Q2 2022 Invesco Ltd Earnings Call
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Welcome to Invesco second quarter earnings Conference call, all participants will be in a listen only mode into the question and answer session at that time to ask a question. Please press star. One this call will last one hour to allow more participants to ask question. One question and a follow up can be submitted per participant as a reminder, today's call is being written.
Courted now like to turn today's meeting over to your host Mr. Greg Ketchum <unk> head of Investor Relations, Sir you may begin.
Hey, Thanks, operator, and so all of you joining us on <unk> quarterly earnings call.
In addition to our press release, we have provided a presentation that covers the topics we plan to address today.
Press release and presentation are available on our website <unk> dot com. This.
This information can be found by going to the Investor Relations section of the website.
Our presentation today will include forward looking statements and certain non-GAAP financial measures. Please review the disclosures on slide two of the presentation regarding these statements and measures as well as the appendix for the appropriate reconciliations to GAAP.
Finally in basket was not responsible for and does not yet it nor guarantee the accuracy of our earnings teleconference. Transcripts provided by third parties. The only authorized webcasts are located on our website.
Marty Flanagan, President and Chief Executive Officer, and Allison Dukes, Chief Financial Officer will present, our results. This morning. After we complete the presentation, we will open up the call for questions.
Now I'll turn the call over to Marty.
Thank you, Greg and I'll start on slide three which is.
The highlights of the quarter, So let me start.
On that page if you don't mind, so the market environment, we have experienced for the first half of this year has been one of the most challenging decades global equity and debt markets delivered the worst for separate terms, we've seen in decades as investors reacted to uncertainty associated associated with rising fears.
Recession fears higher inflation interest rate hikes and geopolitical tensions.
Against this backdrop for the industry. Despite seeing the first net long term outflows quarter in two years, our diversified product lineup maintain net inflows and key capability areas, notably Etfs active fixed income greater China, where we maintain leadership positions.
ETF platform generated inflows of $4 $8 billion in the quarter the equivalent of a 7% annualized organic growth rate, our ETF product suite remains differentiated from competitors with a strong presence in higher revenue higher growth segments, such as smart beta and we continue to gain market share during the quarter.
Our active fixed income business generated net inflows of $2 2 billion with strong flows into shorter duration strategies given the market backdrop.
Our business in greater China delivered $1 $8 billion in that volume long term inflows. This quarter broke was driven by our China joint venture.
Strong demand for fixed income capabilities as investors saw the risk risk off assets.
As we show we showcased previously our business in China is uniquely positioned as a result of many years of investment and hard work building relationships with our clients and key stakeholders in the region.
Growth in China continued despite the difficult business conditions, which included Covid lockdowns in major cities. We are optimistic that the economic outlook in China is beginning to improve as COVID-19 shutdowns ease and the government take steps to boost the economy.
It gets recovered we are well positioned to capture future growth in the fastest growing market for asset managers in the world.
I also wanted to highlight our institutional business, which wasn't net inflows for the 11th consecutive quarters with $1 $5 billion.
The channel has been a steady source of growth and we have made tremendous progress in building the business to nearly a half a trillion dollars in assets under management.
The channel as well the prescribed by asset class led by fixed income and alternatives as well as geography, where we have a significant presence in each of the three global regions.
Good to serve a broad range of client types and our pipeline continues to be solid our solutions capability remains integral to the success in this channel.
A third of our pipeline this quarter.
We expect our institute to small business to remain a key strength for us in the quarters ahead.
Despite broad based growth in key capabilities and net outflows in equity strategies were $7 7 billion.
In this quarter and drove overall.
Negative outflows.
And active global equities in particular, we experienced net outflows of investor preference for risk off trades led to higher redemptions in the quarter.
<unk> are developing markets fund, which saw a $2 6 billion net outflows.
When you look at Invesco spillage to weather this volatile period and are focused on building a stronger balance sheet has resulted in much greater flexibility.
As I mentioned last quarter, we took advantage of the economically attractive opportunity to early redeem $600 million.
Of long term debt as a result total debt outstanding at the end of the second quarter is the lowest level since 2015, and our leverage profile has been steadily improving.
We've increased cash returned to shareholders. This year, Peter Sharpe share buybacks, along with a 10% dividend increase we announced in April the progress you've made on the balance sheet will allow us to take advantage of future opportunities and continue to invest in our business and.
An increased return to shareholders over the long term.
We met our target of $200 million annual cost savings from our strategic review.
Our focus will now shift to ongoing expense management discipline, and we will be deliberate as a management team and continuing to scale, our business platform global business platform and invest in key areas of growth.
In this uncertain environment clients seek an investment manager that can partner with them to meet a comprehensive range of constantly evolving needs and solve their most challenging problems a broad set of investment capabilities and differentiated platform. We've built positions us well to continue to meet our client needs and compete in a dynamic market environment.
Looking ahead, we will balance managing through near term volatility, while continuing to build a business that can compete and win over the long term.
When the global industry growth resumes, we are well positioned to capture demands across a wide range of client types and investment capabilities challenging times truly separate great companies from the back and we are confident that our unwavering commitment to client needs will distinguish invesco is one of the top firms in our industry with that I'll turn it over to Alison Alison.
Thanks, Marty and good morning, everyone I'll start with slide four our investment performance continued to be solid in the second quarter with 55% and 60% of actively managed funds in the top half of peers or beating benchmark on a three and a five year basis.
These results reflect continued strength in fixed income and balanced product areas.
Areas, where we continue to see demand from clients globally.
Moving to slide five we ended the second quarter with 1.39 trillion dollars in AUM.
A decrease of $166 billion from March 31st as significant market declines and FX rate changes contributed to $160 billion of the decline.
As Marty mentioned earlier, we experienced our first net long term outflows quarter in two years with $6 $8 billion in net outflows.
Spite that our business has proven resilient and our relative net flow performance in the period was among the strongest in our peer group.
Passive business continue to grow for $5 billion in net long term inflows.
And passive was offset by $11 $3 billion of net long term outflows in active capabilities.
The institutional channel continues to demonstrate the breadth and resilience of our platform with one $5 billion of net long term inflows in the second quarter.
The channel has been a consistent source of growth and has now been in net inflows for 11 straight quarters. We continue to see mandates fund across a diverse range of capabilities and as I'll discuss later our pipeline remains solid.
Global market volatility weighed on the retail channel this quarter, which experienced $8 $3 billion of net outflows, primarily in the Americas and EMEA.
Etfs and index strategies remain a key growth area for Invesco and were a source of relative strength in the second quarter with $4 $8 billion of net long term inflows.
Excluding the Q2 tiers invesco captured six 1% of industry net inflows significantly higher than our three 2% share of total industry assets under management.
Moving to slide six we experienced a slowdown in net flows across all regions this quarter and the exceptional market volatility net.
Net flows were positive in Asia Pacific inclusive of $2 $2 billion of net long term inflows into our China joint venture as.
As we've showcased previously we are uniquely positioned in China and expect growth to accelerate there as the economy recovers and COVID-19 restrictions ease.
It's just that with industry trends net flows slowed in the Americas and EMEA with both regions and net long term outflows for the quarter.
From an asset class perspective, we saw strength in fixed income in the second quarter, but in that long term inflows of $4 8 billion dollar drivers of fixed income flows included our China JV stable value and several fixed income Etfs.
We experienced net outflows in alternatives this quarter as net inflows in direct real estate mandates and two new CLO is were offset by net outflows in bank loans and our global targeted returns capability.
Year to date net inflows into alternatives were four excuse me were $5 $9 billion equivalent to a 6% organic growth rate excluding.
Excluding $2 $5 billion of net outflows in global targeted return organic growth in alternatives is 8% year to date.
As global markets declined significantly in the quarter, we experienced $7 $7 billion of net outflows in equity capabilities. We continue to see higher redemptions pressure some of our larger equity funds, particularly in global and developing market equities, which accounted for $6 $6 billion of net outflows.
Now moving to slide seven our institutional pipeline was $24 billion at quarter end, a decrease of about $5 billion from the prior quarter due to fundings during the second quarter as well as normal fluctuations in the timing of client investments.
Our pipeline has been running in the $25 billion to $35 billion range dating back to late 2019. So this is close to the lower end of that range.
While the pipeline is strong we're seeing some delays in mandates funding due to market uncertainty and expect that the typical funding cycle may lengthen by one to two quarters.
The pipeline also remains relatively consistent to prior quarter levels in terms of fee composition with an average fee rate running between the mid 20th mid 30 basis point range.
Overall, the pipeline continues to be diversified across asset classes and geographies.
Our solutions capability enabled 33% of the global institutional pipeline and created wins and customized mandates. This has contributed to meaningful growth across our institutional network.
Turning to slide eight the significant declines in global markets over the past several months have impacted our revenue base.
Quarter 2022, net revenue of 1.1 dollars $7 billion was 6% lower than last quarter, and 10% lower than the second quarter of 2021. Despite.
Despite the volatile market backdrop net revenue remained 13% higher than the second quarter of 2020. The last time, we experienced this type of broad market declines.
Money market fee waivers abate during the quarter after the federal reserve raised rates twice to combat inflation.
And then that money market fee waiver impact has had declined to $12 million in the first quarter of this year and it was less than $4 million in the second quarter moving forward, we do not expect money market yield waivers to materially affect our revenue base.
Total adjusted operating expenses of $762 million were up $4 million or less than 1% as compared to the first quarter of 2022 and flat to the second quarter of 2021.
Declines in employee compensation due to seasonally lower payroll taxes and variable incentive pay were offset by increases in other expense categories.
G&A expenses were $17 million higher than the first quarter as we incurred $14 million of fund related expenses. During the period that we do not expect to recur in the future.
The increase in property office and technology expenses can be attributed to additional rent associated with the move of our Atlanta headquarters to a new development in Midtown Atlanta in early 2023, we.
We took possession of our new building in April as we build out the space, while continuing to operate from our current Atlanta office and as a result property and office expense will remain $2 million to $3 million above the eventual run rate for the next four to five quarters.
As COVID-19 restrictions eased across North America, and Europe, we saw a meaningful return of client activity and business travel, which contributed to increases in marketing and G&A expenses that I'll cover on the next slide.
Interacting in person again with our clients and our colleagues around the globe is integral to our success as we transition to our new normal ways of working.
We remain highly focused on disciplined expense management, while continuing to deliver for our clients.
Moving to slide nine as of the end of the second quarter, we have met our initial $200 million savings goals for our from our strategic evaluation program as.
As compared to our normal pre COVID-19 run rate of expenses, we have delivered $213 million of annualized savings across employee compensation, our facilities portfolio and third party spend which includes a new a lower new normal level of travel and entertainment expense.
Since the beginning of the COVID-19 pandemic, our travel and entertainment expense ran at significantly depressed levels as Covid mitigation measures were put into place in business travel slowed to near zero.
Over the past quarter, we saw meaningful resumption of business activity as restrictions eased across North America and Europe .
We spent approximately $14 million on travel and entertainment this quarter.
If we look back to the second half of 2019 travel and entertainment expenses averaged around $25 million per quarter and that pre COVID-19 environment.
Given our new normal ways of working in various measures. We've put in place we do not expect to see travel revert to pre pandemic norms. We believe that our experience in the second quarter is approaching a new normal range for quarterly spending and we expect to recognize at least $5 million in savings per quarter or $20 million annualized as compared to prior levels of activity.
Moving forward, we will continue to focus on maintaining expense discipline and scaling our global business.
We employ a continuous improvement mindset and will take full advantage of efficiencies where there are opportunities.
And the second quarter, we incurred $5 million of restructuring costs related to this initiative and total we recognized approximately $247 million of our total estimated $250 million to $275 million in restructuring costs associated with the program as.
As a reminder, the costs associated with the strategic evaluation are not reflected in our non-GAAP results.
Going to slide 10, adjusted operating income decreased $129 million from the second quarter of last year to $412 million, primarily due to lower revenue as a result of the market declines.
Adjusted operating margin was 35, 1% as compared to 41, 5% in the second quarter of last year.
EPS was <unk> 39 cents as compared to 78 cents last year due to lower operating and nonoperating income.
In the second quarter equity and earnings of unconsolidated affiliates was a negative $8 million as a result of unfavorable changes in CLO valuations compared to a positive $40 million a year ago, when valuations were increasing other.
Other gains and losses were negative $29 million this quarter as compared to a positive $25 million a year ago, driven by lower valuations of our seed capital associated with market declines.
The effective tax rate was 24, 8% in the second quarter.
We estimate our non-GAAP effective tax rate to be between 24, and 25% for the third quarter of 2022.
The actual effective rate may vary from this estimate due to the impact of nonrecurring items on a pre tax income and discreet tax items.
On Slide 11, you can see how our asset base has evolved over the past two years.
As client demand has skewed towards lower yielding passive products, we have tailored our product offerings to meet that demand and experienced significant growth in passive and money market offerings.
Realizing that our business mix is shifting we continue to be focused on aligning our expense base with these changes.
While the declines in global markets pressured our margins this quarter operating margin of 35, 1% is within a normal range for where we are in the business cycle and remains above our second quarter of 2020 levels. The last time, we experienced a market draw down of this magnitude.
As I mentioned earlier, we will continue to be vigilant and prudently managing expenses and would expect margins to stabilize and eventually expand as markets recover.
I'll conclude with a few points on slide 12.
Our balance sheet cash position was $937 million on June 30th.
Decrease of $396 million as compared to last year.
The lower cash balance was due to the $600 million early debt redemption in may at economically attractive terms.
To help facilitate the early pay off we carried a balance of $185 million on our revolving credit facility at the end of this quarter, we expect to repay that balance in the near term and begin to build cash again over future quarters.
In terms of the benefits. The early redemption resulted in a net $6 million of savings with the make whole fee and other transaction related expenses being $5 million in the quarter and interest expense savings of nearly $11 million this year.
Second quarter interest expense included the make whole fee and other related expenses that totaled $5 million offset by nearly 3 million and interest expense savings.
For the third quarter, we expect interest savings of nearly $5 million and for the fourth quarter over $3 million.
This will result in interest expense being lower by these amounts in the third quarter and the fourth quarter.
Our leverage ratio as defined under our credit facility agreement with 0.7 times at the end of the second quarter.
If the preferred stock is included it was two six times.
Both metrics are an improvement over 0.9, and two nine times from one year earlier as our total debt outstanding reached its lowest level since 2015 at $1 $7 billion.
Overall, the progress we've made in managing our cost base and building balance sheet strength has given us a strong base from which to operate and ample flexibility to navigate the current draw down in global markets.
We're confident that by continuing to execute the strategy, we have laid out across our key capability areas Invesco will continue to grow organically over the long run and be the go to partner for our clients, while delivering value to our shareholders.
With that I'm going to turn it over to the operator, and we'll open up the line for Q&A.
As a quick reminder, if you'd like to ask a question. Please press star one you will be announced prior to asking your question. Please pick up your handset and asking the question to withdraw your your request. Please press star two.
One moment for the first question.
Our first question comes from Ken Worthington with Jpmorgan. Your line is open.
Good morning, Thanks for taking the question.
I guess, maybe first our gross sales slowed which doesn't seem surprising giving market conditions, but the slowdown was particularly pronounced in the Asia Pac region and I think you commented on some equity funds, but I wasn't sure. If it's that region was hoping you could walk through the slowdown in Asia Pac maybe by asset class and by.
Region there.
And help us understand how activity levels are developing in the region for the second half of the year.
Let me make a comment then Alison can pick up to them.
So we did see obviously a slowdown in net inflows.
China's.
Highlighted but in fact you are.
We continue with net inflows there I would say.
Sentiment is turning somewhat more positive from where it was I'm still challenge how to cope with Lockdowns really it.
It's a negative sentiment impact the area, but we are we were having a greater confidence in sort of the economic rebound quite frankly.
The consumer response to go back to investing in the region for Dallas and you want them right. We're supposed to college.
Sure I mean, I would just say kind of looking at what drove Asia Pacific over the quarter I mean, certainly the slow down quite a bit of pressure on it but as we break it down and kind of look at maybe the the China JV in particular continues to be our growth driver inside of the region and within the JV, we delivered $2 $2 billion of net long term inflows.
And that was really driven by primarily six new product launches, which drove the majority of those net inflows.
And I would say those mostly skewed towards fixed income so not surprisingly more demand for fixed income then we would be seeing for equities at the moment there given.
Just some of the overall sentiment pressure and as we.
Look across the region and look at greater China, and greater China, We did see them I would say some offsetting net outflows.
Merrily driven by outflows in our maturing fixed maturity product.
Australia had an outflow quarter as well that was primarily driven by outflows in our GTR product, which has remained under pressure as we've talked about over a number of quarters.
And then I would say some of that was balanced by inflows in Japan, where we continue to see strong demand for fixed income products in Japan. So you know little bit of a mixed bag in the quarter strong demand for fixed income which of course, we're seeing them in a number of places, but certainly in the China JV and in Japan.
Okay, great. Thank you and then just on the balance sheet. So where you pitched. It is a you know from a position of strength you deleverage somewhat or even meaningfully I think the stated goal is 100, Bill I'm, sorry, 1 billion of cash in excess of regulatory requirements.
Which gives invesco the flexibility you know sort of when it needs. It how flexible is the balance sheet right now it looks like the cash are is is pretty small over that regulatory requirement, but you've got a huge a revolver that you can top.
Given you've.
Pursue deals in more challenging times in the past I don't know just just walk through how you see the flexibility of the balance sheet right. Now you know for your ability to do a transaction if if if interested.
Yeah, Let me let me take the first part of that and then let Marty chime in as well and I would say a couple of things one and the stated goal. You mentioned is it is pretty old it's been a few years and candidly it predates my joining the company. We actually haven't had that goal in a few years I think I have shifted to them.
Some of what we've been guiding to more currently which is we're looking to strengthen the balance sheet overall and that's not just through cash balances. There's obviously a cost to carrying a whole lot of cash, particularly when we have some debt to take care of at the same time.
So you know I think.
<unk> seen a lot of our focus and kind of cleaning up a lot of the contingent liabilities and then starting to manage some of the capital structure at the same time. So I would guide you towards that just as you think about what are our balance sheet objectives overall, and that's to really put the balance sheet in a place where it's strong particularly in times like this I think about how much stronger the balance sheet is now than when we were in the last downturn.
A couple of years ago, and that's giving us that optionality to do a number of things. This year, we did engage in $200 million of share repurchases in the first quarter and then of course, taking advantage of the opportunity to early redeemed $600 million in notes and then we want to stay opportunistic and give ourselves the flexibility to do the same for the next maturity, which is in January of 2024.
For now what does that mean.
So for our overall priorities I would say our first priority is to reinvest in the business and it is a much more cost efficient and to grow organically and then it has to go out and acquire Inorganically that doesn't mean that there's a change in our strategy from an inorganic perspective, but I think we've really.
Straight it over the last couple of years that we have ample ability to invest in our business and grow our capabilities and I'm really thinking about some of our key growth capabilities like private markets.
Our fixed income platform, our ETF franchise, our China JV all of the areas, where you're really seeing us demonstrate the growth pretty consistently over the last several quarters, it's because we've been creating that capacity to invest in our own business. While at the same time, keeping our eyes open should there be the right opportunity now market conditions are.
We're certainly going to be rather choppy for that at the moment, but in terms of the opportunity we have with the breadth of our franchise to continue to invest in it.
I think we're very bullish on our own opportunity to grow the franchise we have.
Allison that was well said I don't have anything else that kind of just sum it up.
Highlights.
We're focused on reinvesting in the business in the areas of growth. We continue to look to reallocate resources, where we are growing our easy to say harder to do but we've continued to make progress there and job right.
Breakdown with the greatest flexibility we've had a good number of years so.
Oh.
We feel like we are in a position of strength.
Thank you so much.
Thanks, Ken.
Thank you and our next question comes from Brennan Hawken with UBS. Your line is open.
Oh, good morning, Marty Good morning, Alison Thanks for taking the questions I'm curious you.
A few comments on being focused on expenses. Alison you gave some color on TD normalization and sort of calibrated for.
What the experience has been so far but when we think about how much flex there is in the expense side.
You guys normally talk about a 30% you know component that's variable but is that is that still the right way to think about the rest of the year and how much are you thinking about trying to do more given the challenging environment and would that be more of a back half of the year event or what.
Would it be more of like a well the budgeting process for 2023 starts in probably just a few months and so it's better to focus there so as not to be disruptive to investments and try and balance the competitive dynamics could you maybe help us think about how you're framing that at this point.
Brent let me make a comment and Alison will also.
So I'll chime in.
So look you know, we said time and time again and if you followed this sector for a long long time. It is very difficult for an asset manager to adjust expenses in the short term to follow such a draw down in the market are quite.
Quite frankly, we don't try to do that we look at it in two different ways. One is in a period of uncertainty, which we are right now.
We hit the brakes, we do all the things that you would imagine we would do you look at things that are tactical ways to slow investing in the business we are doing that.
And then we look longer term yeah.
We continue to adjust accordingly.
And it's largely focused on trying to find ways to reinvest to.
And the Orissa, Allison talked about where were seeing growth and so it's really a two pronged approach and we've done it historically quite effective we will continue to do that but Allison please add to that.
Yeah no. Thanks Brennan for the question I mean, you know I'd say a couple of things as you think about our overall compensation expense and about a third of that is variable. So that obviously flex is pretty quickly with the change in revenue for the most part it's not a perfect relationship, but it's fairly quick given.
Just a variety of of incentive compensation plans that we would have driving an overall incentive comp.
You know, it's much more difficult to adjust overall compensation, nor would we necessarily want to and we want to be really thoughtful about positioning our expense base not just for the short term, but the medium term as well and then I think that really underscores a lot of Marty's point. So you know I think probably the essence of your question is where do we go from here.
And I would say a couple of things on compensation and compensation tends to fluctuate in that 38% to 42% as a percent of revenue range and you should expect us when revenue draws down as quickly as it has and we expect it to be under pressure and this year that we'd be on the higher end of that range underneath that we're going.
To be really thoughtful about making sure we're allocating resources and being very thoughtful about just hiring overall and where we position that next tier and how we really.
Really manage against the opportunities, we have and what's critical versus not critical and I think that's the essence of how we manage in the short term from here and certainly a challenging quarter to have revenue under so much pressure and a return to that kind of wide open travel environment at the same time I don't think we ever would have expected those to events to occur in the.
<unk> same quarter and it put enormous pressure on the top line and the expense line at the same time, we do expect I expect that travel normalizes from here again at the new normal that I talked about them earlier, and we'll be really thoughtful about travel in this environment as well when our clients want to see as we want.
Stay in front of our clients says it doesn't important now as ever in times of real volatility to be in front of our clients, but we can also be very thoughtful about our internal gatherings and some of the discretionary spend we have from there.
So it's hard to give you exact answers on all of this but hopefully that gives you a little bit of color as to how we're thinking about operating them and how we're managing in this environment and we do think were managing from a position of strength, but we're gonna be very thoughtful about all of our actions and decisions.
Yeah. Thanks for that that's a very very thorough.
From both of you appreciate it in the quarter. We also saw mass mutual increased their stake could you maybe talk about dialogue and how a dialog with them has progressed and whether or not you.
You can continue to explore expanding that strategic relationship to potentially bring.
Bring even more a.
Benefits beyond the obvious ownership tie up.
Great question and look.
The thing to look at as they increase your ownership stake in the company and.
Great confidence in the organization, we continue to have very good strategic conversations theyre extremely wide ranging and it's just a constant dialogue of where it can be opportunistic we've worked together and that continues so.
Again, I just plan on scene.
A deeper broader relationships.
In the quarters and months ahead when.
When you are saying.
Yeah, I mean, the only thing I would add is at.
You know they they continue to be opportunistic because I think they have a very long term view on the opportunity. That's there and theres a really deep partnership that continues to grow and expand and Ah. Yeah. I think this is a mutually beneficial relationship on a lot of sides and you're seeing that as they continue to take a long term view on the overall.
Kennedy in the common stock.
Okay.
Has there been any corresponding adjustment to the positioning on their platform or any any shift in how you guys are ranking as far as flows on their platform go or or anything like that.
I think we continue to be the second largest broker dealer in terms of a U M. On their platform I think we're their largest in terms of sub advised in D. C. I O mandates, we manage about $5 billion on their platform and an additional $5 billion in variable annuity and sub advised AUM.
I'd.
I'd say you know in addition to that we've got about all over $3 billion in other investment relationships with them.
Which consists of there are investment in our alternative strategies in terms of their co investment and and our investment strategies in some of our alternatives capability. So it's a it's a rather broad relationship.
Okay.
That's all really valuable, but I think particular.
Being an anchor tenant you know co investor in our alternative capabilities is really meaningful.
Yeah. It's.
Not just from the money itself, but any investment, but really the credibility that comes as a major tenant.
Go to market with your bedroom you recognize how important that is yep.
Great. Thanks for that color I appreciate it.
Thank you and our next question comes from Mike Cyprus with Morgan Stanley . Your line is open.
Hey, good morning, Thanks for taking the question just given the market volatility with rising rates, just curious to hear a little bit of what you're hearing from your institutional clients just in terms around asset allocations, what sort of changes are you hearing your clients are thinking about contemplating just given the volatility of the rising rate backdrop.
How do you see that are also impacting 60, 40, which had probably the worst quarter in many decades. So just curious how you see that how you see that evolving from here. Thank you great question I'm sure you're having conversations with your clients too and I will say, it's all over the map I would say whether it was institutional.
Retail and is your broad comments.
Largely everybody hit the brakes in the first part of the quarters, you'll see what is going on and what's the depth of this worse is heading.
And now the conversations are moving more towards more towards institutional investors.
For us.
Where are the opportunities you know how how should we think about it.
Yeah.
S allocation there is an absolute focus on them.
Moving towards.
Where should the asset allocation.
Yep inflationary environment.
Conversations around duration and fixed income.
Some people were actually thinking less exposure to fixed income greater exposure to things like real estate.
So again, it's really there's.
There's no single answer and it's probably as broad conversation I've had with clients.
Long as I can remember there's no there's no common theme of where the next step is for any one institution that said.
Good news is.
The breadth of our capabilities puts us in a position where we can serve.
One of the decisions that many abuse issue Supercars will take.
Great. Thanks, and just a follow up question if I could just on ESG I guess two pronged here wanted maybe you could just update us a little bit on some of your initiatives remind us how much any women.
Flows you guys are seeing and then just more broadly on ESG, what sort of risk and opportunities do you see from increased U S. C regulation, but also regulatory scrutiny on ESG products that we're seeing come to the industry. Thank you Yeah, Let me hit some.
The more macro points and I'll turn it to Allison.
I will say it.
Fascinating, yes, she conversation has evolved quite dramatically I'd say over the last six months and it is a different conversation in different parts of the world where.
Hum.
The EU in particular the U K.
Dramatically far ahead of where the United States is in much more specific on what yesterday means and how do you.
Implement history within the portfolios.
The good news about it is you have a roadmap you know what you're doing obviously here in the United States, It's a very different conversation client by client and Oh.
From our perspective, what we see.
Everywhere, we don't have a top down policy when we think about ESG. It is really client driven portfolio management, driven and supported by <unk>.
ESG team and that's how we have implemented.
It is harder in the United States I'd say in particular, because the roadmaps out there there is absolutely obviously.
The other is a regulatory push that is coming to be much more specific on climate and yesterday I ultimately think.
Mark will be very very helpful. But just for a moment as you know really quite challenging.
Alison do you want to pick it up from there.
Sure I mean, I would just say in a couple of the specifics as of the end of June 30th we managed $77 billion M. A N E. S T a N across over 200 funds and mandates.
That's about 6% of our overall AUM, so it's quite a bit lower on an absolute basis relative to where we were in the first quarter, but that's really.
Really a function of the market.
Declines and some of the outflows, we did see about $2 $4 billion in outflows in those in that ESG AUM and that was really driven by active retail M and in particular, our GTR and some of our quantitative equity strategies and so it's kind of consistent with its its really a subsection of the.
You know some of the outflows we've been talking about in terms of other categorization and beyond that we really think about our AUM in our in terms of trying to move towards what we would consider a minimal but systematic integration of or ESG integration and we've got about 85% of our AUM currently.
<unk> under this.
Definition of minimal, but systematic integration, so and and our aspiration is to get all of our U M them under the same kind of integration category and it's really thinking about our ESG approach is being defined and consistently applied across all of them for you know from all of the portfolio managers and really ESG considerations being used consistently in the investing.
Decisions.
But again that all is kind of under the banner of some of the macro themes that Marty gave you.
Great. Thanks, so much I appreciate all the color.
Thank you and our next question comes from Brian Bedell with Deutsche Bank. Your line is open.
Great. Thanks, good morning folks.
Maybe if I could just focus on some of the you know the investment and and in the TNT and Youre getting out on the road more in talking with financial advisors on the retail side, maybe if you could just.
I guess characterize the current environment is it similar to what you described on the institutional side Marty in terms of sort of initially being frozen, but now obviously with Merck it's down a lot there's a lot more opportunity.
Do you think I'm getting on the road more and and getting out in front of our advisers that that will have a.
Demonstrable positive impact on the on the sales growth in the retail channels are just maybe your outlook on that as we get as we move forward in the second half.
A couple of comments I, I'd say spending time with both.
Our wealth management.
Platforms advisors and institutional clients.
Frankly, though.
In the United States and Europe .
It's palpable the different engagements, obviously with clients I think you know we've also got to one another and again everybody on this call has been having that same experience. There is just.
Zoom is wonderful, but it just it is just not the same and it does advance relationships and exchange of thoughts and opportunities.
No question in my mind, I'm not going to tell you that it's going to drive sales you know straight up to the moment I just don't think you can be.
That correlation, but it is clearly a net positive and yeah, there's something yourselves and said hey, we are going to be very disciplined.
Discretionary travel internally, although we think that's important we can live without that we have for the last few years, but we're really we're just going to continue to be with our clients.
That's so important for the business.
Patient ships that we have.
Yes.
Good color and then just a follow up on on a longer term expenses that obviously you continued to manage expenses diligently in this environment.
Any commentary about sort of structural expense saves from a migration of the custody and back office I think youre using these day alpha platform and that converts I think over a longer timeframe.
The open platform, it's H b that is over a longer timeframe of a couple of years.
Can you talk about what how.
How that might.
Is that material to impacting the cost base when that migration occurs or is that that's more futuristic.
So.
It is an important undertaking for us and it's probably two to three years out you know we are at the stage of.
Starting to the.
Sort of rolling implementation. It is very broad it's very deep.
It's complex as you would imagine because it is really a total step back on our operating platform and we think it's really meaningful and important for the future of the organization. What we're trying to do with data and et cetera, no different than again every organization on this phone.
There are other areas again, Alison spoke to we are looking very hard within the organization or is there some sort of a muscle that we are have been developing over the last few years, that's getting stronger and stronger.
You know challenging ourselves.
Where the dollar spent.
The right spot from a dollar or should it be.
Reallocated towards growth and driving operating income and hit the area as you know the areas, whether it be China, Etfs et cetera from the private markets.
That said there will be times, where you are in that process, we'll say the best place for US dollar to goes to the bottom line. So we are pulling on all of those levers and.
We just constantly do with you know the downturn of the market doesn't make us wake up and think we should do it is this quarter, what we do and I think.
Again, as we continue to point out over the last couple of years, you can see with the movement in the effective fee rates and our ability to maintain margins, there's something we keep pointing to.
Again.
In this downturn.
Protecting margins.
Much more difficult thing to do and I would just reiterate the point that Alison said earlier markets will return and in that period, you'll see the expansion of our margin agenda well in fact, we continue to invest in the future or make the decision to have that next dollar drop to the bottom line.
Okay. Okay. That's good color I have a follow up and I'll get back into the queue. Okay.
Thank you.
Thank you and our next question comes from Glenn Schorr with Evercore. Your line is open.
Hi, Thanks very much.
So I guess I wanted to.
Pull out a little more from you in terms of your thoughts on clients.
You both mentioned lower gross sales, but kind of flat with <unk>, which in a way in a market downturn as it.
As reasonable.
So.
You have a growing ETF franchise do you think as people come back as markets settle eventually do people come back via the ETF over single stocks and mutual funds in your mind, what have you seen in the past and then which inflation protected products and in higher interest rate position products do you think might see.
Some of that shifting money.
Yeah.
Yeah, a couple of comments so.
So first of all.
You know what I would say, it's hard to predict the future yoga in this immediate moment.
Again, that's what we're all meant to be doing.
The ETF is a sovereign wealth management platform. So the ETF is obviously a vehicle of choice.
The mutual fund still has a place it doesn't have the same.
Our focus right now that is amazing Etfs hubs, but in fact, it's an important part of it.
We do see me I believe that that vehicle will continue to be a part of the answer going forward that said, what really matters is the investment capabilities within each of the vehicles, we look at that as a primary driver.
As you move to what are the areas of asset classes that will.
It will be more interesting in this environment, you know bank loans will continue to be.
Youre going to continue to see the.
<unk> suite with an old ones. So it won't be active or passive continues to be an area of focus real estate is another area of focus for the organization. So there are a number of areas of a gym.
Returning to and you've seen that.
Uh huh.
Prior year, or so and quite frankly, there is greater conversations on our retail platforms.
We're moving back towards you'll focus on value.
Equities, which needless to say that has not been an area of focus over the last period of time.
Alison anything you went out to them.
No I actually I think you've covered it.
Cool, maybe just one other thought process on <unk>.
Product preference.
Growing private markets business, even in this backdrop.
I'm curious just big picture thoughts on performance client interest flows opportunities.
As a comparison to all your other public market oriented vehicles.
Thanks I appreciate it.
But again.
It's hard to.
Totally compare and contrast, but you know look we've all seen the growth in private markets over the last decade.
It's been an area of focus for us where we have where.
Where we have areas of strength continues to be an area of growth and accelerating growth and we are turning our attention to continuing to organically drive that growth and it is a part of.
Any conversation that we're having with our institutional clients particular, and now the wealth management platforms looking for ways to find exposure to alternatives capabilities for us are the most prominent one is.
Coming down the path right and that was in retail in the United States and a wealth management platform and quite frankly, it's been quite successful outside of the United States through Hum.
Our joint venture we've done with UBS. So again it continues to be an area of focus for us It continued area of growth.
We look forward to the quarters ahead.
Yeah, I mean, I, just I'd add to that I think yeah. We we continue to see really strong originations overall and flows into our private markets capabilities particular, particularly into our direct real estate and business of late.
Yeah, you've got kind of a confluence of factors and events happening there and there is perhaps a shift in some preference for some real assets in this environment and at the same time and Youre starting to see given the downturn in the equity markets and from an allocation perspective, you've got maybe perhaps some over.
Suppose you are to real assets at the moment to real estate at the moment relative to benchmarks and so that's going to take some time to normalize out but.
But despite that and we continue to see very strong growth in overall client commitments to direct real estate and in the first half of the year and obviously very strong interest primarily from our institutional channel, but as Marty noted with the growth that we have and some retail focused strategies, we're starting to see them.
Some positive signs there and we've got quite a bit of dry powder, and our business and and that's really the capital we have from clients that hasn't that has not yet been deployed in terms of direct mandates and and that's really kind of captured in that won not funded pipeline on the institutional side and the growing them.
Allocation, we have there are two alternatives really does point to the growth in the direct real estate business. So I think overall and you know that we're very.
Cautiously optimistic and that we could continue to see good growth there and I'd say on the senior loan side and at some point there will be some desire as credit spreads start to widen a M for exposure there right at the moment, it's been I'm really managing the interest rate exposure, but there will be credit risk exposure.
Clients are gonna be seeking and that's going to bode well for our platform also.
Okay. Thanks, Alison Thanks Marty.
Thank you Glenn.
Thank you and our next question comes from Dan Fannon with Jefferies. Your line is open.
Thanks, Good morning wanted.
I wanted to talk about performance and looking as you look at your active franchisee.
Their products or categories that you see neither are performing well, but you have the potential to grow at a faster pace.
Market becomes more stable gross sales environment improves.
Looking at your U S value it looks like the one you remember has gotten a lot better I don't know if you just kind of think about it. If you look at all those various products anything that stands out that has the potential to really potentially improving in any way.
Yeah. Good question. So if you look.
A few comments if you look at the fixed income suite of products continues to be strong and.
Demand continues to be there obviously it shorter duration fixed income at the moment and you wouldn't be surprised if the market environment that we're in are you also highlight if you look at it.
U S value franchisee performance has improved quite dramatically.
Yeah that has been an area of out of favor from a demand point of view from an industry not unique to us but from an industry perspective.
Quite frankly.
I would have done in any number of conversations over the last number of months where.
The other is conversational people turning to U S value.
Asset class and if we if you asked me that question.
12, 24 months ago that just was not on the horizon.
The other area, that's really important to us as the global equity franchise, where do your markets in particular and.
The performance is challenged at the moment that said I think in some of the most.
Justin probably arguably the most talented emerging market's manager.
In the business and as you know shorter term performance is improving.
Quite strongly and.
That's that's going to be an asset class, even though it's not in favor right now it's.
It's going to produce spectacular results for clients and no doubt.
Return to net inflows in the quarters ahead.
Got it and then just.
On China in the backlog or the outlook for Newfield.
New funds I think.
That's around six new funds with just under 2 billion of flows in the second quarter. How do you think that's tracking for the back half of the year.
Hard to say exactly I mean, I would say overall.
Relative let me compare maybe second half of 'twenty two may not look all that different from the second half of 'twenty one.
Or sorry first half of 'twenty, two let me say that again to make sure. That's clear second half of 2022 may not look that different from the first half of 'twenty two in terms of new product launches in China I do think it is highly dependent on.
Just where where they go with COVID-19 measures and and so you know.
How the government thinks about the economy, there and some of the growth then maybe stimulating so we're gonna be watching that very carefully and we're gonna be positioning product very carefully against that relative to 'twenty, one and yeah. That's it's certainly lower and different in terms of our new product launches last year, you would've seen more balanced and equity focused.
<unk>, what you've seen so far this year is a little more fixed income focused and which makes sense, just given where sentiment.
And client preference is at the moment, so I'm not sure. If that's helpful. It's hard to say given the measures that are continuing to evolve there, but that's generally how we're thinking about it and what we'll be watching for yourself.
Here's how I think about it and you're asking the right questions. So.
Where we believe you know China is in sort of the economic cycle.
Looking towards the rebound so they're ahead of the United States and in Europe .
There is.
A lot of focus on the leadership to stimulate the economy for all the reasons that we know about so I look at those two powerful forces of reason to be optimistic.
Wanted to be cautious about is just what I also said it is still very challenged lockdown COVID-19 environment, although they are easing and so if it.
If you sort of muddle through Covid and you have those other two factors.
Holding true.
Continue to look at China's been.
Contributor and growing contributor again timeframe so hard.
Determined.
Thank you.
Thank you and our next question comes from Patrick Davitt with Autonomous Research. Your line is open.
Hi, good morning. Thanks, So the active bond inflows I think we're pretty notable relative to what we're seeing.
And the industry right where were they active bond flows it looks like it's going be one of the worst quarters ever.
I saw the comment about short duration in the deck, but it still seems like a pretty dramatic departure from what the industry saw so anything else you could point to about your mixed strategies and or how you distribute these products that you think caused such a dramatic positive break with what the industry is seeing on the bonds active bond side.
Okay.
You're right.
From an industry perspective, the results are very very strong and it really is just a reflection of the depth breadth and capabilities of the team and.
The way that they are getting confidence within the channels I don't know that I would highlight anything.
More specific than that but a recognition of the talent and how we are interfacing with our clients.
So again it's.
It's wonderful to see when you're relatively outperforming what was a very challenging market.
Market environment.
The only thing I'd add to that is China, and China definitely helped them drive some of the strength in fixed income as well and I think that point. So there just again the underlying strength, we have in our positioning in China.
Thanks, that's all I have.
Okay.
Thanks, Patrick operator, we have time for one more question sure and our last question comes from Alex Blaustein with Goldman Sachs. Your line is open.
This is actually Ryan Bailey on behalf of Alex.
The first question I was going to ask was around the net revenue yields some of the market headwinds, particularly FX I think got worse later in <unk>. So can you give us a sense of what the exit rate was in the net revenue yield first of all it was reported for <unk>.
We really eating net revenue yield really is a function of overall average us its average AUM. So there's really not an exit rate in it and if you think about what was driving net revenue yield inside of the quarter. I mean, it is almost entirely explained by the declining equity markets and then.
Secondarily, but also very importantly, the continued growing asset mix shift that we're experiencing towards our passive products and you had some positive offsets in that just in terms of the abatement of money market waivers and an extra day in the quarter, but net revenue yield really is pretty simply.
<unk> explained by the overall declining equity markets and the pressure we experienced in that along with the mix shift in our a U M them you know in terms of exit rate and how you should think about it for the future quarters am I would say, we would expect to continue to see demand for our passive capabilities and we can we expect to continue.
To see pressure.
On our equity Oh N just given the exit rates in terms of the market impact on the quarter and so I would expect to see net revenue yield continue to grind a little bit tighter in the quarter, but I'll just.
And everybody that we really focus on both revenue and net revenue yields just an output it's not an input and it doesn't reflect changes in the fee rates. It's really just the mix shift in the overall market impact we continue to focus on revenue stabilizing it for now growing it.
And really managing our expense base against that and for the business profile not just that we have the data, but that we expect to continue to evolve and shift to in the coming years.
Got it and then maybe just to hit on that that last comment around expenses.
I think you mentioned that you expect the margin to eventually stabilize and then expand as markets return.
And that 35% was kind of the right place to be in the business cycle.
Yes, just as we think through the dynamics for the next quarter or the challenging market for <unk>.
Is it fair to think that maybe we slipped a little bit below.
As we enter next quarter.
And I do think that when you think about where asset levels were at June 30th and just the entry point into the quarter with asset levels and you can certainly expect that net revenue will continue to be under pressure in the quarter and so while we are hyper focused on expenses as you've heard us talk about and you can expect what.
The overall impact of that in terms of operating margin look if we continue to see equity markets under this kind of pressure throughout the quarter it will be difficult, but I think it's.
Reasonable to expect operating margin is going to be maybe at or slightly below where it was and in the second quarter.
Lots of moving parts and the markets being the biggest driver in that but we're going to continue to stay focused on managing what we can commit what we can manage them and controlling what we can control.
I think what we're wrapping up here, but I'll just close with them. We are operating from a position of strength. There. We do have expense discipline measures in place and that give us the opportunity to be very thoughtful about the margin from here and our balance sheets in a strong place and and we have the opportunity to be opportunistic and to continue and invest in our business and that's most important.
Because these markets will stabilize them and I think we're really well positioned in terms of our key capabilities and supporting our clients and growing with them from here.
Thank you for all the color.
Well, let me just say thank you for your time. Thank you for your questions and engagement and look forward to being in touch with everybody.
Over the Hill.
Next month's before we'd physical once again next quarter. Thank you.
Thank you that concludes today's conference you may all disconnect at this time.