Stifel Financial - Q2 2023
July 26, 2023
Transcript
Operator (participant)
Good day, and welcome to the Stifel Financial second quarter financial results conference call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Joel Jeffrey. Please go ahead.
Joel Jeffrey (SVP of Investor Relations)
Thank you, operator. I'd like to welcome everyone to Stifel Financial's second quarter conference call. I'm joined on the call today by our Chairman and CEO, Ron Kruszewski, our Co-Presidents, Victor Nesi and Jim Zemlyak, and our CFO, Jim Marischen. Earlier this morning, we issued an earnings release and posted a slide deck and Financial Supplement to our website, which can be found on the Investor Relations page at www.stifel.com. I would note that some of the numbers that we state throughout our presentation are presented on a non-GAAP basis, and I would refer to our reconciliation of GAAP to non-GAAP as disclosed in our press release. I would also remind listeners to refer to our earnings release, Financial Supplement, and our slide presentation for information on forward-looking statements and non-GAAP measures.
This audiocast is copyrighted material of Stifel Financial Corp and may not be duplicated, reproduced, or rebroadcast without the consent of Stifel Financial. I will now turn the call over to our Chairman and CEO, Ron Kruszewski.
Ron Kruszewski (Chairman and CEO)
Thanks, Joel. To our guests, good morning, and thank you for taking the time to listen to our second quarter conference call. We recorded solid results in the second quarter as strength in wealth management was offset by the industry-wide slowness in our institutional business. I don't want to be repetitive, but as I've said, it is important to point out that over the years, Stifel's business model has proven its ability to navigate these types of markets and still generate solid returns. Simply put, wealth management is consistent and provides balance to the cyclical institutional business, and the institutional business could be at cyclical lows. Overall, revenue came in at a little over $1.05 billion, with non-GAAP EPS of $1.20. Despite a challenging environment, we generated pre-tax margin of 19% and return on tangible common equity of 17%.
We had some positive developments in the quarter worth highlighting. First, J.D. Power ranked Stifel number one in its annual Employee Advisor Satisfaction Survey. We also generated our 10th consecutive record revenue quarter in global wealth management. Recruiting was strong in the quarter, and we're seeing further signs of improvement in the third quarter. Capital raising revenue was its highest since the fourth quarter of 2021, and book value and tangible book value per share increased 6%. Turning to the next slide, comparing our second quarter results to consensus estimates, I would note that revenues came in at approximately $20 million below. This was a result of four advisory transactions, which total approximately $18 million in fees, which were anticipated but did not close this quarter. I should note that we expect these deals to close in the third quarter.
Our transactional revenue was ahead of the street by $4 million, as wealth management and institutional equity revenues were slightly above estimates. Net interest income came in $3 million below the street estimate, primarily due to a modest sequential decline in average interest earning assets. On the expense side, our non-comp expenses were 4% above the street estimate. This was driven primarily by increased FDIC insurance and investments in brand marketing. Taken together, these items, primarily the delay in advisory closings, resulted in our results being $0.13 shy of consensus estimates. As I said earlier, wealth management had another record quarter. One of the major drivers of our success is the culture and service we provide our advisors. In this effort, we have continually invested in resources, support, and technology to reduce bureaucracy and enable our advisors to thrive.
This strategy was validated by our number one ranking in the most recent JD Power Survey of overall employee advisor satisfaction. Noteworthy is the fact that our overall score was more than 32% higher than the average score in the JD Power Survey. Since 2019, we've consistently improved in the survey, culminating in not only our overall number one ranking this year, but also in the fact that we ranked number one in four of the six categories surveyed: Leadership and Culture, Products and Marketing, Operational Support, and Compensation. I should also mention that we ranked number two in professional development. The survey is especially meaningful because the results are derived from the feedback from our own advisors. You've heard me say that Stifel has a unique culture that puts the financial advisor first.
To have our strategy validated with this award is not only satisfying, but it illustrates why we've had great success in bringing in high-quality advisors onto our platform, and I should note that this will help recruiting going forward. Let me turn the call over to Jim Marischen to discuss our most recent quarter results.
Jim Marischen (CFO)
Thanks, Ron. Good morning, everyone. Looking at the details of our second quarter results on slide four, our revenue of $1.05 billion represented our third strongest second quarter. Compared to the same period a year ago, we saw growth in our net interest income, trading, underwriting revenues. However, this has more than offset the declines in client facilitation and advisory revenues. Combined with a modest increase in non-comp expenses, we generated earnings per share of $1.20. Moving on to our segment results. Global wealth management revenue increased 9% to a record $758 million, and our pre-tax margins were 40%, an increase of 450 basis points from a year ago. During the quarter, we added a total of 46 advisors, including 28 experienced advisors, with trailing 12-month production of nearly $25 million.
We ended the quarter with fee-based assets of $155 billion and total client assets of $418 billion, which were both up 3% sequentially. I would note that our asset growth was negatively impacted by the restructuring of a single office during the quarter. This process was completed in May, and we expect AUM growth to return to historical levels going forward, as we saw a net new asset growth in the mid-single digits in June. Moving on to slide six. We've condensed a few of the bank overview slides into one new summary slide. Starting with deposits. I would highlight that cash sorting continues to slow and sweep deposits are stabilizing. As you can see on the chart, the pace of sorting slowed in recent months.
That said, sorting was slightly more elevated early in the second quarter than we had anticipated, in addition to seeing lower non-bank net interest income. The combination of these items impacted our net interest income as it declined to $292 million. While we still expect the rate of sorting will be relatively subdued in the back half of the year, this is highly dependent on number of market factors. Given the lower NII in the second quarter and the potential for additional cash sorting in the second half of the year, we are updating our full year NII guidance to approximately $1.17 billion. Our outlook for the back half of the year includes various cash sorting scenarios, slightly lower NIM expectations, and limited balance sheet growth.
While the market environment has impacted our net interest income, our net interest margin has remained relatively stable as its performance has been driven by both sides of the balance sheet. While deposit costs have risen, we have benefited from the fact that our balance sheet is asset sensitive and our assets are primarily floating rate. While many similar-sized banks with greater fixed rate asset exposures have seen their NIM decline by 30-40 basis points since the beginning of the year, Stifel has declined by only 11 basis points. Going forward, we anticipate our NIM to remain relatively stable if there are further rate hikes, and would be more impacted by cash sorting than changes in rates. Our credit metrics and reserve profile remain strong. The non-performing asset ratio stands at 4 basis points, and charge-offs were less than $600,000.
I would note that only 1% of our loan portfolio is comprised of office CRE exposure, or only nine loans, which are all Class A space with average LTVs of 44%. Our credit loss provision totaled $7.8 million for the quarter, and our consolidated allowance to total loan ratio was 80 basis points. The increase was the result of some deterioration in the macroeconomic outlook, additional reserves in our commercial book, and a decline in loan balances. Lastly, our balance sheet continues to be well capitalized. Tier 1's leverage capital increased 20 basis points sequentially to 11.1%. Even when incorporating the unrealized losses in our bond portfolio, our Tier 1 capital ratio declined by only 70 basis points to 10.4%. On the next slide, I'll discuss our institutional group.
Total revenue for the segment was $276 million in the second quarter. Firm-wide investment banking revenue totaled $167 million, which was below our guidance noted in our May metrics release. As Ron mentioned earlier, the deviation from our guidance range was due to a few delays in closings at the end of the quarter. Advisory revenue was $88 million. The delayed closings were a factor in our revenue decline, but I would highlight our strongest verticals were seen within healthcare and in consumer groups. Industry-wide, M&A announcements have showed some signs of improvement recently, but still remains relatively challenged. We remain engaged with our clients as the market improves, we are well positioned to benefit given our increased scale. Equity revenues totaled $76 million in the quarter, which is up 6% year-on-year, driven by improved capital raising activity.
Equity transactional revenue totaled $46 million, which is flat year on year, as slower flow business was offset by lower trading losses. Similar to recent quarters, we are seeing increased engagement in our electronic trading as we pick up market share, as our clients embrace our electronic offerings and value our best-in-class research. Fixed income generated net revenue of $113 million in the quarter, which is up 10% sequentially, as capital raising increased 21%. We continue to be a leader in the municipal underwriting business as we rank number one in the number of negotiated transactions, and our market share increased to nearly 16% in the first half of the year. Transactional revenue declined 4% sequentially as we continue to experience difficult operating conditions for our rates business, but we did see some market share growth across our credit business.
On the next slide, we go through expenses. Our comp to revenue ratio in the first quarter was 58%, which was a 10 basis point decline year-over-year, and was flat sequentially. We continue to accrue compensation at conservative levels, and Ron will give additional thoughts on our compensation outlook later in the presentation. Non-comp OpEx, excluding the credit loss provision and expenses related to investment banking transactions, totaled approximately $230 million. Our non-comp OpEx as a percentage of revenue was 21.9%. The increase over the prior quarter was primarily driven by higher FDIC insurance expense and an increase in marketing related expenses. The effective tax rate during the quarter came in at 25.9%, which was slightly higher than anticipated, as a result of losses incurred in some of our foreign operations.
Before I turn the call back over to Ron, let me discuss our capital position. We have approximately $400 million of excess capital based on a 10% Tier 1 leverage target. If you simply run rate our first half net income, we generate an additional $600 million in 2023. Based on these capital levels, our share repurchase program remains a key part of our capital allocation strategy. During the quarter, our average fully diluted share count came in at 113.9 million. We repurchased 1.5 million shares in the quarter, and we have approximately 6 million shares remaining on our current authorization. Absent any assumption for additional share repurchases and assuming a stable stock price, we would expect the third quarter fully diluted share count to be flat at 113.9 million shares.
I would note that the increase in our share price has essentially offset some of the recent share repurchases. With that, let me turn the call back over to Ron.
Ron Kruszewski (Chairman and CEO)
Thanks, Jim. There remains a good bit of uncertainty in the market for the remainder of 2023 and possibly into 2024. I would like to comment on our outlook. Starting with 2023, our revenue expectations for the full year are relatively in line with the street, which is currently four and a half billion dollars. Our revenue guidance for the back half of the year of approximately $2.4 billion implies that operating revenue for our wealth management and institutional business will increase roughly 7% and 23%, respectively, while net interest income remains flat to slightly down. The 23% increase in our institutional business is based upon our visible pipeline for investment banking, as well as the expected seasonal benefits in our transactional business.
We expect our compensation ratio to come in at the upper end of our original guidance due to a couple of factors. The first is the lower revenue environment that we've seen year to date. Second, the impact of the investments we've made in the business, as well as our efforts to improve efficiency in our businesses. As you recall, we made some significant hires following the banking crisis in March. Teams from Credit Suisse and Silicon Valley Bank have joined Stifel and are in the process of ramping up production. While we have and continue to incur expenses associated with these individuals and their businesses, we haven't benefited from the expected revenues as of yet. The other factor is the impact of rightsizing the business.
Although we don't believe the current market for investment banking is the new normal, we are focused on making our business more streamlined, and as such, we are including the costs of this rightsizing into our comp outlook for the remainder of 2023. These two factors combined will account for roughly $45 million of compensation expense, and if excluded from our 2023 results, we would likely be at the midpoint of our initial comp ratio guidance. Think about the future. It's clear that we have substantial operating leverage within our business. Given the potential for uncertainty in the market, I'm not ready to give specific guidance for 2024, but I think it makes sense to talk about our outlook in terms of the current consensus number.
In terms of revenues, the street has us generating for 2024, $4.9 billion, with approximately $3.4 billion, including $1.2 billion of NII from wealth management and $1.5 billion from institutional. In wealth management, we believe this is certainly attainable with continued strength and small market appreciation. The institutional business is also attainable. For example, in 2020 and in 2022, we generated roughly $1.5 billion in net revenue. This 2024 is also in line with our forecast for the second half of the year of 2023 on an annualized basis. In terms of expenses, in particular compensation, I believe that given these revenue assumptions, the 2024 street estimate for compensation ratio of 57% is reasonable. Overall, I'm optimistic about the future, as Stifel remains well-positioned to continue our long history of profitable growth.
With that, operator, please open the line for questions.
Operator (participant)
Thank you. If you would like to signal with questions, please press star one on your touch tone telephone. If you're joining us today using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, that is star one. If you would like to signal with questions, star one. Our first question will come from Steven Chubak with Wolfe Research.
Steven Chubak (Managing Director)
Hey, good morning, Ron. Good morning, Jim.
Ron Kruszewski (Chairman and CEO)
Good morning, Steven.
Jim Marischen (CFO)
Good morning.
Steven Chubak (Managing Director)
I wanted to start off with a question on capital return. You noted you're running with significant excess. The buyback in this quarter felt pretty light relative to expectations. You laid this out really well in slide nine, just showing the cadence of capital deployment over the last few years. I mean, it's been pretty muted year to date, despite strong capital generation and more notably, the contraction in bank balance sheets. I just want to get your thoughts as to why you're not stepping up the buyback here. As I think about what's becoming less accretive, increasingly, bank growth with higher betas is generating a lower return on capital. Given the valuation discount, doesn't it make more sense to be a bit more aggressive here in terms of buyback?
Jim Marischen (CFO)
Yes, Steven, I'll address this. This is Jim. I think the thing you need to remember is that we were out of the market up until after earnings in April. Really, almost the entire month of April, we weren't in the market. You think, you know, we did repurchase $87 million during the quarter. That's roughly 70% of our GAAP net income for the quarter. If you think if we were in for the entire period, that could have been slightly higher. Again, those are all factors you got to consider when you think about the pace of the buyback.
Ron Kruszewski (Chairman and CEO)
Yeah, look, you make a good point, okay? I mean, in terms of the environment, the limited or our view about muting balance sheet growth in this environment, both just from an economic outlook and what's going on in the deposit side. Your point's well taken, and it's not lost on us in terms of the capital deployment.
Steven Chubak (Managing Director)
All right. Thanks for that color, Ron. just for my follow-up, a clarifying question on the NII comments you made, Ron. I think you noted that you felt that the NII that was being modeled by the street for next year actually seemed reasonable. it does imply a run rate that's not wholly dissimilar to where we are today. just wanted to get general thoughts on what are some of the assumptions underpinning your NII expectations, and does that contemplate any rate cuts as we look out to next year?
Ron Kruszewski (Chairman and CEO)
I'll let Jim answer that. You know, we do have in our forward forecast, you know, model on rates. Remember that we, in fact, we've had a decline in interest-earning assets. When you look at NII, looking forward 18 months, you know, I don't expect that to continue especially considering the hires we've made. You know, where we can see some increased net interest-earning assets driving... You know, NII can increase even if NIM contracts somewhat. Bake all that in, and that's how I got to that comment. Jim, go ahead.
Jim Marischen (CFO)
Yeah, no. whenever we're giving kind of thoughts on the forward outlook, we're always using the forward rate curve. we are assuming what you see out there publicly, and I think Ron addressed the rest of it just right. You know, you think about the investments we made and the capabilities of not only asset generation capabilities, but the ability to generate deposits outside of the wealth business. In addition to the recruiting that we're doing and generating additional deposits there, we see an environment set up for more potential growth than we do in the near term.
Ron Kruszewski (Chairman and CEO)
There's a little bit of.
Steven Chubak (Managing Director)
Right.
Ron Kruszewski (Chairman and CEO)
There's a little bit of resorting that goes on on the asset side, too. Okay, it's not just on the liability side. So anyway, we're comfortable with that number.
Steven Chubak (Managing Director)
Yeah. It's a very fair point. Thanks so much for taking my questions. I'll hop back in the queue.
Ron Kruszewski (Chairman and CEO)
Thank you.
Operator (participant)
Our next question will come from Devin Ryan with JMP Securities.
Ron Kruszewski (Chairman and CEO)
Morning, Devin.
Devin Ryan (Director of Financial Technology Research)
I think. I want to start on the institutional side of the business. You know, just thinking about whether we're perhaps at cyclical lows and ready for a recovery here. What I want to think about is, you know, what you guys see as kind of the scenario of recovery between investment banking and then also brokerage. Kind of split those two out, because investment banking, you know, we're kind of at cyclical lows, and then you've added some capacity with talent, and so it would seem that, you know, that should show up in a recovery. I want to think about what that might look like.
Brokerage, you know, we're off, you're well off of kind of the pace of kind of, pre, downturn, but that seems like it might be a little bit of a different type of recovery. Maybe kind of parse those two out separately. Thanks.
Ron Kruszewski (Chairman and CEO)
Yeah, well, I mean, on investment banking, you know, I'll echo some of our larger brethren who have, you know, talked about green shoots and improving markets. You know, I will just say in general, I can echo or repeat what they've said, because, you know, in this business, a rising tide lifts all ships, all right? Where we certainly have been in line, if not even slightly better than in activity as it relates to the overall market. Yeah, you know, as we look forward, certainly in the back half of the year, even in this environment, we see an improvement.
I, for one, just do believe that there's a lot of pent-up activity in the marketplace, whether it's in private equity, whether it's in strategic decisions. There's been a lot of things that have muted this market. We do not believe the current business is the new normal for banking. I would note, I'd like to just say that, you know, our results, frankly, are in a business that essentially broke even, that a couple of years ago, you know, generated, you know, $400 million of contribution. There's a lot of leverage in this business. I want to point that out so that people do not miss the rebound in this business, which I believe is coming. I just won't put a time frame on it.
As it relates to parsing out the difference between trading and banking, while we see banking improve, I will say that they are linked. You know, the level of trading and what happens when we get back into capital raising, you know, significantly impacts our flow business. We trade the deals, we trade in the middle market, we trade the activity that happens in our investment banking. By the same token, it will get a boost as capital raising increases for sure. The other thing in transactional is our fixed income transactional, which has really been impacted by our rates business and the yield curve as it impacted our rates business. As that normalizes, you'll see, we believe, a meaningful pickup in our rates business, which will help drive transactional as well.
I hope that answered your question. Jim, you got anything to-
Jim Marischen (CFO)
No, I think you covered everything there.
Devin Ryan (Director of Financial Technology Research)
Yeah. Thanks, Ron. That was thorough. Then just to follow up on wealth management. First off, congratulations on the JD Power results. I know those are meaningful. I just want to talk about-
Ron Kruszewski (Chairman and CEO)
Yeah
Devin Ryan (Director of Financial Technology Research)
the recruiting momentum. You had another nice quarter there. Just talk about kind of what the tone is in the market. It does feel like there's a little bit higher churn going on for whatever reason, or maybe it's a normalization in churn. I would think there's some opportunities for you guys. Talk a bit about that, and then between the channels. Independent contractors, you had a, you know, obviously higher growth there off of a very low base, but whether you guys are making any more of a concerted effort to kind of accelerate the recruiting into that channel as well. Thanks.
Ron Kruszewski (Chairman and CEO)
Yeah, look, overall, recruiting has, you know, been strong, primarily on the employee side, on larger teams. A noticeable impact on larger teams. I'll tell you, I believe, and, you know, you don't always want to say that things like JD Power make a difference, but in this case, it does. I just want to say that I've known for years that the culture and the technology and the support and everything that draws people looking for a new home to Stifel. I've certainly known about it, and our advisors have known about it. Now, just since that's come out, we're getting phone calls of teams that we used to miss. That's been important. It's going to come through.
You'll see it, I believe, in our recruiting numbers, primarily the average production of who we're talking to. I'm quite optimistic about that part of our business. On the independent side, look, we're just building that business slowly and, you know, sorting out all the economics. That business for a while, in my opinion, the economics of that business was driven primarily by net interest and the spreads in that business, that drove some of the economics. That business is rerating, in my opinion, and we're not just rushing in under the old economic paradigm, which I think is under stress in that business. We're, I would say, less aggressive in terms of our recruiting because the economics were highly skewed toward an interest rate environment that has changed.
That'd be my overall comment.
Devin Ryan (Director of Financial Technology Research)
Perfect. I'll leave it there. Thank you so much.
Ron Kruszewski (Chairman and CEO)
Yep, thank you.
Operator (participant)
Next is Brennan Hawken with UBS.
Brennan Hawken (Senior Equity Research Analyst)
Good morning, guys. Thanks. Hey, how are you, Ron? Good morning. Good. Curious on deposits. We saw a decline in the commercial deposits, I believe, down, you know, nearly $1 billion quarter-over-quarter. Could you maybe give some color on that? I had thought that was tied to the team that came in from SVB. If you could confirm that's right and whether or not that might have just been a little bit of friction with them coming on board and that led to some of those balances declining, and whether or not you think you'd, you know, recover that?
Ron Kruszewski (Chairman and CEO)
Well, it's a great question, and the answer is that it was actually, if you will, a decline in what you might otherwise characterize as wholesale deposits. You know, we, during the crisis, we and many firms took in deposits that, you know, were, we call it one way, brokered effectively. You know, we quickly found out in the quarter that we didn't really need those, okay? They were high cost. They were in the balances, they're not in the balances, that's about it. Just under $1 billion. Just under $1 billion, that we took in short term and took out. Overall deposits have been stable.
You know, one of the things I would note, I think, is something that's positive for us, or negative, depends on what your viewpoint is that because of our primary retail nature and the fact that we're just, you know, building up our commercials, that we're not facing a lot of what the industry is facing, which is a repricing of zero rate corporate deposits, which, you know, everyone's trying to figure out where those are going to settle and at what rate. We really are not looking at that, and most of our deposits are rate competitive for the type of balances they are, whether they're transactional or savings.
The biggest point, question I just would say is that we've seen growth in the deposits relating to the businesses that we're entering into, and it's being masked by our taking of a short-term deposit during the crisis and immediately sending it back.
Jim Marischen (CFO)
I think the only other comment I would make there, particularly to the venture teams that we've brought on, it is going to take a little bit of time to get momentum there. With so much activity happening post-March and so many deposits moving quickly thereafter, there was a bit of fatigue within the portfolio companies creating new book deposit relationships, et cetera. This is going to be more of a 2024 story, and that was one of the aspects we tied into the discussion on the, on the comp ratio as well, related to that.
Brennan Hawken (Senior Equity Research Analyst)
Right. Thanks for that color. I appreciate it. For my second question, the institutional revenue guide suggests some decent acceleration versus your first half pace. And I also noticed that the advisory revenue-
... you know, missed your, you know, late June guide by a decent amount. I'm guessing that's just timing. How much I guess, that would help your back half, you know, for sure, with some of that advisory. How much beyond just that, which is a lot more tactical, how much does your guide for the back half assume the current environment versus an improving environment? If you could just help us distill that?
Ron Kruszewski (Chairman and CEO)
Yeah, I think, first of all, to your last part, yeah, we had four transactions which just slipped, okay? We anticipated them closing as late in the quarter as when we gave guidance as to banking revenue. All right? The fact that they didn't, it does, sort of, I mean, that sort of timing. You know, it happens in our business. What wasn't in the second quarter will be in the third quarter. That's part of it. The second part, I, you know, I certainly have not factored in, you know, significant improvement in the operating environment. We're looking at our visible pipelines and just extrapolating that out.
The second quarter was especially slow in the business and especially slow for us. Our back half, what we're looking at, you know, we believe is in our pipelines, and it's not factoring in a, you know, a market rebound. When that happens, and it will at some point, that'll be dramatic when it does. Right now, we're not being optimistic that the market environment is changing in the second half of the year. As I commented on 2024, we're not assuming that either, okay?
Brennan Hawken (Senior Equity Research Analyst)
Yeah.
Ron Kruszewski (Chairman and CEO)
We're taking a rather muted view at the economic activity as it relates to the equity business in particular.
Jim Marischen (CFO)
I would also highlight that we're not anticipating the market to get worse from here. We're basically anticipating a stable market. The sentiment from our investment bankers today is much better than it was a quarter ago, and I'd say that. If you look at the total institutional results in that guide, it's implying somewhere between 1.3 and 1.4. If you look back to 2022, or 2020, you know, that's below those levels of activity, and we've added a lot of scale and resources, so we feel confident that we're able to reach those amounts.
Brennan Hawken (Senior Equity Research Analyst)
Great. Thanks for taking my questions. Appreciate it.
Operator (participant)
Our next question will come from Alex Blostein with Goldman Sachs.
Alex Blostein (Managing Director)
Hey, guys. Good morning. Hey, hi, Ron. Maybe a little bit of higher-level profitability question for you guys. 2023 updated guidance kind of points to a mid-20%, low 20%, kind of 20.5%. Pre-tax margin, obviously, you're still getting pretty big tailwinds from NII, challenging capital markets backdrop. As you look at the savings that you're likely to extrapolate from the business based on, I guess, some of the changes you announced today, plus scaling some of the initiatives, what do you think the overall profitability of the business could look like over time?
Ron Kruszewski (Chairman and CEO)
With what? What kind of market do you want me to assume?
Alex Blostein (Managing Director)
Yeah, I know. Look, obviously, you're saying that NII is likely to hold here. You know, maybe it goes down a little bit, but it sounds like you feel pretty comfortable with holding the line in this $1.2 billion range. You know, again, assuming that the capital market activity starts to normalize, it just feels like you're kind of approaching sort of peak-ish pre-tax margin levels relative to what we've seen in the past. I wonder if it could get higher from here based on the sort of changes in the business.
Ron Kruszewski (Chairman and CEO)
Well, no, I think, you know, we see the wealth management business continuing to grow on an operating revenue. We see strong recruiting driving that business. That business, you can look at it, as we just had our 10th record quarter, I believe is what we said. On that side, we see that we, you know, see that. The real question is in the institutional business, this is true of the street. We expect at least, you know, 15%-20% margins in a business that last quarter had 0% margins. We are protecting the franchise in terms of doing some right-sizing, but certainly not down to these levels.
Even to say that we would, you know, the business would rebound to 2020 levels, would be us losing market share, which I don't think we're gonna do, because we've added a lot more capabilities, a lot more MDs, a lot more businesses. The way just to think about it quickly is to put, you know, put $1.5 billion-$1.6 billion, which we do not think is a robust market. It's just not as limping along as it is today. You know, have margins go from 0% to 15%. Mostly, that'll be in the comp ratio, which was, you know, it has been 60%, almost historically, and is a little north of 70% today. If you run that, you'll see margins, when you think about profitability, being in the, you know, low- to mid-20s%.
Which is, you know, as we think about the profitability, that's return on tangibles of north of 20%, and we think is at the, you know, at the top quartiles of businesses like ours.
Jim Marischen (CFO)
I would also add to that, if you go back about five years, we used to talk about pre-tax margins in the 15%-20% range. As you think about how we've scaled our balance sheet and how that's impacted our comp ratio and our margins, that's driven a lot of the increase. You go over the last few years, as Ron said, we've been between call it 20% and 24%, 25%. To get materially above that, obviously, you need a good environment and you need to continue to scale the balance sheet and the bank assets.
Ron Kruszewski (Chairman and CEO)
You know, when you think about how the impact of the margins of a good institutional market, you know, we had almost 24% margins in 2021. That was a good market for institutional, but 24% margins in a zero-rate environment, okay? We believe there certainly is margin expansion and profitability that will be driven primarily at this point, not by expansion in NII, but improvement in the institutional overall, you know, environment.
Alex Blostein (Managing Director)
Got it. Yeah, no, that all makes sense. Quick follow-up for you guys around just deposit costs. As you look at the sweep deposits from the brokers to kind of the core deposit base, what do you expect in terms of the ultimate cost of these deposits through sort of the rest of the cycle as the Fed is likely to sort of pause here? It looks like you guys were holding the line kind of to this 20%-30% deposit beta, again, outside of the smart rate program. On the way down, do you anticipate sort of like a similar pace of deposit beta as rates start to come down there? The core deposit sweep program could have a higher deposit beta on the way down.
Jim Marischen (CFO)
I would start that with saying, you know, if we do see a rate hike here, I think there's a good chance you could see us paying a higher rate on our Smart Rate program. Probably won't have as much of an impact on our sweep deposit program, but all that's baked into our guidance already and kind of what we've incorporated in the second half guide. As we look forward beyond this next rate hike, if we were to see rates decline, I would say, generally speaking, historically, you've seen higher beta on the rate cuts on the way down. I, you know, I don't see anything in the current environment that would guide us to think differently about that today than what we've seen historically, and we expect, you know, higher beta on the way down.
Ron Kruszewski (Chairman and CEO)
Yeah.
Alex Blostein (Managing Director)
Right.
Ron Kruszewski (Chairman and CEO)
I'll just temper Jim's remarks by saying that while I agree with that, I think it's a different environment with the competition for deposits and QT and just the amount of liquidity that has left the system. Like everything, you know, history tends to repeat itself, but not perfectly. In this case, I think there is a risk that the competition for deposits will somewhat mute the deposit betas on the way down. We're also thinking about that as well. I do just want to temper that, because I hear a lot about, you know, 100% deposit betas on the way down, and I'm not sure I'm a complete proponent of that or believe in that.
Alex Blostein (Managing Director)
including some of the high yield saving programs, so like the Smart Rate Program, to be part of that risk?
Ron Kruszewski (Chairman and CEO)
No, you know, the high yield savings program, when we net all this out, it's ending up being very competitive with money market, you know, with where we're going. The high yield savings program would be more of a deposit beta. That should move as Fed funds moves, because that's kind of where we pegged it. I would say that I'm talking about on these, on the transactional cash, that those deposit betas have been much lower, and I think will be much lower on the way down.
Alex Blostein (Managing Director)
Yeah.
Ron Kruszewski (Chairman and CEO)
That's all.
Jim Marischen (CFO)
At roughly 50 basis points.
Alex Blostein (Managing Director)
Yeah. I got you.
Jim Marischen (CFO)
You can't have much of a 100% deposit beta.
Ron Kruszewski (Chairman and CEO)
How much of a deposit beta are you going to have?
Alex Blostein (Managing Director)
Yeah. No, exactly.
Ron Kruszewski (Chairman and CEO)
You know?
Alex Blostein (Managing Director)
Okay. All right. Thanks for clarifying. Appreciate it, guys.
Ron Kruszewski (Chairman and CEO)
Yeah.
Operator (participant)
Our next question will come from Chris Allen with Citi.
Chris Allen (Managing Director)
Good morning, everyone.
Ron Kruszewski (Chairman and CEO)
Hi, Chris.
Chris Allen (Managing Director)
How are you doing, Ron?
Ron Kruszewski (Chairman and CEO)
Good.
Chris Allen (Managing Director)
Most of my questions have been answered. I guess just maybe following up on the recruiting environment, you gave some good color on the independent channel. What's the competitive environment like on the employee channel these days, as some of the pressures exerted by some of the companies that have undergone some of the issues back in March, faded? Anyone stepping up or is it just a bit more moderate competitive environment at the moment?
Ron Kruszewski (Chairman and CEO)
I think the competitive environment really hasn't changed. I think that what has changed for us is our profile within that. I would often be frustrated that while I always felt recruiting was good, especially when we got people to look at our platform, we have a very high conversion rate. Yet I also felt that, you know, we would call teams that would go somewhere else, say, "Why didn't we talk to you?" They'd say, "Well, wait, I didn't even really, you know, think of or know about you." That has changed quite a bit. So we see our ability or the number of people that we're talking to, the population, going up significantly.
If we have our normal batting average, which I think is going to be higher anyway, then our recruiting is going up. That's, that's almost not, you know, unless the competitive market really changes in terms of being, you know, something that's not economical, we believe we're in a better relative position than we've ever been in.
Chris Allen (Managing Director)
Great. Thanks a lot, guys.
Operator (participant)
We have a question from Steven Chubak with Wolfe Research.
Ron Kruszewski (Chairman and CEO)
Steven, you're back.
Steven Chubak (Managing Director)
Yes, couldn't help myself. Thank you for accommodating the follow-up. did want to ask on the non-comps. it's been a source of delta versus consensus over the last couple of quarters, has been running a bit higher. updated full year guidance on the non-comp ratio, if I did the math correctly, implies about a $40 million increase versus the prior guide. you cited a couple of items like FDIC assessment costs being higher, but just wanted to better understand the primary driver of that higher non-comps. The FDIC piece certainly doesn't explain the bulk of it. actually, it only explains a small proportion of it. just how sticky are those expenses? Is there any room to bend the cost curve?
Ron Kruszewski (Chairman and CEO)
You know, the FDIC, you're right. I mean, that is, that's been part of it doesn't explain all of it. You know, we've been investing in the brand, and that is, that's been helping our profile, it's been helping recruiting, and that has been something we haven't done over the past. You know, you've seen increased, you know, sponsorships by people, you know, in a lot of the sporting venues, you know, the U.S. Ski Team sponsor. You know, in baseball with the Cardinals, et cetera. That's really helped our visibility in a lot of things we're doing. We needed to do that. There's also a significant portion, that is, variable in nature, and that is our conferences and travel and entertainment.
Which we have taken the position, like that old United commercial, where the guy puts his tickets in his pocket. We got to go see our clients, even though the environment is not conducive to, you know, spending what those variable expenses versus the short-term revenue, we believe that, you know, that this is money well spent. There is variability if we wanted to have more of a governor on the travel, entertainment, conferences, and those things. At this point, we are playing the long game.
Jim Marischen (CFO)
The only thing I would add there as well is additional technology expense. We continue to invest in the business. We're always doing that. That's always going to have an impact on the bottom line. Then, obviously, our guide is X provision and X investment banking gross up. Those obviously were up a little bit in the quarter as well. Obviously, I think provision expense across the market today is going to be a little bit elevated given the economic environment. Really, the IB gross up increasing in the current quarter was a function of the step up in the capital raising activity as well.
Ron Kruszewski (Chairman and CEO)
You know, look, Steven, I think that every year, non-comp OpEx goes up, okay? I mean, every year. That's because of the investments. What normally people aren't talking about it as much because margins are going up as well. In this particular instance, our margins have been inclining, so it's getting a little bit more focused. These investments are investments we believe we need to make to continue to be competitive. You know, as the business rebounds and our margins expand, I think the wisdom of these expenses will prove out.
Steven Chubak (Managing Director)
That's really helpful color. Ron, it might be nice if you decide to invest or market to franchises that are outside the St. Louis area, but I won't hold that against you. The other piece I wanted to just bring up, ask on is cash sorting. The trend is clearly improving month-to-month.
Ron Kruszewski (Chairman and CEO)
Wait a minute, wait a minute. Wait, you're not getting by with that. I'll get to the cash sorting in a second. Those St. Louis franchises travel to 40 cities outside the United States. I will tell you, that's been a big difference. You know, if we'd have named a stadium in St. Louis, I'd take that. These franchises travel. We get a lot of exposure. Like, you can't help but you're not a Cardinals fan, obviously. Go ahead with your cash sorting.
Steven Chubak (Managing Director)
No, I'm only supporting superior sports franchises. On cash sorting-
Ron Kruszewski (Chairman and CEO)
Oh, boy.
Steven Chubak (Managing Director)
Each month through June.
Ron Kruszewski (Chairman and CEO)
Operator, Go ahead. Cash sorting.
Steven Chubak (Managing Director)
Okay.
Ron Kruszewski (Chairman and CEO)
This one I'm pre-
Steven Chubak (Managing Director)
Exactly-
Ron Kruszewski (Chairman and CEO)
... pre-handing off cash sorting to Marischen.
Steven Chubak (Managing Director)
Yeah. How have the trends fared through July?
Ron Kruszewski (Chairman and CEO)
Yeah
Steven Chubak (Managing Director)
get a sense as to whether you're expecting continued improvement, especially in light of what's expected to be another rate hike coming in very short order.
Jim Marischen (CFO)
Yeah, I'll give you an update. If you look back to June, we had about a $300 million outflow from the suite program. Through July, that number is about right around $100 million. You've continued to see those trends progress into July. This was probably as of the end of last week or beginning of this week, roughly speaking. We continue to see the trends produce, you know, fewer and fewer outflows as we go forward.
Steven Chubak (Managing Director)
Great color. Thanks so much for taking the follow-up.
Ron Kruszewski (Chairman and CEO)
Hey, Steven. Last point, okay, as it relates to our sports marketing. I would note there are no ski mountains in St. Louis, Missouri. All right, any more questions?
Operator (participant)
There are no further questions at this time.
Ron Kruszewski (Chairman and CEO)
All right. Hey, everyone, we appreciate it. The overall message is that we had a strong quarter. The expected profitability and our growth, we expect to continue. It's a challenging environment, but one that we believe we're well positioned in the future. I look forward to talking to everyone in the coming quarters and appreciate your time today. Thank you.
Operator (participant)
Well, thank you. That does conclude today's conference. We do thank you for your participation. Have an excellent day.