Stifel Financial Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
July 26, 2023

There are 9 speakers on the call.

Operator

Good day, and welcome to the Stifel Financial Second Quarter Financial Results Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Joel Jeffrey. Please go ahead.

Speaker 1

Thank you, operator. I'd Like to welcome everyone to Stifel Financial's 2nd quarter conference call. I'm joined on the call today by our Chairman and CEO, Ron Kruszewski our Co Presidents, Victor Nucci and Jim Zemlyak And our CFO, Jim Marischen. Earlier this morning, we issued an earnings release and posted a slide deck and financial supplement to our website, which I would note that some of the numbers that we state throughout our presentation are presented on a non GAAP basis I would refer to our reconciliation of GAAP to non GAAP as disclosed in our press release. I would also remind listeners to refer to our earnings release, financial supplement and our slide presentation for information on forward looking statements and non GAAP measures.

Speaker 1

This audio cast is copyrighted material of Stifel Financial Corp. And may not be duplicated, reproduced I will now turn the call over to our Chairman and CEO, Ron Kruschetti.

Speaker 2

Thanks, Joel. To our guests, good morning and thank you for taking the time to listen to our 2nd quarter conference call. We recorded solid results in the 2nd quarter as Strength in wealth management was offset by the industry wide slowness in our institutional business. I don't want to be repetitive, but as I It is important to point out that over the years, Stifel's business model has proven its ability to navigate these types of markets and still generate solid returns. Simply put, Wealth Management is consistent and provides balance to the cyclical institutional business and the institutional business could be at cyclical loss.

Speaker 2

Overall, revenue came in at a little over $1,050,000,000 with non GAAP EPS of 1.20 Despite a challenging environment, we generated pre tax margin of 19% and return on tangible common equity of 17%. And we had some positive developments in the quarter worth highlighting. First, J. D. Power ranked steeple number 1 in its annual employee advisor satisfaction We also generated our 10th consecutive record revenue quarter in Global Wealth Management.

Speaker 2

Recruiting was strong in the quarter and we're seeing further signs of improvement in the Q3. Capital raising revenue was its highest since the Q4 of 2021 And book value and tangible book value per share increased 6%. Turning to the next slides. Comparing our Q2 results to consensus estimates, I would note that revenues came in at approximately $20,000,000 below. This was a result of 4 advisory transactions, which totaled approximately $18,000,000 in fees, which were anticipated but did not close this quarter.

Speaker 2

I should note that we expect these deals to close in the Q3. Our transactional revenue was ahead of the Street by $4,000,000 as bulk management institutional equity revenues were Slightly above estimates. Net interest income came in $3,000,000 below the Street estimate, primarily due to a modest sequential decline and average interest earning assets. On the expense side, our non comp expenses were 4% above The Street estimate. This was driven primarily by increased FDIC insurance and investments in brand marketing.

Speaker 2

Taken together, these items, Primarily the delay in advisory closings resulted in our results being $0.13 shy of consensus estimates. As I said earlier, Wealth Management had another record quarter. One of the major drivers of our success is the culture and service we provide our advisors. In this effort, we have continually invested in resources, support and technology to reduce bureaucracy and enable our advisors to thrive. This strategy was validated by our number one ranking in the most recent J.

Speaker 2

D. Power survey of overall employee Adviser satisfaction. Noteworthy is the fact that our overall score was more than 32% higher than the average score in the J. D. Power survey.

Speaker 2

Since 2019, we've consistently improved in the survey, culminating in not only our overall number one ranking this year, But also in the fact that we ranked number 1 in 4 of the 6 categories surveyed, leadership and culture, products and marketing, And I should also mention that we rank number 2 in Professional Development. The survey is especially meaningful because the results are derived from the feedback from our own advisors. You've heard me say that Stifel has a unique culture that puts the financial advisor first. To have our strategy validated with this award is not only satisfying, but it illustrates why we've had great success in bringing in high quality Advisors onto our platform. And I should note that this will help recruiting going forward.

Speaker 2

Now, let me turn the call over to Jim Marishin to

Speaker 3

Thanks, Ron, and good morning, everyone. Looking at the details of our Q2 results on Slide 4, Our revenue of $1,050,000,000 represented our 3rd strongest second quarter. Compared to the same period a year ago, we saw growth in our net interest income, trading, underwriting revenues. However, this has more than offset declines in client facilitation and advisory revenues. Combined with a modest increase in non comp expenses, We generated earnings per share of $1.20 Moving on to our segment results.

Speaker 3

Global Wealth Management revenue increased 9% to a record $758,000,000 and our pre tax margins were 40%, An increase of 450 basis points from a year ago. During the quarter, we added a total of 46 advisors, Including 28 experienced advisors with trailing 12 month production of nearly $25,000,000 We ended the quarter with fee based assets of $155,000,000,000 and total client assets of $418,000,000,000 which were both up 3% sequentially. I would note that our asset growth was negatively impacted by the restructuring of a single office during the quarter. This process was completed in May and we expect AUM growth to return to historical levels going forward as we saw a net new asset growth in the mid single digits in June. Moving on to Slide 6.

Speaker 3

We've condensed a few of the bank overview slides into one new summary slide. So starting with deposits, I would highlight that cash sorting continues to slow and sweep deposits are stabilizing. As you can see on the chart, The pace of sorting slowed in recent months. That said, sorting was slightly more elevated early in the second quarter than we had anticipated, In addition to seeing lower non bank net interest income, the combination of these items impacted our net interest income as it declined to $292,000,000 While we still expect the rate of sorting will be relatively subdued in the back half of the year, Our outlook for the back half of the year includes various cash sorting scenarios, slightly lower NIM expectations and limited balance sheet growth. While the market environment has impacted our net interest income, our net interest margin has remained relatively stable as its performance has been driven by both sides of the balance sheet.

Speaker 3

While deposit costs have risen, we have benefited from the fact that our balance sheet is asset sensitive and our assets are primarily floating rate. While many similar sized banks with greater fixed rate asset exposures have seen their NIM decline by 30 basis points to 40 basis points since the beginning of the year, Stifel's has declined by only 11 basis points. Going forward, we anticipate our NIM to remain relatively stable if there are further rate hikes. It will be more impacted by cash sorting than changes in rates. Our credit metrics and reserve profile remains strong.

Speaker 3

The non performing asset ratio stands at 4 basis points and charge offs were less than $600,000 I would note that only 1% of our loan portfolio It's comprised of office CRE exposure or only 9 loans, which are all Class A space with average LTVs of 44%. Our credit loss provision totaled $7,800,000 for the quarter and our consolidated allowance to total loan ratio was 80 basis points. The increase was as a result of some deterioration in the macroeconomic outlook, additional reserves in our commercial book and a decline in loan balances. Lastly, our balance sheet continues to be well capitalized. Tier 1's leverage capital increased 20 basis points sequentially to 11.1%.

Speaker 3

Even when incorporating the unrealized losses in our bond portfolio, our Tier one capital ratio declined by only 70 basis points to 10.4%. On the next slide, I'll discuss our institutional group. Total revenue for the segment was $276,000,000 in the second quarter. Firm wide investment banking revenue totaled $167,000,000 which was below our guidance noted in our May metrics release. As Ron mentioned earlier, the deviation from our guidance range was due to a few delays in closings at the end of the quarter.

Speaker 3

Advisory revenue was 88,000,000 Again, the delayed closings were a factor in our revenue decline, but I would highlight our strongest verticals we're seeing within Healthcare and Consumer Groups. Industry wide M and A announcements have showed some signs of improvement recently, but still remains relatively challenged. We remain engaged with our clients and as the market improves, we are well positioned to benefit given our increased scale. Equity revenues totaled $76,000,000 in the quarter, which is up 6% year on year, driven by improved capital raising activity. Equity transactional revenue totaled $46,000,000 which is flat year on year as lower flow business was offset by lower trading losses.

Speaker 3

Similar to recent quarters, we are seeing increased engagement in our electronic trading as we pick up market share as our clients embrace our electronic offerings and value our best in class research. Fixed income generated net revenue of $113,000,000 in the quarter, which is up 10% sequentially Capital raising increased 41%. We continue to be a leader in the municipal underwriting business as we rank number 1 in the number of negotiated transactions And our market share increased to nearly 16% in the first half of the year. Transactional revenue declined 4% sequentially As we continue to experience difficult operating conditions for our rates business, but we did see some market share growth across our credit business. On the next slide, we go through expenses.

Speaker 3

Our comp to revenue ratio in the Q1 was 58%, which was a 10 basis point decline year on year and was flat sequentially. We continue to accrue compensation at conservative levels and Ron will give additional thoughts on our compensation outlook later in the presentation. Non comp OpEx excluding the credit loss provision and expenses related to investment banking transactions totaled approximately $230,000,000 Our non comp OpEx as a percentage of revenue was 21.9%. The increase over the prior quarter was primarily driven by higher FDIC insurance expense and an increase in marketing related expenses. The effective tax rate during the quarter came in at 25.9%, which is slightly higher than anticipated as a result of losses incurred in some of our foreign operations.

Speaker 3

Before I turn the call back over to Ron, let me discuss our capital position. We have approximately $400,000,000 of excess capital based on a 10% Tier 1 leverage target. Additionally, if you simply run rate our first half net income, we generate an additional $600,000,000 in 2023. Based on these capital levels, our share repurchase program remains a key part of our capital allocation strategy. During the quarter, our average fully diluted share count came in at 113,900,000.

Speaker 3

We repurchased 1,500,000 shares in the quarter and We have approximately 6,000,000 shares remaining on our current authorization. Absent any assumption for additional share repurchases And assuming a stable stock price, we would expect the Q3 fully diluted share count to be flat at 113,900,000 shares. I would note that the increase in our share price has essentially offset some of our recent share repurchases. And with that, let me turn the call back over to Rob.

Speaker 2

Thanks, Jim. There remains a good bit of uncertainty in the market for the remainder of 2023 and possibly into 2024. Therefore, I would like to comment on our outlook. So starting with 2023, our revenue expectations for the full year are relatively in line with The Street, which is currently $4,500,000,000 Our revenue guidance for the back half of the year of approximately $2,400,000,000 implies That operating revenue for our Wealth Management and Institutional business will increase roughly 7% 23%, respectively, Our net interest income remains flat to slightly down. The 23% increase in our institutional business is based upon our visible pipeline for Investment Banking as well as the expected seasonal benefits in our transactional business.

Speaker 2

We expect our compensation ratio to come in at the upper end of our original guidance due to a couple of The first is the lower revenue environment that we've seen year to date. 2nd, the impact of the investments we've made in the business as well as our efforts to improve Efficiency in our businesses. As you recall, we made some significant hires following the banking crisis in March. Teams from Credit Suisse and Silicon Valley Bank Join Stifel and are in the process of ramping up production. And while we have and continue to incur expenses associated with these individuals and their businesses, We haven't benefited from the expected revenues as of yet.

Speaker 2

The other factor is the impact of rightsizing the business. While we don't believe the Current market for investment banking is the new normal. We are focused on making our business more streamlined. And as such, We are including the cost of this rightsizing into our comp outlook for the remainder of 2023. These two factors combined We'll account for roughly $45,000,000 of compensation expense and if excluded from our 2023 results, we would likely be at the midpoint of our initial comp ratio guidance.

Speaker 2

As I think about the future, it's clear that we have substantial operating leverage within our business. Given the potential for uncertainty in the market, I'm not ready to give specific guidance for 2024, but I think it makes sense to talk about our outlook in terms of the current In terms of revenues, The Street has us generating for 2024, dollars 4,900,000,000 With approximately $3,400,000,000 including $1,200,000,000 of NII from Wealth Management and $1,500,000,000 from Institutional. In Wealth Management, we believe this is certainly attainable with continued strength and small market appreciation. Institutional business is also attainable. For example, in 2020 and in 2022, we generated roughly $1,500,000,000 in net revenue.

Speaker 2

This 2024 is also in line with our forecast for the second half of the year of 2023 on an annualized basis. In terms of expenses, in particular compensation, I believe that given these revenue assumptions, the 20 24 Street estimate for compensation ratio of 57% is reasonable. Overall, I'm optimistic about the future as Stifel remains well positioned to continue our long history of profitable growth. With that, operator, please open the line for questions.

Operator

Thank Our first question will come from Steven Chubak with Wolfe Research.

Speaker 4

Hey, good morning, Ron. Good morning, Jim.

Speaker 3

Good morning, Steven. Good morning.

Speaker 4

So wanted to start off with a question on capital return. You noted you're running with significant excess. The buyback in this quarter felt pretty light relative to expectations. You laid this out really well in Slide 9, Just showing the cadence of capital deployment over the last few years, I mean, it's been pretty muted year to date despite Strong capital generation and more notably the contraction in bank balance sheet. I just want to get your thoughts as to why You're not stepping up the buyback here.

Speaker 4

As I think about what's becoming less accretive, increasingly bank growth with higher betas Is generating a lower return on capital, given the valuation discount, doesn't it make more sense to be a bit more aggressive here in terms of buyback?

Speaker 3

Yes, Stephen, I'll address this. This is Jim. I think the thing you need to remember is that we were out of the market Up until after earnings in April. So really almost the entire month of April, we weren't in the market. And you think we did repurchase $87,000,000 during the quarter.

Speaker 3

That's roughly 70% of our GAAP net income for the quarter. If you think if we were in for the entire period that could have been slightly higher. But again, those are all factors you got to consider when you think about the pace of the buyback.

Speaker 2

Yes. And look, you make a good point, okay. I mean, in terms of The environment, the limited or our view about muting balance sheet growth in this environment, both Just from economic outlook and what's going on with the deposit side. So your point is well taken and it's not lost on us in terms of the capital deployment.

Speaker 4

All right. Thanks for that color, Ron. And just for my follow-up, a clarifying Question on the NII comments you made, Ron. I think you noted that you felt that the NII that was being modeled by The Street for next year actually seemed reasonable. It does imply a run rate that's not wholly dissimilar to where we are today.

Speaker 4

So just want to get General thoughts on what are some of the assumptions underpinning your NII expectations? And does that contemplate any rate cuts As we look out to next year.

Speaker 2

I'll let Jim answer that. We're We do have in our forward forecast model on rates. Remember that we have had Okay. In fact, we've had a decline in interest earning assets. When you look at NII, looking forward 18 months, I don't expect that to continue, especially considering the hires we've made.

Speaker 2

And so where we can see some increased Net interest earning assets driving NII can increase even if NIM contracts Somewhat. So bake all that in and that's how I got to that comment. But Jim, go ahead. Yes.

Speaker 3

I know whenever we're giving kind of thoughts on the forward outlook, We're always using the forward rate curve. So we are assuming what you see out there publicly. And I think Ryan addressed the rest of Just right, you think about the investments we made and the capabilities of generating not only asset generation capabilities, but the ability to generate deposits outside of the wealth business. In addition to the recruiting that we're doing and generating additional deposits there, we see an environment set up for more potential growth than we do in the near term.

Speaker 2

And there's a little bit of restoring that goes on, on the asset side too. Okay. It's not just on the liability side. So anyway, We're comfortable with that number.

Speaker 4

It's a very fair point. Thanks so much for taking my questions. I'll hop back in the queue.

Speaker 2

Thank you.

Operator

And our next question will come from Devin Ryan with JMP Securities.

Speaker 2

Good morning, Devin. I think

Speaker 5

I want to start on the institutional side of the business and just thinking about whether we're perhaps And so what I want to think about is what you guys see as kind of a scenario of recovery between Investment Banking and then also brokerage, kind of split those 2 out because Investment Banking were kind of a cyclical lows and then you've added some capacity with talent. So it seems that that should show up in a recovery. So I want to think about what that might look like. And then brokerage, we're off You're well off of kind of the pace of kind of pre downturn, but that seems like it might be a little bit of a different type of recovery. So maybe

Speaker 2

Yes. Well, I mean, on Investment Banking, I'll echo some of our larger brethren who have talked about green shoots and improving markets. And I will just say in general, I can echo or repeat what they've said because in this business, the rising tide flips all ships, right, where We certainly have been in line, if not even slightly better than in activity As it relates to the overall market. And so as we look forward, certainly in the back half of the year, even in this environment, We see an improvement. I for 1 just do believe that there's a lot of Pent up activity in the marketplace, whether it's in private equity, whether it's in strategic decisions.

Speaker 2

There's been a lot of things that have muted Mark, and we do not believe the current business is the new normal for banking. And I would note, I'd like to just say that our results, Frankly, our in a business that essentially broke even that a couple of years ago generated $400,000,000 of contribution. So there's a lot of leverage in this business and I want to point that out so that people do not miss the rebound in this business, which I believe is Coming. I just won't put a timeframe on it. As it relates to parsing out the difference between trading and banking, while we see banking improve, I will say that they are lent.

Speaker 2

The level of trading and what happens when we get back into capital raisings significantly impacts Our flow business. We trade the deals. We trade in the middle market. We trade the activity that happens in our Banking. So by the same token, it will get a boost as capital raising increases For sure.

Speaker 2

And the other thing in transactional is our fixed income transactional, which It's really been impacted by our rates business and the yield curve as it impacted our rates business. And so as that normalizes, you'll see, we believe, a meaningful pickup in our rates business, which will help drive transactional as well. I hope that answered your question. Jim, you got anything to

Speaker 3

No, I think you covered everything there.

Speaker 5

Okay. Yes. Thanks, Ron. Those are thorough. And then just a follow-up on Wealth Management.

Speaker 5

First off, congratulations on the J. D. Power results. I know those are meaningful. I just want to talk

Speaker 3

about the

Speaker 5

recruiting Momentum, you had a nice another nice quarter there. So just talk about kind of what the tone is in the market. It does feel like there is a little bit Higher churn going on for whatever reason, or maybe it's a normalization in churn. And so I would think there's some opportunities for you guys. Talk a bit about that and then between the channels, so independent contractors, you had obviously higher growth there off of a very low base, but Whether you guys are making any more of a concerted effort to kind of accelerate the recruiting into that channel as well?

Speaker 5

Thanks.

Speaker 2

Yes. Look, overall, recruiting has been strong primarily on the employee side on larger teams. A noticeable impact on larger teams. And I'll tell you, I Believe and you don't always want to say that things like J. D.

Speaker 2

Power make a difference, but in this case, it does. I just want to say that I've known for years That the culture and the technology and the support and everything that draws people looking for a new home to Stifel, I've certainly known about it and our advisors have known about it. And now, just since that's come out, we're getting phone calls of teams that we used to miss. So that's been important. It's going to come through.

Speaker 2

You'll see it, I believe, in our numbers primarily the average production of who we're talking to. So I'm quite optimistic about that part of our business. And on the independent side, look, We are just building that business slowly and sorting out all the economics. And that business for a while, in my opinion, The economics of that business was driven primarily by net interest and the spreads in that business That drove some of the economics and that business is rerating in my opinion. And we're not just rushing in under the old Economic paradigm, which I think is under stress in that business.

Speaker 2

So we're, I would say, Less aggressive in terms of our recruiting because the economics were highly skewed toward An interest rate environment that has changed. And so that would be my overall comment. All

Speaker 5

right. Perfect. I'll leave

Speaker 4

it there. Thank you so much.

Speaker 2

Yes. Thank you.

Operator

Next is Brennan Hawken with UBS.

Speaker 6

Good morning, guys. Thanks. Hey, how are you, Ron? Good morning. Curious on deposits.

Speaker 6

So we saw a decline in The commercial deposits, I believe, down nearly $1,000,000,000 quarter over quarter. Could you maybe give some color on that? I had thought that was tied to the team that came in from SIVV. So if you could confirm that's right and whether or not there might have just been a little bit of friction with them coming on board and that led to some of those balances declining and whether or not you think you'd recover that.

Speaker 2

Well, It's a great question, upfront. And the answer is that it was actually, if you will, a decline And what you might otherwise characterize as wholesale deposits, we during the crisis, we had many firms took in Deposits that were, call it, one way brokered effectively. And we quickly found out during the quarter that we didn't really need those, okay? They were high cost and so we just they were in the balances and they're not in

Speaker 3

the balances and that's about Jim, it's under

Speaker 2

$1,000,000,000 that we took in short term and took out. Overall deposits have been stable. One of the things I would note, I think, is something that's positive for us or negative, depends on what your viewpoint is, Is that because of our primary retail nature and the fact that we're just building up our commercial is that We're not facing a lot of what the industry is facing, which is a repricing of 0 rate corporate deposits, which Everyone's trying to figure out where those are going to settle and at what rate. We really are not looking at that and most of our deposits are Rate competitive for the type of balances they are, whether they're transactional or savings. So, but the biggest Point question I just would say is that we've seen growth in the deposits relating to the businesses that we're entering into It's being masked by our taking of a short term deposit during the crisis and immediately sending it back.

Speaker 3

I think the only other comment I would make there, particularly to the venture teams that we've brought on, it is going to take a little bit of time to get momentum there. With so much activity happening post March And so many deposits moving quickly thereafter. There was a bit of fatigue within the portfolio companies creating new book deposit relationships, etcetera. This is going to be more of a 2024 story and that's one of the aspects we tied into the discussion on the comp ratio as well related to that.

Speaker 6

Great. Thanks for that color. I appreciate it. For my second question, the institutional Revenue guide suggests some decent acceleration versus your first half pace. So And I also noticed that the advisory revenue missed your Late June guide by a decent amount, so I'm guessing that's just timing.

Speaker 6

So how much of I guess that would help your back half For sure, with some of that advisory, but how much beyond just that, which is a lot more tactical, how much does your Guide for the back half assume the current environment versus an improving environment, if you could just help us distill that.

Speaker 2

Yes, I think first of all, your last part, yes, I we had 4 transactions, Which just slipped, okay. We anticipated them closing. We anticipate them closing as late in the quarter as when we gave guidance As to banking revenue, all right. And so the fact that they didn't would it does sort of I Sort of timing. It happens in our business.

Speaker 2

And so what wasn't in the second quarter will be in the 3rd quarter. So that's part of it. The second part, I'm not I don't I certainly have not factored in a significant Improvement in the operating environment. We're looking at our visible pipelines and just extrapolating that out. The Q2 was especially slow in the business and especially slow for us.

Speaker 2

And so our back half, What we're looking at, we believe is in our pipelines and it's not factoring A market rebound, when that happens and it will at some point, That will be dramatic when it does. But right now, we're not being optimistic that the market environment Changing the second half of the year. And as I commented on 2024, we're not assuming that either. Okay. So we're taking a rather muted view at the economic activity as it relates to the equity business in

Speaker 3

I would also highlight we're not anticipating the market to get worse from here. We're basically anticipating a stable market. The sentiment from our investment bankers today is much better than it was a quarter ago, and I'd say that. And if you look at the total institutional results in that guide, It's implying somewhere between 1.31.4. If you look back to 2022 or 2020, that's below those levels of activity and we've added a lot of Scale and resources.

Speaker 3

So we feel confident that we're able to reach those amounts. Great. Thanks for

Speaker 6

taking my questions. Appreciate it.

Operator

Our next question will come from Alex Blostein with Goldman Sachs.

Speaker 7

Hey, guys. Good morning. Hey, Ron. Maybe a little bit of higher level profitability question for you guys. So 2023 updated guidance kind of Mid-twenty percent, low 20 percent, kind of 20.5 percent.

Speaker 7

Pretax margin, obviously, you're still getting pretty big tailwinds from NII challenging capital markets backdrop. So as you look at the savings that you're likely to extrapolate from the business based on, I guess, some of the changes you announced today, plus scaling some of the initiatives. What do you think the overall profitability of the business could look like over time?

Speaker 2

With what kind of market do you want me to assume?

Speaker 7

Yes. No, look, obviously, you're saying that NII is likely to hold here. Maybe it goes down a little bit, but it sounds like feel pretty comfortable with holding the line in this $1,200,000,000 range. And again, assuming that the capital market activity starts to normalize, It just feels like you're kind of approaching sort of peak ish pretax margin levels relative to what we've seen in the past. And I wonder if it could get Higher from here based on the sort of changes in asset business.

Speaker 2

No, I think we see the wealth management Continuing to grow on an operating revenue. We see strong recruiting driving that business. And so that business You can look at it. We just had our 10th record quarter, I believe is what we said. And so on that side, we see that we see that.

Speaker 2

Now the real question is, is in the institutional business, this is true of The Street. We expect At least 15% to 20% margins in a business that last quarter had 0 margins. And we are protecting the franchise in terms of doing some rightsizing, but certainly not down to these levels. And even to Say that we would the business would rebound to 2020 levels would be up to losing market Which I don't think we're going to do, because we've got a lot more capabilities, a lot more MDs, a lot more businesses. So the way just to think about it quickly is to put Put $1,500,000,000 to $1,600,000,000 which we do not think is a robust market, it's just not as limping along as it is today.

Speaker 2

And have margins go from 0 to 15, mostly that will be in the comp ratio, which was it has been 60% almost historically and is a little north of 70% today. So if you run that, you'll see margins When you think about profitability being in the low to mid-20s, which is what as we think about the profitability, that's return on tangible of north of 20 And we think is at the top quartiles of businesses like ours. And I would also add

Speaker 3

to that, if you go back about 5 years, we used Talk about pre tax margins in the 15% to 20% range. As you think about how we've scaled our balance sheet and how that's impacted our comp ratio and our margins, that's driven a lot of the increase. So you go over the last few years, as Ron said, we've been between, call it, 20% 24%, 25%. So to get materially above that, obviously, you need a good environment and you need to continue to scale the balance sheet in the bank assets.

Speaker 2

When you think about how the impact of the margins of a good institutional Mark, we had almost 24% margins in 2021, albeit that was a good market for institutional, but 24% margins In a zero rate environment, okay. And so, we believe there certainly is margin expansion And profitability that will be driven primarily at this point, not by expansion in NII, but improvement in the institutional overall Environment.

Speaker 4

Got it. Yes. No, that all

Speaker 7

makes sense. Quick follow-up for you guys around just deposit costs. As you look at the sweep deposits from the brokers to kind of the core deposit base, what do you expect in terms of the ultimate cost of these deposits through So the rest of the cycle is the Fed is likely to sort of pause here. And it looks like you guys were holding the line kind of into this 20% to 30% deposit beta again Side of the Smart and Read program, on the way down, do you anticipate sort of like a similar pace of deposit beta as rates start to come down there? Or the core deposit suite program could have a higher deposit rate on the way down.

Speaker 3

So I would start that We're saying, if we do see a rate hike here, I think there's a good chance you could see us paying a higher rate on our Smart Rate program. Probably won't have as much of an impact on our sweep deposit program, but all that's baked into our guidance already and kind of what we've incorporated in the second half guide. As we look forward beyond this next rate hike, if we were to see rates decline, I would say generally speaking, historically you've seen higher beta on the rate cuts on the way down. I don't see anything in the current environment that would guide us to think differently about that today than what we've seen historically and we would expect Higher beta on the way down.

Speaker 2

Yes. I'll just temper Jim's remarks By saying that while I agree with that, I think it's a different environment with the Competition for deposits and QT and just the amount of liquidity that has left the system. So like everything, History tends to repeat itself, but not perfectly. And in this case, I think there is a risk that the competition for deposits We'll somewhat mute the deposit betas on the way down. So that we're also thinking about that as well.

Speaker 2

So I guess Just want to temper that because I hear a lot about 100% deposit betas on the way down and I'm not sure I'm a complete

Speaker 7

Including some of the high yield savings programs, so like the SmartGrade program,

Speaker 2

No. The high yield savings program, when we net all this out, it's ending up being very competitive with Money market with where we're going and is the high yield savings program would be more For deposit beta, that should move as spec funds moves because that's kind of where we pegged it. And so I would say that I'm talking about these on the transaction Cash that those deposit betas have been much lower and I think will be much lower way down. That's all I'm

Speaker 3

At roughly 50 basis points, you can't have money. Yes. 100 percent deposit base.

Speaker 2

How much of a deposit base are you going to have?

Speaker 7

Yes. No, exactly. Okay. All right. Thanks for clarifying.

Speaker 7

Appreciate it guys.

Speaker 2

Yes.

Operator

And our next question will come from Chris Allen with Citi.

Speaker 8

Good morning, everyone. How are you doing Ron? Most of my questions have been answered. I guess just Maybe following up on the recruiting environment, you gave some good color on the independent channel. What's the competitive environment like on the employee channel these Some of the pressures exerted by some of the companies that have undergone some of the issues back in March faded And anyone stepping up?

Speaker 8

Or is it just a bit more moderate competitive environment at the moment?

Speaker 2

I think the competitive environment really hasn't changed. I think that what has changed for us is our profile within that. I would often be frustrated that while I always felt recruiting was good, Especially when we got people to look at our platform, we have a very high conversion rate. Yet I also felt that we would call teams that would go somewhere else, say, why didn't we talk to you? And they say, well, wait, I didn't even really Understood.

Speaker 2

Think of it or know about you. And that has been that has changed quite a bit. And so we see our Ability of the number of people that we're talking to the population going up significantly. And if we have our Normal batting average, which I think is going to be higher anyway, then our recruiting is going up. And that's almost not Unless the competitive market really changes in terms of being something that's not economical, we believe we're in a better relative to

Operator

And we have a question from Steven Chubak with Wolfe Research.

Speaker 2

Steven, you're back.

Speaker 4

Yes. I couldn't help myself. So thank you for accommodating the follow-up. Did want to ask on the non comps. It's been a source of delta versus consensus over the last couple of quarters, has been running a bit higher And updated full year guidance on the non comp ratio, if I did the math correctly, implies about a $40,000,000 increase versus the prior guide.

Speaker 4

You cited a couple of items like FDIC assessment costs being higher, but just wanted to better understand the primary driver of that higher non comps. Yes. The ICP certainly doesn't explain the bulk of it. Actually, it only explains a small proportion of it. And just how sticky are those Is there any room to bend the cost curve?

Speaker 2

Well, the FDIC, you're right. I mean, that is That's been part of it. It doesn't explain all of it. We've been investing in the brand and that is that's been helping our profile, it's been helping recruiting And that has been something we haven't done over the past. So we've you've seen increased sponsorship by people In a lot of the sporting venues, U.

Speaker 2

S. Ski Team sponsor, we in baseball with the Cardinals, etcetera. And That has that's really helped our visibility and a lot of things we're doing, we needed to do that. But there's also a significant portion That is variable in nature and that is our conferences in travel and entertainment, Which we have taken the position, like that old United commercial where the guy puts his tickets in his pocket. We got to go see our clients.

Speaker 2

And even though the environment is not conducive to spending what those variable expenses versus the short term Revenue, we believe that this is money well spent. So there is variability if we wanted to Have a more with Governor on the travel entertainment conferences and those things. And at this point, we are playing the long game.

Speaker 3

The only thing I would add there as well is additional technology expense. We continue to invest in the business. We're always doing that. That's always going to have an impact on the bottom line. And then obviously our guide is ex provision and ex investment banking gross up, but those obviously were up a little bit in the quarter as well.

Speaker 3

Obviously, I think provision expense across the market today is going to be a little bit elevated given the economic environment. And really the IB gross up increasing in the current quarter It was a function of the step up in the capital raising activity as well.

Speaker 2

Look, Stephen, I think that every year Non comp OpEx goes up, okay. I mean every and that's because of the investments. What normally people aren't talking about it as much because Margins are going up as well. And in this particular instance, our margins have been declining. So it's getting a little bit more focus.

Speaker 2

But these investments are investments we believe we need to make to continue to be competitive. So as the business rebounds And our margins expand. I think the wisdom of these expenses will prove out.

Speaker 4

That's really helpful color. Although Ron, it might be nice if you decide to invest there in market to Franchises that are outside the St. Louis area, but I won't hold that against you. The other piece I wanted to just ask on is Cash sorting. And you the trend is clearly improving.

Speaker 2

Wait a minute, wait a minute, wait a minute, wait. You're not getting by with that. I'll get to the cash sorting in a second. Both St. Louis franchises travel to 40 cities outside the United States, and I will tell you that's been a big difference.

Speaker 2

If we had named a stadium in St. Louis, I'd take that. But these franchises travel and we get a lot of exposure. I can't help it, you're not a Cardinal fan, obviously. So go ahead with your cash

Speaker 4

I'm only supporting superior sports franchises. On cash

Speaker 2

Go ahead. Yes.

Speaker 4

But how have the trends fared through July? Just wanted to get a sense as to whether you're expecting continued improvement, especially in light of what's expected to be The rate hike coming in very short order.

Speaker 3

Yes, I'll give you an update. So if you look back to June, we had about a $300,000,000 outflow from the Suite program. Through July, that number is about right around $100,000,000 And so you've continued to see those trends progress Into July. This was probably as of the end of last week or beginning of this week, roughly speaking. And so we continue to see the trends Produce fewer and fewer outflows as we go forward.

Speaker 4

Great color. Thanks so much for taking the follow-up.

Speaker 2

Hey, Stephen. Stephen, I last point, okay, as it relates to our sports marketing. I would note there are no ski mountains in St. Louis, Missouri. All right.

Speaker 2

Any more questions?

Operator

There are no further questions at this time.

Speaker 2

All right. Everyone, we appreciate it. The overall message is that we had a Strong quarter. We expect the profitability in our growth. We continue we expect to continue.

Speaker 2

It's a challenging environment, but one that we believe we're well positioned in the future. So look forward to talking to everyone in the coming quarters and appreciate your time today. So thank you.

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Earnings Conference Call
Stifel Financial Q2 2023
00:00 / 00:00