Morgan Stanley (MS) — Q4 2020 Earnings Call Transcript

Thank you, Operator. Good morning, everyone. Thank you for joining us. And I fully appreciate we're competing with a historic day here, so particularly appreciate you listening in. We will be brisk, as we always try to be. Morgan Stanley delivered record results in 2020. We generated an ROTCE of 15.4%, while meaningfully driving our strategic vision forward. We successfully closed our acquisition of E*TRADE, received an upgrade from Moody's to A2, were placed on review for upgrade a second time, and announced our intent to acquire Eaton Vance. Then last month, following the Federal Reserve's release of its second stress test result, we announced the $10 billion buyback program that we intend to execute in 2021. Our performance and competitive position serve as hard evidence that Morgan Stanley has reached an inflection point. Jon will discuss the details of this year's performance in a moment, but first let me walk you through our vision for the next decade, and outlook focused on growth as outlined in our annual strategic update. This is something we've now done since, I believe, 2012. Let's turn to slide three. Our strategy revolves around demonstrating stability in times of serious stress, and delivering strong results when markets are active. 2020 for sure tested this thesis. In a rapidly evolving operating environment, we responded to heightened volatility and supported open and functioning markets and client needs. We delivered record revenues of $48 billion while remaining disciplined in our risk management. Those revenues, by the way, are up from $34 billion in the time period 2010 through 2014. Turn to slide number four. We enhanced our positioning in areas of secular growth with several strategic acquisitions. In 2019, as you know, we advanced our workplace offering with the acquisition of Solium. Then, in 2020, we took a leap forward when we announced our acquisitions of E*TRADE and Eaton Vance. Combining with E*TRADE positions us to reach clients in various stages of wealth accumulation in a scalable, economic way. E*TRADE's technology, products, and innovation mindset enhance our growth model. Further, E*TRADE serves a younger demographic, who are on average over 10 years younger than those we have historically served, and who we can continue to service as their needs become increasingly complex. With Eaton Vance, we will create a leading asset manager of scale. Eaton Vance brings new investment capabilities to our platform, and leading positions in secular growth areas, particularly customization and sustainability. The deal will also expand our client reach, combining MSIM's robust international distribution with Eaton Vance's strong U.S. distribution. Please turn to slide number five. Having experienced periods of fragility, healing, and stability, our firm is now at an inflection point. The next decade will be characterized by growth. Our growth drivers span across all three of our business segments. We'll focus on gaining market share, expanding and deepening our client relationships, realizing acquisition synergies and operating leverage, and finally, returning capital to our shareholders. Please turn to slide six. Scale in our interconnected businesses are the foundation for our first growth driver, gaining market share. Our integrated investment bank produced $26 billion in revenue on a pro forma basis, our wealth and asset management platforms is among the largest globally, with over $5 trillion in combined assets. Our breadth and depth of product offerings and services have enabled us to gain an increased share of client wallet, as you can see on slide seven. Our segments are working together to deliver holistic client coverage, and are capturing asset and revenue growth. In 2020, international securities generated over $300 million of revenues from transactions through Wealth Management referrals. Wealth Management in turn gained $20 billion of client assets, and Investment Management saw $6 billion of net flows and commitments all from Institutional Securities referrals. Our second growth driver, expanding and deepening our client base, begins with Institutional Securities, on slide eight. Our integrated investment bank benefits from our coordinated and client-focused approach. We built revenues meaningfully to a record $26 billion in 2020. The result of this growth coupled with risk and expense discipline was an operating margin of 35%. Turn to slide nine, which talks about our Wealth Management business. With the acquisition of E*TRADE, we are now a top three player in each of the key channels in which investors manage their finances, and each presents unique growth opportunities. With our increased capabilities, we can deepen client relationships and provide more services to millions of households. If we look at E*TRADE, on slide 10, you'll see the business had a remarkable year in 2020, setting new records across all material metrics. The unique backdrop dramatically accelerated digital adoption and meaningfully increased levels of engagement. Versus prior records, trading activity more than tripled, and net new assets more than doubled. Deposits reached record levels. Extraordinary growth versus prior records is hard additional evidence that our decision to buy E*TRADE was indeed the right one. On slide 11, we illustrate our extraordinary accumulation of net new assets, bringing over $200 billion of assets this year new to our firm, that's 6% of beginning period assets on a pro forma basis. We've invested heavily over the years building our modern wealth strategy, enhancing our technology, and building new businesses. And the addition of E*TRADE will only help. This year's net new asset growth was remarkable. And while net new assets tend to fluctuate obviously in any year, and this was likely the high end of what is a likely range, we still expect net new assets to remain well above historic levels. On slide 12, every year for the past decade, our revenues have increased. And with E*TRADE, our daily revenues will be significantly higher in the future. In 2020, 65% of trading days saw revenues in excess of $70 million. That was compared to just 2% only four years ago. Let's talk about Investment Management, on slide 13. With our announcement to acquire Eaton Vance, we will create a premier global asset manager with $1.4 trillion in assets under management. Since 2017, Morgan Stanley Investment Management has grown assets under management by over $360 billion, and both MSIM and Eaton Vance have each individually attracted industry-leading long-term net flows over 20%. We're really excited about this transaction and the integration planning is going well. Eaton Vance's businesses remain strong, with increasing assets under management through the end of December. We expect to close the transaction no later than early in the second quarter. Slide 14 shows the power of our wealth and investment management platforms when taken together. On a pro forma basis, we will have over $5 trillion in client assets, creating further revenue opportunities. Our efforts to enhance and build out these businesses have led to strong growth. Pro forma client assets have more than doubled the amount we oversaw in 2014. Consistent with our predominantly advance-driven business model, revenue on these assets, expressed in basis points on the right-hand side of the page, is materially higher than our three larger competitors. Now, let's turn to slide 15, which includes an update on the acquisition synergies we expect to realize. The cost synergies we previously outlined are definitely on track. And on the funding side with additional liquidity and deposits we have added since the announcement, we expect $100 million more in synergies than originally projected. We also expect to capture significant incremental revenue opportunities through these deals. And there are outlined in a little bit detail on the right-hand side of the slide. Now turning to 16, expense discipline is a fundamental tenant of the way we manage Morgan Stanley and has enhanced record pretax profits. And you see our efficiency ratio has come down from 2014 at 79% to just over 70% this past year. And obviously, that has driven the pretax profit expansion. So, our fifth growth driver is highlighted on Page 17. Over the past several years we have consistently improved our returns despite holding material excess capital. We are excited about the opportunity to return that excess to shareholders and announced a $10 billion buyback program for this year. We restarted our share repurchase program this month and plan to increase our dividend when restrictions are lifted by the Federal Reserve. I'll now conclude with our updated strategic objectives which are shown on slide 18. While this year will be a transition year as we observed two major acquisitions, our focus remains on positioning Morgan Stanley to achieve our long-term strategic targets. Our long-term aspiration and frankly our belief is that wealth management would generate a margin over 30%. By 2022 and in that period, we expect to range from 26% to 30% as we continue to work through the E*TRADE integration. We also plan to invest in many aspects of our business for growth that will balance this with discipline. In so doing, we keep our long term efficiency ratio below 70% and within the range of 69% to 72% over the next two years. Finally, our long-term aspiration for ROTCE is indeed to exceed 17%. How quickly that occurs depends not only on our business performance but also, of course, on distribution. In the meantime, we raised our two-year target to the range of 14% to 16%. As always, these targets are subject to major moves in the economic outlook and any big changes in the political and regulatory environment. However, based on what we see now we fully expect to achieve these as stated. That concludes the strategic part of the conversation. I'll now turn the call over to John who is going to go through the fourth and annual results, and together we look forward to taking your questions. Thank you.

Thank you, and good morning. The firm generated revenues of $48 billion in 2020. Both with and without E*TRADE, we experienced continued momentum into the fourth quarter with revenues reaching $13.6 billion. Strong market conditions, significant volatility, and active client engagement across all three businesses contributed to these results. Excluding E*TRADE integration-related expenses, our ROTCE was 18.7% for the fourth quarter and 15.4% for the full year, while EPS was $1.92 and $6.58 respectively. We maintained operating leverage throughout 2020, primarily driven by institutional securities. Non-compensation expenses for the year rose by 50% due to higher volume-related expenses and increased credit provisions, although these were partially offset by a decline in marketing and business development costs. Compensation expenses climbed by 11% year-over-year, attributing to higher revenue. Full-year revenues increased by 16%, resulting in an efficiency ratio of 70%, down from 73% in the previous year. In institutional securities, our business achieved multiple records throughout the year, generating revenues of $26 billion, which is 25% higher than our previous best year. All regions contributed to these results, with Asia showcasing particularly strong growth. Revenues in the fourth quarter reached $7 billion, marking the strongest quarter in over a decade, and we did not experience the typical seasonal slowdown, with clients remaining active up until the week of Christmas. Investment banking revenues for the entire year were $7.2 billion, a 26% increase from 2019, driven by record underwriting revenues, especially in equity. The year saw a progressive opening of markets in response to the COVID environment, starting with debt and rescue financings, followed by equity, and recently including leveraged loans and corporate M&A financing. Our quarterly results were the best in over ten years, generating revenues of $2.3 billion, which is 46% higher compared to the prior year, driven by record underwriting and advisory results, with each region contributing revenues well above average. The investment banking pipeline remains robust across products, and the pace of M&A announcements has intensified, with active dialogue among clients and boardrooms. Equity issuance is strong, bolstered by an extensive backlog from IPOs, particularly in healthcare and technology, as well as follow-on activities in the Americas and Asia. Following record-breaking activity in investment-grade and high-yield debt markets, strategic activities should support increased acquisition-related financing. In equity sales and trading, we retained our position as the global leader for the seventh year in a row. Full-year revenues of $9.8 billion marked a 22% increase from the previous period, representing our strongest annual performance in over ten years. This year's market conditions were unprecedented and the strong results across products reflected increased client activity against a backdrop of heightened volatility and double-digit growth in global market volumes. Fourth-quarter revenues were $2.5 billion and full-year results were strong across products and regions, with the main growth drivers being derivatives and Asia. Fixed income sales and trading revenues reached their highest level in over a decade, rising by 59% to $8.8 billion for the year. Client engagement was high during a year marked by increased volumes and volatility, as well as active capital markets and wider bid-offer spreads. Fourth-quarter revenues increased by 31% year-over-year to $1.7 billion, with results led by credit and foreign exchange; Asia demonstrated particular strengths for the full year. In other sales and trading categories, results improved compared to the prior year, primarily reflecting lower provisions for loan losses and adjustments related to the deferred cash compensation plan. Our ISG credit portfolio remains strong, with over 90% of our ISG loans and commitments classified as investment-grade or secured. ISG loans and lending commitments rose by $9 billion this quarter, as we continued to support our clients while our funded ratio on our corporate book is approaching pre-pandemic levels. After building our allowance for loan losses in the first three quarters, it remained relatively flat in Q4, with ISG provisions totaling $14 million and net charge-offs near $40 million, primarily tied to one commercial real estate loan secured by hotels. Although risks remain concentrated in our vulnerable sector portfolio, this portfolio continues to decline. We have reduced this portfolio by nearly $2 billion this quarter, now accounting for less than 10% of our total portfolio, with over 90% classified as either investment-grade or secured. Our reserve coverage remains stable, and forbearance for the ISG portfolio continues to decrease. On October 2nd, we finalized our acquisition of E*TRADE. This quarter's results reflect the combined financials of both businesses, making it challenging to compare to previous periods. Therefore, I'll focus on Q4 results and our outlook for 2021. The quarter saw revenues of $5.7 billion after excluding integration-related expenses of $231 million. The PBT margin was 22.9%, and the full-year margin was 24.2%. The underlying drivers of this business remain robust, demonstrating strong capabilities and client engagement. We recorded fee-based flows of $77 billion for the year, with fee-based assets now totaling $1.5 trillion. We added $18 billion in loans, marking a 22% growth in 2020, bringing total loans close to $100 billion. Asset quality is outstanding, with loan forbearance under $400 million, down from approximately $2 billion at the end of Q1. Deposits continue to grow, boosted by $54 billion from E*TRADE, now totaling $306 billion. The network generated net new assets of $66 billion in the quarter and over $200 billion for the year. We remain a preferred choice for advisors, continuing to add strong teams and retain productive advisors. These fundamentals and the realization of synergies position us well for future success. In the quarter, asset management fees reached $3 billion, benefiting from higher asset levels and $24 billion of fee-based flows. Transaction volumes remained high, and revenues were strong despite excluding around $350 million of DCP, as clients were active in both advisor-led and self-directed channels. Net interest income was $1.2 billion for the quarter, benefiting from additional deposits and investment portfolios resulting from E*TRADE. This represents a reasonable exit rate for 2021 and incorporates purchase accounting adjustments from premium amortization, estimated at about $50 million per quarter. For this year, NII is expected to grow due to the realization of funding synergies and lending growth, with limited impact from rate changes. We onboarded approximately $4 billion of deposits that were previously swept off E*TRADE’s balance sheet late in Q4, with expectations to onboard about $20 billion in Q1. As we invest these deposits and move away from higher-cost wholesale funding, we anticipate realizing the majority of our upgraded funding benefits in NII in 2021, with the full effect of these actions expected by Q2. We continue to experience strong lending demand, projecting approximately 10% growth in loans that will support NII. Although we do not foresee any immediate changes to policy rates, we will benefit from eventual rate normalization. The acquisition of E*TRADE enhances our U.S. banks' sensitivity to rates, with a potential 100 basis point increase in rates anticipated to contribute an estimated $1.5 billion in additional NII, exceeding the estimated $1 billion we previously disclosed prior to closing the acquisition. We still expect $800 million in integration costs over three years, with around 40% of that realized this year. Following the transaction's closure, we acted to achieve the targeted $400 million in cost synergies, focusing on minimizing disruptions to customer experience during the integration process. In 2021, we will exit E*TRADE branches, consolidate our banking entities, and integrate HR and finance systems, expecting to recognize approximately 25% of the cost synergies this year. Investment Management posted revenues of $1.1 billion in the fourth quarter, the second-highest quarterly figure in over ten years. For the full year, revenues amounted to $3.7 billion, consistent with the prior year, but showing a greater focus on more stable management fee revenues rather than carried interest. Total AUM reached a record high of $781 billion, with long-term AUM also breaking records at $493 billion. Long-term net flows were $8.5 billion in the fourth quarter, with our global equity strategies continuing to perform strongly and attracting positive flows. Overall, total net flows were $25 billion, and the global reach of our platform has proven advantageous, with record long-term net flows of $41 billion for the year and an annual long-term growth rate of 12%. We are optimistic about our transaction with Eaton Vance, which has seen its assets under management increase by over $65 billion since October. The business outlook remains strong, demonstrating ongoing momentum. Turning to the balance sheet, total spot assets were $1.1 trillion, and standardized RWAs increased to $454 billion, reflecting heightened client activity and the conclusion of E*TRADE. Our standardized CET-1 ratio remained stable compared to the previous quarter at 17.4%. Our effective tax rates were 23% for the fourth quarter and 22.5% for the full year. For 2021, we expect our tax rate to hover around 23%, with some quarter-to-quarter variability. We are pleased with our strong performance this year, positioning our franchise for growth like never before in over a decade. As we approach 2021, we do so with strong asset levels, a healthy pipeline, engaged institutional and retail clients, and an exceptionally strong brand. We are confident in our ability to meet our objectives. We will now open the line for questions.

Good morning, and thanks for taking my questions. Just wanted to start on the net new asset disclosure that you guys provided here this quarter for the first time, thanks for that; it's very, very helpful. It seems as though the net new asset growth, the organic growth profile in the wealth business accelerated here in 2020. What do you think is driving that? Is that capturing a greater wallet share of existing clients, is that an expansion of the client base? And it seems as though the metric excludes fees and commissions. Do you have an estimate of what that would mean for a headwind to that growth rate, because I believe most of the other competitors disclose it net of those fees, so just want to try to make a like-for-like? Thank you.

Let me begin by saying that Jon will discuss some of the disclosure aspects. As you noted, Brennan, this is the first time we've approached this in many years. We felt it was essential to acknowledge the remarkable growth of our business. We encounter numerous competitors and digital players with relatively modest assets in absolute terms, while we are achieving $200 billion in a year. Some of this is pro forma based, and when looking at E*TRADE, they're performing well. Financial advisors experiencing net attrition will lead to a decrease in assets linked to those advisors. Remarkably, for the first time in over 20 years, we are not facing net attrition, which is noteworthy considering the IFA channels are growing, albeit not with us. We are retaining our advisors' assets and attracting new advisors. Our workplace initiatives, including Solium and E*TRADE, are helping us capture assets through conversion and retain them more effectively than before. There are various strategies implemented within the Wealth Management business aimed at accelerating our client asset growth. There isn't just one factor. I think a growth rate of 6% is ambitious, especially compared to the 2%, 3%, or 4% we were operating at previously. I believe it will remain elevated, and while I don’t expect us to drop back to 2%, a figure around 6% seems high and certainly competitive compared to the industry. However, Jon may have additional insights on the disclosures.

Yes, so the two critical exposures, the net new assets and then the fee-based flows, and you can see from the footnotes on the net new assets, which is a concept of the assets that we bring into the organization net of the outflows, that does not exclude the fees. You can figure and see the fees on the asset base line in the disclosure, about $10 billion or $11 billion. The fee-based flows do exclude that, as it is a function about how much fee-based assets that we have that are generating a return on those asset base. Hopefully that clarifies the question. And I think for us, the net new assets, given the different business models across the business models it reflects, most people don't have the level of asset-based fees that we do, and we thought it was appropriate to disclose it then.

Yes, that's very helpful clarification. The growth rate looks robust, and it's clear that the traditional wealth management firms are just providers of share. A mid-single-digit growth rate does not indicate that you're losing share to anyone. For my follow-up, I believe one of the most exciting growth opportunities in the wealth business is the stock plan business, where you have a strong competitive position. You highlighted a lot of this in the presentation, including the retention opportunity of over 15%, which E*TRADE has mentioned historically. What is the plan to integrate the stock plan platforms, and how long do you think that might take? Additionally, considering the $435 billion of unvested assets, how much of that typically vests each year? Is it around a quarter or 30%? Can we view that as evergreen, where investments are replaced with new awards in subsequent years? I apologize for the multipart question, but I think it’s important. Thank you.

That's okay. So we have integrated the sales team. We're going to market through our corporate clients with a consolidated sales effort. As you would expect, we're going to be very mindful of the integration of these platforms. I would highlight that they were certainly different emphasis in terms of big companies, small companies, private companies, and we will converge those platforms over time and upgrade them both to sort of bring the best of both of those platforms together. You're right, the existing opportunity is the $435 billion of unvested assets, and roughly five million participants. Our expectation is we will continue to grow the number of corporate relationships we have, and therefore the number of participants. And we've seen good closure rates since announcing both the Solium transaction and the E*TRADE transaction, so we feel very good about the momentum of the number of new corporate relationships we have in that channel. And then lastly, on the $435 billion, give or take 25% or 30% of that vest each year, I think that's a pretax number, so clearly there's tax impacting that. But as you say, our expectation is that number will continue to grow as we bring on more and more corporate relationships.

Thanks for the color.

Hi. Well, you've clearly gained share this quarter of the year in capital markets and trading. Aside from your gaining share, what is your outlook for the industry wallet? As you know, it shrunk in trading for a decade, and now it may or may not have turned more permanently. So, some banks say we're planning for 2019 levels for trading; some think it can maintain this pace; some say it's in-between. Kind of where do you fall out, and why, what do you see as the structural changes?

Mike, it's very difficult to say. I mean just look at what we've been through in the last 12 months, and look at activity in the first quarter versus the second quarter, and then where do you finish. So, clearly, there is a lot of activity in the market. There is enormous fiscal stimulus. Our rates remain very low. I think the global economies are recovering. And I think the vaccines; if we get in the U.S. to a million doses a day for the next 150 days would be spectacular. So, there are a lot of industries that are continuing to look at share issuance, new IPOs coming, recapitalizations of different kinds, raising debt. So there's a lot of market activity I think in the reasonable near term. Whether it is at the level of 2020, I mean you'd have to bet against that just on pure odds, less than 50%, I think. But who knows, I mean the year has started off strong. And we count them one day at a time. The year has started off strong, the markets are active, the economies are recovering globally, and a new administration has come in. It looks like we had a peaceful transition hopefully today. So, I am quite optimistic about it. I can't put a pin to say exactly where we're going to end up, but we're clearly gaining share. Our fixed income franchise has well recovered from the 2015 restructuring and 2012 lows. Our equities bounced and retained their number one spot again in what has been a growing equity fee pool. And clearly, that the banking revenue is about $2 billion for the quarter, there is a lot of M&A activity and a lot of underwriting activity. So, I'm pretty optimistic. I mean I can't put an exact number on it, but I certainly don't feel like we're going to make a major back-step at all here.

On that last comment, in terms of backlogs, are they up quarter-over-quarter, near record, down?

Yes, generally, I think from my comments, Mike, we describe them as healthy across all products and all regions, with IPOs as a standout. As I said, M&A activity dialogues are very active, pipeline is very healthy. So, as James said, a very constructive start to the year with a healthy pipeline.

All right, thank you.

Thank you, and good morning, James and Jon. Maybe back on Wealth Management organic growth, and again echo the earlier comments. I really appreciate the new information. But for James, you seem to be really playing down the 6% this year as not sustainable. So I guess can you just maybe help us understand what exactly was elevated in 2020; was just overall industry elevated, was there something more specific to Morgan Stanley like higher recruiting? I'm just trying to understand why you think it was elevated. And then maybe more importantly, just looking forward, give us a sense of what you think the business can do sustainably, as sort of range for organic growth that you would expect for the business. Thank you.

Christian, you likely know me well enough by now to understand that I won't base projections on a single data point. Over the past decade, we've experienced net new asset growth around 2% to 3% and then 3% to 4%. E*TRADE has demonstrated significant asset growth potential, which is a substantial advantage. Additionally, the number of financial advisors has increased this quarter, marking the first rise in years. I tend to be conservative until more data comes in. I do not believe we're reverting to 2%, but if we could maintain 6% growth for the next decade, that would equate to $200 billion annually. I have seen many online competitors with only $20 billion in total assets, whereas we're generating $20 billion every five weeks, essentially creating these companies at that pace. As for whether our growth will settle at 4.5% or 5.5%, I'm unsure, but I have a strong instinct that achieving 6% with $4 trillion in assets is possible. However, I am not making that a formal projection or guiding expectations in that direction. On a positive note, I believe we’ve transitioned to a different type of company. The theme of this presentation, titled "Morgan Stanley, an Inflection Point, the Next Decade of Growth," aims to convey that we are entering a growth phase for the company over the next ten years. Since the crisis, we've moved through stages of fragility, healing, and stability, and we are clearly in a growth phase now. We have the capital to reinvest in our business, we are capturing market share across all sectors, we possess significant scale in key areas, and we've made substantial technological improvements to enhance efficiency. I genuinely believe we are in a growth phase, with strong net new asset growth being a key indicator of this progress.

Fair enough. Maybe switching over to capital, with the stock now trading well above book value, how are you thinking about prioritizing buybacks versus dividends? I think in the past you have spoken to an aspirational target of paying out all of wealth and asset management earnings as a dividend. So maybe just some updated thoughts around how you're thinking about that prospect, and again, buyback versus dividend conversation here?

Well, the third leg to that conversation, very importantly, is investing in the business. If we're going to grow, let's pretend we're growing, I don't know, net earnings of $10 billion, and we're paying out dividends at the moment of about $2.5 billion. So if we were doing a buyback this year of $10 billion we're only eating into our buffer $2.5 billion a year, we're not going to chip away at much for 17.4% and I think the threshold is 13.2%. I'm looking at Jon.

Yes.

Let's assume we carry, what, a 50-100 basis point buffer on our SCB, so let's assume we want to run at 14.2%, we're at 17.4%. We've clearly got some room to move, obviously, we've got the Eaton Vance move coming in, which affects those numbers about 100 basis points. So, as I think about it, I've described this before, half our company asset sort of yield component to it, very stable revenues and earnings, and we could clearly move the dividend higher and we'll, once the regulators permit that we have, clearly we have the capacity. On the book value, yes, I would have preferred to be buying stocks last year when we were at $27. Unfortunately, we couldn't do that, but I'm not troubled by buying a little of book value. And I don't think we can be 2Q we have 1.8 billion-1.9 billion shares outstanding, obviously through the issuance from the deal. So, I'd like to get us back to a 1.5 billion type range over the next few years and we've got the capital, on things we can invest, $10 billion, $15 billion a year in the business and generate the kinds of returns we expect to generate. So it's a mix of all three. But clearly, we like to see more action on the dividend. Clearly, we're going to be aggressively buying back and consistently and clearly we have capacity to increase our investment in the core businesses.

Great, high-class problem. Thank you.

Sorry, can you hear me? My apologies for that. I just want to start-off with a question on funding NII. I appreciate the disclosure on funding optimization and the drivers of some of the improved synergies from the initial guidance. I'm curious how much room there is to cut deposit costs further, it looks like your wealth management deposit costs are 24 basis points, it's just running well above peers. And just a clarifying question regarding the NII guidance, is the growth you're contemplating in '21? Is that versus the 4Q '20 base, which reflects the full impact of the deal? Or was that a guide versus full-year 2020?

I'll do the first, last question first, which is that it was based on the fourth quarter, so sort of using a fourth quarter annualized as the right base to be thinking about again, we did have the full impact of both the transaction for the full quarter as well as the amortization of the premium from the investment portfolio. You're right; our deposit costs were 24 basis points which were down 14 basis points for the quarter. We also saw an improvement as you know, BDP or what we call our sweep deposits, obviously at a lower rate, basically at one basis points relative to our wholesale, that costs about 100 basis points. So part of the funding synergies is really coming from replacing those wholesale funding, CDs and other wholesale funding with the off balance sheet deposits that we're going to bring back on balance sheet. So we started the quarter, I think about 65% of our funding and the deposits were sweep. We're now at 75%, we would expect about $15 billion to $20 billion of CD roll-off. That's obviously based on the maturities. So we continue to think that we can drive our average deposit costs lower as we continue to replace the wholesale with the incremental deposits from E*TRADE.

No, that's great. And just for my follow-up, big picture question, James, if you'll indulge me, I was hoping you could help us reconcile versus your prior target of 15% to 17%. What rate market and capital assumptions are underpinning your 17% plus ambition, and I guess if we started to think about the inflection and growth that you cited and maybe even some tailwinds from normalization, just higher rates, which would be more than 100 basis point benefit, greater realization of revenue synergy opportunities, further progress on the SCB, the direction of travel, there's been quite favorable. The 17% plus longer term still feels somewhat conservative. I'm wondering from your perspective, do you see even in upper teens or 20% plus ROTCE as a reasonable long-term ambition just given the significant transformation that's underway.

You're starting to take over Mike Mayo's role, as he usually asks me that question. What's the issue with the term "plus"? "Plus" indicates an increase. I wouldn't try to complicate this too much. This reflects our goals and also represents our confidence. It's not just a fantasy; we believe we can achieve these figures. Factors like interest rates significantly influence our business, but when you look at our performance from last year, those targets seem attainable, whether it's 17 plus, 18 plus, or 19 plus. Three years ago, we stated our goal was to reach a 17 plus ROTCE, and we are also planning accordingly. I'm confident in these projections. If we achieve them, our stock should definitely be valued higher than it is right now. We analyze our budget and operating performance from 2018, 2019, and 2020, considering our revenue sensitivities, competitive landscape, potential litigation risks, integration costs, and the synergies of our different divisions. We also examine capital allocation, including buybacks, dividends, reinvestment in the business, and expected RWA growth in ISG, along with its impact on CT1. All of these factors come together to give us a target with a "plus" attached.

Thanks very much. James, I wonder if we could look at slide 14 and talk to something that comes up a bunch. You show your 5.4 trillion pro forma. If you look at that fee rate, there is only one other peer on that top 10 that has a fee rate equal or better than yours. And I think it's a good thing, but this comes up plenty. So I'd love to hear you talk about it. And the sustainability of that fee rate, I don't see price pressure in the wealth management business, but people ask on it all the time. Just curious to get your thought process over the coming years and what is embedded in those your immediate and long-term targets implicitly with that? Thanks.

I don't think you're going to see price compression of any significance across the wealth/res management platforms. It's really functioning a blend of asset types. So, for example, the wealthy of the clients, if you have clients with a $100 million, they're not paying 58 basis points, they're probably paying, I don't know, closer to 10 basis points or something; a client with a million dollars is being close at a $100 basis points. So it depends a little bit on the business mix as to what revenue you generate on those assets. Obviously, some of the E*TRADE active trading clients have got high velocity on them. They're going to have higher basis point numbers and a very passive position in restricted stock. So a little bit of that is you've got to sort of peel away what is going on under the numbers, but you brought a question: do I see price compression across wealth management? No, I don't. In fact, we will probably generate more revenue as we build up the banking, lending, and deposit product. On the asset management side, I mean, listen if you are driving performance in the active side, you can generate, you can hold your fees as they are. The underperformers lose their assets quickly when they lose their fees. So I'm not terribly bothered about, and if you knew the names of the three above it, you'll probably get some, there is a reason, they are more index-oriented, it's a different business model. Now we generate a higher revenue per dollar of assets, but we pay a higher revenue comp structure for Solium assets, but it's not exactly a 30, 40, 50 basis point win as you know obviously.

Understood. Why don't we hear your words? Thanks. Can we bridge the gap? I believe I know the answer to this as well, but the environment has been quite strong. You consolidated the adjusted margin and wealth management at 24% of the medium-term target, which is a two-year target of 26 to 30%. How do we reach the range without relying on rates, given that the Fed is expected to be on hold for a few years?

Yes, the business is experiencing growth. This year, we incurred some additional expenses, including increased contributions to our philanthropic and charitable initiatives in response to COVID, which are distributed across our businesses. We also provided a one-time bonus to all employees earning less than $150,000 who do not typically receive bonuses, particularly in wealth management where we have seen higher business activity. There are various factors at play, and a point of margin is roughly valued at about $45 million per quarter. So, while small variations can affect numbers by 0.02, I believe that with sustained growth, enhanced efficiency, and better asset conversion, we can maintain an average of 58 basis points, navigating within the target range of 24 to 30 percent, likely aligning closer to 26 to 30. Given the strong start we've had, that probably contributes positively to our performance.

Thanks, good morning. First question just want to come back to some of the questions on organic growth and I liked the slide nine that shows $8 trillion in assets held away, essentially making the point that you already have the customer reach. And so I'm just trying to think about whether you view kind of all of that as potential wallet that you can go after or set another way. Are there any products that maybe you don't line up with $8 trillion, and then as the firm becomes more connected through technology, which I think you guys have done a great job over the past couple of years? How do you think about your strategies to connect with greater percentage of that you call it $8 trillion? I know every business has a little bit of a different, call it sales process, but are there new strategies or even financial incentives that you can think about to really accelerate the penetration into that?

Sure. I'll give that a crack, and we're not naive. We don't expect to have 100% of the wallet of all of our clients. So clearly, we don't expect them to bring in all 8 trillion over time, but there is significant overlap as you note in these channels and in these wealth figures. We continue, as you saw through the net new assets, as James mentioned, a lot of that was from existing customers consolidating their assets. A lot of that is being driven by the technology that we've made and the investments that we've made in the platform that help our advisors advise their clients. And we've seen people bring in more assets. So I think if you think about the opportunity set, I think we tried to line it up pretty well through the different channels on the workplace. I think it's really around retaining cash and retaining vested assets. And then over time growing the relationships, self-directed at a minimum, we've seen people leaving the E*TRADE platform as their needs got more sophisticated and they needed advice. We're clearly going to capture that top part of the funnel with the FA led model that we have. So again, a real opportunity and I liked the way you described it; just look at the numbers 2.5 million households, almost 5 million participants in 6.7 million households; the breadth and reach of the platform is quite large and there is some overlap there, but it's still over 10 million clients that we can provide incremental services or bring in more assets from. In terms of good activity, as you can imagine, we are collecting and analyzing data and working with our clients to try to figure out incremental needs and services and products that they need with the E*TRADE acquisition. We bring on incremental digital capabilities, and as you can imagine this year, we're spending the year trying to figure out and piloting ways that we can work better and more efficiently with our clients. We're going to pilot around lead generation, we've defined the advisor group who is going to work with new clients, got scoring systems, we've got artificial intelligence, trying to help predict what people are going to want and need, and next best action. So it's really a culmination of all the investments that we made, plus the digital from wealth, and we're going to use this year to try to get a very good understanding of our client base with these pilots and how we can provide incremental services going forward.

Okay, terrific. Thanks, Jon. Just a follow-up here just on the core expense structure and trying to think about some of the benefits of 2020 with the pandemic that were deflationary; it would seem that some of those benefits roll off. There's some inflationary aspects in the 2021, kind of in a core basis. But longer-term, obviously, I think we've learned a lot about the businesses through the past 12 months and opportunities potentially to derive some longer-term savings, or maybe core deflation in the expense structure. So I'm just, love to get some thoughts around how you guys are thinking about areas or opportunities to maybe drive more expense out of the system based on what you've learned over the last 12 months?

Yes, I would say we're still learning; crisis is not over. We clearly are hopeful around the rollout of the vaccine. I think there are going to be some takeaways around some of the digital client experiences that we've been able to do the work from home that we've been able to do, but I think it's little early to start making those decisions. Let's get through the crisis first.

Good morning, and thanks for taking the question. The strategic update and growth outlook are always helpful, just on the efficiency ratio, given the 70% level in '20 and realized strong revenues in this environment, but E*TRADE and Eaton Vance operating at a better ratio, I think it's longer-term Wealth Management margin improving maybe 600 basis points, just what drives the conservative outlook like, are there areas that you want to assess significantly, either to continue to drive the growth, or there is potential improvement on that 70%?

I believe we've mentioned a target of under 70% after two years, which I don't consider to be overly cautious. A few years back, we were at 79%, and when I first joined, our figures were even higher. Our long-term goal is to maintain a margin above 30%. In terms of the next couple of years and how the markets may fluctuate, we might be taking a conservative approach in the short term, but that doesn't alter our strategy. We are committed to the company’s growth, efficiency, and returns. This has been our clear direction for the last decade and it won’t change. We're trying to set realistic expectations for this period, and that’s reflected in our two-year outlook. Looking further ahead, we adopt a more aggressive stance, but for this year’s two-year outlook, we're focusing on near-term performance. If we annualize the way this year is progressing, we’ll exceed our efficiency expectations.

Yes, Mike.

Yes, that makes sense. Jon, just one clarification on the wealth management; you gave a lot of numbers on the outlook just given the E*TRADE deal, I just wanted to clarify on the funding benefit, did you say 80% in '21 and most of that by 2Q? And then same thing on the expense synergy, I heard a 25% and a 40%. So I just wanted to make sure I had the right number in terms of what you're recognizing in '21? Thanks.

I think all those numbers that you gave are correct. The funding synergies are really from this transition from the off balance sheet, the on balance sheet and the roll-off of the wholesale deposits. So again, that use more towards the back half in that, 80% that's when you get into the second quarter, you'll be using a quarter number, not a full year benefit number, and then 25% on costs and approximately 40% on the integration costs. Also, yes, those are the right numbers.

Got it, thanks a lot.

Sorry, apologies for that. I thought the comments on net interest income outlook and wealth management were very helpful. And I just wondered if I could get you to talk in a similar way about the asset management fees and the transaction revenues in wealth management because versus my estimates, I thought asset management was a bit below maybe that's a lag with the rising AUM, but obviously transaction revenues were very strong. So, could you talk about those two revenue drivers within wealth management, please?

Sure. On the assessment management fees line, obviously the exit rate, as you know, we get the benefit now for the full year of the $1.5 trillion in fee-based assets have average effect and exit effect in terms of 2021. So now, at $1.5 trillion asset we also have the benefit of the net new assets that we bring in over 2021. Though on an average basis, we would expect continued growth obviously in that line. We had over 10% year-over-year in that asset management fees. And then on transactional, it's really going to around client engagement and client activity levels. Fourth quarter, we benefited from elevated transactional. I did say that that was helped by the DCP number which presumably may or may not repeat next year. But that the margin on that revenue, as we have talked about in the past, is virtually zero. And so, transactional generally has been declining. We now have the E*TRADE platform inside Morgan Stanley, so the commissions based on their options trading as well as some of the flow dynamics will aid that number. So, it will be at a new level. But generally that's going to be driven by volume-related activity. And we'll have to see how it plays out recognizing the first 11 days of have been pretty good. Thank you. Our next question comes from Jim Mitchell with Seaport Global Securities. Your line is now open.

Hi, good morning. Maybe we could talk a little bit about the momentum at E*TRADE. I just want to confirm the numbers. If I looked at their second quarter, sort of retail client base is around 5.8 million self-directed clients. And then I think in December, the fourth quarter was up to 6.7 million. Are those apples to apples? And if so, that implies quite a bit of net new account growth of close to 900,000. That's pretty good momentum. And just maybe you could discuss what's driving that and how you feel about that going forward?

Yes, I believe we have outlined that. As mentioned on page seven, you can see the self-directed assets within Morgan Stanley prior to the deal closing as of September 30. The growth has primarily been in the E*TRADE channel, and your figure of approximately 900,000 is correct. Moving forward, our disclosures will adhere to certain definitions, but there has been significant growth in new clients due to the activity level this year. You will be able to monitor whether the self-directed channel continues to grow based on that number. However, we do not plan to provide explicit updates on net new clients within the self-directed channel as we work on integrating the two businesses.

Right, I imagine that's better growth than anticipated. Does that give you even more confidence in the revenue synergies from E*TRADE?

Yes.

Yes and yes.

Okay, great. Thanks.