Q3 2020 Eaton Vance Corp Earnings Call
And welcome to the Eaton Vance Corp third.
<unk> earnings conference call and webcast.
At this time.
Mines are on mute. Please be advised that today's call is being recorded after the speakers presentation. There will be trust me an answer session to ask a question. During the session you will need to press star one on your telephone in order to allow for as many questions as possible. Yes. Please limit your questions to one question with one related.
I would now like to turn the call a richer speaker today, Eric Snake Treasurer, and director of Investor Relations. Please go ahead.
Thank you and good morning, welcome to our fiscal Twentytwenty third quarter earnings call then webcast.
With me this morning, our problem Faust, Chairman and CEO of Eaton Vance as well as RCR phone or we help.
Today's call will first comment from the quarter and take your questions.
As always to for earnings release, and Sharks, we will refer to during the call are available on our website Eaton Vance dot com under the heading Investor Relations.
Today's presentation contains forward looking statements about our business in furniture results. The actual results may differ materially from those projected due to risks and uncertainties in our business, including but not limited to do as discussed in RCC filings. These filings, including our 2019 annual report and <unk>.
10-K are available on our website or upon request at no charge.
Now I'll turn the call over to Tom.
Good morning, and thank you everyone for joining us today.
Since we reported our second quarter.
Earnings results in late May our business, our employees on the communities in which we live and work.
Continued to be significantly impacted by the ongoing covert 19 pandemic.
Nearly all of our staff continues to work remotely.
That remains our expectations or at least the balance of this year.
Our employees have adapted quite effectively to working from home with minimal disruption to day to day operation and high levels of client service being maintained throughout the pandemic curious.
The strength and resilience of our business in this difficult environment is testament to the adaptability and commitment of our employees across the company, which I remain deeply grateful.
Sounds good shark markets off in March stimulus actions of governments around the globe and visible progress advancing the development of effective cobot 19 vaccines and therapeutics.
You want a recovery in financial markets.
Over the course of our third fiscal quarter ending in July we regained 39.4 billion or the 43.6 billion up managed assets that we lost a market price declines in the previous quarter.
Well the pandemic is far from over.
Markets are increasingly willing to bet that the worst is behind us an economic recovery will continue.
Earlier today, we reported adjusted earnings per diluted share of 82 cents for the third quarter fiscal 2020.
Up 3% from 880 cents of adjusted diluted earnings per diluted share.
In the second quarter fiscal 2020.
<unk>, 7% from 88 cents of adjusted earnings per diluted share in the third quarter fiscal 2019.
GAAP basis, we reported a loss of one cents per diluted share in the third quarter fiscal 2020.
Fighting a 90 cents per diluted share reduction in the carrying value of our condition and 49% Oh Heck Sebastian.
Other with seven cents per diluted share of income and gains on seed capital investments and consolidated selling into these and other items that we excluded from our adjusted earnings calculation.
The reduction in the carrying value of our position then hex abas reflects outflows driven declines in Texas, the best managed assets and management fee revenue, which accelerated this spring and summer falling disappointing investment performance and the pandemic related March March March market sell off.
Throughout its history dating back to 2004 X about Tennant has employed evaluating preservation of capital oriented investment style that typically generates its strongest relative returns during periods of market weakness.
Fortunately, perhaps about this year's market decline did not follow the usual pattern.
Value stocks significantly lag growth stocks, both during the cell and in the market recovery today.
Reflecting net outflows of 2.7 billion during our third fiscal quarter text about close the corner with managed assets of 6.8 billion.
Compares to managed assets of 11 billion at the time, we acquired opposition and that's the best in 2012 teach me as assets of 17.1 billion in 2014, and 13.4 billion that managed assets at the end their bark fiscal 2019 last October.
Well, we're disappointed that recent reductions in Texas managed assets and management fee revenue have necessitated writing town the carrying value of our investment.
Continue to believe and has the best investment approach.
We support the company's management.
So that's a business remains solid and secure and there are talented investment team continues to engage actively in the markets seeking to deliver value for their clients.
Turning to our core operating result, we ended the third quarter fiscal 2020 507 billion of consolidated assets under management of 9% from the end of the previous quarter.
Across our investment mandate reporting categories increases in managed assets ranged from a high up 12% for fixed income and 10% for parametric custom portfolios.
3% for alternative assets and floating rate income.
The third quarter, we had 2.7 billion of consolidated net inflows are 1.2 billion, excluding parametric overlay services.
Quarters net flows were driven primarily by fixed income handbags open end funds an individual separate accounts.
Annualized internal growth for the quarter was 2% as measured both in terms of consolidated managed assets unconsolidated management fee roughly revenue.
That represents a sharp recovery from the prior quarters annualized internal growth and managed assets of minus 7% annualized internal growth and management fee revenues of minus 6%.
Well results generally and improve the quarter progressed with July showing 13% annualized internal broken managed assets or 4%, excluding parametric overlay services.
Looking at our third quarter for results by investment mandate reporting category fixed income net inflows for the quarter totaled 4.5 billion, which equates to annualize internal growth of 29%.
In fixed income the largest contributor to find that net inflows, where our category, leading Eaton Vance short duration government income fund with net inflows of 1.7 billion high yield bond at municipal income mutual fund each with approximately 650 million of net inflows in emerging market local debt funds 300.
<unk> million of net inflows.
Fixed income institutional separate accounts, so over 1 billion them net inflows in the quarter led by cash management high yield bond in emerging market local debt mandates for the fiscal year to date managed assets in our emerging market off of that strategies have increased 54% to over 2.2 billion.
Reflecting strong performance of our two five star rated mutual funds in this category Eaton Vance emerging markets local income fun and Eaton Vance emerging markets debt opportunities funds as well its initial success, attracting intermediary occasional clients and offshore markets.
Turning to equity Calvert equity strategies contributed nearly 800 million of net inflows in the third quarter.
For the fiscal year to date flows into Calvert equity strategies are told to more than 2.7 billion generating 27% annualized internal growth and managed assets for the nine months.
Robert equity funds in Calvert small cap fund each contributed nearly 200 million of inflows in the third quarter, what Calvert emerging markets fund in Calvert International equity fund together contributing nearly 175 million additional net inflows in the quarter.
You'd be m. equity strategies generated approximately 200 million of net inflows in the third fiscal quarter, driven primarily by privately offered funds and our Eaton Vance investment Council wealth management business.
Atlanta capital had equity net outflows of nearly 100 million in the third quarter.
Inflows into their large cap growth and select equity strategy were offset by 400 million 420 million of net outflows from the Eaton Vance Atlanta capital Smid cap fund, our largest mutual fund, which has been closed to new investors since April 2018.
With net outflows since the funds closure now totaling approximately 1.6 billion. The funds board of trustees voted earlier this week to reopen the fun to new investors effective September thirtyth.
The portfolio team at Atlanta capital abusive, particularly opportune time to invest in the types of high quality stocks in which the fun specialises as these stocks have moved to attractive relative valuations.
Parametric had 3.1 billion of net outflows from equity mandate in the third fiscal quarters. This reflects the termination of a single 1.7 billion institutional covered call writing mandate and 1.6 billion of performance related net outflows from parametric systematic emerging market equity strategies during the quarter.
Parametric systematic EM strategies apply a modified equal weighting approach country allocation. It results in a structural under waiting to the China market, which has been a performance leader among emerging markets over recent periods.
At quarter end managed assets in parametric systematic yeah me strategies consisted of 1.5 billion of U.S. Mutual fund a U M and 2.6 billion up offshore private funds and institutional separate account mandates.
Turning to floating rate income net outflows for the third fiscal quarter were just under 600 million a significant improvement from nearly 3.2 billion of net outflows in the preceding quarter.
After a steep down dry dropped in March bank on prices have now were covered most of the way back to pre pandemic levels.
With the coverage with the recovery in loan prices activity in the COO market has also was due in.
In July we successfully placed a new CRM entity that closed earlier this week, which will contribute 450 million to our fourth quarter net flows.
In our alternative asset mandate reporting category net outflows to improve sequentially from now nearly 700 million in the second fiscal quarter.
Less than 50 million in the third fiscal quarter.
The improved four results are attributable primarily to reduce net outflows from our two global macro absolute return strategies.
Which combined net outflows were under 50 million in the third fiscal quarter versus over 650 million in the prior quarter.
Net flows into our global macro absolute returns strategies and alternative asset me back to the whole turned positive for the month of July.
[noise] parametric overlay services had 1.5 billion of net inflows in the third quarter fiscal 2020, compared to 6.5 going up net outflows in the prior fiscal quarter.
Clients gain and loss contributed 750 million of net inflows in the third quarter versus 600 million and the prior quarter.
He doesn't positions held by continuing overlay clients contributed 750 million of net inflows for the third quarter greatly improved from 7 billion of net outflows from continuing clients in the second fiscal quarter.
Consistent with prior market downturns, we've seen continuing clients increasingly put back on their overlay position as markets have recovered.
After three straight months of net reductions in positions held by continuing overlay clients net flows from continuing clients swung to the positive and in June and improved further in July.
With a $4 billion pipeline of new overly clients expected the onboard in the fourth quarter and the prospect of continuing net inflows from existing clients are overlay services business is poised for a very strong close to the fiscal year.
Parametric custom portfolios had 470 million of net outflows in the third fiscal quarter, which reflects continuing positive flow results for custom core equity in the latter fixed income individual separate accounts also offset by outflows from institutional and sub advisory mandates.
What we sometimes referred to as custom beta individual separate accounts, which includes parametric custom core equity plus municipal and corporate bond bladders had 1.9 billion of net inflows for the quarter, which equates to 7% annualized internal growth in managed assets.
The decline from 2.8 going to have net inflows and 9% internal growth annualized in the prior quarter, primarily reflects the withdrawal by a single ultra high net worth custom core client $700 million to fund a major charitable contribution.
Then parametric custom portfolios institutional in sub advisory mandates and aggregate net outflows of 2.1 billion in the third quarter, which compares to 650 million them that outflows in the preceding quarter.
These net outflows reflect negative for results for the underlying third party managed investment strategies unrelated to Parametrics role there its implementation manager.
We continue to view customized individual separate accounts as a leading long term trend in asset management and open ended market opportunity in which parametric is position for continued dominance.
Recently announced the extension of the parametric custom core franchise to include for the first time index based fixed income strategies.
Parametric custom core fixed income seeks to provide advisors and their clients with exposure to the fixed income markets. They select combining the benefits of index based portfolio construction.
Good credit oversight indirect ownership of securities.
Like custom core equity portfolios custom core fixed income can be customized to reflect each client individual responsible investment criteria and other desired portfolio Tillotson include exclusions <unk>.
To incorporate the clients preexisting security holdings, and the harvest tax losses on a year round systematic basis.
Similar to our Laddered bond separate accounts custom core fixed income portfolios combined the rules based approach to portfolio construction with active credit oversight and available tax management.
Different from lighter bond portfolios custom core fixed income accounts seek to provide market exposures that approximate a client specified fixed income index or combination of indexes.
Beyond the custom core equities and fixed income, we see broadly ranging future opportunities for parametric custom separately current accounts across multi asset portfolios applications, combining active and passive my management.
Customized individual target date and target risk portfolios.
Future remains very bright for parametric custom portfolios.
In June we announced the launch of Calvert S. T research leader strategies, and new series of equity separate account offerings for institutional and individual investors.
These strategies and best in the stock accompanies the meeting environmental social and governance characteristics as determined by caliber.
Partnership with parametric tax managed separate account versions of selected key research leader strategies are available to surpass spending investors.
We also announced in June the creation of the Calvert Institute for responsible investing in affiliated research Institute dedicated to driving positive change by advancing understanding and promoting best practices and responsible investing.
Since we acquired the business assets at Calvert predecessor company at the end of 2016.
Albert assets Cambrex managed assets at more than doubled reaching 20 point 24.7 billion at the end of the third quarter fiscal 2020.
With 3.4 billion of net inflows into Calvert fund and separate accounts over the past nine months Calvert has realized 23% annualized internal growth and managed assets for the fiscal year to date.
Among dedicated responsibly invested mutual funds Calvert is far and away the market leader in terms of net inflows over the past three in 12 months and rank second currently in total assets under management.
The strength of Calverts brand as a long time, either and responsible investing combined with strong investment performance and Eaton Vance is leading distribution presence in the U.S. intermediary channel has proven to be a winning formula for Calvert, we see much more growth for Calvert in the quarters in years ahead.
During the third quarter, we now the signing of a definitive agreement to acquire the assets of water. Okay advisors wealth management firm headquartered in Winter Park, Florida with approximately 2 billion the client assets under management.
Well the shared focus on high touch, calling it service and a commitment to long term relationships.
Nomination of water Oak Eaton Vance investment Council will strengthen our position in private wealth management, which is an important strategic priority and allow us to develop a much larger business, serving high network individuals and families in Florida and throughout the southeast.
Looking ahead to our fourth fiscal quarter, we're optimistic that the business momentum we felt building over the course of the third quarter, we'll continue to accelerate.
We entered the fourth quarter with managed assets in run rate management fees, well above third quarter average levels.
Net flows across our business had been quite strong over the month of August.
Overall net flows both with and without parallel parametric a really services back in the range of what we saw on our first fiscal quarter before the pandemic hit.
We have a robust pipeline of new business to find in the fourth quarter, including the $450 million C. O. The closed earlier. This week, an 800 million dollar institutional high yield mean, but scheduled to fund in early October.
Thanks, Mike 700 million, a custom correctly separate accounts in the pipeline and over five going in the institutional portfolio overlay and LDR mandates scheduled to fund before the end of October.
Reopening, India Eaton Vance Atlanta capital Smid cap fund, our largest mutual fund to new investors after two and a half year hiatus should also contribute positively to the favorable flow trends, we expect to continue.
We believe there is considerable reason for optimism about the growth and performance of our business over the balance of fiscal 2020 and beyond.
That concludes my prepared remarks, I will now turn the call over till Ari.
Thank you and good morning.
It's Tom described we reported adjusted earnings per diluted share at 82 cents for the third quarter fiscal 2023% from 80 cents in the second quarter fiscal 2020 and down 7% from 88 cents in the third quarter fiscal 2019.
You can see in passionately two to our press release adjustment earnings exceeded earnings under U.S. GAAP by 83 cents per diluted share in the third quarter fiscal 2020, just like in the reversal of the 100.5 million impairment loss recognized on the company's investment in our 49% owned affiliate has the best.
The reversal of 8.5 million of net gains of consolidated investment entities and our other seed capital investments.
Add back at 1.6 million of management fees and expenses of consolidated investment entities and the reversal of point 2 million of net excess tax benefits related to stock based compensation Awards.
Adjusted earnings exceeded earnings under U.S. GAAP by 15 cents per diluted share in the second quarter fiscal 2020, reflecting a reversal of 16.8 million of net losses of consolidated investment entities number seed capital investments.
Add back of 1.8 million management fees and expenses, a consolidated investment entities and reversal of 1.1 million of net excess tax benefits related to stock based compensation awards. So.
Earnings under Us GAAP exceeded the Jeff during two cents per diluted share in the third quarter fiscal 2019.
Taking a reversal of 4.6 million net gains consolidated investment and does not a seed capital investments.
Add back up 2.3 million of management fees and expenses of consolidated investment entities and the reversal of point sixmillion excess tax benefits related to stock based compensation awards.
It's Tom discussed some more detail the outflows driven decline in hexcel, that's managed asset management fee revenue over recent months prompted the determination that in the third fiscal quarter. The company's equity method investment tax events with like the other than temporarily impaired.
Accordingly, the company recognize an impairment charge of 100.5 million in the quarter to reduce the carrying value of our investment tax best to 32.7 million, which is estimated fair value based on independent appraisal.
As Tom previously noted we continue to have faith in Texas leadership and confidence in our investment team and approach.
As shown an attachment to our press release adjusted operating income was up 7% sequentially down 5% year over year.
Our adjusted operating margin was 31.6% in the third quarter fiscal 2020 compared to 30.5% in second quarter fiscal 2020, and 32.4% in the third quarter fiscal 2019.
Versus the prior quarter average managed assets were up 1% management fee revenue increased 4%.
The increase in management fee revenue exceeded the increase in average managed assets, primarily due to a 2% increase now average annualized management team rate from 29.7 basis points in the second quarter fiscal 2020 to 30.3 basis points in the third quarter fiscal 2020, and the impact to more fee days in the third quarter.
Although average managed assets this quarter were up 3% from the same period last year that management fee revenue was down 2%, reflecting a 5% decline in our average annualized management fee rate from 31.8 basis points in the third quarter fiscal 2019 to 30.3 basis points in the third quarter fiscal 2020.
The decline in our average annualized management fee rate versus the comparative period last year was driven primarily by shifting our business mix from higher fee to lower fee mandate.
Performance based fees, which are excluded from the calculation of our average management team rates contributed point 9 million 2.5 million and point 1 million to revenue in the third quarter fiscal 2022nd quarter fiscal 2020, and the third quarter fiscal 2019, respectively.
Management these aren't gonna consolidated investment entities, which are eliminated in consolidation and excluded from the calculation of our average management fee rates for 1.2 million 1.3 million and 1.8 million in the third quarter fiscal 2022nd quarter fiscal 2020, and a third quarter fiscal 2019, respectively.
Turning to expensive compensation expense increased 5% from the second quarter fiscal 2020, reflecting higher operating income based investment performance based bonus accruals higher stock based compensation, primarily driven by additional expense recognized during the third quarter in connection with employee retirements.
Higher salaries associated with increases in headcount primarily parametric.
The impact of two additional payroll days in the third quarter and higher benefit expenses, driven by 1.7 million dollar insurance Reimport reimbursement recorded last quarter.
These increases were partially offset by lower sales based incentive compensation and decrease in payroll taxes.
Compared to the third quarter fiscal 2019 compensation costs decreased 1%, reflecting lower operating income based bonus accrual lower sales based incentive compensation and lower severance costs.
These decreases were partially offset by higher stock based compensation and higher salaries and benefit expenses associated increases in headcount again, primarily parametric.
Noncompensation distribution related costs, including distribution service fee expenses, and the amortization of deferred sales commissions.
Substantially unchanged from second quarter fiscal 2020, it's higher private fund services expenses and marketing support payments were offset by lower upfront sales Commission expense.
Year over year, Noncompensation distribution related cost decreased 7%, primarily reflecting lower distribution service fee expenses for class, saying Classing mutual fund chairs driven by lower average managed managed assets lower upfront sales commissions, lower discretionary marketing expenses and lower intermediary marketing support.
Since.
These decreases were partially offset by increases in service fee expenses and commission amortization private funds.
Funds related expenses decreased 12% sequentially and 2% year over year, reflecting lower fund expenses borne by the company, partially offset by higher sub advisory fees due to an increase in average managed assets a sub advised funds.
Other operating expenses decreased 2% from the second quarter fiscal 2020, primarily reflecting lower travel expenses, partially offset by an increase in other corporate expenses due to a one time charge of 1.4 million related to a reimbursement to the company sponsored funds recorded in the third quarter.
Other operating expenses increased 5% from the third quarter fiscal 2019, primarily reflecting increases in information technology spending and the above mentioned, one time charge, partially offset by lower travel expenses.
Although we are continuing to invest in areas that are important for the future growth at the company. We are otherwise focused on tight expense management and reducing discretionary spending.
This period of volatility we continue to benefit greatly from the fact that more than 40% of our operating expenses are variable in nature, moving up and down with changes in operating income managed assets or sales results.
Non operating income expense was up 105.7 million from the second quarter fiscal 2020, primarily reflecting an $84.2 million positive change in net gains or losses and other investment income of consolidated sponsored funds and the company's investment another sponsored strategies.
21, 21 million dollar improvement in net income.
For expensive consolidated CLL entity in a point 5 billion dollar decreasing interest expense.
Non operating income was up 26.8 million from the third quarter fiscal 2019, reflecting an 18.8 million dollar increase net gains another investment income of consolidated sponsored funds in the Companys investments in other sponsored strategies and an 8 million dollar improvement in net income or expense a consolidated tayloe entities.
Turning to taxes.
The U.S. GAAP effective tax rate was 22.6% in the third quarter fiscal 2020, 45.3% in the second quarter fiscal 2020, and 25.5% in the third quarter fiscal 2019.
The company's income tax provision was reduced by net excess tax benefits related to stock based compensation awards totaling <unk> point 2 million in the third quarter fiscal 2000 21.1 million in the second quarter fiscal 2020, and point 6 million in the third quarter fiscal 2019.
As shown in attachment to our press release calculations of adjusted net income and adjusted earnings per diluted share removed the impact of gains losses. Another investment income of consolidated investment entities in other seed capital investments add back the management fees and expenses a consolidated investment entities.
Glued the effect of net excess tax benefits related to stock based compensation awards.
He moved the impairment loss recognized on the company's investment in Hexis fast.
On this basis, our adjusted effective tax rate was 27.1% in the third quarter fiscal 2020, 24.9% second quarter fiscal 2020, and 26.4% in the third quarter fiscal 2019.
On a same adjusted basis, we estimate that our quarterly effective tax rate for the balance of fiscal 2020 and for the fiscal year as a whole range between 26.4 in 26.9%.
[music].
In addition to the heck the best impairment loss previously noted equity net income of affiliates in the third quarter fiscal 2020 includes 1 million of income earned from companies investment in Hexavest, which was partially offset by point 8 million losses related to the company's investment in the private equity partnership [noise].
Substantially all of frankly net income of affiliates in the second quarter fiscal 2020 in the third quarter fiscal 2019 relates to the company's investment in Texas.
We finished third fiscal quarter holding a billion dollars cash cash equivalents in short term debt securities and approximately 280.5 million and seed capital investments.
We are carefully managing our cash flows during this period of heightened economic and market uncertainty to maintain our financial flexibility.
During the third quarter fiscal 2020, we used 41.2 million of corporate cash to pay the 37 and a half cents per share quarterly dividend, we declared at the end of our previous quarter.
Our weighted average diluted shares outstanding were 111.7 million in the third quarter fiscal 2020.
Sequentially and down 2% year over year, primarily reflecting a decrease in the dilutive effect in the many options in Unvested restricted stock awards due to lower market prices of the company shares.
Fiscal discipline tight management of discretionary spending and maintaining a strong balance sheet continued to be top financial priorities for us is unprecedented times.
This concludes our prepared comments at this point, we'd like to take any questions you may have.
Thank you at this time, we will be conducting our question answer session. As a reminder, in order to allow for as many questions as possible be please ask her to limit your questions to one question with one related follow up in order to ask a question. Please press star. One. Your first question comes from the line of Patrick Davitt with Autonomous Research Patrick.
Your line is open.
Hey, good morning, Thank you.
It looks like you had no share repurchase I think maybe for the first time ever at least in my model just because maybe the thinking around that after the share price decline was there's some sort of unique restriction this quarter in house with how should we think about that going forward.
Hi, its laurie.
As we were if we were looking at this quarter and last quarter. It really has been top of mind for us to ensure that we've got financial flexibility, particularly in terms of our liquidity and I think as we mentioned last quarter given everything that's happening on that on the global stage. We felt it was prudent to cut back on or share repurchases and Ah. We just continue to look.
Got it quarter by quarter, but again, we're really just trying to ensure that we've got some liquidity necessary to continue to grow the business.
Okay. Thanks, and then also just a quick follow up the parametric emerging markets strategy, you called out with some performance related outflows.
I think you said there was a one and a half billion and 2.6 billion left in that bucket should we take that can mean that you're worried that that might be a you want at risk given the performance issues.
I think there's a reasonable chance that unless performance improves that it's an active strategy that's.
Competes against others tracking strategies the nature our businesses. If you if you can't deliver.
Performance that exceeds the benchmarks in peer group over time, it's reasonable to expect assets to come down.
We have seen quite a bit of net outflows from that strategy.
We think there's likely to be more sticky units to the assets on the mutual fund side, perhaps than the than the non mutual fund business, but but certainly for modeling purposes, we would assume that outflows. There will continue though ultimately were constrained by the amount in the outflows by the assets, where we have which is.
Down to just over $4 billion currently.
Thank you.
Your next question comes from the line as Craig Siegenthaler with Credit Suisse. Craig Your line is open.
Thank you good morning, everyone I'm interested in an update on what you're seeing on the competitive landscape at parametric and custom core equity and I'm, especially interested in your comments around direct indexes.
Thanks, Craig so.
There's quite a bit of I guess, you would take noise, a they've been announcements of.
Number of potential competitors that have interest in the space public comments and in many ways had been.
Ratifying that people acknowledged that the this is an area where that provides value added for clients and.
Many people perceived to have a growth potential in terms of what's happening in the marketplace as opposed to what we're hearing in announcements.
There really hasn't been a meaningful change and competitive position, there's no new competitor that's.
That we're aware of this that's taking significant share.
We're not losing business.
Being replaced the by someone else.
So there's no evidence that any of the announcements or translating so far in two changes and the competitive dynamic.
The business that.
We and many others are expect will grow quite substantially over.
Coming quarters and years, it's not a surprise that others.
I'll try and compete in this business given the the growth profile that that is there.
I would say that our experience, which goes back now several decades is that.
This is a this is a hard business its not a business for Dab blurs that theres, a real commitment required to invest in technology to invest in service.
And to invest in distribution to gain access across the markets.
So far there haven't been any competitors that have emerged that we're worried about who have check all of those boxes in terms of levels commitment that demonstrated expertise and technology and service and have similar distribution to us, but we think it will be a much bigger market. Its reason.
Animal that there'll be more competitors.
But we think that the position that the parametric has there is is very solid very strong and very secure.
Thanks, Tom and just a follow up here, if you do see an increasing competition indirect indexing and new entrants offer comparable product to lower price points upkeep common your ability to reduce pricing below the mid teens, which is where I think the blended fee rates. It I.
And still generate attractive margins.
Certainly.
We have the ability to respond selectively to.
Competitors that that compete on price Oh, we.
We would go toe to toe with anyone in terms of the quality and the value proposition that we offer.
As a leader yeah, and customized indexing competition in this space is not new throughout the time that we've been growing our custom indexing business there have been other players in the market.
The profile of those competitors really hasn't changed the nature of the competition really hasn't changed what has happened is that as the market has grown.
It's visibility has increased and we're seeing more conversation, but in terms of what's happening in the marketplace. We can pin continue to compete as appropriately on on price, we see nothing to suggest that we'll see wholesale reductions.
And average fee rates for this business, but we're certainly making the investments in technology and service and systems that will allow us to support a much bigger business and that's ultimately will allow us to.
Lower operating costs, so that we can achieve attractive margins, even potentially lower average fee rates.
Thank you.
Your next question comes from the line ups, Dan Fannon with Jefferies. Dan Your line is open.
Hi, Thanks, just a follow up on kind of a flows into momentum you said you cited heading into the fourth quarter.
If you could just clarify again I can can you said the total number be similar to the first quarter, I think you're including or excluding some of the lower p. stuff, but just want to clarify that and then also does that include some of the mandates. Your you talked about or would that just trying to think about what's still hasn't funded versus what you're saying it's happened in August.
Yeah, Let me, let me clarify Dan so but comment when I was trying to make is that Craig say that for our August today.
And this would not include any of these the pipeline things that I talked about we're strange thing quite strong flows that if you exclude the.
Parametric.
Oh really service business.
Yes, we think on pace for the same range of flows that we saw in the first quarter again, that's based on a quarter to date results through through yesterday or through the day before yesterday I guess that is.
In the range of about a I think a billion seven or non parametric overlay business.
You multiply that by three to account for the fact that.
We're less than a third of the way through the quarter and that gets you sort of in the ballpark. The 5 billion non overlay net flows that we had and the in the first quarter momentum is good that includes a strong sales in fixed income continuing positive for us for equity positive flows with.
Ordinary income positive custom portfolios as.
As I mentioned, we're expecting on top of that quite strong quarter.
For the overlay services business, where we've got a meaningful amount. So a couple billion dollars plus of net inflows.
For the quarter to date.
So quite robust pipeline of new business that we're expecting to fund.
All these forecasts should be taken what the grain software only a third of the way through the quarter things can happen as we saw.
Back in March, but certainly we're on track for a quite strong fourth quarter in terms of flows.
Supported by.
An excellent first month of that corridor and visible pipeline of new opportunities that we think will.
Likely support continuing for momentum through the balance of this month and then through September and into the end of October and ended the fiscal year.
Great. That's helpful. And then Lori just with regards to expenses in a kind of the outlook.
Clearly with the revenue side looking better based on where markets. When he went said as we think about going into next quarter is margin expansion from here still reasonable given what's happening with revenue and then fill some oh, you know kind of operational leverage potential on some of those non discretion.
Gary.
Spending side.
I would certainly say, there's always there's always the possibility I hesitate to given the volatility that we see in the markets to to put money on anything at this point, but I do think it we're very comfortable in thinking that the year is going to be in this 31% range that would not necessarily anticipate a significant uptick in the fourth quarter, but I do think we're very comfortable the range.
We're in.
Yes.
Okay. Thank you.
Your next question comes from the line as Ken Worthington with JP Morgan Ken Your line is open.
Hi, good morning, and thanks for taking my question.
So welcome and everything into one just following up on the equity outflows this quarter on it seemed to some extent that the weakness this quarter was as much a function of weaker gross sales versus the last couple of quarters as it was for the higher gross outflows. So can you flush out if you agree the.
Gross sales side of the equation as well and for the follow up on the outflows you mentioned I believe it was 1.7 billion of covered calls in the 1.6 billion of the systematic.
For the covered call strategy, how did those strategies typically do in this type of market and maybe how much is less there and on the systematic side. You said it was performance based I believe you called out China as the driver on other other issues besides exposure to China or was that really all of the issue.
Okay.
At least most of that so starting with the emerging market equities.
Systematic strategy. So they know they don't make a market falls, so think about this and the and the broad category of things as a smart beta or or multifactor strategy.
The the premise of the fund is a value added through diversification and rebalancing. The philosophy is a modified equal weighting approach to a country allocation.
And alpha generation by rebalancing into underperforming countries.
That I worked for very long time. It has not worked recently simply because the China market has come to dominate the emerging market indexes.
Both in terms of waiting but also in terms of contribution for two performance. So a strategy that.
Yeah that by design is underway to the largest markets.
In this case China.
<unk> is up.
Very much hamstrung in turning to perform in end market environments, which we've been in where you have sustained leadership of those.
Largest countries in the index.
So we've had a performance related outflows there. So I guess you would say in addition to the country allocation.
Given the rebalancing nature of the approach we take there's a there's no anti momentum bias to the strategy that also has.
Does not help during this period, but the outflows.
Our Uh huh.
We think going to abate highlighted that we're at 4 billion an assets I think peak assets in the strategy work in the range of 20 billion, but mostly behind us in terms of the outflows with only a remaining a $4 billion left how quickly we see that go away.
Because it's anyone's guess, but we're certainly.
Expecting based on performance that we've we've seen as Uh huh.
Current periods still underperforming. So we think it's reasonable to expect the outflows will continue.
A second part of the question.
Related to our covered call writing business and the.
Parametric first it was volatility a risk premium strategies that as monetizing the the.
The Alpha that's created from the fact that.
Options typically sell at a premium.
Well the implied volatility as is typically a higher than the realized volatility those strategies generally perform well [noise].
During during trending markets a when you collect your your premium but you don't.
You don't get called away from the upside or have to buy in position to avoid getting called away on the upside.
[noise] when they don't perform particularly well is in a.
The type markets, where there's a sharp arrived upturn, which obviously is what we had in the in the.
Ah April may period after the the lows in March so.
So it's not surprising that we would see pressure on these strategies in market environments. Like this covered call writing is essentially.
I'm trying.
Turning to capture this premium that's frequently observed in the pricing of option, but it comes potentially at the cost of capping the upside.
Enough in up sharply rising market and when that happens.
Hi answer prone to be disappointed.
After some period of clients taking off positions I think generally we're in a mode sort of neutrality to positive flows for our covered called writing business.
So I think that covers the second part the third which I don't really have information that friend to me, it's like I'm Gonna have to guess at this but did the quarterly flow results for equities reflect.
More a decline in gross sales or more.
Increase in redemptions.
I would say I guess I would maybe.
Turning to turn the question around to get I guess and say.
Most of our business the caliber business had positive flows a the M equity business had positive flows the Atlanta capital business, excluding the the big fun. There. That's that's close to new investors had positive flows I would turn it around to say that the outflows that we saw in the equity category.
We're very very concentrated than the two things that I called out at Parametrics that being.
The covered call writing the big institutional account that was lost there the 1.7 billion the emerging market equity strategies and then the outflows from the Atlanta capital Smid cap fund, which was over $400 million. So in general we feel our equity flows are good a flash report through yesterday show.
Positive equity flows in the fourth quarter, and we certainly feel good about our ability to continue to grow in equities subject to continuing pressure on that emerging market equity franchise that weighs against them.
Awesome. Thank you very much.
Your next question comes from the line as Bill Katz with Citigroup Bill. Your line is open okay. Thanks, very much maybe just two parter maybe for Lori just curious in terms of capital management, what milestones should we be looking at macro wise or otherwise to think about the reengagement of repurchase given your fee.
Free cash flow and then Tom just big picture perspective, as your Dialoging with both the retail institutional gatekeepers. What are you hearing in terms of allocation decisions just given to you know the V shaped recovery of equity and credit markets. Thank you.
Hi, Bill Murray go PERS, Yeah, I can go first <unk> do we really don't have any markers that I would take a look towards we have we don't have the.
Program for share repurchases, it's a discretionary decision we have a small committee that thinks about this every quarter and I think that will just be a well be considering all the possible inputs as we as we move out of our our blackout so more to come on that but nothing specific to look for in terms of markers.
Bill in terms of markets and where we're headed I mean first I'm generally not too involved in those decisions that.
With with Gatekeepers about asset allocation.
My own market view is that the markets will more likely continue to.
Grind their way higher.
Given what we see is likely to be continuing positive news on the on the pandemic.
Particularly from up from up there are few that can vaccine standpoint, more so than public health.
And the likelihood that the economy will continue to.
To be positive certainly one of the things were watching.
Carefully as a U.S. election, and what that might imply for.
Future tax rates future regulatory and spending initiatives.
I think as most of the lit most of our listeners are aware, we have a large business.
Serving a taxpaying investors, which represent some some version of tax managed strategies represent over 40% of our assets, including.
Municipal bond funds and tax managed equities.
We're not exactly sure what's going to happen, but we certainly I think that there is a reasonable prospect that following the election, we could see an increase in tax rates, which could be a significant positive for that business.
Okay. Thank you.
Your next question comes from the line of Brian, but dealt with Deutsche Bank. Brian. Your line is open great. Thanks, Good morning, <unk> well good questions and answers on the parametric maybe pick I'd just add one comment that I guess, what where do you make up the important fractional share accounting.
In the custom indexing business in terms of the.
Yeah. The potential competitive response is down the road and you know again going back to obviously you your business has Ah.
Performed very well and you have a leading position in this business, but I mean going going forward, if it's not competing on pricing what other growth ankles within the parametric business I guess would you.
Two downward.
And strong there.
Yeah. Thanks, Brian.
Oh, we we compete.
Primarily in the high net worth market for for parametric custom portfolios for.
For custom core equities the account minimum most places I believe the $250000. So.
The impact of of fractional shares for someone that's putting to work $250000.
It's pretty minimal.
There is the opportunity.
With fractional shares anybody been reading about these to do less customize or even non customized.
Direct indexing based strategies, which to us is not particularly interesting product are interesting market. Our perspective is that the value here as it and customization and.
The cost of delivering customization.
Is the service that's required and to deliver a customized accounts and.
Hi levels of service.
At the kinds of fee rates were talking about and that the count minimums, we're talking about.
It's hard and we're making investments in technology to continue to put us in a position to continue to be a leader in doing that but I would say broadly the the impact of fractional shares while it will make it easier for us and other competitors.
Potentially the go down market the real name in the game here is is customization the primary value added for the most investors.
Not all but most is tax efficiency, which is a concern primarily yet and higher tax rates.
We do see the business evolving in significant ways. The highlighted the fact that were we've introduced a custom court index products on the fixed income side.
We certainly see.
Lots of opportunity for product innovation down the road.
In terms of.
I think the features that we offer.
Expanding the array of of capabilities so that.
It's not just index base, but its index plus active it's not just equity or not just fixed income, but a combination of both and then very interesting applications potentially down the road in terms of a target date or target risk all customized to the individual.
So we think there's.
Lots of room here for lots of different ideas.
The value added that we provide again is customization and serve us primarily for higher network investors from merely a with a significant value add being packs and some of the things that we're hearing about really are just not relevant to that market and that mark.
Good opportunities we see it.
That's great color and then maybe a follow up would be just from your perspective on the activity F. industry now that Weve Cup.
A number of 'em each have a live in the industry I know you filed an amendment after the clear hedge strategy with the FCC.
Maybe just to comment on yeah, I guess the status on that and how you think that made conversations with potential.
Users of the clear had strategy in it and then broadly <unk> the potential for it for you guys to license activate T F or or create them under a proxy portfolio structure.
And for your from your own funds.
So we remain very interested very close to the space as you point out.
We did file a second amended application.
With the FCC for our clear hedge method of Oh, that's what we call portfolio protected if you have someone called less transparent activities.
We filed that last month, you can read that as a indicative of a positive constructive dialogue with the FCC staff, we certainly can't predict.
When their ultimate what they will decide but we certainly feel good about.
The dialogue that we're engaged in there and her and are hopeful we'll get a ultimately get a positive result.
The the competitive landscape. It is really just beginning to emerge I think there's five different concepts that had been approved.
By the FCC, we hope to be the six our business model here would include the licensing our technology.
To others.
We hope to compete on the basis of offering.
The highest level of assurance of.
Strong secondary market trading consistent with not having to disclose a portfolio portfolio holdings or or significant representative proxy portfolio on a daily basis. So it's we think we've got up a very competitive mouse trap. This market is starting to diverge.
Based on the assets in flow numbers that I've seen and we certainly want to have up a place in that like the other approved applications.
Our application.
At least initially is limited to a cash and exchange traded securities that trade during the rest market hours. So think of that is U.S. equities and U.S. CTF send a Canadian and perhaps other markets that trade during the same timeframe as the U.S. So would it be limited and that was.
Spec initially, which we think a frankly quite reasonably the FCC says, let's let's see how this works I'm for this asset class before we consider other asset classes, but we're very very hopeful very optimistic that ultimately.
That these this class of products and our application our technology particular, Oh, well see a well see application across all asset classes. So were we continue to be very much optimistic about.
The future of actively managed exchange traded products based on the potential enhancement began operating efficiency trading convenience and tax efficiency versus E. P. Absent. So we're while we have a long heritage and the in the mutual fund industry, we're very committed.
Through the development of.
Customized individual separate accounts.
As a as I'd enhanced way for investors to to invest in an array of strategies and then similarly invested in and less transparent EPS or portfolio protected the tariffs as a way to.
To do similar things through a fun vehicle.
With structural advantages versus a traditional mutual fund concept.
And just for licensing your own funds would you be easy would you more likely use a proxy model, it's out there already or or or say that precidian model and then otherwise it's clear hedge to the Cogs.
No we would be using our model as an alternative to the to <unk>. So I'm thinking of the clear hedges the as a six approach. Okay. That's something that would be up and add onto one of the other approaches you got it kind of thinking.
Your next question comes from a line of Mike Carrier with Bank of America, Mike Your line is open.
Great. Thanks for taking the questions I'm, telling overall the flow out looks promising I just wanted to get an update on how you're seeing demand shifts into floating rate category. If there was anything unusual industry exceed from this quarter and then just a small clarification follow up I think you mentioned, one or two funds reopening I caught one was.
Atlanta capital, but I wasn't sure if there was another one.
[laughter].
Yeah, so knowing that the only funds we have that reopening is the Atlanta capital Smid cap fund, which is an important milestone for us. It is our largest then I guess my that Matt measure most popular bond and it's got a real strong falling and.
Because it's been closed we've seen a fairly significant net outflows I think that's it's 420 million in the quarter. So once that's a reopened I would certainly hope at a minimum.
We can we can stop the net outflows and potentially get that front back into a into a growth mode. Again, it's not an open ended opportunity were potentially looking at closing it again, if we get.
A significant net net inflows but.
At a minimum we're hoping to up to abate the outflows there.
In terms of bank on because it's an interesting position we're in a currently.
We are I just had modestly to the positive in terms of our bank loan flows for.
The the up to the the the month of August today through a through Monday This week.
But it's a pretty small positive, but you know closer to zero than than something meaningful number.
That does not include the COO that that I talked about as as a as a.
A big price than a this week.
So we're thinking that we've kind of we've kind of bottomed out a we had a very rough quarter and the second quarter in terms of bank on flows.
[noise] yields here are a pretty attractive and I just talked this morning.
The yield on our Unlevered floating rate fund is about 3.6%.
The modestly Levered version is at 4.4% and the and the version that has a allocation to high yield is at 3.8% those are pretty attractive yields a for a floating rate product in todays market place.
Obviously, you've got to you got to be comfortable taking credit risk.
Because that's a component of this that's an asset classes. These are these are below investment grade securities.
But if people are generally getting comfortable that we've seen the worst in the economy.
You look at what kind of yields are available in other instruments and you start to worry at least some people do worry about the possibility.
That.
The long rates.
It could be moving up then we may have hit the bottom in terms of.
Where those are.
You start to build an environment in which a floating rate bank loans could be a could be again, the an attractive asset class.
Our history in this business, which goes back to the 1989 is that it's a business of cyclical growth in which our pattern has been over market cycles, we hit typically hit a new high and assets and then.
People's rate expectations change and we see outflows are people get concerned about credit and we see outflows, but we see nothing about our industry position or about the fundamental attractiveness of the asset class.
Suggests that we can't.
Again regain the the former highs in a in managed assets, which.
We're in the I think mid mid Fortys of billions of dollars. So.
That's not going to happen overnight, but we certainly think that.
We're in a world we're in the bottoming stage or were or maybe coming out of the bottoming stage.
Hopeful that we'll see a see an improvement in flows but it's not happening yet the good flows that we've had for.
For August I've been much more driven by a fixed income as opposed to floating rate income with continued very healthy flows for our.
On a short duration government income fund for our.
Hi yield strategy that for you know these strategies being the primary drivers of our income products flows on the nice thing about bank loans. It's it's it's not a negative currently in the same where there was that a significant negative in the.
The second quarter and a modest negative in the third quarter.
Alright. Thanks.
Your next question comes from line of Robert Lee with KBW, Robert Your line is open.
Hi, This is actually Jeff TRASM there on for Rob Thanks for taking my question.
A question just curious if he is he was an update on the potential acquisitions. If you think accelerating where your focus my beyond that.
Yeah. So we highlighted in our in my prepared remarks that we're we're we announced the acquisition of a 2 billion dollar wealth management wealth manager in Florida Cold water, Okay advisors.
That Oh, we announced that I think last month, and we would hope to close that before the end of the year.
That you should take that as the signal that we continued to be interested in expanding in wealth management.
We're.
Protein $10 billion in managed assets, there, including a water oak after that transaction is closed.
Which is a meaningful size competitor in the wealth management space and think that we'd have a lot to offer there and we'll look for other ways to grow there.
Other things that we find.
Potentially interesting.
And where we continue to have conversations include private credit.
Which we view as a.
Potentially highly complimentary to our.
Strong industry <unk> strong industry position them capabilities in the in the public credit markets through.
Through bank loans and how your bonds. So those are maybe two areas of focus.
We continue to look for opportunities to grow our platform in a responsible investing particularly if we can do that.
Outside the United States Calvert is today.
I'm really a U.S. brand that in an ideal world, we could we could grow our presence in responsible investing outside the United States. So those are some of that things were looking huh.
Great. Thanks, and then just another one on a.
Yeah Muni letters I, just think it's in terms of low rate environment, how do you see the demand for those and the outlook.
That is that that is frankly, a challenge that [noise].
For investment grade Muni ladders.
There's just not a whole lot of yield available at current interest rates one of things we've been looking to do and her in the process of.
Potentially.
Bringing to market as it is is a separate account product that includes a sleeve allocated to a high yield muni issuance or corporate issuance for for corporate ladder.
That.
Brings up the yield and does it in a in a diversified and appropriately diversified way so it would be owning.
As a part of up or the latter or or a separate account structure, a sleek dedicated to a diversified portfolio of higher yielding assets with the goal to to bring up the overall income level Oh for the portfolio enough in a managed controlled risk way.
Great. Thanks for the color.
Our final question comes from the line of Glenn Schorr with Evercore Glenn Your line is open.
Thanks, very much Tom I wanted to ask a little follow up on your comments earlier, given tax managed importance to your overall U.M. base and I'm with you between the election and the huge stimulus that it's a good chance tax rates are going up at some point. So the question is what can you do the prepared.
Either educating the clients educating the wealth management channel.
And is the post election tax cuts any indication and reverse some of what we might see how big of an opportunity you see a higher tax rate environment across your platform.
Yeah. So we we've gone through the a few times, we've had a focus on.
Tax managed equities and muni bonds for for several decades, now and so we've seen multiple cycles of rates going up in rates going down. So we have some historical perspective on on how this might play out.
There is certainly a lot of interest and the topic and it's been up a major focus of our.
Communication efforts to talk about the importance of investment taxes.
For a number of years, we used to do surveys of investors are asking about their thoughts on investment taxes and the results were always very consistent which is that.
Many investors appreciate the importance of tax years of taxes, but very few of them would say they understand what's involved and increasingly they look to their financial advisors as a source of information and guidance on tax efficient investing in that we think a great wafer advisors to.
Work with clients and add value is providing information solutions.
To help address a.
Concerns about taxes that they're going to be paying.
So we've done a lot of that over the years a if you go to our website and look at our marketing materials, we have a fair bit on there about taxes, we have up a calculator, which for you enter where you live in what you're a filing status is and what your taxable income as you can calculate what your current tax rate is.
We're looking at expanding that so that you can do a pro forma a tax rate based on assumptions about where tax rates go.
But for us, it's a great way to get in front of advisors.
To help them educate their clients and demonstrate.
Their expertise on something where clients know when they need help on though they need advice on.
Exactly how that plays out for us in terms of.
What products that is or how Howard product line up might change as result of that.
It's still wait you're already to determine.
What that might look like but certainly superficially.
Municipal bonds become more attractive at higher interest rates parametric.
Justin portfolios or tax managed investing generally becomes more attractive it at higher rates and that's very much a focus of our sales and marketing teams going into the election. This upturn help position advisers to provide good advice for their clients in that environment.
Thanks, so much time.
This concludes our question answer session I will now turn the call back over to Ericsson eight for closing remarks.
Thank you and I I don't think shoe for participating in a in our call an army call today, and a and we hope everyone will stay safe and healthy. Thank you another good day.
This concludes today's conference call. Thank you for your participation you may now disconnect.
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