Stifel Financial Corp's CEO Discusses Q2 2013 Results - Earnings Call Transcript

Aug. 8.13 | About: Stifel Financial (SF)

Stifel Financial Corp. (NYSE:SF)

Q2 2013 Results - Earnings Call Transcript

August 8, 2013 17:00 PM ET

Executives

Jim Zemlyak - Chief Financial

Ron Kruszewski - Chairman and CEO

Analysts

Chris Harris - Wells Fargo Securities

Operator

Good afternoon, my name is [Laura] and I will be your conference operator today. At this time I would like to welcome everyone to the second quarter earnings call for 2013. All lines have been placed on mute to prevent any background noise. After the speakers remarks there will be a question-and-answer session. (Operator Instructions)

Thank you. I'll now turn the call over to Jim Zemlyak, Chief Financial Officer. Please go ahead, sir.

Jim Zemlyak

Thank you, Laura. Good afternoon. I am Jim Zemlyak, CFO of Stifel Financial Corp. I would like to welcome everyone to our conference call today to discuss Stifel Financial second quarter 2013 financial results. Please note that this conference call is being recorded. If you’d like a copy of today’s presentation you may download slides from our website at www.stifel.com.

Before we begin today’s call, I’d like to remind listeners that this presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are not statements of fact or guarantees of performance. They may include statements regarding among other things, our ability to successfully integrate acquired companies or branch offices and financial advisors, general economic, political, regulatory market conditions, the investment banking and brokerage industries, our objectives and results and also may include our belief regarding the effect of various legal proceedings, management’s expectations, our liquidity and funding sources, counterparty, credit risks or similar matters. As such they are subject to risks, uncertainties and other factors that may cause actual future results to differ materially from those discussed in the statements.

To supplement our financial statements presented in accordance with GAAP, we may use certain non-GAAP measures of financial performance and liquidity. These non-GAAP measures should only be considered together with the company’s GAAP results, to the extent we discuss non-GAAP measures, the reconciliation to GAAP is available on our website at www.sifel.com.

And finally, for a discussion of risks and uncertainties in our business, please see the business factors affecting the company and the financial services industry in the company’s Annual Report on Form 10-K and MD&A of results and the company’s quarterly reports on Form 10-Q.

I will now turn the call over to our Chairman and CEO of Stifel, Ron Kruszewski.

Ron Kruszewski

Thank you, Jim. Well we are very pleased to announce record revenues for the second quarter and the six months of 2013, in both Global Wealth Management and our institutional group and we are pleased especially against the challenging market conditions which exist in the quarter.

We are very encouraged with our investment banking results which demonstrate the breath of our capabilities. Our merger with KBW continues to exceed our expectations and we are gaining market share in the financial institutions space.

This quarter we look forward to the contributions from the institutional fixed income sales and trading professionals who joined us from Knight Capital Group. I’d like to start with an overview of the market. A market index continue to push to new heights with the S&P’s 500 trading close to 1,700 in the Dow at 15.5 and while equity’s volume for quarter rose 3% sequentially, I believe volume still remain weak and decline or is continue to decline but I would deal with typical summer pattern.

Capital raising activity increased from the first quarter, a trend which is reflected in our results. With respect to M&A, the number of completed M&A transactions was down 19% sequentially. Our results however benefited from M&A activity in the financial institution space. As everyone is aware the tenure rose 32 basis points in June, from 216 at the start of the month to close at 248, but it reached a high on June 25, of 259, this move in rates caused us to experience some trading losses in our fixed income inventory and its translated into approximately $0.08 per share versus what I would characterize as normalized trading.

Looking at the equity markets, as may be not been bullish since August of 2011 mostly because equity markets were fundamentally undervalued if one took away the risk deflation. However, I believe we are approaching fair value in equity markets and we are going to need to see more than 2% trend growth in GDP to drive these markets significantly higher.

So I think there will be a challenge these markets have cloud through a very disrespectable market but that’s because it’s what I characterize it as an equilibrium rally back to fair value. But I think going forward; we are going to now need to see some more fundamental reasons to drive equity markets higher.

The next slide is an update on the KBW merger as I stated it exceeded our expectation. Here is why? KBW is number one by number of [theme] mergers and number one by number of bank mergers through June we represented the acquirers color on (inaudible) 10 largest bank deals. You know in fairness, there have been a couple of deals since June that we have not been involved some of those rankings will change but I am pleased with our overall market share.

On the capital market side of business, we are bookrunner on all four of the bank IPOs in the first half, we have achieved superior recognition that Greenwich Associates Rankings for recent sales and trading. We are gaining equity, trading market share. Our share in average daily volume for the KBW regional bank index component was 4.6% in the first half of 2013 which was from 3.1 in the first half of 2012. And our market share average daily volume for small cap banks stock was 8.4% in the first half of 2013 compared to 5.2% in the first half of ‘12.

We had record attendance in our July Community Bank Conference for making progress and integrating Stifel on KBWs' fixed income platforms which will drive future revenue growth and overall, we are very pleased with the progress of this merger and the integration there up.

Turning to our financial results for the quarter, we posted record quarterly revenues of $511 million, 33.5% increase from a year ago and up 13% from the first quarter. Non-GAAP net income of $44 million or $0.60 per diluted share compared to net income of $26 million or $0.42 per diluted share last year, GAAP and [core] where the same in the second quarter of last year.

Non-core merger related items impacted earnings by $0.20 per diluted share; I'll discuss this more on the next slide. Our non-GAAP pretax margin for the quarter was 14.8%, which is acceptable.

The next slide is an update of the merger-related what I feel are duplicate expenses that we have and expect to eliminate from the business. This schedule includes KBW, Miller Buckfire in the fixed income business from Knight Capital.

Actual non-core non-comp operating expenses for the second quarter were $15 million which was $8.2 million higher than our best guess last quarter and it was really due to two matters that I'll explain.

First of all, $5.5 million was our purchase of the Knight fixed income business restructured as a settlement which caused us to run the purchase price effectively through P&L. And that was not something that we had anticipated, but it still purchase price and $2.3 million related to consolidating of New York real estate which we didn’t think would be done as quickly as we got that.

The impact looking forward in the third quarter about $7.5 million will be related to our continuing elimination of duplicate expenses of KBW and then we forecast and we talked about those last earnings call, approximately $22 million for the retention of Knight Capital employees. So we look at next quarter $29.5 million in non-core expenses. We're very excited to welcome the Knight Fixed Income team. We see this team adding between $70 million to $100 million in annual revenue.

Now turning to our financial results for the first six months, revenues were $965 million, were up 22% from a year ago. Non-GAAP net income was $1.18 per diluted share which compares to $0.97 per diluted share last year.

The next slide reviews our source of revenues. Commission revenues were up 23% to $157 million. The increase was due to higher mutual fund and OTC transaction. Principal transaction revenue up 22% is really due to an increase in corporate equity market making. I am very pleased with our investment banking revenues to increase 81% to $122 million from $67 million. The year-over-year increase was a result of an 80% increase in both capital raising and advisory revenues. Asset management service fee revenues up 17%, this increase was due to higher value of fee based accounts.

Turning to brokerage revenue, total second quarter brokerage revenues which the way we look at combined commission and principal transactions increased 23% versus the year ago quarter, and were up 5% sequentially. This increase was driven largely by our equity commissions. On a segment basis private client brokerage revenues increased 12% compared to last year and 2% sequentially.

Equity brokerage was higher over the comparable period, but fixed income was down sequentially as expected due to the difficult trading conditions in June. As previously mentioned trading losses do occur and the net impact of our June trading losses versus what I would consider more normalized results was as I previously approximately $0.08 per share.

The next slide reviews our non-core interest expenses, comp and benefits as a percentage of net revenues were 63% in the second quarter compared to 63.9% in the year ago quarter, and 63.8% in the first quarter of 2013. Our goal is to maintain comp as a percentage of revenues in our targeted range of 62% to 64%. Transition pay which is included in this number as a percentage of net revenue was 4.2%. Core non-comp operating expenses were $111.2 million or 22.2% of net revenues. This was slightly above our run rate estimate of $107 million to $110 million.

For the third quarter with the inclusion of the fixed income team from Knight, we expect core non-comp operating expenses to be in a range of $115 million to $120 million. Our other expense increased mainly due to an increase in advertising a provision for loan losses reflecting the growth of loans in our bank and travel and promotion.

The next slide reviews our core non-interest expenses for the first six months of 2013. Comp and benefits as a percentage of net revenues are 63.4 versus 63.8 in the previous year. Non-comp operating expenses 22% of net revenues versus 22.9% for the first six months of 2012.

Looking at our segments, we posted record revenues in both global wealth management and the institutional group for the quarter and first six months of 2013. For the quarter global wealth revenues increased 18% year-over-year and 6% sequentially and the institutional group increased 62% year-over-year and 25% up sequentially. The revenue mix in the first quarter was 56% from global wealth and 44% from the institutional group.

Our global wealth operating contribution was up 14% sequentially to $79 million which is another all-time quarterly record. The institutional group’s operating contribution was $30 million which was up 7% sequentially, but I want to note that the institutional group’s operating margin of 13.6% is below our target of in the low to mid 20s. However, this was the reflection of the investments we made in the institutional group and our goal is to increase both revenues and expand our operating margins as we take advantage of both the scale and bringing up to profitability some of the investments we made in our institutional group.

Turning to global wealth management, this segment continues to perform well with margins of 28% in the second quarter and 27% for the first six months of the year. Net revenues for the quarter of $283 million increased 18% compared to 2012. Agency transactions and mutual funds and equities increased. Fee based assets were $21.6 billion, up almost 4.5%. Of that about half is due to net inflows and half is from market appreciation.

Net interest revenues increased as a result of the growth of interest earning assets of Stifel Bank, sales get credits from investment banking underwriting increased, comp and benefits also increased due to adding financial advisors and the associated fixed compensation for support. The comp ratio actually came down due to higher revenues.

In the first six months of 2013, I know there is not lot of questions on this, but I thought I would just share with you that we've waved approximately $29 million in money market fees. It's also important noted as rates rise Stifel Bank will benefit. We estimate that for the first 200 basis points increase, it's sort of instantaneous and (inaudible) rate short. We'd expect net interest of these banks to expand by 8.2% over 24 month time frame.

Turning to Stifel Bank, asset quality remains high. This is evident by only 3 basis points of nonperforming assets. Assets totaled $4.3 billion as of June 30, which was up 41% from last year. We have significant on balance sheet liquidity. Our investment securities are approximately $3 billion, up 60%. Portfolio is short with an average life of three years. The total loan portfolio was now over $1 billion. We continue to grow security based and corporate loans.

We anticipate future growth in loans will be greater than in bonds in order to get closer to what our target which would be a 50:50 interest earnings asset mix between our bonds and our loans.

Deposits were $4 billion which was up 44%, but we have access to total cash balances in excess of $11 billion. The bank continues to prudently grow assets on a risk-adjusted basis capitalizing on the access of Stifel to our Stifel platform.

And as previously announced, we are expanding our bank with the acquisition of Acacia Federal, it's a one branch community bank. Acacia has assets of approximately $745 million, but I want to note approximately $200 million of that is cash, which lot of that is from deposits that we are going to allow to run off. Therefore, at close I think we are going to add about $450 million of performing loans in the banks portfolio holdings not $740 million as some people have been asking. So again hopefully that will clarify that. The next slide looks for institutional group results. We posted record; I just will say again, this was a quarter of record. This has been a very good quarter and just as a tangent here, I am pleased to at least some of the investments that we've made, especially in our institutional business, beginning to bear fruit but the forecast provided can do is improving almost daily.

We posted record net revenues for the quarter which was up 62% to $220 million. Our non-comp expense is also increased, which is again due to our growth. Pre-tax operating margin was $30 million, was up 68% but again I believe that we will see margin expansion in this business as we begin to scale and take advantage of our previous investments. If you look at Institutional Group revenues, institutional brokerage revenues were $108 million, up 43% from a year ago. Equity brokerage revenues increased 74% to $67 million due to an increase in trading volume.

A lot of this is also with our merger with KBW which I’ve been very pleased with our trading revenues on both platforms. Fixed income brokerage revenue was 11% but they were down 10% sequentially because of the June month which I’ve already talked about. Investment banking revenues within our Institutional Group increased 81% to 107 million. Advisory fee revenues were $48 million, which was 80% higher than last year and 77% higher than the first quarter. Stifel, KBW closed 26 M&A and advisory transactions in the second quarter with the full quarter of KBW integration contributing as a result versus in the 26 as versus 17 in the first quarter.

From a fee perspective by sector, state represented 49% and tech represents a 29% to get and both of those sort of a nod to our mergers with both KBW and Thomas Weisel. We continue to see improvement in our pipeline and remain optimistic that M&A revenue will grow this year driven by results from the second half. Second quarter new issue environment improve substantially with overall equity markets and continued low volatility levels. For the total market second quarter fees were up over 50% year-over-year and 15% sequentially, the sequential results were driven by growth equities while the yield area remain consistent with the first quarter.

Our capital raising revenues were 59 million which was 82% increase from last year and 47% sequentially. Stifel improved in a most important metrics, number of book run transactions and total transactions and saw increased deal activity and increased enquiry to the fall. The IPO calendar remains steady and we believe that will continue after the August break, our backlog continues to build with this trend. The next slide looks at our capital structure as of June 30th, total assets were 8.5 billion driven by growth and assets of Stifel Bank shareholders equity was 1.98 billion, total capitalization was 2.4 billion, tier one capital or risk weighted asset was 20.7%; book value per share came in a 30.5 which was slightly down from the 30.13 last quarter due to two factors, first OCI marks in our Bank’s bond portfolio and two share repurchase in the quarter which drive down book value.

Other financial data as of June 30th our leverage ratio was 3.6 times, at the broker dealer its two times, at the bank it increased to 15.1 times. As I said the bank is where we plan to continue to add leverage or where we will add leverage. Our marketing efforts are paying off recruiting remains active. In the quarter we hired senior advisors in Idaho, Tampa, Florida; Elkhartd, Indiana; and Austin, Texas. Full time associates are up 11% from a year ago, but that also includes approximately 400 new associates from KBW and Miller Park (inaudible). Total (inaudible) assets are a new record of 151 billion up 15% from last year and 2.5% from the first quarter.

In conclusion the investment we made in our institutional group add to our capabilities are evident and improving equity market conditions. This quarter demonstrated the leverage we are building. We are always focused on growing our advisor business, market fundamentals are improving and we therefore remain optimistic to the outlook of our business.

I will now open the call up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Alex (inaudible). Your line is open

Unidentified Analyst

So first question on the night business. Ron you mentioned the 100 something with that million dollars of revenues contributing annually, can you talk about the profitability of the business, and whether or not you expect it to add actually to the bottom line in the next couple of quarters.

Ron Kruszewski

Firstly I think I said 70 to 100 and that the recent transition time in that, but Alex we don't do (Inaudible) but on there to the bottom line. So if we can't and we will take a $100 million of revenue we did not pay a lot for the business and it will add to when we didn't issue any shares and I'm confident of our ability to take that revenue into profitability very quickly like day one.

Unidentified Analyst

Got you. And what any sense like what the margin of the business is right now though?

Ron Kruszewski

I'll talk about our targets; okay and our targets are mid 20% to 30%. Look it takes some time to integrate new things, but all of our business is we target in the mid-50s comp to revenue, our operating business and OpEx in the 20s. So that lead 25% margin. I don't know, if there, it is a new business and there is some ramp time as I'm sure you appreciate.

Unidentified Analyst

Right. And I guess taking a step back and just looking at the fixed income franchise for you guys the way it stands right now plus the new business. If I look at the second quarter results, just kind of back in the outlook map it seems like there is maybe $10 million or $7 million of trading losses. So you are kind of fixed income trading run rate I guess it's somewhere in the 50s, that's actually quite higher than relative to guys who were in the past, but just kind of curious to here, what that business looks like today from a

Ron Kruszewski

I didn't understand your 50s.

Unidentified Analyst

So, I'm just saying when you kind of look at back the potential, the losses on the trading profit, you said $0.08, I think that probably amounts to I don’t know $10 million or so in revenue? It’s like a 100% margin.

Ron Kruszewski

Right.

Unidentified Analyst

So when you kind of normalize your reported number, $40 million in fixed income trading revenues by that amount, kind of like a $50 million run rate for the quarter. I guess, A, is that fair and B, when you think about the business, any sense to understand what kind of product composition you have in that business today? Who are the clients in the business today to better kind of help us understand what that business would look like going forward?

Ron Kruszewski

Let me just take your second question first. I am not sure in understood your first. What I was trying to say was that versus what we would normally do on a normalized trading, I think it's well documented, at least within the regional community that there were some trading losses that occurred in June and I was just comparing to the fact that would have, the [delta] was about $0.08 a share.

So I would leave at that. I am not quite sure how you are getting to the $50 million so leave that alone for now, but as it relates to the business in whole, I believe that our fixed income franchises is poised for some growth both from the addition of the KBW and investments that we've made to attack the depositary space, the fact that our equity franchise is much more developed than our debt origination franchise. I think that the Knight capabilities in both loan sales and high yield is going to help all of those businesses.

So when I look at what we're doing in fixed income, I am optimistic of our ability to gain market share by deleveraging other capabilities within the front. And I am already saying and I am already seeing that deals and you are leading debt deals and we let our first high yield deal because a lot of positive things going but we are starting in a very low base and I expect that business to grow nicely in the future.

Unidentified Analyst

Got you and then just last one from me, any Knight related gains for you guys this quarter?

Ron Kruszewski

It was not significant, we’ve marked it earlier, I think Knight closed I am going to give a little bit of an update. I think is relatively flat in the third quarter, I think it was close to 359 pre the reverse split, sold and get rid of some above 375 and now it’s obviously down, I think net debt, it’s not a big gain in the second quarter and probably as we sit here today a little bit of mark-to-market loss because the stock taken a hit here but we’ve been reducing our exposure in that investment. Obviously, we reduced it by two-thirds by cashing out of 375 a share.

Operator

Your next question comes from the line of Chris Harris. Your line is open.

Chris Harris - Wells Fargo Securities

So really good quarter for investment banking, Ron I am just wondering, how sustainable do you think the revenues you achieve this quarter are kind of going forward, I know we’ve got a bit of a seasonal slowdown coming up, but it does sounds like your pipeline is shaping up pretty nicely, so just wondering if you can comment how you see things shaping up for the rest of the year for that part of the business?

Ron Kruszewski

You know Chris that is so market dependent that we drive the same volatility market fundamentals that everyone else does. What I will say is that we have made a lot of investments that I believe not only in normalized market, you can tell me what that is, that not only is sustainable, we are going to grow it. So the metrics that I look at book on transactions, lead managed deals, M&A mandates the size of deals, enquiring is coming in. we have been building those business and building it when many others have been retrenching and I believe that, that results in market share gains.

We got a lot of capability and I expect that to do. Now, run into a bad market, sure like everyone else, but I believe that overall, I believe the fundamentals for capital raising in this country and M&A in this country over the next few years despite the volatilities up and down with market is going to improve and that improvement is going to show that the investments we’ve made in this area are going to bear fruit.

Chris Harris - Wells Fargo Securities

Okay, on that last point, it’s kind of an interesting phenomenon not just happening with you guys but really everybody. It seems like M&A and investment banking is kind of recovering or doing pretty good and the other piece that the trading, saw the trading piece really hasn’t, do you think there is kind of catch up beneath the curve there? What can actually transpire to help improve the results that in the trading side, commission side of the business dealing?

Ron Kruszewski

Well, first of all, I think our trading results were very good, go back and look at my comments alright. And so that said, the fundamental, if I would point to one factor that will improve trading volumes and I do believe trading volumes will improve, it's going to be the equity flows, we are witnessing a rotation fixed income to equity, I have got a slide here that shows it somewhat slowed in the quarter. But as you see and I believe you will as you see a reallocation from fixed income into to equity that will result in new positions that being added blah, blah, blah.

We witnessed $500 billion of equity out flows and people are surprised that equity volumes are down, I'm not. If that reverse and we see $500 billion into equity funds, guess what volumes are going to go up.

Chris Harris - Wells Fargo Securities

Yeah, it certainly seems like that's heading in the right direction I doubt.

Ron Kruszewski

I think so

Chris Harris - Wells Fargo Securities

Alright Ron. You had mentioned kind of a target for the institutional business of below to mid-20% margins. I'm curious what kind of revenue you think you need to kind of hit that target.

Ron Kruszewski

Well, I think a lot of it. We've benefit target before okay.

Chris Harris - Wells Fargo Securities

Right.

Ron Kruszewski

And I would point to the fact that when we made significant investments in our global wealth management business in 2008 and 2009 our margins went from 27% to 16% and I told people then that those investments would take time, but you would see revenue increase and an expansion in margins and you've seen that. I'm saying that's what we expect to happen in the institutional business, we have added a lot of capabilities, because our belief is that we can gain market share if we are willing to invest in people and in capability and in businesses, i.e., KBW, Miller Buckfire, Knight and Stone & Youngberg made a lot of investments. And I believe that as we bring those -- integrations and hiring don’t hit the ground running, you will crawl, walk and then run, but a combination of people coming up to speed, at right size and some expenses and some revenue growth, we will see those margins expand and both revenue and margin expansion is good for that business and good for the overall firm.

Operator

Your next question comes from the line of (inaudible).

Unidentified Analyst

I wanted to start off, I guess, by a question with regards to the bank M&A segment and it seems like obviously we're more in the summer months but from what I’ve been reading, it appears that interest in bank M&A activity has just continued to build momentum. And I was wondering if you could just give us some color on what you have been kind of seeing in those discussions since the June month has ended?

Ron Kruszewski

Look I think overall volumes, I am very pleased with our market share results and where we are, but I’ve often commented that if I have been the tallest (inaudible) in the circuit because there has been not a lot of business going on overall. I believe that the business in the fixed space and bank M&A and all of that is going to increase the tremendous market rally of 2012 which was predicted in ‘11 will occur at some point. And I just think we're well positioned. The integration has gone very well where client facing and things are good.

Overall a lot of it just is getting stocks about tangible books and you don’t see a lot interest one way or another unless it’s stressful where some of these banks trade, but as market improve that activity almost by definition will improve because there is some consolidation that needs to occur.

Unidentified Analyst

Sure. And I guess transitioning to kind of your bank and your lending opportunities, obviously with the stiffening of the yield curve that can be certainly a positive for profitability. I was wondering if that kind of changes your outlook, obviously it has strong long growth in the quarter, but your outlook just with regards to lending and your efforts there, and are there any particular lending products that you guys see more opportunity in order to kind of grow loan portfolio?

Ron Kruszewski

Again I think our opportunities in the loan portfolio exceed our willingness to grow that fast and so we want to grow on a balanced pace as just because I think that’s prudent in the bank. The fundamentals in that business are improving and the way I characterized it is that we have not gone into the say the shared national credit and pick up a lot of yield. At one point, we’ve been more in the bond market, but the way I would look at that would be as we -- I think our average spread in bond portfolios, plus 90 or 190 basis points in a loan portfolio, it’s in the 3, 3.5 maybe and so what we are looking to do is to go from say $3 billion of investment and $1 billion in loans to 50-50 and you can see what that will do to our net interest margins.

But that takes time. I have said before and I’ll say again that the bank will continue to be a growing contributor to our earnings. We just want to do it on a risk adjusted basis.

Unidentified Analyst

I guess do you see the opportunity more on the commercial lending side for institutions or looking more as lending towards on the retail side or are there any particular products that you kind of see growing faster than the others?

Ron Kruszewski

Yeah, look, I think we have a $151 billion of client assets and you know $500 million of security based loans and so that there is a big opportunity there and we see a big opportunity in the C&I market. So I just see a big opportunity everywhere I look there.

Unidentified Analyst

And then just looking you obviously talked about kind of the beginnings of the signs of shift maybe away from fixed income and towards the equities, but given I guess where we have come from and how high the markets run here, you know that the flows haven’t been all that bowling people over but can you just give us a sense of what you are kind of hearing from your brokers about overall retail client sentiment and activity levels and are we kind of seeing investors becoming more bullish on the market and that we shouldn’t anticipate further allocation shift away?

Ron Kruszewski

That’s how I started the call and so what I would say is I think in sort of the retail engagement has remained strong resilient through volatilities and world events and blah, blah, but what’s really going is that as you know this is not the kind of bull market where everyone is excited and talking about in their cocktail party and people getting excited about equities. This has been rebound. People are just getting back to 2007 levels. People are saying unrealized gains turning into some realized gains.

So I don't said -- as I've said if you really want to see this market going, what I'm concerned about is we've had a nice run, but if we can get some fundamental GDP growth that's 3% get four quarters in a row that end up to 3% and maybe more. That you can see a real shift away, because that means interest rate, fed is tapering, interest rates will begin to rise, everyone is worried about it, I happen to think it will be a good thing. And you would have more engagement in the equity markets and that will bode well for what we've been doing.

Have I seen that, I'm seeing the beginning of it, not the end of it. So don’t feel like the end of bull market, where everyone is rushing in. That's what’s interesting about this market.

Unidentified Analyst

Yeah, I would definitely agree. And then last question I had you gave us some color on kind of the money market fees wave and then the shock influence on the bank for 200 basis points. But are those the two major drivers of interest rate changes for the company or do you have any sense as to overall on the pre-tax income on what for example like a 100 basis points rising rate would do inclusive of those fees in the bank and the other type of major influence on the company?

Ron Kruszewski

Look, I believe overall it's positive, the money markets are, it's easy to quantify. The rest of it's so model driven that I get nervous because I'm talking about it too much because of variable change, prepayments change, activity changes. There are just so many changes and these are static model. I will say that like most financial institution we would benefit from a rise in interest rate. We would not benefit from a flattening of the yield curve, but we would benefit from an overall upward shift in interest rates

If for no other reason, and we fund a lot of our interest earning asset with equity. So that in and of itself, if you think about it, we got $2 billion of equity and tangible and raise rates a 100 basis points and understand that we finance those asset for the equity plus money market, fee waivers plus then what are the big unknown is what happens to the activity levels, what happens to the M&A. So look, we're well positioned for that. I think the biggest impact would come from improving economic conditions which would result in an upward shift in interest rates.

Unidentified Analyst

Okay, and then I guess the last question I have is any chance you want to take a stab at when you think others rates are going to get higher?

Ron Kruszewski

If only fools predict interest rates, I'll answer that.

Operator

Your next question comes from the line of Douglas (inaudible). Your line is open.

Unidentified Analyst

Just two questions. One, maybe drill down a little bit more on specifically the municipal market. Just curious to get your values outlook on it. Obviously, Detroit happened. We've seen pretty consistent outflows out of munis and I guess it has weight as much on your results but it is the factor for the industry. I am just curious what are you guys thinking for the second half of 2013? I mean has there been some serious damage done to the investor psyche or do you guys see that market stabilizing?

Ron Kruszewski

If the status quo stays, then I see it stabilizing. There might be some more unique or unprecedented events that come out of Detroit situation which could impact that, but also just you get risk premiums widening, you get an upward chip in interest rates, its going to impact refunding, it impacts the business just like it does on the taxable side. But I’ve seen this before in the muni market and I am not, I may temper my expectations for a muni business but long term the muni business is a very good business and its going to be a need for a bunch of restructuring and a bunch of infrastructure investments and I don’t see it changing. Now, not that you do something with the federal tax code and that can obviously change something, but as I said here today I am not overly concerned.

Unidentified Analyst

Great and then just obviously the last couple of years you guys been building on a institutional side, little bit more been on the retail side, I mean what would it take for you to so reengage get a little bit more aggressive in either recruiting or doing straight up retail type acquisitions like you did a couple of years back?

Ron Kruszewski

There is no reason we wouldn’t do any of that. Okay we are a firm our stated business is to be in a position to take advantage of opportunities and do deals that we believe add to shareholders value that we can integrate effectively. Most of those opportunities have presented themselves on the institutional side of the business, and it’s been frankly on its rear that business and we’ve had the opportunity, we are looking across the abyss and making investments. The opportunities we’ve seen on a retail side, have not been as plenty for them have not been as price attractive, this is not about getting large it’s about increasing shareholder value. So I would not want you to characterize that we have somehow put down our growth initiatives within global wealth management, not at all. It’s just that the opportunities have not been there for us or for any one frankly, we’ve not seen a lot of activity there. Our recruiting is strong and we see that continuing.

Unidentified Analyst

And then just last question with respect to capital, obviously you guys are over capitalized still and you have been making acquisitions and growing the bank. Given sort of the vulnerability of the securities portfolio to a rising rate and we saw a little bit of that this quarter wouldn’t you think about may be doing something, may be more buy backs and ending the stocks above book value, but I don’t know it just seems like the securities portfolio is a little bit more vulnerable in the rising rate environment at least on a sort of balance sheet basis. May be there is a better use of capital.

Ron Kruszewski

We look at that all the time, okay, and we are over capitalized and you can either increase numerator which is increasing your assets or decrease the denominator which is buying back shares both work and we run numbers both ways and we do what we think is prudent and the fact or the bigger point that should come out of your question is the fact that we are over capitalized, we have run way. If you compare to some of our peers, our banks earnings as a percentage of total earnings are not anywhere near where other people have and we have the capital to increase our banks earnings. Now I appreciate your comment about whether or not it's prudent to do that versus buyback stock I can tell you rest assured, we have short-term (Inaudible)

Operator

Your next question comes from the line of Chris Harris. Your line is open.

Chris Harris - Wells Fargo Securities

Just a few follow ups on the bank. Your net interest margin there is a lot of moving parts going on, I know you guys are cycling out at securities into loans, but then we obviously have low rates now than we had a few years ago. What do you think the outlook is for the net interest margin, I know that your interest earning assets will go up, but do you think in addition to that, we could see some net interest margin expansion over the next year or two?

Ron Kruszewski

Absolutely. I mean that's what the plan is, that if it comes down to credit and managing credit. If we wanted to sell all of our agency positions and rotate that in to (inaudible) then [vela] our net interest margins expand overnight. But we want to be prudent as it relates to credit. And so and we believe if we grow our loan portfolio at a prudent pace and in line with market cycles that we will achieve the right risk-adjusted returns. But I would say that, based on what we're looking at, our net interest margins going to expand.

Chris Harris - Wells Fargo Securities

Okay. Is it has been coming down, if you look at where you were a year ago or so. But maybe we're at a point where you kind of bottoming out.

Ron Kruszewski

Well, the way I see it’s come down, because I think that overall - we've seen opportunities to we achieve our ROE hurdles by investing in the bottom market. So we've increased our bonds portfolio faster than our loan portfolio because we've seen that opportunity again on risk adjusted. So of course your margins are going to contract as more of your growth comes from investing in bonds and in loans but our loan portfolio is over a billion and as that gets to our target of 50-50 by pure of math, Chris, our NIMs have to expand.

Chris Harris - Wells Fargo Securities

Okay, that makes perfect sense, and then on Acacia, according to filings, at least what we took a look at it, it looks like that bank actually has negative earnings and I don't know if you can comment on whether that’s the case and I am just curious to see or hear about what you guys can maybe bring to the table that operate that bank a bit more efficiently

Ron Kruszewski

Just think of that. We haven't disclosed a lot. Just think of it as an asset purchase of buying a [cleaned] loan portfolio of about $450 million, maybe a little bit more or a [cleansed] loan portfolio that we're adding to our balance sheet without as many of the attendant cost that it is to [Ron] and Independent, separately regulated banks.

Chris Harris - Wells Fargo Securities

Do you think maybe similar margins to the loans that you are buying that the banks currently has?

Ron Kruszewski

Well, I think that right now that these are loans and so the interest rate and the net interest margin on this is much wider than what we currently have in the bank.

Chris Harris - Wells Fargo Securities

No, I try meant on an operating basis. Not a whole lot of incremental.

Ron Kruszewski

Chris, I don’t want to get in a project. I said, the way we look at this in many ways, this is a financial transaction and the combination of all the considerations, given plus our view of credit whatever its an accretive transaction.

Chris Harris - Wells Fargo Securities

Yes. I mean, it sounds like it’s going to be significantly accretive I just want to make sure we are off the market, but okay fair enough. Thank you, Ron.

Operator

There are no further questions over the telephone. Mr. Kruszewski, I turn the call back to you.

Ron Kruszewski

Well, I would like to thank everyone for joining us. I will conclude by saying that our integration with KBW is going well, I am excited to welcome our new associates from Knight both here and the US and in London. We continue to invest in building of the premier investment banking company and financial services company. We believe that investments we’ve made in the past will bear fruit, and we look forward to sharing our progress with you on future calls.

Thank you very much, good bye.

Operator

This concludes today’s conference call. You may now disconnect.

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