Good day, and welcome to the Northern Trust Corporation Fourth Quarter 2016 Earnings Conference Call. Today’s call is being recorded. At this time, I would like to turn the call over to Mark Bette. Please go ahead, sir.

Thank you, Alicia. Good morning, everyone, and welcome to Northern Trust Corporation’s fourth 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 fourth 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 Web site, you will find our quarterly earnings review presentation, which we will use to guide today’s conference call. This January 18th call is being webcast live on northerntrust.com. The only authorized rebroadcast of this call is the replay that will be available on our Web site through February 15th. Northern Trust disclaims any continuing accuracy of the information provided in this call after today. Now, from 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 enable as many people as possible the opportunity to ask questions as time permits. Thank you again for joining us today. Let me turn the call over to Biff Bowman.

Good morning everyone. Let me join Mark in welcoming you to Northern Trust fourth quarter 2016 earnings conference call. Starting on page two of our quarterly earnings review presentation this morning, we reported fourth quarter net income of $267 million. Earnings per share were $1.11, and our return on common equity was 11.9%. Our assets under custody administration and under management increased 11%, 10% and 8% respectively compared to the prior year, reflecting favorable markets and our continued success in winning new business. A number of environmental factors impact our businesses as well as our clients. Before going through our results in detail, let me review how some of those factors unfolded during the fourth quarter. Equity markets performed well during the quarter. In U.S. markets, the S&P 500 ended the quarter up 9.5% year-over-year and up 3.3% sequentially. In international markets, the MSCI EAFE Index was up 2.3% year-over-year and up 6.7% sequentially. Recall that some of our fees are based on lagged market values and third quarter markets were also up compared to the prior year, as well as sequentially. In bond markets, the Barclays U.S. Aggregate Index was down four-tenths of a percent compared to last year, and down 3.8% sequentially. Currency volatility, as measured by the G7 Index, was 8% higher than the fourth quarter of last year and six-tenths of a percent higher sequentially. Foreign exchange market volumes were mixed in the fourth quarter. As reported by one interbank broker, volumes were up 2% sequentially, but now 3% compared to one year ago. You’ll recall that the currency volatility and client activity influenced 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 tempered custody asset…

Thank you, sir [Operator Instructions]. We’ll go first to Glenn Schorr of Evercore ISI.

Hi, Glenn. Hello?

Glenn, please check your mute function, you might be on mute.

So I guess, I just want to talk about -- well it could be just some timing differences and some fee compression between AUC, AUM year-on-year and sequentially and in the fee rate. So it’s the age old question of, if assets under custody and assets under management are up 11% and 8% year-on-year, Trust fees were like up maybe 6%. I’m curious, if you could talk to just what’s mix versus what’s timing versus lag pricing?

So, we’ll be composed that a bit. The first thing that I would say, overtime, the correlation between AUC and fees holds up, but in any given quarter, we could have large inflows or outflows that could skew that. So, that’s one factor to start there, but more specific. As we’ve grown our global fund services business over the past three to five years, the traditional lag that you’ve seen in fees has actually start to migrate away from quarterly lags and more to a balanced or 50-50 type one-month versus three-month type lag overall on our fees. So, you need to consider perhaps a different lag impact in the market when we do that. Also in this quarter, currency impacts were quite meaningful in the fourth quarter. So, that correlation between the assets under custodies and the fees were impacted meaningfully by the currency, particularly the Sterling weakening sequentially. So, combined all of those, explain what I think you’re referring to as maybe disconnect between the AUC growth and the actual fee line. I would end with, in the wealth space too, there is still continued compression. So, the compression that you see, particularly in the wealth from migrations, from active to passive has helped mute some of the correlation between the AUC and the fees.

Glenn, the other thing I would add to is with AUC and AUM, obviously, those were point in time. So they don’t always think up with how fees might build or accrue for over the course of the quarter. But we have the C&IS side when we look at the fund or the custody in the fund number type revenues versus the AUC over a longer period. We’ve seen what we think the fee rates there to hold up pretty well.

And maybe just one purposely simple question on the expense side, I think each of the line items are a little higher than I thought than I think other people thought. Could you talk about what you think are good jumping-off point as we go forward versus not? Like, I know, we have the employee benefits special issue but…

So, if I could, perhaps there is three items that I think are worthy of special mention in the quarter. The first is the $4 million pension settlement accounting issue that you see in benefits. It’s a quite technical accounting issue, but it is, in essence, if there are departures and/or outflows from our pension plans, and these were in the UK or Europe. It can trigger what is known as settlement accounting, which requires the booking if you will, the unrealized gains or losses in the portfolios. It’s a relatively technical accounting issue that we saw happen in this quarter for the first time since I’ve been CFO. The second item that I think is worthy to call out is we did take an action on the occupancy line, a $2 million settlement to allow us for an early exit from space. So, we think it has a longer term benefit, but came with $2 million line item in occupancy. And there is a last item that I will call out is we had a significant sequential increase in business promotion that you would see approximately $5 million above what, if you look at historical run rates for us. And that was really an opportunistic business decision we took to add additional advertising and marketing in support of two of our very important growth initiatives, which is around our mega market strategy and in particular our flex share ETFs. And the pricing in the market, the timing, was attractive and a decision was done to take that in the fourth quarter. So, that was $5 million increase that was within our control, the one that we felt would generate the right return for all involved. I would suggest those were items that are worthy of special mention for you to think about your models going forward.

We'll go next to Brennan Hawken of UBS.

So, wanted to touch-base, it seems like with the AUC movement in C&IS, I know, you touched on FX in your prepared remarks, Biff, but maybe unpacking that a little bit. Was that the driver of why we saw more or less flat sequential AUC, despite equity markets that were generally positive? Or was the headwind primarily given the rising yields, and therefore pressure on prices and bond markets?

No, the impact was almost all currency sequentially. In fact, I think, it was about 2 points sequentially for C&IS and that would have been a more normalized sequential growth rate historically. So, it was almost all explainable by currency sequentially for C&IS.

Sequentially, 2 percentage points of growth, have you actually said?

That's correct.

And then next, second question here. Have you noticed any changes in risk appetite in your Wealth Management client base over the past few months given some of the significant moves we’ve seen in the market? And how durable, if you’re seeing any changes, how durable do you think those changes might be?

So I think there's been amongst our client base a bit of sense of optimism, if I could say that. Post election we have seen some positive flows into the equities in the fourth quarter. And we had slightly negative fixed income flows. So I would generally say that we have seen a positive demeanor towards risk, assets in the portfolio. And we think about the term money and motion. So, our wealth clients think about either investment or in their own businesses or opportunities to do more M&A. We have just generally seen a tonal improvement, but not actual events happening at this point. But from an asset flow, we did see some move to equity some out of fixed income in the quarter, but a general tonally view from our wealth clients. Particularly given they also may be more optimistic about taxes which frees-up a disposable income as well.

We'll go next to Brian Bedell with Deutsche Bank.

Biff, maybe just focusing on the balance sheet., maybe if you can just review or refresh the leverage to LIBOR, say versus the 10 year in the loan and leases bucket in terms of getting through the 1% towards. How that might impact if we get commensurate move in LIBOR with the next debt hike?

I'll take a walk-through the balance sheet a little bit and the impacts from the rising rates, I think the best way to tackle. So if you look at our balance sheet, and I'm going to start with the securities portfolio and I know you talked long term leases, we'll get to that. If we look at the securities portfolio, roughly half of our securities portfolio, roughly half of the $45 billion, is what being the short-term portion of the portfolio. Those assets reprice relatively quickly and certainly under a year. And they are heavily impacted by one month and three months LIBOR movements, and more by one month than three month. So the way we think about that is, over the fourth quarter, one month LIBOR averaged, I believe, 60 basis points. If you use a point in time today, I won't project the average for the first quarter. I'll let you do that in your models. But that's closer to 78 basis points today. We anticipate seeing the benefit of that flow-through in the securities portfolio, inside that year timeframe, we saw it relatively quickly. So, that's a positive, if you will, for the short-term portion of our securities portfolio. On the loan portfolio, we have a very short duration, if you will, as well on the loan portfolio with a meaningful portion. Mark, will get you the exact number here if we get through it. But a meaningful portion floating, I think, around 75% floating…

75% repricing within one year…

Yes. So the benefits there are from three month LIBOR should flow through relatively quickly on that portion of the portfolio as well.

And are there floors to get through on those loans so that we should see more of the repricing in future quarters?

We'll get back to you on that. I don't believe so, but I want to confirm that when we follow back-up.

And then just on the core business in terms of, I guess, as we think of investment through going to next year. I know you want to keep that expense, because fee ratio improved upon that. But I would say how do you think about incremental margins to higher rates in terms of how you feel about project spend in building out the, mostly the assets servicing business, I guess, I would be thinking about?

Here’s the way we think about that. And to improve the expense to fee ratio, we obviously have to drive fee operating leverage. So our fees have to grow faster than our expenses. In periods of time where net interest income or foreign exchange is constrained, we view that we need to widen out that fee operating leverage to produce the types of returns our shareholders expect. If net interest income and other items strengthen, then that, we still want to improve and maintain that fee operating leverage and improve it, as I said. But the width of that or the amount of that operating leverage is something that we look at controlling, if I could. So, we still are absolutely committed to growing our fees faster than our expenses, and we did not achieve that for the full year last year. And I can assure you that that is something that is a focal point of the management team. If we do have the benefit of rising rates, we believe that they should widen out the total operating leverage for the firm, but we still want to see that expense to fees improved, even in improving rate environment, that's a key metric for us internally.

We'll go next to Alex Blostein of Goldman Sachs.

Just sticking up on that last point around the operating leverages, so to your point expenses to core fees were flattish, or that ratio didn’t really improved in fact over the last two years, I guess now. Despite the fact that this year you guys did for coupon, 100% of money market fee waivers in equity markets were generally a little bit more supportive, bumpy but overall it's probably somewhat supportive. I guess what are the reasons why we haven’t seen better operating leverage on sea side of the equitation in 2016? And since you think about 2017, what are some of the initiatives that you’re trying to put into place to, just to your point, to still focus on improving it?

So, you’re right, we had the benefit of fee waivers. Markets actually while up in absolute total the way they manifested themselves with the very rocky start, ended up not really being added and there were slight contractor year-over-year. And currency was also a meaningful contractor. So, they partially offset the waivers. So you’re right in that comment. More importantly in the question is what are the initiatives, and we’ve talked about many here. But let me try to give you something a little more tangible that we anticipate helping them. We are in production now with three areas where we are relying or using robotics to improve our efficiency right now. In 2016, those were probably in proof-of-concept, and were probably accruing expenses to get ready in 2017 actually in the fourth quarter of 2016 late, we put those in, and we actually now have robotics working on three key functions. There is a pipeline of other areas inside of our enterprise enablement operation where we are looking at things like further robotics, artificial intelligence, and that pipeline will manifest during the course of the year. But I hope it’s a tangible example to show that maybe the expense accruing for those in 2016, we will start to get the operational benefits of those in 2017 as they go up in running in live. And we continue to look at things, like our procurement function. One of the larger drivers of our outside service ramp this year was in market data. We continue to look at ways to reduce our market data cost from a procurement perspective as well. And what I will say sort of a usage perspective, are we using it appropriately.

And then shifting gears, I wanted to touch on just the wealth management business. Again, it looks like outside of the global family office, revenues are down a little bit, kind of flattish over the last three quarters, or so. And I understand that the timing and certainly the mix-shift between active to passive is weighing on this. Can you help us dissect that a little bit more, just thinking through the movement from active to passive, what are the relevant fee rates within that revenue category that we need to think about, and either bucket? And what is the percentage, maybe elastics that are active versus passive, for you guys right now? Because it feels like that fee rate continues to drift lower?

Let me break the components down a little bit. The active to passive shift that we talk about, we’ve absolutely seen that move up, but we don’t give that number out. So we’ve seen that move up from a modest percentage into something much more meaningful as we’ve seen that shift each year. And so that is one of the drivers. But we break it down a little bit into, what I would say, are the asset management fees and the advisory fees that we charge our wealth clients. The advisory fees has held relatively stable. We’ve seen less of a compression in what we can charge on the advisory line. It’s in the compression around the active to passive movement or other asset management products that has driven some of that flattening that you suggest you see in Wealth Management and we see as well in Wealth Management. So an example would be we’ve seen flows out of our actively and actively priced multi-manager mutual fund family into more passive solutions. That is absolutely a fee compression issue along that change. Advisory fees, however, to our clients, while under constant competitive environment really been able to remain fairly flattish. So, you got to break it into two, it’s really more of the asset management piece that’s driving that compression as opposed to the fees in total.

But we don’t know the relative sizing of the bucket range?

Actually, I don’t have the breakdown. We’ll think about that number.

We’ll go next to Geoffrey Elliott of Autonomous Research.

Could you help us understand the magnitude in million dollars of the benefit from a 25 basis point increase in short-term rates? It just feels like from the disclosures in the 10-Q and so on, it’s a little bit hard to get to a number. So can you help us to think about what sort of benefit we should see, and then how that breaks-down between what you’ve already got in 4Q and what’s still to come in 1Q?

So, we can’t give the exact guidance. I’m trying to repeat a little bit of what we said. If you look at our balance sheet and look at the pacing with which we would see the benefit of one month and three month LIBOR, largely impacting the short-end of the securities portfolio. And you can do your own calculations on that, and get to what the improvement in that is. The other exercise I would suggest that you look at is if you look at our improvement in net interest income year-over-year and take the balance sheet and make it comparable in size or look at any mix shifts, that’s all information that you would have. You can see what that drove in terms of the year-over-year improvement from the first 25 basis point hike. What I would suggest is that they just could be different with a second rate hike, and maybe that’s another factor in there. Also, the other thing would be to look at what the premium amortization is year-over-year and the impact of that that potentially could have on that year-over-year. It depends on the data, but the 25 basis points that we just saw will definitely be beneficial to our net interest income. And we don’t provide that guidance any further than that, we’ll let you do that in your own model.

I guess, maybe to focus on this a bit more. You gave some simulations, and the case and cues around for rates, 100 basis points higher, 200 basis points higher. But they don’t really seem to marry up with what we see in the financials, and there actually is a moving rate, I mean, I think on the 200 basis points, you’ve actually got a negative impact in there. So, is there anything you could do around the modeling assumptions on that sensitivity disclosure to get it a bit closer to what we see in reality, because otherwise it just feels like a disclosure that isn’t of a lot of value because it doesn’t seem to match up with what we have observed, in term the asset sensitivity seems to be a lot higher?

Well, first I would suggest that the disclosures that we put around our sensitivity of earnings are solely disclosure is done from a risk lens. It has above a projected curve, the returns above a projected curve. And the beta assumptions in there are derived from a risk lens from a conservative lens. So your assessment that it may or may not reflect exactly what would happen, it needs to be taken from an perspective of the risk disclosure. And I really can’t say much more than that, that’s where we’re at.

We’ll go next to Ken Usdin of Jefferies.

Just wondering, can you quantify for us, both on a fourth quarter and full year basis, what the impact of FX was on revenues and expenses?

Yes, we can. On revenues, for the full year, I believe it was 1% of an impact from foreign exchange drag on revenue, and similar on expenses.

And was it bigger, I meant year-over-year fourth quarter. I am just wondering if there was a bigger burden in the fourth.

Yes. So that was more on a full year basis. For the fourth quarter, on a year-over-year basis, the total revenue impact was closer to 0.5% with Trust fees being almost 2 percentage points, and then expenses also being 2 percentage points. As we’ve talked about before, we do have a natural hedge with revenue and expense coming through in the current season and we had a hedge, the difference in accordance with GAAP. So, we do see a net new pretax impact, generally. But it does impact, as you suspect, mostly the Trust fee and the expense growth. And then on a sequential basis, the Trust fee impact was almost 1 point of growth, which was also in line with what the expenses were as well.

So my follow-up is then just, if there was a 2% helper on the expense side then the fourth quarter even at some of the items, expense growth number was just really high. And just to your earlier point about managing expenses to Trust fees on a year-over-year basis, going forward, and now having that kind of nice helper on the NII side to alleviate some stress on that. I guess, the question is, you mentioned some of the initiative you’ve been investing in. But I think you guys had also talked about some other regulatory stuff still catching up this year, whether it was living will and additional CCAR expenses. So, is there anything else that you can help us understand that just might allow an absolute number of expense growth to be under better control as we go ahead as opposed to just focusing on the leverage equation?

So let me start with the regulatory portion of it. We are another year or in our fourth year of CCAR, and we continue to mature and have the right maturity base around something like that. And that was a -- has been a meaningful ramp in expense in '15 and '16. We are anticipating that that, the steepness of that curve flattens out, and maybe completely flattens out around the cost there. We haven't gotten feedback on our resolution plan at this point. So, I'm hesitant to give you any kind of feedback on whether our regulatory spend will go up or down from that. So that's an area in the regulatory spend where we certainly hope and particularly given maybe the regime with the new president elect. Perhaps, we could get some reprieve on the regulatory spend or certainly the trajectory slowing on that line item. And we continue to move on things like I said in procurement, particularly around market date and others, to help drive that expense growth rate that you’re talking about further and further down.

And one last just quick one, could you just talk about the impact of rates on either the pension expense outlook and premium am?

Yes, I will start with pension. The rates that we would have, the discount rate would be down from 4.71% to 4.46%. So net of that plus our expected return on our portfolio coming down. The net impact is very-very modest expense increase year-over-year, very modest, I think.

Yes, and you'll see that when we do our 10-K disclosures as well. And then there is one other part, Ken, I think.

Just on premium am, as you think, contemplating them?

Yes, on premium am, if you believe that that will slow down the refinancing, that should be beneficial to the premium am in our portfolio, if we think that will slow down, again, the refinanciangs that you see, which intuitively makes sense, unless there's some type of rush before a rising rate environment that impacts that. But we had seen historically the fourth and first quarter are the more favorable, and then the second and the third are where we see more unfavorable impacts from that, just from a seasonal perspective. But the rest, I guess, would be based on what we're seeing in the markets from housing and refinance.

We'll go next to Betsy Grasic of Morgan Stanley.

I just wanted to follow-up on one of the comments you made earlier around the project that you've got with robotics. And I wanted to understand what that was, what that kind of test phase is all about. And when and how you plan on rolling that out into production?

Yes. So, we actually have three areas of production, but one I discussed with our Chief Operating Officer today is, if you think about a function, such as reconciliations they have a very automated component-tree to it. We have looked at certain elements of our reconciliations, and this proof-of-concept testing, if you will, in 2016 and are now actually utilizing certain elements of reconciliations with robotics type solution. So that's one example. There were actually two others in production, and I'll leave those to let you know in future quarters. But that's one that we were comfortable discussing here. So, we were in somewhat at expense mode and now we hope to start to see some of the economic benefits of those as they come online, if you will, during '17 and '18.

Are these, like marginal benefits or are these more big enough to enable you to scale faster, or actually bring down costs?

So, in the early quarters, it would probably be incremental to what you said, and on the margin. But we believe that the portfolio of these opportunities is something that will be able to help us address the expense structures that you're talking about. Anyone individual may have some incremental approach, but we've got a portfolio that we're investing in over this year and next year. And we believe the combination is helpful to that expense, the fee [technical difficulty].

We'll go next to Brian Kleinhanzl of KBW.

I had a quick question on the tax. I know with the change in accounting now for compensation, there's lot more volatility in the tax line. But how should we think about that going forward now, especially with the ramp in the stock price? Does that impact as well, so that now we look out to '17 and '18, we should be lower than we are at least in the fourth quarter?

Sure. Yes, you're right. We did the early adoption ASU 2016-9, which is for share accounting. It was beneficial for the entire year, I think, to the tune of about $12 million of provision. And that was largely a factor as we saw larger equity transactions in the back half of the year. So, that helped improve that benefit. But another thing, perhaps more core to improving the tax rate too is, as we have greater earnings from abroad and we bring more legal entities into our APV23, which we look at from time-to-time and assert to, that too has the benefit of lowering the effective tax rate. So, we worked pretty hard this year to work on those things that could help improve the effective tax rate. So, I think if we look, we don't give guidance. But some of those items produce permanent tax benefits or tax benefits if we accrue earnings in those entities.

We'll go next to Gerard Cassidy of RBC Capital Markets.

Question on broader picture, I think, this year you were going to start to see the baby-boom generation start to be forced to take money out of there, their defined contribution plans because of the age requirement. How do you guys look at that over the next three or four years affecting any of your businesses on the assets under custody in terms of having customers have to take money out from the funds that are managing that money?

That’s a good question, I saw the same article. I think the first-generation of baby-boomers have reached that mandatory withdrawal age, right I think, this year. So, we think throughout that we bring a holistic capability. I mean, we really think about what I would say is a life-driven Wealth Management approach. And it recognizes that as you reach certain stages in your life, maybe this is the mandatory withdrawal stage. We got other products and capabilities and help them understand the tax consequences and the reinvestment of that, if you could, from a defined contribution or other plan into other assets that quite frankly marry with where they are in the stage of their lifecycle. So, the question would be, I think, does it impact our AUC and our C&IS business, or does it impact our Wealth Management business. It’s going to impact both, right. So, I can give you the wealth perspective. On the C&IS side, as those assets come out of defined contribution plans, we have a smaller book of business around defined contribution than we do define benefit in general. But we do have a meaningful defined contribution. The pension portion is not as driven by this as the mandatory withdrawals from defined contribution. So, I think, I want to make sure you were asking about it from a wealth perspective or from a AUC in our custody business perspective, to make sure I answered it the right way there.

No, you did. And thank you for addressing in both the areas, I appreciate that. And getting back to robotics, obviously, you talked about how it’s going to maybe reduce expenses and be more efficient, especially in reconciliation and things like that. Is there any use. Because I know you’re very high-touched in talking in Wealth Management. But is there any use of robo-advising for you guys at some point in the future, do you think?

So we certainly monitor that world. And as we think about inter-generational components to our existing wealth, many want to use something that looks that way. We would believe that our Goals Powered solution application is a form of a high technology, high touch component. It is a very sophisticated way using technology to address the holistic wealth needs of our clients. And so when we think of the assets we have that utilize Goals Powered solutions, it’s quite frankly bigger than the sum of almost all the large robo-advisors you would think of. It's much larger than those in total. We just haven’t necessarily marketed it externally as a robo-advisor or a fin-tech solution. It very much is a high tech rolled-out solution in our wealth space, and has been very widely praised by advisors and widely praised by our clients in terms of its applicability to both, what I’d say current generation and future generations that use it. So, it’s a powerful and important tool.

And we have no further questions. That does conclude our conference for today. We thank you for your participation.