Good day, everyone, and welcome to the Northern Trust Corporation Third Quarter 2017 Earnings Conference Call. Today's call is being recorded. At this time, I would like to turn the call over to Director of Investor Relations Mark Bette for opening remarks and introductions. Please go ahead.

Thank you, Nichole. Good morning, everyone, and welcome to Northern Trust Corporation's third quarter 2017 earnings conference call. Joining me on our call this morning are Rick Waddell, our Chairman and Chief Executive Officer; Michael Grady, our President, Biff Bowman our Chief Financial officer, Aileen Blake our Controller and Kelly Moen from our Investor Relations team. For those of you who did not receive our third quarter earnings press release and financial trends report via e-mail 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 to guide today's conference call. This October 18 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 November 15. 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 expectation 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 2016 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 Rick Waddell.

Thanks Mark and good morning everyone. I join Mark in welcoming you to our third quarter 2017 earnings conference call. As you all know, late yesterday we announced that I’ve decided to step down from my current role as Chief Executive Officer, effective the first of next year January 1st. And I am very pleased to report that Michael Grady will be assuming the role of Chief Executive Officer next year in addition to his current position as President. As we stated, I will remain Chairman of the board. The announcement reflects what I can assure you is a robust and deliberate success in planning process that was undertaken by our Board of Directors, personally I’ve been thinking about this transition for 10 years, because I think it’s extraordinarily important for the CEO of any company to develop a management team and a group of successors to take his/her place and I’m very proud of that. All of you are familiar with Mike from his previous role, many of you, and his service as our Chief Financial Officer. And you won’t be surprised, you shouldn’t be surprised to know that our board, myself obviously and our management team and all our leaders are deeply confident in Mike’s ability to lead Northern Trust as CEO. I look forward. Honestly I look forward to continuing to work with my Mike in my role as Chairman and we will – I’m going to answer any questions you have about our leadership changes during the Q&A period after our prepared remarks. Before Biff walks you through the numbers, I’d like to give you some specifics in the comment on our value for spend initiatives that we announced in our third quarter earnings release yesterday. As you all know, we’ve been focused on driving greater efficiencies across our businesses for some time. And value for spend which is what we’re calling this is a companywide expense management initiative that we believe is designed to create the capacity for additional investment and growth. And I want to underline the growth aspect of our strategies, you see in our top line, we talk about where we’re growing this company and creating that capacity is important. Through value for spend, we will embed new expense management discipline across the organization. And I can assure that we understand the important to the organization on executing on the value for spend initiative and we look forward to providing you update as we have done in the past on our progress in this area. So now, let me turn it over – turn the call over to Biff. Biff?

Thanks, Rick. Good morning, everyone. Let me join Rick and Mark in welcoming you to our third quarter 2017 earnings conference call. Starting on Page two of our quarterly earnings review presentation, this morning we reported the third quarter net income of $298.4 million. Earnings per share were a $1.20 and our return on common equity was 12.2%. This quarter’s results included a $17.6 million tax benefit related to Federal and State Tax research credits. A $4.3 million tax charge related to an increase in the Illinois state deferred income tax resulting from an increase in the Illinois income tax rate. Expense charges of $7 million associated with severance and related activities. And acquisition integration expense of $3.5 million associated with the acquisition of UBS Asset Management’s fund administration units in Luxembourg and Switzerland. Our assets under custody and administration, assets under custody and assets management increased 14%, 16% and 19% 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 third quarter. Equity markets performed well during the quarter. In U.S. markets, the S&P 500 ended the quarter up 16.2% year-over-year and up 4% sequentially. In international markets, the MSCI EAFE Index was up 15.9% year-over-year and up 2.8% sequentially. Recall that some of our fees are based on lagged market values and second quarter markets were also up compared to the prior year, as well as sequentially. In bonds markets, the Barclays U.S. aggregate Index was down 3% compared to the last year and up one-tenth of a percent sequentially. Currency volatility as measured by the G7 Index was 20%…

Thank you. (Operator Instructions) And we will take our first question from Brennan Hawken with UBS.

Hi, good afternoon.

Hi Brennan.

Yeah, thanks for taking the question, appreciate it. And congrats to both Mike and Rick on the announcement last night, it’s great. Just want…

Thank you.

Sure. Just wanted to ask a quick on here on expenses and the program. I think you guys – it’s great to see here with the release and you have highlighted that this positions you well and well with the focus on instilling discipline throughout the organization. Just to clarify, you also had said though that you wanted to free up capacity to invest. So what I’m trying to think about as far as looking forward the impact of this program, it’s my understanding that you guys have always been investing for growth and that’s been a priority in order to maintain long-term value in the franchise. And so when we think about the impact of this $250 million program versus last night right before we knew about it, how should we think about the impact to how we’re previously thinking about your bottom line and expense trajectory, is the idea that the $250 million will go to the bottom line and your continued investment would remain the same as we were expecting previously or will this $250 million free up greater capacity to invest and therefore the $250 won’t end up falling to the bottom line in the end?

Let me start with this, I would say as Rick pointed out in his comments and I will say here again that, we have always focused on growing our franchise. What this initiative allows us to do is to increase the profitable growth trajectory of our firm. But we still are doing this to ensure that we can invest in those targeted areas of our franchise that we think generate the best return and the best return on equity to our shareholders. So these initiatives align our expense base and our – and the growth in our expenses more in line with our organic growth rates and they do allow us to invest in those targeted areas that we describe at many times on these calls whether that’s in our wealth management franchise or asset management franchise or asset servicing franchise. Mike, I don’t know if you want to…

Okay, you got it.

So, we think this will allow for the trajectory of profitable growth to continue to improve with these initiatives, but there will be growth still in our franchise.

Sure, sure. I totally appreciate that and it’s been a long-term priority of Northern. Okay, so I guess thinking about the $250 million over the next few years, I know the end result is 2020. So, how should we think about the various years and when these benefits would begin to impact results that we might actually see in the expense trajectory that we would see?

Yeah. So, a couple of things here, one, as we said, we will update you as we proceed through the program but we do believe the progress will be fairly evenly distributed across the horizon we’ve laid out for you. So there will be some initiatives that come in at different times and there will be some variation in the size and the magnitude of those, but it’s probably best to think of it as a fairly evenly distributed improvement across that $250 million expense initiative program we laid out.

Okay. Thanks for taking my question.

And we’ll take our next question from Michael Carrier from Bank of America Merrill Lynch.

Thanks guys. One other question just on the cost and the efficiencies. And Biff, I think you’re kind of getting to this but if I look at sort of the core expense growth that you think you need for the business, it sounds like you maybe had some investment initiatives recently and that you should be long-term like in that mid-single digit so I don’t know if it’s 5%. But just want to understand is that how you guys think about the core for investing and operating the business and a lot of the – I don’t know if it was the ramp up in spend, whether it’s regulatory related or other initiatives that’s starting to moderate and so we shouldn’t see this elevated spend going forward.

Yeah, couple of points on that. As we said in our prepared remarks, calibrating the expense growth rate of the firm more in line with the organic growth rate that you just described is one of the outcomes of these initiatives, so getting that $250 million out gets that relationship that are co-related. And the second part of your point is, we have had investment as we talked about in our risk infrastructure and other areas that we’ve build out over the last three to four years that we think, I think the best we’ve bent the curve there to flatten out that expense trajectory which should allow us to get our organic growth rate closer to the expense growth rate that we think is a firm is better aligned. And this initiative should create that alignment over the next three years that we laid out.

Okay, thanks. And then just as a follow-up, just on the balance sheet and net interest income, maybe just the outlook or what you’re seeing in terms of deposit betas the level of non-interest bearing deposits that’s come down, based on the interactions with the clients, where do you think you are maybe in that process? And when you look at some of the, maybe the international money that comes in and is, you know, it’s somewhat pressuring the net interest margin on the balance sheet. Are there other like options or cash products either that you can be offering and maybe you’re already doing this but in terms of like money market funds or something to offset maybe some of that pressure even though the overall relationship remains favorable.

Yeah, sure that’s a big – there were a lot of questions on there, there is a lot of detail. Let me walk you through a few of those answers if we take a look at how we think about the deposit betas first. If I look our retail deposit beta, it has stayed relatively low, it moved up modestly from Q2 to Q3 but still is low on the retail deposit beta. On the institutional beta that we’ve seen, it has migrated north, it has migrated higher over the last two quarters. I would highlight that what we described coming out of last quarter, we have the ability to re-price our balance sheet daily and in periods of time if our market was higher or if our beta was higher or lower than the market we’ve been able to adjust that and have taken some of those actions in the third quarter. So we have seen that beta begin to rise on the institutional side but still flat. We’ll see with another rate hike if it manifests in December if that’s a trigger point on the retail or wealth side in particular. As it relates to non-interest bearing deposits, the second part of your question was, how do we think about non-interest bearing deposits, and let me walk you through our non-interest bearing deposits to give you some color as to the breakdown of that. About $21 billion to $22 billion in non-interest bearing deposits, and the way we think about it is, about a quarter of those are wealth management deposits, those have traditionally been sticky non-interest bearing deposits. A quarter of those are cash management or treasury management related deposits, those two have been there in support of operating business. That leaves about half of the remaining…

All right, that’s helpful. Thanks.

And we’ll take our next question from Alex Blostein with Goldman Sachs.

Hey Alex.

Hey guys, hey, good morning, sorry good afternoon I guess. This snowfall operating expenses, I just want to kind of clarify couple of things. So, if I knew you correctly Biff, it sounds like mid-single digit kind of expense growth is what you’re targeting. And I just want to make sure or heard you correctly that $250 million is inclusive in this mid-single digit growth. Is that right? A, and then B, maybe the easier way to think about it is just to kind of help us think through the expense to fees ratio or target that you’re hoping to get to by the time this program is done so kind of 2020, what do you hope to be assuming your goals for organic growth kind of normal markets in this expense program, I just think it’ll clarify things a lot. Thanks.

So the first part of your question is right, it is correct, the $250 million is in that calibrated ratio that we talked about which is organic growth rate and the expense growth rate of the firm. In terms of the expense to fee ratio, I think what we would describe to you is, we talked about our focus on driving fee operating leverage into our business on a regular basis, that will inherently drive that ratio down from the 108, 109 levels that it is today on a continuous path. We are not putting a firm target out there because we need to continue to drive that ratio further down through that fee operating leverage I just described. And again I would highlight Alex that for some of our businesses, if we put one target down it’s different by business and I internally as well as externally, we don’t want to necessarily anchor to one number. If we do anchor to driving fee operating leverage into our franchise, that will inherently bring that ratio down overtime and we’re going to continue to talk about that and describe the progress we make.

Got it, thanks, that’s helpful. Second question just kind of going back to slide 10 where you guys outlined various initiatives and sort of, kind of the history in the targets. When it comes to returns, you say optimize. Can you spend just a minute on what that means whether you’re talking about just return of capital going higher, utilizing balance sheet slightly differently, growing the balance sheets in various areas, just you guys obviously have lots of excess capital, that’s always been one of the key pillars for Northern Trust and I’m just trying to think about if something is different when we should think about excess capital utilization in that comment.

Yeah. I think you’re thinking about the right way. It’s opportunities that we can both optimize the capital and the strong capital position we’re in, it’s ways that we can put that to work and whether that’s utilizing our balance sheet, you will have seen in this quarter that we did some I would say relatively modest leveraging but we’re in this position of capital strength and we’re able to do that to generate some incremental net interest income for instance. We can put it to use if the demand is there in our securities lending business, we can put that capital to use in there. But we are talking about generally optimizing that capital that we have, if we’re not in a mode where we’re returning it through share repurchases and the dividends, obviously we will do with regular dividends but if we’re not in the practice of share repurchases then how do we put that to work, and that’s what we mean by optimizing our capital and liquidity to enhance returns there.

Got it. Thanks for a clarification on both fronts.

And we’ll take our next question from Glenn Schorr with Evercore ISI.

Hello there. I guess just…

Hello Glenn.

Hello. I would just wanted to see if I sum this up correctly, I hate putting words in people’s mouths but I feel like what you’re saying is, we’re going – we still want to grow, we’re going to do it hopefully at better ROEs. No commitment on pre-tax margins, operating leverage or expense to fee target but hopefully those goes hand-in-hand and the share accounts not likely go down because we’re – we’d rather grow that’s a better use of our dollar. So when I add that up, earnings still grow nice, it’s just –it feels like just a sharpen version of the same Northern story, that’s not a bad thing, I’m just making sure I got it all right.

Yeah, Glenn, it’s Mike. I would say that’s the case. Just to broaden out on it a little bit, so we feel like the business is extremely well positioned. And I say that from the perspective of thinking about wealth management, asset management or asset service business and the market positions that we have, the segments that we’re in and the growth that we’re experiencing right now. And when we look at the opportunity, we think that we can continue to grow at an above average organic growth rate. At the same time, in order to do that, it does require investment. And what we’ve seen over the last few years is, in order to attain that organic growth that essentially we’ve had to invest at the same rate, and so we’re not improving what we would consider this, the overall productivity for the business and not seeing the level of increases in returns that would meet up with our expectations. And so as much as we’ve been focused on productivity going back to driving performance and through then, so it’s not as though we stop thinking about productivity. We’ve just acknowledged the fact that we have to be even more discipline around attaining that profit, that productivity. So, putting more initiatives in place and being more discipline around the tracking of those both internally and externally so that to your point we can continue on the same strategy which we think is attractive but improve both the profitability and returns of that growth.

And Glenn, it’s Rick. I’ll just eco what Mike said and Biff has said. I think that external focus, I mean you all have asked for more transparency and more clarity around these initiatives. We’re – we intend – we’ve given you a number internally that’s the number we’re going to talk about and we have a variety of initiatives. I think that brings discipline and I mean the fact that we’re going to – we will continue to update you as we did in the past around things like driving performance and where you saw us make that progress, I think we need to be held accountable for that – for those update. So, I think it is the same strategy, we’ve got a lot of moving parts, they were all good parts but we’ve got to execute on those and we’ve got to show you the results, and I think that’s different. I mean we – you’ve been asking for this, we’re now giving you, we got a number. And you may like or not like the number but that’s the number, we expect to beat that number, but it’s going to take work, it’s going to take a lot of hard work and we want all the – we want the discipline, we want everybody behind it and so I think that is what is different this time, not different in the past because we’ve had these initiatives underway. But I think that’s a major difference, and one that we heard from you all that you want it going forward.

Great. I appreciate all of that. Thank you.

Our next question comes from Ken Usdin with Jefferies.

Hi Ken.

Thanks guys, thanks. Hi guys. One more different way of asking about leverage, so Biff, when you talk about organic fee leverage and you talk about managing the expense growth rate relative to that organic fee leverage, what are you including or not including in organic fee leverage? Because my second part of the question is, if the markets are helpful to that, if rates are helpful to that, will you still be committed to managing that fee operating leverage no matter what and then also on the downside, what happens if organic fee growth slows, will you have flexibility to manage underneath as well? The commitment to that underlying leverage is really the main question.

Yeah, let me back up just a bit. I think we’ve talked about trying to generate fee leverage is what we’ve talked about. But to do that, we wanted to focus on those items that we have the most control over, which is new business primarily on the fee line with markets creating and currency creating movement on that but primarily new business on the few line and on the expense line it’s primarily our control of the expenses inside of our franchise impacted by currency is kind of stripped out. What we think about is, we want to generate that positive fee leverage and so to do that, we recognize it overtime markets and currencies and rates are going to – markets and currencies primarily are going to move around. We want to focus in on those things that we can. On the expense line that’s making sure that our expense growth rate is more closely co-related or tied if you will to the organic growth rates that we see in our business. And I hear you’re saying those can move around too and that’s where we have to have the disciplines to try to move the expense rate if the organic growth rate slows for whatever period in that time. We’re trying to get those calibrated. What we’re not saying here is that we’re going to publish a organic fee leverage ratio or that we’re going to describe that in great detail each time, but we are using it internally to help calibrate the growth rates for our franchise, particularly on the expense side.

And Biff, I guess is what I’m really getting at is, in a market that we’ve got right now where we’ve got rates up a 100 basis points, we got markets up 16%, that’s the extra stuff. But the expense rate this year obviously has been elevated for several reason, so going forward, with help from the markets result in kind of extra leverage to that? Again, is the commitment to just kind of driving that incremental profitable growth that you’re talking about I think is still key to discipline going forward.

Yeah, I mean I would say that’s where a lot of it comes, that improvement in markets for example should drop to a positive fee operating leverage.

Yeah.

And what Biff is saying, when you strip out markets rates currency that we are looking to still have positive fee operating leverage on an organic basis, definitionally. And on the downside, I would say, to the extent that you get into a very difficult market environment, you still have to react to that as well which we have in the past.

Okay, thanks guys.

Thanks.

And our next question comes from Brian Kleinhanzl with KBW.

Hey Brian.

Yeah – hi, how is going Biff? Quick question on the AUM and AUC growth, both are pretty strong quarter-on-quarter and you called out a couple of different things between market returns, flows and effects. But can you maybe break that down a little bit further into the individual components there may be on a percentage basis as to which was, what was the contribution from market returns, flows or new business and the FX?

Yeah. If you’re talking AUC first or do you want AUC and AUM both?

AUC first is fine.

AUC was roughly 40% driven by flows and 60% driven by I would say markets and currencies roughly. In AUM…

Yeah, AUM would be similar but a little bit less on the flow side on a sequential basis on AUM.

Okay. And then a quick question on the UBS asset management as you’re bringing out, so in UBS’s disclosure they – now that that there was a three basis point gross margin on the business, I think you said it’s going to be $35 [ph] million annual run rate revenues so it implies $1.8 billion – or excuse me, 1.8 basis point fee rate. Is that just a cost of doing business and outsourcing that was just the reduction in fees there?

No. What that reflects is what you saw in there disclosures was the full array of products and services that they provided to those clients. There are certain elements of those services that Northern Trust did not acquire if you will or will not be providing. So, we were not providing what you would say was the full three basis points that they disclose value of services, so we did not acquire all of those.

Okay, great. Thanks for taking my questions.

And we have a question from Brian Bedell with Deutsche Bank.

Great. Okay, thanks for taking my questions. And congrats to Rick and Mike as well. I mean Mike, a question for you on the – how you view the competitive position in terms of in the context of the cost save program to what extent do you see a need to spend more expensively in one area versus the other, and specifically where I’m getting at is, is that a servicing in terms of how you’re competitively aligned there versus wealth management do you see of the cost save, do you see more of a need to incrementally spend on growth initiatives in servicing versus wealth management or vice versa?

Sure. So, the first type of investment I would talk about because it runs across all of the businesses is in technology. And how we are investing our technology dollars both to enhance the client experience for each of those businesses but also to be able to provide those services more efficiently, and do so in a much more digital fashion than the way it’s been done historically. And that is a key driver of investment where we get benefits across all of the businesses. And then to your point beyond that, the nature of the investments are different in each of the businesses. If you think about wealth management, again we’re very well positioned with that business primarily in the U.S. but from market-to-market we have different levels of market share if you will. And so if you think about some of the markets that we have not been in as long historically and have lower market penetration, then we need to make the investments in the form of hiring people, marketing, those types of investment dollars. Biff mentioned the gold tournament this past quarter, and that’s an example where we have previous done that on the West Coast. This year it’s been moved out to the New York area, that’s an area that we have lower market share but growing, and an opportunity for us to invest dollars and change the trajectory if you will of the growth rate for wealth management. In asset management, it comes in the form of having to hire new people and develop new products. Again a perfect example of that which we’ve talked about before is our ETF business where going back six years ago was – didn’t exist but it was launched and now we’re up approximately $15 billion and over…

That’s a great color. And maybe just to segway into that, I was going to actually ask about the profitability of the UBS, Biff as you brought that on, is that coming in at margin levels excluding the – any charges through an operating basis – margin levels that are similar to your overall franchise. And then you mentioned the idea potentially doing more types of deals, I guess what other areas within asset servicing do you think you might want to expand into the M&A?

Yeah. So, as we talked about, the primary growth opportunity is organic, it’s not to say that we won’t consider additional acquisitions like this but just to be clear on it, we don’t view it as a consolidation type strategy in that business. And to the first part of your question, as Biff mentioned, on an operating business – operating basis, excuse me, the UBS acquisition is profitable from day one but it is a pretty significant integration that we have over the next several quarters. And as we get the business completely onboard, move off of any transition services agreements, then the profitability is consistent with the rest of our business.

Got it, got it. Thanks so much.

And we have a question from Betsy Grasic with Morgan Stanley.

Hi Betsy.

Hi, I have a question. Just want to follow – hi. Just want to follow-up on the last question around the integration cost, I know it’s a ticky-tacky question but I think you mentioned $8 million to $10 million coming over the next year. Is that going to fade like a straight line from 3.5 this quarter or do you think that it’s a couple of more quarters around 3.5 when it falls lower levels, I’m just trying how to model that as we’re thinking about our estimates for 2018?

So, the $8 million to $10 million that we described in the fourth quarter includes both integration and direct transaction cost associated with this. So there is, and that’s not backing in the [Inaudible] and others that are directly associated with the close. So the integration expenses from meaningful amount lower math as we said in the last…

Got it.

...in this quarter was 3.5 and you can probably back out of that $8 million to $10 million whatever you think the transaction of fees were and think about that as a more normalized integration expense run rate.

Yeah, and Betsy I would say that we’ll – on the January call we’ll provide an update of what we experience from the fourth quarter and try to break that out for you in better detail.

Okay, all right. And then separately, if it’s planning on shrinking the balance sheet a little bit here as we go through the next 12 months, could you give a sense as to whether or not you think that’s going to be impacting your business and how to manage for it?

Yeah. Our current pass view on that is that it – given the orderly nature of what they’ve described and sort of what I’ll call the incremental approach that they’re taking to the balance shrinkage that the impact should be fairly modest and moderate. So, at this time we don’t think that we’ll have a material impact on either deposit attractiveness or yields in the securities portfolio, not meaningful.

And is there an opportunity to potentially reinvest with a little more duration as this fed action comes through, are you seeing a little bit shorter on that, I’m just wondering if there is any yield pickup that we should be expecting overtime?

Yeah, so as we said earlier, we on a regular basis look at ways we can optimize the balance sheet whether that’s through duration or credit or other uses of the balance sheet and we – we continue to look at that. And if you think you’ve got a raising right environment, whether this is the right time to add duration or not is something we look at very closely.

Okay. And then just lastly on flex shares, wondering if you could give us an update on how that’s going and what kind of take up that you’re seeing?

Yeah, flex shares continues to grow nicely. We’re at about $15 billion now and over 20 different strategies within flex shares. So, going well and I would say continues to be an area of focus for us. Just to remind you, again those are not index oriented directly but rather either factor based or some type of tilt strategy to them. So, we’re not looking for just volume there, it’s what we believe to be strategies that are of interest to the client base that we have.

Okay. Okay, thanks so much.

We have a question from Jim Mitchell with Buckingham Research.

Hey good afternoon. Biff, maybe a question on the balance sheet, you think the average positive up about $400 million but the balance sheet was up $2 billion or so or a little more, $2.5 billion. Is that just some odd moving parts or is that part of your deploying capital strategy maybe increase leverage a little bit to – because that’s a higher return in buybacks. How do we think about the increase in the balance sheet this quarter?

Yeah. So, it was definitely a deploying capital with some additional discretionary leveraging we do would be deemed I think to be very low risk discretionary leveraging, placing it in typically fit deposits and elsewhere. So, it’s a pretty low risk leveraging strategy but that incremental $2 billion was – generally we leverage around $3 billion and this quarter we moved it up to closer to $5 billion in the quarter of deploying…

And that should be pretty sustainable.

Yes.

Okay. And then maybe just on the premium amortization, given the kind of the backup in rates of the late, should we expect – I know there is a bit of lag in terms of how that impacts you’re the NII and then there are some seasonality to, how do we think about fourth quarter on the premium amortization side of rates stay where they are?

Yeah, historically the fourth quarter has been low and premium amortization. And if you look over the last few years, it’s been the second lowest quarter, the first quarter is typically the lowest. Plus what you described is the macroeconomic factors that are going on right now that would tend to lead us to believe that that will be lower and certainly lower than the third quarter and the fourth quarter.

Right. No way to size that…

Not – it might be a little premature to size that at this point but as we get greater clarity on that and have a public forum, we’ll discuss with that.

Okay, thanks. Thanks.

Our next question comes from Jeffrey Elliott of Autonomous Research.

Hi guys, it’s Elliott from Autonomous, thanks for taking the question. Just operationally, how do you think value for spend is going to compare with driving performance? What are the differences going to be in terms of focus when you’re working on this initiative?

I’ll start, I’ll let Mike or Rick comment. So when we described driving performance, that was also a $250 million but that was a combination of revenue and expense, and what we described here is expense first of all. So these are all buckets of expense initiatives. This has, as we described sort of three legs to the stool, the productivity, the sourcing and I’ll call it alignment – organizational alignment, so if you think about this it’s how are we structured and are we efficient in that structure, how do the processes we have to process trades or to complete work operationally, are they optimized, could they automated, could they – tools like AI robotics assist in that. And then the third leg of where we think we can get after these is in sourcing. An example I would give to you there is manage services. We are looking at outsourcing if you will the management of mainframes and other pieces of our technology. So, inside those three buckets is where we have a series of initiatives. We do have line of sight to those initiatives. And as Mike said it’s – and Rick said it’s about the execution of those initiatives now.

And then just back to the comments about expenses tracking in line with organic growth, I guess another way of looking at that is to say, if all the growth you have is organic if markets are flat, then growth is all going to be organic and revenues kind of track in line with expenses and margins stay where they are. Is that the right way to think about it or do you think there would be some scope to [Inaudible] margin improvements in that flat market environment?

Yeah, if you think about that framework, we would like to be able to have organic fee leverage as well to your point, that is a – we’re not there today if you look at the financials we have. But to your point, if all that we had was organic growth and markets gave us nothing, we would still like to be able to see some organic leverage in that business. This $250 million helps get us to a point or very close to that point of doing that. Hopefully that answers what I think you were trying to get out there Jeffrey.

Okay, thank you.

Thanks.

The next question is from Mike Mayo, Wells Fargo.

Hi. I have one very concrete question and one very big picture question. The concrete question is, can you give any earnings guidance for value for spend, I guess there is three choices, one is where we have some of the $250 million of savings for the bottom line in 2018 or 2019. Choice two is you pay as you go, as you get savings you invest or choice three is, you assume a earnings hit as you invest in people, products and technology with a delayed payback. So, should we be increase – just for value for spend if you can give guidance, were you increasing your estimates keeping them the same or lowering them?

Well, Mike, we don’t give guidance, forward looking guidance on that. So, I appreciate the question but I – I’m not sure that we can give you guidance as to whether we’re going to increase our numbers or flat or have them decrease as a result of this. So, I’m not trying to dodge it, I just – we don’t provide that kind of guidance.

Okay, but should we think of this as, as you get the savings you’ll be investing more in people, products and technology or I guess where I’m really trying to get to is, which external metric should we track, you mentioned that you have some internal metrics like organic fee, ratios and things like that. Externally, I get by 2020 you’re looking to be on the high-end of your ROE target of 10% to 15%, so that’s pretty concrete but what other external metrics should we look at with the external filings?

I think the expense to trust fees is a ratio that we’ll give some clarity as to the improvement we’re making and the success we’re having on this initiative. I think that’s a pretty critical line item for you to measure.

Okay. And then the big picture question, and correct my numbers, but when I look back a few decades I’m looking for the big picture CEO perspective here. Northern had revenue growth of 13% in the 90s, 6% last decade and 4% to 5% revenue growth this decade. Always exceeding period but certainly a lot less than it was in times past. Is that the backdrop for saying that you want to now have more profitable growth, are you assuming that we’re more in this kind of mid-single digit revenue growth for several years to come?

Mike, its Rick. Your history lesson is resonates very well, because I remember the heady 13% days and we – it’s obviously tracked down lower. But part of that is, the interest rate environment and what we’re saying is, you go through a decade of no changes in interest rates, it affects our revenue growth. All the while we’re trying to manage this growth thing because our – the markets in wealth and asset servicing and institutional asset management are really, really great markets to be in. Organically they’re terrific and they attract a lot of competitors, so we have to be competitive to operate in those market. So, if you can tell where interest rates are going to be in the next 10 years or where the market will be, it makes our job a lot easier. So, what we’re really saying is we’re trying to get the expense growth rate more in line with those important revenues that we control which are trust fees, broadly speaking. And we think we can grow those trust fees and I can’t – I mean we’re not going to tell you whether we can grow on that 4%, 5%, 6%, we’ve grown close to double digit this past quarter but there is market in there. But organically we’re trying to find out what that level of trust fee growth is and kind of match off our expenses against that, and that’s the model that we have. Those numbers you gave would include net interest income and lot of other things which again foreign exchange – the foreign exchange market structurally changed big time, securities lending structurally changed over the last 10 years. So, we have to – we have to deal with that but we also have to make sure that our expense phase is lined up against these very attractive markets where our trust fees are the most important source of revenue.

And then lastly the handoff Rick from you to Mike, any nuance changes in style, clearly you’re a part of that decision process and Mike, what should we be looking for that might be a little bit different?

Well, I’ll go first. First of all, Mike is a lot taller than I am. So, that’s not very nuance. I’ll say that just, he is very, very smart. He is a Harvard MBA, so he is the numbers guy and I’m the Kellogg MBA, I’m the marketing guy. So, if you want to read Mike a little nuance into that, Mike is different for all the right reasons, and he will bring a fresh set of eye he has. I mean he has been with us since upon 2011 as our CFO and I said that when I gave the job [Inaudible] poor you, you got to follow Mike as the CFO and just doing a great job. But Mike brings a different perspective and he has all the qualities of leadership that I think and the board importantly are important at this company. He is humble, he has low ego, he connects with people and I don’t care whether it’s the CEO of a Fortune 100 company or the teller at downstairs. Mike has an ability to connect with people that is very, very important in our culture and in this organization. So, not so nuance there but that’s how I viewed it and it’s clear how the board viewed it. Mike, you want to add to that?

With all those nice things I probably shouldn’t add anything, but I would say clearly that there are number of things that won’t change. So things like are principles are not going to change, our culture is not going to chance, the strategy has worked extremely well. Now, we look at that strategy on an annual basis and obviously on an ongoing basis through a very robust process but right now as you’ve heard, we think we have the right strategy and we think we have great opportunities and then it comes down to execution. And that’s where I think these differences maybe in either backgrounds or approaches or personalities play through is just how we then execute on that strategy. The last thing I would say is, Rick is obviously been just a tremendous leader through that time period. I think you all recall, his first day was January 1st, 2008 as CEO, so that an interesting time to have to take over a financial institution and took us all the way through this time period. But I would also say, this is a team sport. And so, Rick was leading the team and in the same way the rule that I have going forward is to lead the team and I think we have the best team.

Thank you.

And we’ll take our next question from Gerard Cassidy with RBC.

Thank you. Hi Biff.

Hi Gerard.

Question, you’ve given us good color on your deposits in such on the balance sheet, and you talked a little bit about leverage. What I noticed was that the end of period debt when you look at all of the short-term debt and senior notes, long-term floating rates is up about $4 billion quarter-to-quarter, it’s up over 50% year-over-year. But the average number of course is not up much as you look at the average is. Is this just a short-term strategy or is this something that we should expect to continue at this elevated level which then could, since its expense, vis-a-via your deposits, should we expect some pressure on the margin because of it?

I think the end of period balance sheet Gerard can move around quite a bit just because of position changes at the end of a quarter or even sometimes at the end of the month. But I wouldn’t necessarily read into that as a launching point for an average on the fourth quarter.

Well, and Gerard, what I would add to that is, the leveraging can move around on any given day, so the followings can – we can leverage two one day and three and other. So I think you need to probably look at average balance sheet to get a better picture as to what the true picture was in any given period.

Good, okay. And then just as a follow-up, obviously you guys have demonstrated double-digit ROE, you want to push it higher into that 11% to 15% range. If we see mid-single digit operating expense growth on a go-forward basis, can you still get to a mid – 13%, 14%, 15% type of ROE?

If our expenses are calibrated to our organic growth rate and with some leverage in there, yes, because we think overtime markets and other income sources will drive that right, if we have rising rates to drive the NII and then we have the leverage that we’re talking about with fees, the answer is we think we can continue to drive the ROE higher towards the – as we said in our prepared remarks, towards the higher end of the range. And the efficiencies we get – yeah.

I got you, okay, great. Thank you.

And we have a question from Vivek Juneja with JPMorgan.

Hi. Biff, your comment about the $250 million going back to the value for spend, the investment spend that’s required for that, how should we think about that and would that offset part of this $250 million in the initial years? Because you said it would be – the $250 million would come equally, that’s the savings. Is that net of the investment spend or, and so is even the savings going to be net of the investment spend and if so, how are you going to get to work that with that all of the investment that you need for the automation and the digitization that completely offset in each year?

So we do think about the net impact of this overtime but the expense and the investments and the savings may not all be perfectly matched in the same quarters and/or periods. You’re absolutely right, there will be some investments to unlock some of the savings that we’ve talked about and that can come in the form of technological investment capital that can come in the form of potentially if there is charges needed in some cases to get that run rate right. So those expenses are being calibrated in and how we think about our overall financial position. So there will be some investment, they may not always match perfectly with the economic savings that you see in terms of the same period but as we managed just over a three year program or a three year set of initiatives, we do believe that the investment needed to drive the $250 million is been calibrated into our financial. Thank you.

Okay. So that means when you’re talking about expense growth matching organic revenue growth, you’re talking about it over the sort of three year time period recognizing that there could be a little ups and downs?

Yeah, exactly. It’ll effect the timing of the realization of the benefits there, and that’s why it’s not just a smooth progression because of the investment expenses and otherwise as Biff just mentioned.

Okay, it makes sense Mike. One more thing, shifting gears completely, deposits, going back to that topic. Did – was there a little pickup in the outflows in non-interest bearing deposits in the third quarter, I recognized not to – either you said, don’t look at period end balance sheets but that decline was faster in the third quarter in the period end basis than second quarter. Is that just an recognition that where the rates are going you’ve seen a little pickup there?

Yeah, the outflow of from interest bearing – from non-interest bearing to interest bearing slowed between the second and third quarters. We had about $3 billion in the second quarter and I think we had a $1.8 billion in this quarter, so it actually on average slowed somewhat so…

But what about period end?

Yeah, again the period end is, I would say it’s tough to look at the period end balance sheet. Like what we might be doing with our balance sheet, clients as well are positioning deposits with us at period end.

Yeah.

So, I would say that I wouldn’t use it as a launch point but there was a – from the second quarter, the clients that we had that that alone had an impact on the average for the third quarter as well just like what we saw during the third quarter that now come out on July 1st, so there would be a potential residual impact that carries into the fourth quarter as well.

Okay, all right. Thank you.

And we will take our final question of the day from Jeff Harte with Sandler O’Neill.

Hi Jeff.

Hey guys. A couple of things, one, the tax rate. How should we be thinking about the tax rate in the way of Illinois July hike and the UBS acquisition closing?

Yeah. So, the change in the Illinois tax rate in the period, in the third quarter we have to be threw up our differed tax position, and as we call it out that was $4.3 million. The ongoing impact from the Illinois income tax rate is relatively modest for us, even though we’re headquartered here, our revenue is really earned across the country and across the globe. So the income tax impact of that rate rise is relatively modest for us in the Illinois state income tax rate. We did have to threw up as we said the differed tax position this quarter but that was a onetime tax threw up. In terms of the overall tax rate, we continue to – you saw that we had research tax credits in this quarter, we continue to look at ways to bet tax efficient. The UBS again, I don’t think that transaction in and of itself will have a meaningful on our overall effective income tax rate.

Okay. And just looking at net interest margin, given the seasonal volatility of premium amortization which seems to be somewhat unique to Northern Trust. Is it overly simplistic to add back the $19 million of premium amortization which is something close to seven basis points of NIM and kind of figure our starting point head against to the fourth quarter and was something like a 136 basis points to which we can kind of make adjustments for the environment?

We have seen the premium amortization on a – if you were to look at it over the long run rate of it, of fourth quarter run rate, you’re probably looking at a normalized level of $10 million to $12 million depending on the size of the portfolio. So that might be one way of looking at if you were going to try to rebase the margin by taking the difference between the $10 million to $12 million and the $9 million.

And the volatility Jeff that we see at Northern in premium amortization, when we have the January earnings call beginning in 2018, we’re going to change our approach to premium amortization. And it should produce less volatility in that between quarters.

Okay, great. Thank you.

Thanks.

And ladies and gentlemen, that does conclude our question-and-answer session for today. I would like to hand the call back to our speakers for any concluding remarks.

It’s Rick, I just say thank you all very much for supporting Northern your interest and your continued involvement with the company. And we are as Mike said, we’re extraordinarily well positioned and we look forward to keeping you informed of our progress into 2018. It’s been a lot of fun. Thanks.

And once again, that does conclude today’s conference. We appreciate your participation. You may now disconnect.