Federated Hermes - Earnings Call - Q3 2018
October 26, 2018
Transcript
Speaker 0
Greetings and welcome to Federated Investors Third Quarter twenty eighteen Analyst Call and Webcast. At this time, all participants are in listen only mode. A brief question and answer session will follow the formal presentation. As a reminder, this conference is being recorded. I'd now like to turn the conference over to Ray Hanley, President of Federated Investors Management Company.
Please go ahead, Mr. Hanley.
Speaker 1
Thank you. Good morning, and welcome to our call. Leading today's call will be Chris Donahue, Federated's CEO and President Tom Donahue, Chief Financial Officer. And joining us for the Q and A are Saker Nasebe, the CEO of Hermes and Debbie Cunningham, our Chief Investment Officer for Money Markets. During today's call, we may make forward looking statements, and we want to note that Federated's actual results may be materially different than the results implied by such statements.
We invite you to review the risk disclosures in our SEC filings. No assurance can be given as to future results and Federated assumes no duty to update any of these forward looking statements.
Speaker 2
Chris?
Speaker 3
Thank you, Ray, and good morning. I will briefly review Federated's business performance and Tom will comment on our financial results. With the Hermes acquisition effective July 1, our Q3 results include a full quarter of Hermes impact. We have modified our asset and flow reporting by moving multi asset and alternative strategies out of equities into their own categories. The addition of $47,000,000,000 in Hermes assets boosted our total long term assets to $173,000,000,000 and our total managed assets to $437,000,000,000 at the end of the quarter.
Now turning first to equities, we closed the quarter with $84,000,000,000 of assets, up from $58,000,000,000 at the end of Q2, reflecting the addition of about $25,000,000,000 from Hermes and market gains of $3,000,000,000 partially offset by $1,000,000,000 of net redemptions, parenthetically, which are down from $2,300,000,000 in the second quarter. We had 17 equity funds with positive net sales in the third quarter. Our small cap funds continued to show strong performance and solid flows highlighted by the Kaufman Small Cap Growth Fund with top decile performance in its Morningstar category for the trailing one, three, five and ten years at the end of the third quarter and net sales of over $150,000,000 to reach $1,700,000,000 in assets at quarter end. MDT SmallCap Core with its top 1% Morningstar category ranking for the trailing three and five years at the end of the third quarter and net sales of almost $175,000,000 to reach just under $1,000,000,000 in assets at quarter end. MDT small cap growth with top decile performance for the trailing three and five years at the end of the third quarter and net sales of a little over $100,000,000 to reach $668,000,000 in assets at quarter end.
Several Hermes funds achieved positive net sales in the third quarter, including the SDG Engagement Equity Fund, Global Equity ESG Fund, Impact Opportunities Equity Fund, European ex UK Fund and the Global Small Cap Fund. Other equity funds with positive net sales in the third quarter included MDT MidCap Growth, MDT All Cap Core and Muni and Stock Advantage. Using Morningstar data for the trailing three years at the end of the third quarter, nearly half of our funds, about 11 exactly 11 out of 23 were in the top decile 15 funds, just about two thirds were in the top quartile and 17 funds or almost three fourth were in the top half. Looking at strategic value dividend strategy, its objective is to provide a high and growing dividend income stream from high quality companies. The domestic funds twelve month distribution yield of 3.54% ranked in the second percentile of its Morningstar category at the end of the third quarter.
The domestic strategic value dividend strategy had combined mutual fund and SMA outflows of $1,500,000,000 in the third quarter compared to $2,300,000,000 of outflows in the second quarter. Looking at early fourth quarter results, combined fund and SMA net redemptions were about $190,000,000 through the first three weeks of October. For all equity funds, which obviously includes Federated and Hermes, in the first couple of weeks of October, net redemptions were approximately $69,000,000 and equity SMA net redemptions were about 33,000,000 Please note that these numbers include three weeks of Federated funds and two weeks of Hermes funds. Turning to fixed income, assets increased by about $4,000,000,000 in the third quarter to $65,400,000,000 due to the Hermes acquisition, up about $2,700,000,000 Net inflows were about $745,000,000 and market gains about $455,000,000 Institutional separate accounts in the multi sector area drove inflows. We also saw modest inflows in total return bond fund and in various short duration strategies, while high yield had slight net redemptions.
Our fixed income business had a variety of strategies that are performing well. At quarter end, using Morningstar data for the trailing three years, we had 11 funds in the top quartile, including total return bond, institutional high yield and Hermes multi strategy credit and 21 funds in the top half. Fixed income fund net sales are negative early in the fourth quarter due mainly to high yield redemptions. We have seen net sales in total return bond fund for the first October. In the alternatives category, assets at quarter end were $18,500,000,000 with most of that coming from the Hermes acquisition.
Highlights in the quarter include the newly launched Hermes unconstrained credit fund adding about $122,000,000 in net sales and the prudent bear fund was about $30,000,000 in net sales. Now looking at money markets. Total money market assets increased approximately $9,000,000,000 with funds up $10,000,000,000 and separate accounts down about $1,000,000,000 mainly from seasonality. We had positive money market fund flows from a variety of institutional and intermediary clients in the third quarter. Our average investment advisory fee rates for money market funds was the same as it was in the prior quarter.
Prime money market fund assets increased about $6,000,000,000 or 18% in the third quarter from $32,000,000,000 to $38,000,000,000 Our money market mutual fund market share at the end of the quarter was 7.3, up from Q2's 7%. Taking a look now at our most recent available asset totals and once again Federated as of October 24 and Hermes as of October 12, Managed assets were approximately $40 in money markets, dollars 79,000,000,000 in equities, dollars 65,000,000,000 in fixed income, dollars 18,500,000,000.0 in alternative and $4,500,000,000 in multi asset. Money market mutual fund assets were $187,000,000,000 In the institutional channel, RFP and related activity continues to be solid with diversified interest in MDT, EAFE and Kaufman for equities and trade finance, floating rate and short duration for fixed income. We began the fourth quarter with about $300,000,000 in net fixed income institutional additions that are yet to fund. On the international side, with the addition of Hermes business, Federated's total assets in the international market reached $62,000,000,000 at the end of the third quarter.
We are working closely with Hermes to develop and begin implementation of a global growth strategy driven by Hermes leading ESG integrated investment strategies and federated strong investment capabilities backed by our respective distribution
Speaker 4
strength.
Speaker 3
We have just launched efforts to present certain Hermes strategies like credit, global equity and global small cap in The U. S. Institutional market and are planning to register mutual funds to offer some of Hermes' best investment ideas to our customers in 2019. We are looking at ways to grow the successful Hermes EOS business that features leading ESG stewardship and engagement services to institutional asset owners and pension funds and are working with Hermes to develop opportunities for them to offer federated strategies to their clients. Hermes managed assets at ninethirty were approximately $47,000,000,000 up slightly from the second quarter.
Third party assets were $31,900,000,000 up from $31,000,000,000 at the end of the second quarter. BTPS, the pension scheme's assets were $15,000,000,000 down from $15,500,000,000 at the end of the second quarter consistent with previous notice. Hermes net sales from third parties were $472,000,000 partially offset by the planned BTPS net outflows of $397,000,000 Hermes highlights from Q3 include progress in the development and growth of a world class multi asset credit platform following successful third party seed commitments into both the Hermes unconstrained credit fund, which has since grown to $371,000,000 and the Hermes European direct lending fund, which has commitments of over $100,000,000 In addition to efforts with Hermes, we continue our business development in the Asia Pac region with a focus on opportunities in Greater China, Korea and Japan and are actively working to establish strategic relationships with select financial institutions to add regional distribution of Federated investment strategies. This effort complements Federated's European, UK and Canadian operations. Managed assets, excluding Hermes in these markets, totaled about $15,000,000,000 at quarter end.
We also continue to seek additional alliances and acquisitions to advance our business.
Speaker 2
Tom? Thank you. As Chris noted, our Q3 results include a full quarter of Hermes impact. Total revenue increased by $52,600,000 from the prior quarter due mainly to the addition of Hermes revenue, which was $49,700,000 an additional day about 3,000,000 and higher average money market assets, which brought about 1,000,000 point dollars Revenue was up $30,000,000 compared to Q3 of last year due mainly to Hermes, partially offset by the impact of the adoption of the revenue recognition standard, about $9,000,000 higher waivers primarily from money market funds, about $5,000,000 and changes in asset mix of average money market assets also impacted the revenue by about $2,000,000 Operating expenses increased $51,500,000 compared to the prior quarter and $37,100,000 from Q3 of 'seventeen. The increase from the prior quarter was due to Hermes' $44,700,000 and Hermes transaction related expenses about $8,600,000 The increase from 2017 was due primarily to Hermes and Hermes transaction related expenses of about $10,000,000 and the adoption of the revenue recognition standard, which reduced distribution expense by $7,000,000 and reduced other expense by $1,600,000 Q3 comp was $103,000,000 This included a number of Hermes related items.
A normalized comp number was about 105,000,000 and an early estimate of Q4 comp and related expense is 106,000,000 In July, we estimated that we would incur $19,000,000 in Hermes transaction related operating expenses during 2018. We have incurred $12,700,000 in operating expenses year to date with $9,900,000 recorded in Q3. The $9,900,000 in Q3 was included in the following line items: comp and related of $3,800,000 professional services fees, 4,100,000.0 travel and related, 400,000 and other, 1,600,000.0. For Q4, we estimate that we will incur about another $1,000,000 in transaction related costs for a total of approximately $13,700,000 in 2018 transaction related operating expenses. We expect to incur additional expenses in 2019 related to the implementation of growth strategies with Hermes, as Chris mentioned.
We view these as ongoing investments and not transaction expenses. Amortization expense related to the Hermes transaction was approximately $2,700,000 in the third quarter. We expect Hermes deal related amortization to be about $11,000,000 in 2019. We repurchased 277,000 shares in the third quarter. At quarter end, cash and investments were $157,000,000 of which about $106,000,000 was available to us.
Rob, we would like to open the call up now for questions.
Speaker 0
Thank you, Ray. At this time, we'll be conducting a question and answer session.
Speaker 5
Session.
Speaker 0
Thank you. Our first question is coming from the line of Michael Carrier with Bank of America Merrill Lynch. Please proceed with your questions.
Speaker 6
Alright, thanks a lot. Maybe first question, just with Hermes on board, I think, Chris, you were talking about some of the growth strategies as you get into 'nineteen and beyond. And when you think about maybe the distribution channels and the distribution team in The U. S, I mean, where you've kind of been seeing certain demand, whether it's on the ESG side, Just wanted to get some context on where you see most of those opportunities on the growth side with Hermes on board.
Speaker 2
Thank you, Michael. The four
Speaker 3
funds and things that we are looking at, two of them are in one is an absolute return credit strategy and one is an unconstrained bond strategy, which we think are going to be very strongly received by the client base. The other two would be a global equity and a small cap global mandate. There are also other things that we are thinking about, an EP approach and others that are in registration that I'm not allowed to say what they are.
Speaker 6
Okay. Thanks for that. And then, Tom, maybe just on the expenses, you gave the guidance on comp. I guess just when you look at with Hermes on and some of the guidance that you guys gave when the deal was announced versus today, And I know there's a lot of moving parts, so it's a little bit tough. But just when you think about the accretion, are things heading like roughly as you expected?
Has it been a little bit better, a little bit worse? Just want to kind of get a sense on how you think things are trending on the financial side?
Speaker 2
Sure, Mike. There are a lot of moving parts, and that's why I took you through the comp number. And if you remember, I said there are a lot of Hermes related items,
Speaker 3
and they move some of
Speaker 2
them move up, some of them move down. We closed earlier than we thought when we talked about when we were going to close. So we actually closed on July 1. We did all our modeling to close on August we had so that brought in
Speaker 3
higher earnings to us. We had less expenses, as you've seen me take you through
Speaker 2
each time in April and then in July and today, our closing costs have gone down from what we expected each time. That's partly because we closed earlier. We didn't have
Speaker 3
to address a lot of
Speaker 2
things that we thought we're going to have to address. The amortization expense, which we told you what it was, came in lower than what we thought. A couple of the moving items that are in comp are had Hermes had accrued for Q1 and Q2 their regular
Speaker 3
incentive comp. And then when we closed, management decided to take some of
Speaker 2
that
Speaker 3
comp and defer it over a three year program. So then that's why
Speaker 2
we had basically a reversal of an accrual. So that sent comp higher. We didn't have that in our numbers. Some of the upfront payments
Speaker 3
that Federated made to the pension scheme and to the employees, the part that they owned, Management took a part of the of that payment and actually put it in a
Speaker 2
deferred remuneration plan, and that actually sends expenses lower. So I'm only giving you five of the items that changed.
Speaker 3
And if I if you
Speaker 2
force me to answer from when we did it back in April,
Speaker 3
are those it probably looked better than we thought. But that's not addressing where
Speaker 2
are assets now, where are the markets the last couple of weeks in the markets,
Speaker 3
and it's not addressing a whole lot of other things. So it's not really something I want to get into any more than that.
Speaker 6
Yes. No problem. That's helpful color though. Thanks a lot.
Speaker 0
Next question comes from the line of Ken Worthington with JPMorgan. Please proceed with your question.
Speaker 5
Hi, good morning. Maybe start on the deal. What is the right tax rate? And I guess as the deal related costs fall off, how should we expect that tax rate to kind of evolve going forward?
Speaker 2
So in the future, we're still looking at 24% to 25%. The tax rate, I think, was 26. 26, yes.
Speaker 1
So it came in
Speaker 5
a little Yes. Bit above, but
Speaker 2
That changes with us. There are a lot of variables there, including Federated stock price, which is interesting. If our stock price is higher, our tax rate changes because of the way we go through with our restricted stock and how that gets dealt with.
Speaker 5
Okay. Okay, great. And then maybe for Debbie. Debbie,
Speaker 7
what are you
Speaker 5
seeing in the money market fund business? Maybe to what extent, if at all, are you seeing a movement back to funds from bank balance sheets? And I would love it if you could maybe comment retail versus institutional and any color on the broker dealer versus the bank trust channels.
Speaker 8
Sure. We are definitely seeing a movement back into money market funds. Our assets are higher. The industry's assets are higher. And I think this is probably reflective of both investors getting comfortable with the regulatory changes that went through in 2016 at this point, but in addition, just higher interest rates in general.
From a retail versus institutional perspective, On the retail side, it's been a lights out positive from a business perspective. Traditionally, that business was in the prime sector. After money market reform, it moved into the government sector. It is now moving in a large fashion into retail again, not with money coming out of the government side of it, but more, ticket trades that are new business that presumably are coming out of some sort of a bank product, some other type of liquidity product, and going into the prime products. From a suite perspective, there is still not much on the retail side that is set up with prime products.
There are a few intermediaries that are able to do that. But for the most part, suite products continue to be through government funds and prime products are generally on the retail side generating business from a ticket trade perspective. On the muni side also, we are seeing quite a few flows on the retail side. That's in opposition to the industry. The industry itself is fairly flat on the muni side.
We are actually experiencing quite healthy flows in our municipal products, both the national as well as the state specific. Switching to institutional, we are seeing, on our government funds, a lot of growth that came basically in chunks from what would be M and A activity. There has been a huge amount of M and A activity that's taken place year to date 2018. Also from a repatriation trade perspective, much of that cash, which is again chunky, goes into the government funds mainly because it doesn't stay there for too, too long. It goes back out again once either the deal closes on the M and A side or the intended use of the repatriated funds are then put into their final form.
On the prime side, we have seen a lot of corporate customers. Similar on the municipal side, we have seen corporations going back into those products. So definitely, are seeing an uptick in flows and it doesn't seem to be between sectors, but rather coming from outside sectors. Think post money market reform, the assets in the industry were at about $2,600,000,000,000 We're now just under $3,000,000,000,000
Speaker 5
Okay, great. Thanks. I'm going steal one more because I was confused. Just Tom on your guidance for deal related costs, is it $1,000,000 for the fourth quarter or $1,000,000 more than we saw in 3Q for the fourth quarter?
Speaker 2
$1,000,000 for the fourth quarter.
Speaker 5
Okay, thank you.
Speaker 0
Next question is from the line of Bill Katz with Citi. Please proceed with your questions. Okay. Thank you very
Speaker 7
much for taking the question this morning. So just staying with the Hermes platform for a moment, appreciate the extra detail in terms of where the assets are and then the split between the pension and then the third party. Can you sort of remind us of sort of the outlook for the pension side of the equation And how the fee rate is incrementally tracking as the third party grows relative to the pension plan?
Speaker 3
You have just asked Saker his first question of the day.
Speaker 9
Thank you. So the answer is that when the deal was done, we had a pre agreed flight path for the pension scheme. So we know how much they're to track down the assets. And that then explains that if you look at our third party business, the net flows were very strong and continue to be very strong. Now our third party business by definition is high margin business, so that increases our margin the more that we create third party.
And if you look at revenues, which is what we look at the Hammies business, some 74% of our revenue now comes from third party, which is quite substantial.
Speaker 7
Okay. And is it same expectation that will that the BT side will bleed down over the next several years? Just trying to get an update on some of that glide path.
Speaker 9
I mean, there is a glide path that we think is there now. The thing is with the fact that we're now part of Federated, there may be opportunities for stuff that the BT pension scheme might want to be interested in that Federated offers. So there's possibility that there might be additional or reversal of the agreed flight path, but there was an agreed flight path at the beginning, which was well within the numbers and our profitability in fact gets enhanced because our margins get enhanced the more that we build up third party business.
Speaker 7
Okay, thank you. And then just a follow-up question, Tom, thank you for the guidance on the compensation side. Stripping off the distribution side, should we look at the remainder of the business and stripping as well, the amortization as well as the charges, is the rest of the non comp, if you will, is that a reasonable start point? And you had mentioned that you're going to spend a little bit to enhance growth. Can you quantify what that might look like and the timing of that growth spend, excuse me?
Speaker 2
Okay. The reason why I pulled out the comp and list that is because that's what I see as something that I can grab hold of. I have to put
Speaker 3
it in, in order to do our filings for the
Speaker 2
quarterly reports. And that's kind of the biggest standout number. If I go through all the expense categories, some of them change up, some of them change down. Hermes spends money in the fourth quarter, they don't spend in the third quarter. We spend money in the third quarter, not in the fourth quarter.
And so there I'm not going to go through a line item, this one up, this one down. And I think it's okay to look and say, hey, we're saying we expect about $3,000,000 more in expenses, and that's kind of an overall biggest item.
Speaker 3
In terms of that's for 2018 or for Q4. In terms of future expenses for our growth, when we were using the $19,000,000 in closing costs, some of the closing costs we were talking about in terms of really building distribution or not building distribution, but building
Speaker 2
the growth plans. And so we're
Speaker 3
just trying to get out of
talking about that and going to be saying that, hey, that's part of
Speaker 2
the normal cost. We had a $4,000,000 number in there, and that's when you take 2019 and if we're at 14,000,000 and we're going to expect to spend another $1,000,000 in Q4, then that's $4,000,000 But that was that's an estimate that we don't know exactly what the numbers are going to be, and that's about as far as I can go. I've already talked enough about it.
Speaker 7
Okay. Thank you.
Speaker 0
The next question is from the line of Patrick Davitt with Autonomous Research. Please proceed with your questions.
Speaker 4
Thank you, guys. Just a follow-up on Bill's question in a different way, you can. I guess assuming that VT doesn't reinvest in some other products like you said, is that kind of 300 to €400,000,000 out a quarter that you talked about the right glide path to think about as we model this?
Speaker 9
So I don't think it's appropriate that I share with you what a client has agreed with us because BT is also a client. What I can say to you is that our business plan and the models that we used within building the business plan when Federated acquired majority stake assumes that Glide Partners was agreed with BT and they have stuck to that and we don't expect them to deviate from it. Like I said, if anything, there might be actually a positive side to it if we manage to show them some Federated stuff. Now within that, the only thing I can say to you is that the growth of our third party assets has consistently meant that we have been able to not only grow our top line, but also grow our margin and our profits. And that does not look as of the end of the last quarter to be off track, that remains on track.
Speaker 4
Fair enough. Thank you. A bigger picture question on kind of the money fund flow dynamics. I think if we exclude that big win you had in 4Q 'seventeen, it looks like on a run rate basis, you had been fairly consistent we're losing money market flow share for a year or two. But then suddenly this quarter, and it looks like now in the fourth quarter as well, you're taking almost all of the flow.
So I'm wondering if there's anything that changed about the nature of the broader market flows or your business that kind of changed that dynamic in terms of the flow share you're seeing?
Speaker 3
One of the elements of that dynamic was the money that went out to broker dealer sweep into their own deposit bank deal. And this was when rates were low and now people realize that rates are rising and you can get 2% on a money fund. And so that big bunch of money that left for that reason, and it was a combination because the stage was set when the new regs came in and it really wasn't appropriate for accounting, for mechanics, for operations for all of those broker dealers to use a money fund for a sweep vehicle. That was one of the big questions. So when you had that and then you had the relative profitability to the client broker dealer, that moved a bunch of money out.
And that has slowed down, abated, diminished. And then as Debbie said, the flip side of that is now occurring where you're seeing more money coming in prime, muni and govi, both institutional and retail.
Speaker 4
Anybody else? Thank you.
Speaker 0
Yes. The next question is from the line of Ari Ghosh with Credit Suisse. Please proceed with your question.
Speaker 10
Hey, good morning everyone. So just a quick one on the alls and multi asset segments. So if you look at flow trends over the past twelve months and what you are projecting for 2019, is this something that is this a business that you're looking to grow organically?
Speaker 7
Do you
Speaker 10
think there's enough capacity out there that you can do that? Or is this something that you might be looking at opportunistic bolt on deals to try and get scale here to kind of have it to account for a bigger piece of the pie if you look at it over the next couple of years?
Speaker 3
Short answer, yes, we see it as a growth opportunity. Long answer, it's now Saker's turn.
Speaker 9
Sorry, I didn't get the beginning of that question. So say it, repeat it to me again, and I will answer you.
Speaker 2
Yes. So if you look at
Speaker 10
the OLS and the multi asset segments, is this something when you look at the next the business plan for the next twelve to twenty four months, do you think you can see some meaningful organic growth from this business via the plans that you have in place or is this something that you need to look at maybe more on the opportunistic bolt on and M and A side to try and gain scale here?
Speaker 9
So, we think that we have opportunities to grow it organically. We had already built by the time we were acquired by Federated first class capability to be able to do this. And in fact, almost ready for launch by the time we were acquired. And I can say that of the new funds that we've raised within this, it is noticed that in the last quarter and given the deal closed in the last quarter on the first July, we continue to have clients actually see parts of our strategies to help us grow them and that tells you the strong demand that we have. So I think it's a strong organic growth.
Will there be opportunities in future for M and A activity, one sees, but there is strong organic growth as it is within our plan.
Speaker 0
Thank you. The next question is from the line of Brian Bedell of Deutsche Bank. Please proceed with your question.
Speaker 11
Great. Thanks very much. Maybe just one more on the money market side for Debbie or Chris. Do you have a sense of what the sweep assets or sweep deposits rather would total in your broker dealer and wealth management channels in terms of an opportunity for market share gains versus those deposits if we continue to see the yield seeking behavior of those sweep deposit clients move to money markets?
Speaker 1
Brian, are you asking about the total opportunity beyond what we have in sweeps? Is that the question?
Speaker 11
Yes. But like when you were an outsourced version of your money market, within those clients, those broker dealer clients, and I guess to the extent wealth management, bank trust departments, the sense of your sense of what the deposit levels are within those bank sweeps that could eventually migrate to money market funds to gauge the opportunity?
Speaker 3
If you were to ask and this would be
Speaker 2
number, if you
Speaker 3
were to ask the sales individuals here who have those relationships on the broker dealer side for those broker dealer suites, they would contend that they that $20,000,000,000 has moved out or some number like that. And so if you said, what's the opportunity? Well, maybe a bunch of that comes back. But you cannot look at that as a catalyst or, oh, boy, now that money is coming rolling back because some of those clients have either put the money market fund into a transaction oriented mechanic versus an automatic mechanic, And some of those clients have simply taken the money fund off of the list so that it's even one step more than a transaction. So that would be how I would scope what was lost and look at earning it back, but it will not be a catalyst or a quick deal.
Speaker 11
Right. Yes. Yes, no, just trying to get a sense of bank to money market fund. I mean, we're seeing this in the online brokers where clients are moving to purchased money market funds, say, Schwab, for example, from the bank sweep. So kind of see what your future opportunity is from that dynamic given that obviously, the yields very competitive with your funds.
Okay. Then maybe just a question on the maybe this would be for Chris Ansecker. Just what the sentiment is for your sales from your sales distribution partners in the last week or so given the pullback in the environment? I mean, are they generally looking at this as a buying opportunity or are they more frozen? And then I just have one follow-up on distribution costs for Tom after that.
Speaker 9
Chris, do want to take this first?
Speaker 3
Yes, yes, please.
Speaker 9
Okay. So what we see is the pipeline for our strategies remain strong. And we have continued to see inflows into our funds, including in emerging markets in the last quarter, which is quite interesting. And so people are taking this as a buying opportunity. Over the last week, I've also been talking to some clients in The United States.
And in fact, I'm joining this call from our offices in Boston. And it remains positive in terms of people seeing this as still positive despite the market comeback. We particularly in what we offer because essentially what we offer is high asset share, high alpha, and we incorporate ESG in everything we do and we have a very strong track record. Generally speaking, the kind of buyers, including wholesale or if you will advise buyers, tend to be with us despite the dips and we talk to people about the dips and we in fact told them that there would be something like correction coming and as it came through, people have followed through and continued to invest in this. So I mean, you can never dismiss market comebacks.
But in terms of flows, it still remains positive.
Speaker 3
The other thing I would add to that, Brian,
Speaker 2
is you used the word
Speaker 3
frozen, and there's nothing I know of in the life of a PM team about the word frozen or in our clients. And so you do have some variety depending on which mandates as to what people are doing. But if you were to talk to the Head of Equities in New York, he would retain his positive stance much the same as Saker said about expecting a correction and many of the PMs buying on the dips.
Speaker 11
And I meant that like the broker dealers that you're selling to in the warehouses, are they just their sentiment, I guess, are they viewing it as a buying opportunity or are their clients sort of on the sidelines for this?
Speaker 3
It would be almost an unnatural act at this point to try and characterize them all with one way or the other. And I, for one, haven't run the tracks that quickly enough to be able to give you an honest pulse on how the wirehouse community thinks. So I have to demur.
Speaker 11
Okay. No, that's fine. And then just one follow-up on distribution, Tom, the just wanted to see if the third quarter run rate now with Hermesen there this is the distribution expense of the $72,000,000 if that's a reasonable run rate on a go forward basis or are there significant substantial deviations from that potentially going forward?
Speaker 2
So getting into one other line item,
Speaker 3
I would say that, that number, based on what we see, would be a similar number.
Speaker 11
Okay, fair enough. Thank you.
Speaker 0
Our next question is from the line of Kenneth Lee with RBC Capital Markets. Please proceed with your question.
Speaker 4
Hi, thanks for taking my question. Wondering if you could give us a sense of what the recent flow trends and current client demand for the alternative products within Hermes, specifically real estate private equity infrastructure?
Speaker 9
I'll take that. You. We've seen a steady growth of demand for particularly our unconstrained credit, which is part of our private markets and our direct lending, has been very strong. With property, we continue to see demand for our property products as well.
So that's again been pretty strong. And as you know, things like private equity and infrastructure tend to be long term gathering momentum, meaning we go out to the market, we talk to our clients and normally it goes on to a long cycle and the cycle is there. And I think there is still the conclusion of all of that is that demand for our private markets business remains very, very robust. If you want me to highlight one area, I'd say the multi credit and the unconstrained seems to be accelerating. And I would say that private equity infrastructure and property seems to be going as normal with no slowdown.
So that's how it's characterized.
Speaker 4
Okay, great. And just as a follow-up, could you give us a sense of average fee yields you're getting for these alternative products?
Speaker 9
So that we need to take offline because it has obviously quite a lot of impact on a lot of clients.
Speaker 4
Got you.
Speaker 0
Thanks. Thank you. Next question is from the line of Robert Lee with KBW. Please proceed with your Great. Thanks for
Speaker 12
taking my questions. So really, I guess, for Debbie or maybe Chris, if you'd like to answer it. On the money fund business, guess, maybe a little bit bigger picture. I mean, as you mentioned, clearly, you're seeing some increased demand for prime funds. But if we look at the overall industry, two things.
Number one, one of your large competitors has taken to describing the money fund business as increasingly a technology driven business and made some type of acquisition, I guess, of a portal or some type of technology. I mean do you would you agree with that assessment? And do you feel that you have kind of the right infrastructure or connectivity to really fully I mean, obviously, you're benefiting from the increased demand, but to really kind of fully maintain or pick up share over time?
Speaker 3
We believe that we have the technology to be able to service these clients as well as anybody in the world. And you can always characterize this. We tried to characterize the whole business as a technology business in order to try and get the PE up so that you'd see this was a technology business. There have been others in the business, not the ones you're referring to, who've been able to push that income into technology. So it's nomenclature.
But what the clients see is the investment management expertise and the need for the underlying product. And the one other thing that I would add on this bigger picture score is that we and many, many others, including issuers and the marketplace, have been working on a Senate Bill S1117, which basically restores money market funds in the prime area and in the muni area to $1 net asset value. And this would be a great boon to the marketplace to restore the pricing that the capital markets have on exactly these products right at that point of the short term area of the curve. And we're still working on this. Others in the industry seem to not be as enthusiastic about this.
Debbie also has some comments on this subject.
Speaker 8
Certainly. If you look at sort of just from a history lesson standpoint, when the financial crisis happened back in 02/2008, at that point in time, deposit products and money market mutual funds were both around $4,000,000,000,000 And since that time, because of deposit insurance, because of the zero interest rate environment, because of the concerns in the marketplace, money fund assets went down to $2,600,000,000,000 They are now about $3,000,000,000,000 and deposits soared to depending upon what deposits you are looking at anywhere between 10,000,000,000,000 and $13,000,000,000,000 The fact is though that those assets have stagnated in the context of their growth. They are growing 2% -ish on an annual basis and that's compared to more like double digit, just barely double digit growth, 10% type growth in the money market mutual fund marketplace. I think there were moves that were made by the broker dealer clients that we've talked about that make it a more difficult path to reverse. Nonetheless, I think economics went out and with a continuing rising rate environment, which we would expect to see in 2019, we don't see any reason why the product should lose its momentum.
Does it get prime back to the peak of $1,700,000,000,000 Probably not, at least not in the immediate future. Maybe with Senate Bill eleven seventeen, does. Time will tell on that one. But it's certainly because of technology, because of investment expertise, because of client driven relationships and the business, that we the provision of information that we provide to them on a pretty easy basis instantaneously, we have a very positive outlook for the future.
Speaker 12
Great. And then maybe a follow-up on pricing in the Money Fund business. Is it fair to think that and understanding that your fee rates are relatively stable sequentially, but is it fair to say that fee competition kind of on the government fund side of the business is possibly more intense than on the prime side simply because maybe it's harder to differentiate yourselves in treasury and government funds versus prime where credit skills and whatnot play a bigger role?
Speaker 8
I think part of the government fund fee discussion had to do with the point in time when there was a lot of asset gathering occurring into that sector, not necessarily from an industry standpoint, but into that sector. So switching out of prime and muni and into government from a sector perspective, the $1,000,000,000,000 that moved in 2016. There were fee waivers that were done to capture market share at that point. And I won't say that it set a new standard. Certainly, once that movement occurred, fees began to normalize, although not back to the pre financial or yes, pre reform levels.
You might see something like that occur again if in fact we had the bills passed and the restoration of the one dollar NAV for prime immunis, you could see it on those particular products. And again, it would be in an attempt to capture market share
Speaker 7
in
Speaker 8
that asset gathering or asset movement time period. But that's again something that's really pretty hard to predict at this point.
Speaker 12
Great. And then just I appreciate your patience. Just one more follow-up question maybe for Tom or Ray, if he's on. And maybe this is something we could do offline afterwards. But is it possible to get an update given the changes in your AUM disclosure and reallocation, get a sense of kind of fee rates by bucket, so to speak, so we can obviously better model in kind of the changing pattern of assets inflows?
Speaker 1
Rob, it's Ray. Yes, I can help you with that. That probably would be better off line, though. Our
Speaker 0
next question is a follow-up from Patrick Davitt with Autonomous Research.
Speaker 4
Thanks for the follow-up. So you mentioned the quarter to date strategic value flows, which appear to be a continuation of the improvement saw last quarter, performance has been a lot better, obviously, and there appears to be a shift from growth to value. So have you started to notice a change in the behavior of your clients with that fund, maybe people that were thinking about redeeming not anymore? Just curious about the dynamics and how they've evolved as the performance has gotten better and the growth value dynamic has changed.
Speaker 3
The answer is a hopeful yes. As you point out, the numbers of the size of the redemptions month to month have been going down and the amount of sales is sort of hanging in there. We noted that the fund was ranked in the first percentile month to date, so don't get all that excited, through October 24, which just restores the comments we've made here many times that, that fund is either leader of the pack or back of the pack, but still always doing that which it says it wants to do, which is pay a good dividend and own big, companies that have increasing dividends. So what we have seen is there is a diminishment in the amount of angst inside that marketplace so that we can have more positive calls on the subject of the fund. But it's very difficult to say that the downslope is over, but certainly seeing it on this kind of a slope is a much improvement coupled with the performance in that bucket, which is, as I've said before, not exactly the way to evaluate that fund.
Speaker 0
Thank you. Our next question is a follow-up from Ken Worthington of JPMorgan. Please proceed with your questions.
Speaker 5
Hi, thank you for taking this. Sorry, Tom, just on the compensation, maybe help me here. So $103,000,000 in 3Q, I think you said ex deferrals, it should be around 105,000,000 but that includes $3,800,000 of the deal related costs this quarter. So the right number might be something like 101,200,000.0 Your guidance is for something like 106,000,000 As we think about the right place to be for 2019, is it the 101,200,000,000.0 or is it $106 And why is there such a big variance between those two?
Speaker 2
Sure, Ken. I wouldn't use the 101 like you were saying. If you remember, I kind of
Speaker 3
took through my in answering the accretion question
Speaker 2
that Hermes was accruing their bonuses Q1, Q2, Q3 as though they were going to
Speaker 3
be paid in 2018 After we acquired them, management decided to defer a portion of those bonuses into 2019, 2020, 2021. And so that was a significant number that
Speaker 2
is why the run rate actually should have
Speaker 3
gone the other way. And that's why I'm saying that the 103,000,000
Speaker 2
on a normalized basis would be
Speaker 3
105,000,000 and I'm including in that the deal related incentive comp that was paid. And so the best I
Speaker 2
can give you is 106,000,000 for Q4
Speaker 3
twenty nineteen, I don't have a comment on it.
Speaker 5
Okay. No, you answered it. The 105,000,000 actually includes deal related costs. That's the part that I missed. Okay.
Thank you so much. I apologize to that online.
Speaker 2
Yes.
Speaker 0
Thank you. Ladies and gentlemen, we've reached the end of our question and answer session. And I would now like to turn the call back to Ray Hanley for his closing remarks.
Speaker 1
Well, that concludes our call, we thank you for joining us today.
Speaker 0
Thank you.
Speaker 3
Ladies and
Speaker 0
gentlemen, you may disconnect your lines at this time. Thank you for your participation.