitability and returns, and we expect the charges to produce annual ongoing savings of approximately $15 million once fully implemented. The remaining $2.3 million of personnel-related charges reflected in other operating expense.

Recall that one year ago, other operating expense included a $45.8 million charge associated with our voluntary cash contributions to four constant dollar NAV funds. Adjusting for these second quarter items, both in this year and last, expenses were 4% higher year-over-year and 2% higher sequentially.

It is also worth noting that the current quarter included $3.4 million of expense associated with our acquisition of the Aviate business, which closed on May 1. Now, let's go through the remaining components of expense.

My comments going forward will exclude the three current year charges totaling $82.6 million and last year charge of $485.8 million. Compensation expense of $377 million increased 4% year-over-year, primarily reflecting staff growth, partially offset by the favorable translation impact of changes in currency rates.

Staff levels increased approximately 5% year-over-year with approximately 60% of the growth emanating from our global operating centers in India, Manila and Limerick. On a sequential basis, compensation expense declined 1% as the impact of staff growth and higher current year cash-based incentive accruals was more than offset by the decline in stock-based incentives stood at the first quarter, including the impact of options granted to retirement-eligible employees and the immediate vesting of certain restricted stock units awarded during the quarter.

Employee benefit expense of $71 million was down 3% year-over-year primarily reflecting lower pension expense. On a sequential quarter basis, employee benefit expense was flat as higher medical costs were offset by lower payroll taxes.

Outside service expense of $158 million was 8% higher year-over-year. The increase primarily reflects higher technical services expense and higher consulting expense due to evolving regulatory requirements.

On a sequential quarter basis, outside services expense increased 6%, primarily reflecting higher consulting and sub-custodian expense. Equipment software expense of $118 million was up 3% both year-over-year and sequentially, primarily reflecting higher software-related costs and support of client and regulatory technology initiatives.

Occupancy expense of $45 million was up 5% year-over-year and 11% sequentially. The increases primarily reflected higher rent expense with the sequential comparison also impacted by a lease adjustment reflected in the prior quarter.

Other operating expense of $74 million increased 7% year-over-year, primarily related to higher costs associated with account servicing activities, higher supplemental compensation plan expense and increased FDIC costs, partially offset by lower costs associated with the timing of charitable contributions. Sequentially, other operating expense declined 1% due to lower business promotion expense as the Northern Trust Open was during the first quarter offset by increases in various other costs, including higher supplemental compensation plan expense and higher staff-related expense.

It is worth noting that, as mentioned, when I reviewed other operating income, the increase in supplemental compensation plan expense has an associated increase in revenue. Our loan loss provision was a credit of $3 million in the second quarter.

This compares to a provision expense of $2 million in the prior quarter and a credit of $10 million in the prior year. The credit in the current quarter was driven by improved credit quality in the commercial real estate portfolio and a reduction in outstanding loans and improved credit quality in the residential real estate portfolio.

Loan quality remains very strong, with non-performing assets of $166 million at quarter end, down 5% versus the prior quarter and the ratio of non-performing loans to total loans equal to only 44 basis points at quarter-end. The effective income tax rate in the quarter was 33.9%.

Turning to page eight, a key focus has been on sustainably enhancing profitability and returns. This slide reflects the progress we have made in recent years to improve the expense-to-fee ratio, pre-tax margin and ultimately our return on equity.

The ratio of expenses to trust and investment fees is a particularly important measure of our progress as it addresses what we can most directly control. Reducing this measure from where it was previously as high as 131% in 2011 to the levels we see today is a key contributor to the improvement in our return on equity.

As you can see on this page after adjusting for the items noted in my opening comments, we have been able to continue our trend of improving this ratio. This metric remains an important barometer of our progress and we remain committed to lowering it on a sustainable basis going forward through continuing to win new business, to drive fee growth and drive productivity within our expense base by our ongoing initiatives focused on location strategy, procurement and technology.

Turning to page nine, our capital ratios remain solid with Common Equity Tier 1 ratios of 11.5% and 10.6% respectively calculated on a transition basis for both advanced and standardized. On a fully phased-in basis, our Common Equity Tier 1 capital ratio under the advanced approach would be approximately 11.3% and under the standardized approach would be approximately 10.4%.

All of these ratios are well above the fully phased-in requirements of 7%, which includes the capital conservation buffer. The supplementary leverage ratio at the corporation was 6.1% and at the bank was 5.8%, both of which exceed the 3% requirement, which will be applicable to Northern Trust in 2018.

With respect to the liquidity coverage ratio, Northern Trust is above the 90% minimum requirement effective as of January 1, 2016 and is also above the 100% minimum requirement that will become effective on January 1, 2017. As Northern Trust progresses through fully phased-in Basel III implementation, there could be additional enhancements to our models and further guidance from the regulators on the implementation of the final rule, which could change the calculation of our regulatory ratios under the final Basel III rules.

As we announced in June, our 2016 capital plan received no objection from the Federal Reserve. In it, we requested authority to increase our quarterly common dividend to $0.38 per share and the repurchase up to $275 million of common stock through June 2017.

In the second quarter, we repurchased 2 million shares of common stock at a cost of $141 million. Yesterday, our board of directors formally approved the planned dividend increase, which will be payable on October 1.

When we consider our strategy for capital actions, we take into consideration the level of retained capital to facilitate our continued growth, our level of capital to absorb significant stress scenarios and to enable us to continue to hold top tier credit ratings. We also look at our capital level structure compared to our peers, as our clients entrust us with the safekeeping of their assets and it is important for us to demonstrate competitive capital strength.

Our growth, as measured by assets, earnings assets and risk-weighted assets, has grown at a rate about double that of our common equity since 2012 and we expect to remain focused on growth. We will continue to evaluate our capital structure as it relates to regulatory requirements and look to optimize the cost of our capital for the firm, not only in the short term, but importantly, over the long term as well.

In closing, the second quarter of 2016 was characterized by continued market volatility, low and even negative interest rates around the globe and geopolitical uncertainty highlighted by the Brexit vote. Despite that challenging backdrop, Northern Trust produced solid financial results, growing our earnings per share 5% both year-over-year and sequentially adjusting for the items noted at the beginning of our prepared remarks.

Our adjusted return on common equity was 11.7%, improving 30 basis points sequentially. We also achieved sequential operating leverage of 1 point as we continue to strive to produce even greater operating efficiency.

We also returned $230 million to our shareholders while retaining enough capital to fund our growth and maintain high quality credit ratings. In the quarter, we were also pleased to receive no objection from the Federal Reserve for our 2016 capital plan submission.

Our Wealth Management business grew revenues 5% year-over-year, grew fees 5% sequentially and produced a 38.2% pre-tax margin. All of this was accomplished against a challenging economic backdrop.

C&IS continued to grow as well. In the second quarter, we had good success in growing our business organically with such wins as Ariel Investments and RECM Global Fund Limited and Guernsey.

We also formally closed our Aviate transaction, allowing us to expand our brokerage capabilities into EMEA and APAC. I would also like to mention that our team handled the Brexit situation effectively as they enacted their contingency plans in light of the leave vote.

Our efforts around Brexit remains focused, first and foremost, on our clients' needs, and we are communicating frequently as the situation clarifies. Lastly, Northern Trust has been named as a recipient of the 2016 CIO 100, an annual award program recognizing organizations around the world that exemplify the highest level of operational and strategic excellence in information technology.

Technological solutions remain a vital part of our value proposition to our clients and this external validation of our efforts was an important indicator of the value of our investment. Thank you again for participating in Northern Trust's second quarter earnings conference call today.

Mark and I would be happy to answer your questions. Derek, please open the line.

Hi. Good morning, folks.

Hi, Brian.

Hey. Biff, maybe if you could just talk a little bit about the – on the balance sheet the factors behind the premium amortization and the second quarter average rates going down, but in terms of just looking out into the third quarter, how you run those calculations if they're based on actual experience, or just models on the fact that the tenure has come in and then if you can talk about what do you view on deposit beta will be with the next rate hike?

Okay. So two parts to that.

The first is around the premium amortization. When we consider sort of the outlook for premium amortization, we consider the drivers in our mortgage-backed securities portfolio and there are several as you cited.

First is our expectations around the rate environment. The second is obviously the pace at which refinances happen and we model all of that in.

And there is also third, a seasonality to it. If you look historically at our prepayment amortization, it tends to be at its highest in the second and third quarters with some relief in the fourth quarter and first quarter, absent any unique rate environment that we're in.

So we factor all of that in, and we've seen that play out over previous cycles. This was larger than we've seen historically, and I think it's probably driven by the rate of refinancing in the markets.

The last element in the premium amortization is the characteristics of the portfolio we're invested in ourselves, how much time is left to maturity and what is the underlying construct of the portfolios we're invested in. So when we weigh all of those out, we do tend to see a tick-up in second and third quarters' seasonality normally and then lower in the fourth and first quarters.

Again, the rate movements can also impact that as well. The second part of your question was around deposit betas, I believe, with a second rate hike.

When and if a second rate hike occurs, obviously, the first rate hike produced close to a zero. Deposit beta not much was passed on in that.

We think even in the second deposit beta, while observing it for the first time that we would continue to see that sharing, while it would move up, still be relatively favorable for financial institutions and us as well.

Great. And then, just to follow up on the – maybe if you could talk a little bit about the decision on exiting the non-strategic loan portfolio, maybe just describe in terms of what the portfolio was, is there still a large portion that you might exit?

Is there a remaining credit risk from that? Sort of just little bit deeper discussion of it, I guess?

So we, approximately a year ago, made a decision to exit our loan and lease portfolio, particularly, our leasing portfolio given the relationship nature of that portfolio. We are approximately half way through the execution of that, perhaps, slightly more.

The leases are still of good quality, but we are selling them in the marketplace as we find the appropriate buyers. So that will continue to progress in future quarters as well.

Any net interest revenue impact from the downsizing of that portfolio on a go-forward basis?

Relatively modest at this point. As you've seen, our loan growth in other categories has more than offset what is the reduction in this category that you've seen.

So our residential real estate and this leasing portfolio have shrunk. We're still at a 5% loan growth rate.

Got it. Great.

Thank you so much.

Hi, Alex.

Hey, guys. Good morning or good afternoon, I guess.

Question around the expenses and the whole expense to fee ratio. So I guess, when we look at the first half of 2015, you guys were kind of 1.07, 1.08 range.

Ex all the noise this quarter, it looks like the first half of 2016 is a little bit above that 1.08, 1.09, despite the fact assets under custody are up quite nicely and obviously you've recouped almost all of the fee waivers. So just help us frame on a go-forward basis, given that some of these revenue tailwinds are behind you guys, what needs to happen over the next 12 months for this ratio to decline?

So, Alex, we need to continue to focus on the items we talked about, which is driving through our location strategy, i.e., relocating our employees to where they can, A, best serve the client; B, do that where we can pick up talent; and third, do that in a cost-efficient manner. That program continues in earnest, and that is a meaningful driver of our improvement in that expense-to-fee ratio.

But there are others, too. Efforts around procurement, where we have used our leverage, if you will, to purchase things like market data, things to use purchase business promotion items, travel, and use our leverage to drive those down.

And then, third is technological spend where we can consolidate things like storage, we can consolidate items like data centers, et cetera, where we can actually improve that ratio. And it continues to be an important driver, and an important internal measure of our productivity.

Got you. But I guess, as we look out into the back half of the year, is there anything from a seasonal perspective that could drive that ratio a little bit more in the near term?

I know you announced some severance and head count reductions, so I don't know if that's back-end of the year loaded, which could help that ratio over the next couple of quarters, because it feels like we've been a little more range-bound recently.

Yes. So, Alex, the actions and the charges that we described earlier were management decisions that we took to help future run rate, absolutely.

And so those could benefit potentially the less depreciation that we talked about in the client contract, write down the asset from implementations, and secondly was the severance. Those are items, particularly the severance that we anticipate receiving about a $15 million benefit within 12 months.

Got it. It's $15 million on an annualized fully phased-in run rate basis, right?

Yeah. We won't realize that potentially for the first – for 12 months as they phase in, but in the run rate when they are, it's $15 million.

Got it. Okay.

Great. Thanks.

Thank you.

Hi, Glenn.

Hello, there. Quickie on sec lending.

First, you got your 18% bump-up quarter-on-quarter, but I think that's a little less than it used to be. I'm just curious on – you've mentioned higher spreads in the quarter, but are less clients participating in div-arb season, are more countries cracking down on it?

Just curious to get some thoughts on the seasonal piece.

Yes. So you're right.

The sequential last year was up 24% and only up 18% this year, and most of that was probably a more moderated div-arb season this year. Relatively modest, as you saw, our year-on-year was basically flat.

But, essentially, there was a modest tightening, if you will, in the div-arb season, so we've experienced slightly less. And I would say, the volumes were down, spreads up, made that difference, but the combination of those really led to sort of flat year-over-year, but a little bit less of a bump than we saw in the previous first quarter to second quarter.

Okay. It sounds like there might be a little bit of a trend there where – if we were modeling the next couple of years, we might want to gradually bring it down, because you can't always count on the spreads to bail you out on volume?

I only have one – we only have one year as a trend, so I'll (41:18). Yeah.

It certainly felt I think that there was some of that in this year's cycle, and that could be different tax rules.

No problem. No problem.

And then, a quickie on CCAR. I know we all individually did this, but I figure this is a good venue to do it.

The CCAR ask was down a lot as a percentage – if you look at it as a payout. I know you partially addressed this on your comments.

But you got a lot of capital and you make a lot of money, and you don't have big capital-intensive businesses. Just curious, again, to have the conversation of why would you be the only one to have a dramatic decrease in the ask?

So when we look at our strategy for capital actions and what levels of capital we retain, we really do focus in on four things, Glenn. First is growth and we have growth plans, and do we really have the right level of capital to facilitate that growth?

We've had three consecutive years of very high payout, as you know. An example would be our balance sheet has grown almost twice the growth in our common equity over the last three years.

And additionally, if you look from 2013 to now, our assets are up almost at a CAGR of 5.6%, and our common equity is only up 2.7%. So we look at sort of the ratio or the relationship between the growth that we want in our plans and the capital we need to retain to fund that growth.

The second issue we look at is how does our business perform under stress and do we have enough capital to deal with whether it's a Fed-mandated stress scenario or our own idiosyncratic, and we look at the proper level of capital to absorb that. Third is credit ratings.

As you see, at a 10.6 Common Equity Tier 1 standardized ratio, we're mid-table, maybe even slightly below on a point times. So we're not at the top, but we worry about what that would mean from a credit ratings we want and need to maintain high credit ratings.

And then third is – or fourth is around our clients. In the marketplace, our clients do evaluate what our capital levels look like vis-à-vis others and they can use things like the ratios that we're talking about now to measure that.

And so being in the vicinity of our close-in competitors, we think it's a competitive factor. It doesn't mean we have to be exactly there, but we have to be within the area code to make sure that that's appropriate.

We weigh all of those and we come up with an ask. I will say if the retention of that is not generating ROEs that we think if it's supporting risk-weighted asset growth that is not generating the 10% to 15% ROEs, we will revisit that in our next submission.

Perfect answer. I appreciate it.

Thanks, Biff.

Hi, Ashley.

Good morning, Biff. So just first question is just on Brexit.

Can you just quantify the revenue and expense exposure here to the pound? And I know the situation is fluid, but in the event the UK is siloed from the EU, do you anticipate any operational changes that you need to make to conduct business in the region?

So first, Ashley, we don't provide the revenue breakdown and expense breakdown by the regions. But let me give you a proxy, perhaps.

If you look at – we do provide the assets under custody in certain regions that can give you some indication of the relative importance in size in the marketplace. If I could answer a little bit more the question around Brexit and its impact, I'd just start by saying that the good news is, is the team was ready and executed very well on the immediate impacts of Brexit, which was most important for our clients and that it was relatively seamless and the client was largely unimpacted by that while a lot of volatility was going on.

In terms of impact to us, I think it's very early to make a comment on what that would be as we're still watching the situation unfold. But I think it is important to highlight exactly our business mix in Europe.

We are largely a C&IS institution, corporate and institutional businesses in EMEA. We have a small wealth business, but largely it's corporate and institutional business that does both administration for pensions and also asset managers.

The important characteristics there, particularly, for the fund administration is – or excuse me – for all the custody and asset servicing is the right to do that across Europe. Our banking entity is based in the UK today.

So if that passport doesn't get negotiated as potentially could happen, we have to look at where we could also conduct businesses. We have large fund administration businesses in Ireland and Luxembourg which we think, their or others, we could leverage to re-domicile or domicile a bank to allow us to conduct our business, and I promise there's working teams actively engaged in that right now.

Great. I appreciate all the color there.

And just a quick follow-up. Are you able to provide just what constant currency revenue and expense growth was this quarter?

The impact on revenue expense from currencies?

Yeah.

Okay. So on a year-over-year basis, the impact to revenue was about 1% drag on revenue, $8 million or so, and the impact on expenses was about $8 million.

So it was a 1% benefit. And sequentially, quite frankly, it was immaterial.

All right. Great.

Thank you for taking my questions.

Hi, Brennan.

Hey. Thanks for the question.

So the amortization changes that you made and the charge you took on the C&IS servicing contracts, thanks for providing the additional information on that, Biff. So does that eliminate all of that amortization, or is that just a subset?

And I believe that you had mentioned in your prepared remarks, Biff, that it was because you didn't expect to recover that any longer, and could you just explain why that would be and what happened?

Yes. So it does not reflect all of the asset that's held.

There are other clients where this contractual right is still in place. But for certain clients, the situation was this.

When we take on their piece of business, we're able to capitalize it and create an asset. The contract language typically had the right for us to claw back the implementation fees and the client had the right, if you will, to terminate the agreement.

We negotiated a mutually agreed change to that where we gave up the right to claw back based on our understanding of the relationship at that time, and they gave something back as well. And when we gave up that ability to claw back, we were able to write the asset off and then obviously have the depreciation benefit in future run rates.

It does not represent the totality of the asset. It's not every contract did we renegotiate those terms.

But, in these cases, we did. I do want to make it clear.

These are important ongoing relationships where, quite frankly, the willingness to do that, the claw-back was something we were willing to do. So there's a favorable positioning there.

Got it. Thanks for clarifying that, Biff.

And then, following up on Glenn's question, how do you rank M&A in your capital priorities? And if you're going to think about M&A as a use of capital, which side of the business would you want to grow on?

And when we look – I get that the balance sheet's grown versus equity, but you also ran through all your capital metrics and you're very, very strong on all those metrics on an absolute basis, much less versus your meaningfully lower requirements. And so it did create a little bit of confusion.

So was the idea that you wanted to keep optionality for M&A part of the consideration on holding back, too?

Yeah. Brennan, when we submit our plan, we absolutely think about organic and inorganic growth.

And those opportunities are considered by our board and by our committees and we look at both opportunities. And the consideration of flexibility in a volatile market period is something that we weigh in our capital plan submission.

And we do that on an annual basis. And I can't really say much more than that.

Our M&A strategy has not changed as a firm. We have typically and will continue it for the foreseeable future to focus in on acquisitions that either add a client capability that we don't have a geographic region where we need scale or a talent source or a technology source where the acquisition provides us with that.

But we do consider it in our capital plan submission.

Yeah. I appreciate that the commentary could be limited and certainly helpful color, Biff.

Thanks a lot.

Hi, Ken.

Hey, Biff. How are you doing?

Good.

Biff, can you talk to us a little bit through to some of the dynamics underneath the core trust fees? Obviously, you've got the rest of the fee waivers in both sides, which is really positive.

But if we exclude that, the growth rate has slowed. I think in part to your earlier point about the markets starting to comp better – comp harder, but can you just walk us through the dynamics between core growth rates, fee compression and activity?

Sure. So let me start with activity, if I can take your last.

In both of our primary businesses, we continue to see strong new business and wins in both Wealth and C&IS. So I would say organic growth rates in both businesses continues to be high.

We don't publish that, but it's at or near normal levels that we've seen or if not slightly higher than that, and that pipeline remains strong. So on the fee growth side, organically, we feel it remains strong.

If you look at the actual fee growth that you're reconciling, there are some headwinds in there. There was some currency negativity in the comparison, particularly, for the C&IS business, so it was hurt by the stronger dollar.

That was one factor. And in the C&IS business, there can also be some lumpiness to that as the wins tend to be very large, but we feel very good about the pipeline and the growth rate.

On the Wealth side, the new business flows and, in fact, in the second quarter were very strong, very robust, but they do still have the issues that we've talked about on previous calls, which are around fee compression as we have seen, for instance, the migration from, say, active to passive, particularly, true in the Wealth Management business. So that has created fee compression, which is somewhat offset by growth in new business.

So across both, we still feel pretty good about our growth rates in those businesses. And I think particular this quarter if we looked at it, even excluding the benefit of fee waivers, Wealth Management across its regions still had mid- to high-single-digit growth rates, which I think is pretty good, particularly relative to the industry.

Understood. Thanks.

And just one follow-up on a separate thing, just if you normalized the premium amortization quarter-to-quarter, the core underlying NIM looks like it would have been about flat. Given the changes to the rate environments that we've seen in the last couple of months, how are you just looking at the balancing act of net interest income growth with balance sheet versus the spread compression, how you're adjusting to that?

Yeah. You're right, Ken.

When we adjust for the premium amortization, we actually think the NIM probably would have been up 1 basis point, taking that out. I know we can't, but if you did, that explains the sequential decline.

In terms of forward thinking on the portfolio, if the rates stay at the levels we're at today and the low end of the curve doesn't move, we'll have to think about the delicacy with which we manage that. As you know, we're significantly impacted by the short end of the curve, which has remained relatively flat, if not even slightly up.

I think three-month LIBOR has actually moved up just a tick or two. The longer flattening impact has a much more modest impact to us.

So we continue to look at that, look at where our runoff in our portfolio is and how we can reinvest that.

Okay. Thanks, Biff.

Hi, Marty,

Good morning, Biff.

How are you?

Doing well. I wanted to ask you about the outside services.

It's been episodic in the past as you had to either go through CCAR or some regulatory pressures. It jumped up almost, I think, around $10 million this quarter.

Is there anything in that is like you've given some glide path in the past of some pressures or a project that's going to come off the books and you'll have it come back down to a more normal range anytime soon.

Yeah. Let me walk through that line item – the important line item.

So roughly, Marty, one-third of that line item is directly related to revenue. It's sub-custodian expense, it's third party adviser fees, it's brokerage clearing.

It's really tied to revenue. About half is, I would say, directly or indirectly tied as well.

Things like market data that we have to pay to other vendors. Some of our offshoring work that has – that's volume-driven, et cetera, is tied to market levels and revenue performance.

And then, that's about 80%. About 20% then gets down to what I would say more discretionary spend in that line item, that things like consulting that you've highlighted where perhaps it can move and ramp if we need to take on special initiatives around regulatory environment, or if Jana Schreuder, our Chief Operating Officer, has programs of work around digitization or improvement to lower future run rate, we can, from time to time, see that move.

I will say that if you take just the consulting spend portion of that, the rate has actually slowed from the second half of last year. I know you see this number spike.

It has slowed. It meaningfully went up in the second half of last year as we ramped up for CCAR and other regulatory.

We have seen that start to slow in this quarter, but it's still at elevated levels versus year-on-year. And there is also in there some expense associated with the severance that I talked about and some expense in there that's associated with Aviate, our acquisition.

So when you pull all of those down, the growth rate was more modest than the absolute year-on-year or sequential comparison.

Got it. And you had a big gain from Visa and then you had all the charges.

I'm trying to just dive a little bit into your psyche about how you're doing that, because you have further gains in Visa that you can use. Did the charges start to evolve as settlements were coming through so then you harvested the gain to help fund some of that?

Or did you think it was time to take a gain and move into while looking for ways to invest it and take care of some overhang issues?

Yeah. So they are separate and distinct decisions.

And, for instance, the decision to monetize a portion of our Visa is, quite frankly, driven where we think from a risk perspective, we have significant exposure – as I highlighted at the beginning of the call, we have significant exposure there. And we make decisions on when we think are the right times to monetize that investment.

Separate and distinct were charges where we think the right thing to do was address those issues and, quite frankly, change the trajectory of either our expense run rate going forward in some cases or take risk off the table in other cases where we were settling legal concerns. So they are separate and distinct.

It does help. The one thing is we do look and care about where our capital ratios are, and it is a way to not degrade our capital ratios if that's something that we view as important.

And then, any appetite still to extend the duration slightly? Like you say, when the premium amortization's taken out, your margin actually improved by 1 basis point.

So it looks like you're at least maybe pushing that out slightly still.

Yeah. So we do look at that every month in our ALCO committee and take feedback from our economist and our asset management professionals and make decisions around the duration of the portfolio every month.

Thanks.

Hi, Brian.

Hey, Biff. How's it going?

Good.

So I have just two quick questions, I guess. One, on occupancy, I'm trying just to reconcile what you're saying with what the numbers are doing here.

So you're saying you have the location strategy plus the people on severance being let go, but yet occupancy is up. Was there a new building that came online or what was driving that?

And the rent increase, but it seems bigger than that.

Two things. In the first quarter of this year, we had a $3.5 million lease credit.

So I would say the run rate in the first quarter if you look historically or look backwards was higher than what you saw. So that growth rate is artificially high.

And then, we did also put on Pune, a second site in India. So we do have a second site in India.

And third was Aviate. We have some space that we took on from the acquisition.

So the increase, first of all, is much more modest if you take the $3.5 million out. And then, if you add in Pune and the Aviate, it explains the more modest increase in occupancy.

Okay. Thanks.

And then, did I also hear you say you had $2 million of losses on OTTI? I just want to make sure that those are distinct from what was listed on the cover of the press release and not included within some of those charges.

So they are not included in those charges, and there was $2.4 million of OTTI related to our Community Reinvestment Act investments. And the securities were purchased to help with our CRA efforts and we have to mark those from time to time, and we took a charge as our generally residential mortgage-backed securities.

Okay. Thanks.

Hi, Mike.

Hi. You mentioned – hi.

How are you doing? You mentioned fee waivers a few times, so how much in fee waivers are still in place, if any, and can you just repeat the decline of fee waivers to the whole firm year-over-year and quarter-over-quarter?

Yes. Year-over-year, fee waivers declined $28 million, and quarter-over-quarter, they declined $8 million, and lastly, they're effectively at zero in the quarter.

I think we weighed $200,000 in the quarter.

All right. So that's – you got it all back with the first rate hike?

Yes.

So there's – okay, so that's a long time in waiting. So that's good news, I guess, from a profitability standpoint.

It is. It is good news.

Okay.

So we've been able to recoup (01:05:03) that with one hike.

Okay. Was that faster than you had expected?

And what's been the customer feedback?

It appears to be in line with what the rest of the industry has done, and we had concerns that there would either be a sharing on that way up or that the pricing would change. And it appears that the industry largely has been able to recoup that on the way up much.

(01:05:34).

All right. Thanks a lot.

Thanks.

Hi, Vivek.

Hi. A couple of questions for you.

One is going back to the capital question that's come up a couple of times. When I look at your balance sheet, year-on-year, just going back a year ago compared to your CCAR a year ago, just use 2Q 2015 as example versus 2Q 2016, your deposits have grown roughly $1 billion whereas your borrowings have grown more than $1.5 billion to $2 billion.

So walk me through – could you walk me through why you would be leveraging up as opposed to doing a bigger ask for share buyback?

So the growth in loans that you see there often, in our case, helps us drive other fee-related businesses. And those – the combination of the credit plus the fee-based business that helps us or enables us to win, we think, can drive north of the 10% to 15% ROE.

So in some cases, we have the leverage. To your point, we have to buy the loan or others to get the fee-based business.

That's why we think the combination of funding those risk-weighted assets and growth through the retention of earnings can produce an overall ROE that's in our targeted range.

But, Biff, why – okay, I see the loans have grown. Why not slow the growth in securities?

Does securities provide enough – a better return longer term given the interest rate volatility that occurs?

Yeah. Vivek, I think the securities growth is probably more a function of our foreign office time deposits and the growth in that line, which is more driven by our C&IS custody business, drags big deposits there where, quite frankly, the opportunity to place those is better suited for a securities portfolio than to use it for loan funding.

Okay. All right.

Thanks so much. Another quick one.

You mentioned something about, and I didn't quite catch it, is it the lease portfolio that you're shrinking, the aircraft lease portfolio? Is that something else that you're halfway through?

No. It was our leasing portfolio.

Okay. And do you still have the aircraft leasing portfolio or are you planning to – are you shrinking that too, because you had charges a year ago also in the second quarter when you had big Visa gains?

Yeah. It's across – it's the entirety of the portfolio that we're considering.

We have not put all out for sale and marketed at this point, but we are looking at the entirety of the portfolio, which would include the airline leases as well, aircraft.

Thank you.

Thank you.

Hi, Gerard.

Hi, Biff. How are you?

Good.

As a follow-up to the last question, what's remaining in the leasing portfolio in terms of dollar amount that you will eventually sell off? And second, would there be marks associated with that when you do actually execute a sale of what's remaining?

So we're certainly rounded to less than $1 billion. How's that if we interpret what's that in the portfolio.

I think rounded down, it would be under $1 billion when we round well under $1 billion. I think it's approximately – it would round closer to zero than it would $1 billion.

How's that? We'll go with that...

Okay. Sure.

...That number. And then – I'm sorry the second part was...

Yeah. Second part was you took some marks this quarter in the sales of loans and leases.

Are there marks remaining – if you were to sell that, what's remaining upwards to $1 billion, or whatever it is, will we see more marks to do that?

So, let me be clear. There's not $1 billion left to sell, so I will make sure...

Okay, sure. Okay.

It rounds closer to zero than it does $1 billion. The second item would be in terms of the marks, we look at the residual values and other values of that and lower cost to market for items that are for sale, that are held in a held-for-sale category every quarter.

So there could potentially be movement there and there could potentially be gains and losses on the actual sale of those in subsequent quarters. But as we said earlier, the total amount left to sell would round to closer to zero than it would $1 billion.

Okay.

So it's a relatively modest impact.

Yeah. In this quarter, the marks that we're taking were they much driven by credit or interest rate or some other factors that you needed to take?

So, the marks, I think, were taken by certain types of leases where, for instance, aircraft and/or other types have seen some degradation in their values. And so we have to take residual charges even if we're going to sell them at some point in the future, we have to mark them appropriately.

Great. And then, just as a separate question, on the drop in the yield in your GSC portfolio, the government-sponsored agency portfolio, was that primarily due to the premium amortizations that you referenced or was there another issue?

That was about 24 basis points of the 31-basis-point yield drop was from the premium amortization. And then the other was just a security – certain higher yielding agency securities ran off in the quarter that replacement on those was at a lower rate, but the majority – the significant majority was from the premium amortization.

Appreciate it. Thank you so much.

Hi, Adam.

Hi. Good afternoon.

Thank you. First, a question about flows in both in Wealth Management and in C&IS investment management.

I recognize that you don't give those amounts. From a qualitative drivers and the information you provided, it looks a little bit like maybe inflows on the C&IS side and outflows in Wealth Management.

But my question is what trends are you seeing in terms of asset allocation, equity versus fixed income or certain products? And on one hand, what were you seeing in 2Q, and then has Brexit affected that?

Thank you.

Yeah, interesting, Adam. Let me take our Wealth Management business.

In the first quarter of this year, we saw cash as an asset class with inflows in most of the risk-seeking assets, equities and even in a little bit fixed income instruments with outflows. We saw that trend reverse in our Wealth Management business in the first quarter where we actually saw risk being put on the table at least certainly early in the quarter where we saw our cash balances actually coming down.

And we saw increases, particularly in our case, in fixed income. But I think we saw some risk on in the quarter.

So interesting. On the C&IS side, our flows tend to be more passive mandates, so S&P 500 and other types.

That's not our only, but our biggest flows tend to be there. And we've seen those move around from time to time.

Particularly as we cited in certain large sovereign wealth pools, they've actually had to monetize some of those index mandates to deal with local requirements, if you will, in their regions. I think we saw that slow a bit in the second quarter, perhaps, as the price of oil or other factors stabilized to some degree.

So we saw that pace slow. But I think that's the color I would say around where we saw flows in the quarter.

Got it. That's very helpful.

And then, just quickly on Aviate, you gave the number for the balance of the quarter after the May 1 close, should we assume a run rate on that? Or if not, what are the factors that might move that around?

Thanks.

Yeah. I think for your models, I'll let you do the modeling.

But those numbers are reasonable item to model in.

Sounds good. Thanks again.

Thank you.

Thanks.