Earnings Call: Q2 2010

May 27, 2010

All participants, please stand by. Your conference is ready to begin. Good morning, ladies and gentlemen. Welcome to the RBC 2010 second quarter results conference call. Please be advised that this call is being recorded. I would now like to turn the meeting over to Ms. Josie Merenda, Head of Investor Relations. Please go ahead, Ms. Merenda. Good morning, and thank you for joining us. Presenting to you today are Gordon Nixon, our CEO, Morten Friis, our Chief Risk Officer, and Janice Fukakusa, our Chief Administrative Officer and CFO. Following their comments, we will open up the call for questions from analysts. The call will be one hour long, and we will post management's remarks on our website shortly after the call. Joining us for your questions are George Lewis, Head of Wealth Management, Doug McGregor, Chairman and Co-CEO of Capital Markets, Dave McKay, Head of Canadian Banking, Mark Standish, President and Co-CEO of Capital Markets, Barb Stymiest, Head of Strategy, Treasury, and Corporate Services, and Jim Westlake, Head of International Banking and Insurance. As noted on slide 2, our comments may contain forward-looking statements which involve applying assumptions and have inherent risks and uncertainties. Actual results could differ materially from these statements. I now turn the call over to Gordon Nixon. Thanks, Josie, and good morning, everyone. I am pleased to announce that RBC earned CAD 1.33 billion in the second quarter of 2010. Excluding the goodwill charge in 2009, our earnings were up 40% over last year. Our results reflect strong operating performance across our businesses, continued stabilization of credit quality, effective cost management, and a general improvement in market and economic conditions when compared to last year. The strengthening of the Canadian dollar did have a significant impact on our financial results over last year, reducing revenues by CAD 534 million, and net income by CAD 82 million, and earnings per share by CAD 0.06. As you can see on slide 5, earnings were reduced by a total of CAD 0.11 after factoring in foreign currency translations, along with items arising in the quarter, such as an accounting impact in our wealth management segment, which is just timing, and Janice Fukakusa will describe later, as well as the general provision. Turning to slide 6, when you look at our reported revenue growth of 3%, it is important to keep in mind the 2010 items that I just mentioned and those items that affected our results last year, which included market environment losses, higher than normal securities gains, and accounting volatility on securities hedging our funding activities. When we exclude these items, our revenue growth was strong, up 7% when compared to last year, reflecting robust volume growth in Canadian banking, wealth management, and insurance as we continue doing more business with our existing clients, as well as attracting new customers. There is no question that we are in a period of significant uncertainty and change that will potentially affect the financial industry going forward. While Canada has demonstrated its resiliency through the downturn and is recovering faster than anticipated and faster than most other economies, the emerging global recovery is fragile and vulnerable to economic and market shocks, as we have seen recently with the European sovereign debt crisis. We have always taken a very disciplined approach to our business dealings, both inside and outside of Canada, and our business practices have not changed. Our direct exposure to these European countries is minimal. However, we will watch the impact that these will have on overall economic growth and market conditions. In addition to Europe, there also continues to be significant uncertainty regarding regulatory changes governing banks. The problem we face today is a number of constituents, including banks, regulators, and politicians, each have very different interests and very different views on regulations. Canada, I should say, stands out as an exception to that with relatively good alignment on these very important issues. But at a time when the world needs strong cooperation by all parties, the complete opposite appears to be occurring. Various jurisdictions are creating their own rules, which is destabilizing global markets and could hinder the global economic recovery. As I've said on numerous occasions, I believe it is important that we get back to simpler, less complex regulations that deals with the heart of the issue, that banks have sufficient liquidity, they have appropriate leverage, and the right amount of capital, and that capital accurately underpins risk. Of course, we are all watching for signs of progress and clarity from regulatory reforms following the G8 and G20 meetings next month, and we will continue to be proactive in mitigating any potential impacts and exploring alternatives in our businesses. Despite the pending changes in our operating and regulatory environments, I am proud of our unrelenting focus on executing against our long-term strategies. We are building our franchises, and we remain focused on our areas of our core capabilities where we have demonstrated strength and success. At the same time, we are managing our risks and our balance sheet very conservatively, which we believe is the appropriate way, the only way to manage in the current environment. As is shown on slide seven, we have ended this quarter with Tier 1 ratio of 13.4%, which is amongst the strongest globally, and a Tier 1 common ratio of 9.7%. At this time, we are maintaining our quarterly dividend of CAD 0.50 per share. Turning to our businesses. Canadian Bank had strong results, with earnings up 27% from last year, driven by a combination of our unparalleled distribution network and the sustained strength of our brand equity. We continue to increase market share and widen the gap between our competitors, as you can see on slide 11. This quarter's strong revenue growth of 9% over last year, combined with our focus on cost management, drove solid operating leverage of 4%. The size and scale of our Canadian banking franchise allows us to pull multiple levers at one time, and we have been able to contain costs and reinvest in our business while generating solid revenue growth. We continue to provide Canadians with new and innovative products such as the WestJet RBC Mastercard, which meets individual needs and provides access to credit while increasing our penetration in the very competitive credit card market. We also continue to see growth in our deposit accounts as a result of our unique cross-product offerings that expands our highly successful RBC Rewards credit card points program to other banking products and services. Our leading market position, the momentum and volume growth, combined with our deep customer base, should position us well as interest rates rise in the near term. In wealth management, we had earnings of $90 million, which was down 29%. But after adjusting for the accounting impact that Janice Fukakusa will talk about that we incurred in the quarter, and for the strengthening of the dollar, results were up $37 million or 29% year over year. Our business benefited from improved transaction volumes and market appreciation. Our Canadian wealth and global asset management businesses experienced strong revenue and earnings growth, fueled by higher average fee-based client assets and volumes. We continue to remain a clear leader in the Canadian wealth management and asset management industry. For the fourth consecutive year, according to Investment Executive 2010 Brokerage Report Card, RBC Dominion Securities ranked number one among bank-owned investment dealers, both in the overall score and the advisor's overall rating of their firm. As well, we continue to lead the industry in long-term mutual fund net sales this quarter, as investors allocated money market assets to long-term investment strategies. We also saw inflows from money market funds into higher-yielding products such as the RBC Investment Savings Account. We had good momentum in our U.S. and international wealth management business, though results were muted by the impact of foreign currency translation and spread compression, especially in our international wealth management business from a continued low interest rate environment. While the combination of more client assets in our care, a comprehensive offering of products and services, and the addition of more client-facing professionals, I believe our wealth management businesses are well-positioned to benefit from the economic recovery and accompany increase in short-term interest rates. Insurance continues to solidly contribute to our consolidated results, generating over CAD 1 million in earnings this quarter. This success lies in our unique offering of a full suite of products and services, which allows us to continue to deepen relationships with our customers. In international banking, we are continuing to make good progress towards restructuring our U.S. retail franchise, and we are starting to see early signs of an economic recovery and corresponding stability in credit quality. Our focus remains on improving the end-to-end client experiencing, right-sizing our footprint, and developing a common platform with improved productivity throughout our branch network. In Capital Markets, our diversified business model and prudent approach to allocating capital enabled us to deliver another strong quarter. We generated an ROE of 26%, although results were down compared to a strong first quarter last year, largely reflecting tighter spreads and lower activity as the European sovereign debt crisis put pressure on global markets generally. This quarter, we continue to grow our business, adding key talent, and remaining focused on solidifying the market share gains and momentum we have achieved over the past two years. For example, we were very active in the U.K. gilt issuance market, leveraging our position as a top-tier gilt-edged market maker to win key mandates, including acting joint book runner on a GBP 11.5 billion offering. We also advised on a number of high-profile, multi-billion-dollar U.S. M&A transactions and were awarded the related financing mandates. These deals are a testament to the success we have achieved in strengthening our U.S. origination capabilities in key sectors such as consumer products. Looking forward, our investment banking business should benefit from our focused coverage and strong client relationships as the economy improves. We expect our trading business will reflect the overall activities and conditions of global markets, and of course, generally be lower than the elevated levels that were seen in 2009. However, we will continue to generate high-quality earnings from these client-driven businesses with the proper balance of risk and return. With economies in flux and uncertainty surrounding regulatory reform, RBC's performance has remained strong due to the continued success of our business and the commitment of our employees. Going forward, the strength of our diversified business mix, strong balance sheet, and leading market positions puts us in a better position than ever to weather these changes, to take advantage of opportunities in the future, and I believe to emerge stronger than many of our global competitors. With that, I will turn it over to Morten. Thank you, Gord. Credit quality has generally improved from the prior year and was unchanged from last quarter, reflecting stabilizing asset quality. The Canadian and U.S. economies have both shown signs of strength in recent months, characterized by strong growth in GDP and recent improvement in labor markets, and Canadian personal bankruptcy rate numbers. In the U.S., the unemployment rate remains high as discouraged workers return to the labor force offsetting the impact of job gains. The level of provision for credit losses for the remainder of 2010 will continue to be dependent on further improvements in economic conditions and unemployment levels. Turning to credit on slides 15 to 17, the specific provision for credit losses was down CAD 16 million from last quarter, primarily driven by lower provisions in Canadian banking and capital markets. These factors were partially offset by higher provisions in international banking related to the Caribbean. Overall, provision for credit losses increased CAD 11 million over the last quarter, reflecting the addition to the general provision of CAD 27 million relating to our U.S. banking operations. Let's look at credit performance in our business segments. In Canadian banking, provisions were down CAD 16 million from last quarter, reflecting lower provisions in our business and unsecured portfolios, partially offset by slightly higher loss rate in our credit card portfolio resulting from seasonal factors. Credit card write-offs are typically higher in the second quarter than the first quarter as higher spending patterns from the December holiday period translate into increased write-offs about six months after their occurrence. Notwithstanding the seasonal factors, our credit card business remains strong and continues to deliver an appropriate balance of risk and reward. Our Canadian residential mortgage portfolio, which makes up 56% of total Canadian banking average loans and acceptances, continues to perform well with specific provisions as a percentage of average loans of one basis point, which is consistent with our historical performance. Capital market-specific provisions of CAD 21 million was down CAD 9 million from the prior quarter, mainly as a result of lower provisions and reversals due to recoveries during the current quarter. Specific provisions in international banking increased CAD 10 million, largely attributable to a specific commercial client in the Caribbean. This was one of the loans identified for monitoring in the due diligence for the RBTT acquisition. On the whole, we have completed integrating this portfolio, and performance in the remainder of the Caribbean commercial portfolio is performing as expected. Partially offsetting the increase in the Caribbean were lower provisions in our U.S. commercial portfolio during the quarter. Despite these lower provisions, credit conditions in our U.S. commercial and residential builder finance portfolios remain challenging. Turning to market risk. This quarter, we had one day of small net trading losses that was well within the Value at Risk. There was one large profit day at the end of the quarter, which arose primarily from credit valuation adjustments. With that, I'll turn the presentation over to Janice Fukakusa. Thanks, Morten. As Gord mentioned, we reported second quarter net income of CAD 1.33 billion. Excluding the 2009 goodwill impairment charge of CAD 1 billion, earnings were up CAD 379 million or 40%. As shown on slide 19, results were significantly impacted by the strengthening of the Canadian dollar in relation to the other currencies over the past year, particularly in our Capital Markets and Wealth Management segments. There were a couple of items that impacted our earnings this quarter. We had an unfavorable accounting impact of CAD 61 million after tax in Wealth Management related to the foreign currency translation on certain available-for-sale securities. In the prior quarter, we had a favorable accounting impact of CAD 34 million after tax, bringing the year-to-date net loss of this item to CAD 27 million. These securities were recently sold, and therefore, we expect to see this loss largely reversed next quarter. As Morten discussed, we had an addition to the general provision this quarter, which reduced net income by CAD 18 million. Last year, the general provision reduced net income by CAD 146 million. Given the volatility from quarter to quarter and your follow-up questions, I would like to briefly discuss other revenue, which amounted to CAD 278 million. Other revenue includes small amounts of fee income from each of our business segments that do not fit into the main income categories and typically amount to approximately CAD 109 million per quarter. This quarter, this account included gains on derivatives used to economically hedge certain bond positions in Corporate Support, which were largely offset by losses on bonds recorded in trading revenue. As an aside, following up on questions on the composition of trading revenue, we have added additional disclosure, which I will talk about a bit later. The large positive swing in other revenue over the last year was primarily caused by items impacted by the widening of spreads last year, such as the negative adjustments on RBC debt, which we disclosed. With respect to non-interest expense, it was flat from the prior year. Although the strengthening of the Canadian dollar reduced expenses, we continue to prudently manage our costs while investing in new initiatives. For example, we have been enhancing technology to streamline and automate processes in Canadian Banking and building out financial and risk infrastructure in Capital Markets to support ongoing business growth and changes in the regulatory environment. Let us move now to slides 20 and 21 for a closer look at the performance of our business segments. Starting with Canadian Banking, net income of CAD 736 million was up 27% from last year, mainly driven by volume growth across most businesses and a lower provision for credit losses. We had strong revenue growth of 9% over last year and continued to actively manage expense growth, as demonstrated by the 180 basis points decline in our efficiency ratio year-over-year. Our efficiency ratio now stands at 47.6%. We continue to target an efficiency ratio in the low 40s over the medium term and have specific initiatives underway to achieve this goal. Our non-interest expense has grown slightly over the quarter. This reflects both the ongoing reinvestments we are making in support of business growth and our commitments to eliminating redundancies while enhancing the client experience. Turning to slide 22, you can see that we experienced margin compression over the prior year and quarter. Although this quarter incorporates the full benefit of the repricing of our personal unsecured loan book, the benefits were more than offset by the ongoing pressure from the lower interest rate environment and the tightening of the prime BA spread in the current quarter. Moving on to wealth management on slide 23. Net income was CAD 90 million, down CAD 36 million or 29%, primarily due to the unfavorable accounting impact mentioned earlier that reduced earnings by CAD 61 million. The impact of a stronger Canadian dollar relative to the USD also affects our results, reducing earnings by CAD 12 million. Adjusting for both of these items, earnings were CAD 163 million, up CAD 37 million or 29% over last year, and we had strong revenue growth. When you look at our pre-tax margins on the same basis, you'll see the momentum of our businesses as the margins improved considerably over last year. These results reflect higher fee-based revenue and increased transaction volumes, partially offset by spread compression. One point worth noting is that spread compression has a direct bottom-line impact, as it doesn't reduce variable compensation. To reduce this drag, we continue to emphasize cost containment. Insurance net income was CAD 107 million, down CAD 6 million over last year, mainly due to unfavorable life policyholder experience and higher claims costs. These factors were partially offset by solid volume growth, largely in our international and other business, and favorable actuarial adjustments. International banking net loss of CAD 27 million improved from a net loss of CAD 1.1 billion last year, primarily due to the goodwill impairment charge of CAD 1 billion. The improved results also reflect lower PCL and our ongoing cost management efforts. Net income for capital markets was CAD 502 million, up 20% from a year ago as our prior year included market environment-related losses. We also had lower PCL and higher results in our underwriting and advisory businesses, which were partially offset by lower trading revenue in the current period. The negative impact of the stronger Canadian dollar reduced net income by CAD 76 million. Slide 24 illustrates our capital markets trading revenue, which is approximately CAD 1 billion. As I referred to earlier, a breakout of capital markets trading revenue was added to our Q2 disclosure on page seven of the supplementary financial package. The difference between capital markets trading and total trading revenue relates to losses on bond positions in corporate support, which were largely offset in other revenue, as I previously discussed. Compared to last quarter, we had lower trading revenue in fixed income, money markets, and equities, notably in the U.S., which was partially offset by improved results in foreign exchange and commodities. We continue to selectively allocate capital to our trading businesses to generate solid returns in support of client flows while prudently managing our balance sheet and operating within pre-established risk measures. At this point, I'll turn the call over to our operator to begin the questions and answers. Please limit yourself to one question and then re-queue so that everyone has an opportunity to participate. Operator? Thank you. As a reminder for those on the phone lines, if you wish to ask a question, you may do so by pressing star 1 on your telephone keypad. There will be a brief pause while participants register. Thank you for your patience. Our first question is from Robert Sedran of CIBC. Please go ahead. Hi. Good morning. Janice, you sort of went through the other other in fair bit of detail, but when I'm looking at non-interest income, and I guess excluding the Capital Markets lines, it feels like most of them were down quarter-on-quarter, and I'm wondering if there's a common thread running through those lines. Is it just seasonality or a shorter quarter, or is there something else that I should be aware of? I think the bulk of it is seasonality, Rob, because when you look at the total NIM excluding the non-trading at the bank level, you'll see that it's relatively flat to down. In all of our banking businesses, it is that 3 to 4 extra days of or less days of revenue compared to the prior quarter that really gives you that downtick in the NII. Would a similar factor be in the credit fees being down to CAD 139 million from CAD 173 million, or is that just your mortgage break fees and the like? We'll have to go back. Yeah, we'll have to go back on that one. There's no general trend. There isn't a general trend, so we'll actually get back to you on that. Okay. Thank you. Thank you. Thank you. Our next question is from John Reucassel of BMO Capital Markets. Please go ahead. Thank you. Since I am allowed one question, Gord, I will talk to you about the regulatory environment and try and get an update from you. A lot has changed in the last three months. Looks like some pretty onerous rules out of the U.S. on whether it is wholesale banking or regional banking, new taxes. Can you give us a sense of what this impact is on your business or where you think this is going and what this means for RBC ROE? I would appreciate some insight into particularly the issues going around Goldman Sachs and the valuation that the market might place on a wholesale business and how you look at that vis-a-vis your valuation of your earnings stream and investment opportunities, reinvestment opportunities in your wholesale business. Okay, thanks John. I would start off by saying that there still remains a tremendous amount of uncertainty as to what the rules are going to be, whether it is the U.S. jurisdiction or whether it is the global rules under Basel. So I would love to be in a position to answer your question with more specifics, but it is just impossible to do so given the uncertainty. When we break down the impact of financial reform in the United States, again, with the caveat that the rules are still to be written because, as you know, there is going to be a lot of changes as the process goes through conferencing. We are pretty comfortable that we can manage around those rules in a way where it is not going to have a significant impact on our overall operations. Most of our U.S. businesses are client-based businesses. We do not have a big private equity business. Even businesses like proprietary trading, we think we can manage around given the nature of our operations and our size and scale. So we are watching them very carefully. We are staying on top of them, and it could have an impact on how different businesses are structured. But we think that over time, it will be quite manageable. I think the much bigger issue for the industry is Basel and what potentially could come out of global regulation because there is no question that changes are coming, and those changes are going to result in a significant amount of increased equity required by the banking industry generally, and potential changes to the nature of the business. What I have been saying for a number of quarters and would continue to reemphasize is we think we are extremely well-positioned relative to whatever those rules might be. It's very difficult to determine what the ultimate capital rules are going to be and what the impact that it's going to have both on balance sheet returns, et cetera. Relative to our competitors, we think we're in a very strong position. As you know, one of the issues, of course, is if more and more equity is pushed into the industry, then ultimately it will be reflected in terms of higher cost of services in the marketplace, which hopefully will offset some of the negative ROE drag. So there are a lot of moving parts to it, as I tried to reflect in my comments, we are managing the bank and positioning ourselves to be in a very strong position regardless of what the rules and the regulations might be. There is no question that new rules and new regulations are coming that will have an impact on the industry globally. We think that should play to our competitive strength and be a good thing from our perspective, but the rules are yet to be determined and yet to be written. Sorry, did that answer the bulk of your question? Sure. Just the follow-up would be, internally, when you look at wholesale businesses, I guess no one knows what they're ultimately going to be valued at next year or 3 years, but it certainly looks that there's going to be some pressure on the public perception, maybe market perception of what these businesses are worth. Yeah. Here's my perspective on that, and it's just perspective. Firstly, I think coming out of this regulation, the one good thing for the wholesale side of the business is I think the quality of earnings will be higher because I think a lot of the sort of incremental earnings that were generated historically will be less easy to achieve given that there'll be more capital attributed against different risk books, et cetera. So I think to some degree, the quality of earnings will be better, which hopefully will help from a market perception basis around those businesses. The other comment I'd make with respect to RBC is we're not moving off our diversified strategy. And as you know, although Capital Markets is slightly higher than from a percentage basis when you look at earnings, if you look at revenues or if you look at normalized earnings, given what our expectations are longer term for our International Banking and Wealth Management business, we are very comfortable with our mix of business and the relative proportionate contribution of our Capital Markets businesses which I continue to reiterate. If you even look across the Canadian banking system, we are certainly not a standout in terms of the percentage contribution of our wholesale businesses. I think we want to get the balance right of investing in that business, in growing that business, but making sure that we do it in the context of all of our other businesses growing so that on a relative basis, we have got a mix that the marketplace likes. And as I think you heard me say historically, I think the marketplace is going to accept and I think ultimately like a reasonable percentage of earnings coming from the wholesale side of the business, but there will be limitations. I think those that are excessively weighted towards wholesale and whatever that number is, whether it is 50% or 40%, I think that there will be a cost. But I think the flip side of that is that we think we can consistently generate high-quality earnings in this side of the business. So we are not going to back away from continuing to invest in that business and diversifying our trading businesses and expanding in other areas away from our sort of core strength of fixed income or what have you, but very much with a focus on client-based businesses because we think ultimately those earnings will be viewed as relatively high-quality earnings and recognized as such by the marketplace. Okay, great. Thanks, Gord. Thank you. Our next question is from Peter Routledge of National Bank Financial. Please go ahead. I guess a related question to John Reucassel's, which is around the Capital Markets business. I guess the overall question I have is this RBC's primary growth business looking out over the next few years? Within that, I would just like to get your thoughts on, is this growth that we have seen recently coming out of weaknesses in terms of both capital and reputation of your larger global competitors? Can any advantage that come out of that be sustainable? How does the hiring that RBC has done over the last several months, perhaps a year, play into your strategy here? What is headcount doing in the group overall? Then just a final question would be on RBC's exposure to continental European banks. Okay. I will defer a couple of those because there are different parts to that question. I will let Mark Standish and Doug McGregor speak specifically about expansion from a people perspective, and Morten Friis perhaps address the European issue which I touched upon in my comment. To the first part of your question, I would say two things. Firstly, the answer is no, it is not the primary engine of growth or investment going forward. As you have heard me say in previous quarters, if there is one area where we are most aggressively looking to expand our business in today's environment, it is in the Wealth Management space. There is a lot of work that we are doing in terms of finding ways to grow our global Wealth Management footprint. I know George Lewis would be happy to, if there are any follow-up questions on that front. In addition to that, I would emphasize that our other businesses, whether it is International Banking and even Canadian Banking, which everyone assumes is sort of that mature, steady market. We think there are ways that we can invest capital in these businesses, either through business growth or through acquisition that will allow us continue to build on our platform. So I would almost come back at it and reverse engineer it and say, if you actually look at our objective in terms of business diversification, and you look at what our expectations would be for the future, you would actually see a greater growth in some of our non-Capital Markets businesses as opposed to just our Capital Markets business. Having said that, I would reemphasize what I said earlier, which is that doesn't mean we are not going to continue to invest in that business as well. We think that sort of diversified approach of investing in banking, wealth management, and capital markets is a good formula for the new environment and the new world going forward. The one comment I'd make on sustainability and franchise is that our capital markets business and the expansion of our, whether it's our investment bank in the U.S., our trading platforms in London and New York, et cetera, has not been as a result of the weakness of the global banking system or reputational loss across some of our global competitors, although that has clearly helped in terms of our ability to ramp up hiring and that expansion. We've been investing and building in this platform for many years, well before the crisis. It's nice to see some of the fruits of that investment starting to come back. As I know Doug and Mark would attest to some degree what we have invested and built combined with what has happened in the global markets has enabled us to move into a different space in terms of our franchise value, our ability to track people and so forth in the global marketplace, and our perception from a customer perspective. It's given us more access, whether it's to international wealth funds or international customers. A lot of that has been based on investments that's been made over five or six or seven years, not just as a result of the crisis. In terms of the specific, I'll turn it to Mark and Doug, if you want to make any comments. Okay and European banking to Morten. Thanks, Gord. On the hiring, we're running front office headcount right now in the business of about 3,300. That's up about 150 year-over-year. Really what you're seeing is a fair amount of churn. That is, we are letting some people go, some people are leaving, and we're really focusing on upgrading. In terms of the type of businesses that we're trying to hire, we're really focused right now in the U.S. and the U.K. in hiring origination people. So corporate bankers, investment bankers, calling officers, really just to supplement our access to customers. Hiring is quite seasonal in the business, so I think that you'll see us starting to finish off now. We've just gone through bonus season. This is when we're most active, and it's gone fairly well. I would say that the labor market's a little more challenging than it was a year ago, but we'll continue to look for good people and add them. Just on the European bank exposure. Yeah, Peter, it's Morten. Just as Gord said in his comments, the summary comment is our exposure is minimal. The impact of any restructuring in any of the more challenged countries would truly be quite minimal. The nature of the exposure is largely there to support our liquidity management and our fixed income and currency trading business. The result of that is that the exposure is generally very short term for the most part and with stronger counterparties. So within the European banks in the peripheral countries, we're dealing with the better institutions within those countries, and again, for exposures that are quite moderate given that we quite actively manage it. I guess as a general comment, if you look at the nature of our European Activity, it is even overall industrial Europe. We do not end up with significant exposures outside of the treasury and derivative piece, even in the rest of industrial Europe, and actually feel our exposure is extremely manageable. Do your comments apply to banks outside the five countries of most concern? I am thinking specifically of French and German banks. When you look at industrial Europe, it is true that our exposures in France, Germany, and the U.K. would be higher than for peripheral Europe. It is also institutions that are stronger. I would also note that a fair amount of our short-term liquidity exposure is actually still in government-guaranteed form. There are differences of degree. The nature of the operation means that we will have activity across the region with financial institutions and sovereign, but relative to the bottom line contribution of those businesses, the exposure is actually quite manageable and moderate. As I said, it is of a term nature where we are able to fairly proactively manage the institutions that we have exposure to so that we are not in a position where we have exposure to those that look more vulnerable. Okay, thanks. Peter, just a supplemental as Doug. In terms of the numbers I just gave you, I gave you about 3,300 front office. We also have in the business about 2,000 back office and support functions, whether it be tech, ops, or risk, and we have probably added a couple of hundred in that part of the business as well. Thank you. Thank you. Our next question is from Michael Goldberg of Desjardins Securities. Please go ahead. First, just a point of clarification, Janice, you were talking about other revenue. Is there a table somewhere with a breakdown of that revenue? No, there isn't a table with a breakdown. Okay. Looking at page 29 of your supplemental pack, we can see that your gross non-performing loans in the U.S. were down about $200 million, roughly equal to your net charge-offs in the U.S. during the quarter, which would imply that there were virtually no new non-performing loans in the U.S. during the quarter. Is that the correct interpretation? If it is, where did the $1.1 billion of gross formations come from? Michael, it's Morten. It isn't entirely the correct interpretation in that there is both new formations and loans that move off either through write-offs or through moving back to productive. When you look at it on a net-net basis, it is a mix of retail and wholesale, and it is a mix of RBC Bank and Capital Markets, where it's spread out over a large number of accounts, I guess is the only way I can summarize it. Of the $1.1 billion of new non-performing loans that you talk about on page 30, how much of that would have come out of your U.S. commercial banking operation? It's primarily out of our builders finance and commercial portfolio in the U.S. It's round numbers. Let me just see if I've got it here on. Bear with me for a second here. I actually have the reference. International banking it's about 375, wholesale 139, retail is the split on the new impaired formation overall. Sorry, you confused me. 375 international in total, 100 of which is wholesale? No, our new impaired formation international total is 514, 375 wholesale, 139 retail. Of that, you got about 73 million CAD in Capital Markets. That includes the Caribbean also? Yes. I would say that this quarter, as I noted in my comment, we probably have had a bit more movement both on the provisioning and the impaireds out of the Caribbean relative to RBC Bank than historically. Given the nature of the portfolio in RBC Bank, there is a reasonable amount of movement of there continues to be somewhat of a flow in the way of new impaireds, and there's very active management of the portfolio resulting in a number of loans moving out of the impaireds due to files getting closed or some of them returning to productive status. Just to clarify, is the migration in the U.S. still steady at a fairly high level? It is reducing. As I said in my comment, the conditions remain challenging, but the trends in asset quality in RBC Bank are from a negative level, quite clearly positive. We're moving to reduced formations, reduced provisioning at a level that's still higher than what we would like, but with the trend line clearly being positive. Okay, thank you. Thank you. Our next question is from Steve Theriault of Bank of America, Merrill Lynch. Please go ahead. Thank you. Good morning, everyone. Question for Mark and/or Doug. Trading declined a little bit sequentially, which was a bit surprising to me given the strength in the U.S. Can you walk us through the progression through the three months of the quarter in terms of which quarters were stronger, which quarters were weaker, and can you give us some color on the first month of Q3, if possible? Also, if we could get a breakdown geographically on the split of trading this quarter between Canada, U.S., and Europe, that would be helpful. Thanks. Sure, Steve. This is Mark. Probably best thing to do is go to the supplemental to page 14. You can see not just the revenues by segment but also the balance sheet. The one comment I would mention there, and it really echoes comments made by both Gord and Morten, and that is we have been very aggressively managing a tight balance sheet in what is quite a volatile market. The quarter started out with really a realization that we were heading into the next phase of the crisis, which is the sovereign debt phase of the crisis, and I think that took a lot of our clients by surprise. We are, as Gord said, predominantly a client-focused franchise, and certainly at the beginning of the quarter, a lot of clients, I think, sat on their hands. What we have done is we have benefited greatly from diversification in our sales and trading business. You will see on page 14 sales and trading numbers down slightly from Q1. About half of the decline is directly related to movements in the currency. So a fairly comparable quarter. What is interesting on the quarter is the geographic mix. Our Canadian operations produced about, in fact, almost identical percentages of sales and trading as they did in Q1, whereas we had a decline in the U.S. relative to contribution and quite a healthy pickup in revenues coming out of Europe and Asia, such that we roughly had a third of our revenues coming from each area. So a third from Canada, a third from the U.S., and a third coming from Europe and Asia. I am not going to comment on the current quarter. Okay, fair enough. If I could just ask a quick follow-up to Peter Routledge's question on the exposure to Portugal, Italy, Ireland, Spain, and Greece. You provided a response in the context of minimal and manageable, and I can appreciate that. But Peter has given specific numbers. Can you provide us with any specific figures in terms of exposure to those geographies? I will leave it there. Thanks. Gord? So we will get back to you on the specifics here, but from an expected loss standpoint, it is literally hundreds of thousands of CAD per country. I cannot get into the specific details of authorized exposure. Thank you. Our next question is from Mario Mendonca of Canaccord Genuity. Please go ahead. Good morning. A few questions along the lines of questions that have been asked already, along the lines of how the market will look at Capital Markets revenue and trading, particularly. The way it will be valued is really on whether we believe it is predictable and stable and consistent, and slide 24 certainly suggests that there is a lot of volatility here. I understand that not all trading revenue is created equal. Is there any way you could characterize the nature of the trading revenue, not by products per se, but by, say, its sustainability and picking quarters like Q3 2009 versus Q2 2010. Is there an element of this that is very much sort of a prop nature or just gains on inventories versus, say, client facilitation? Is there a way to segment that for us? Again, I would refer you back to page 14 of the supplementary financial information, where I think if you look at the last couple of quarters and adjust for currency, you will see actually quite steady and non-volatile sales and trading numbers. In the past we have talked about proprietary revenue. I think if you go back a year, I commented that proprietary revenue was towards the high end of its historic range. Today it is more in the mid-range of historically where it has been. So we have seen a very nice pickup in client-related revenue, client-related activity. But again, I think if you look at page 14, you will actually see, certainly for the last three quarters, quite steady in sales and trading revenues. Did you offer anything about that range? What is that range, that historical range? That's something that we haven't talked about publicly. It's very difficult to define what is proprietary and what is not. We just basically have referred to it in terms of a broad range. Mario, the way I would look at it, and the way I look at it as the CEO, is that firstly, what we're trying to do across our various trading businesses is to have enough diversification so that we have consistency and stability of earnings. I think when you look at that historically, that has been the case. The way I tend to look at it, as I say, from a macro perspective is that there's I'm not going to give you the numbers, but there's a sort of a normalized number that we believe our franchise can deliver. Then there's going to be upside, downside noise around that normalized number, depending on the overall environment. From the CEO's perspective, that's the way that I tend to look at it is, what is that normalized, consistent number from the franchise that we can generate? Now, the way this will ultimately get valued is whether we believe we understand it or we have a perception that we understand it. You've referred to a historical range, you referred to a normalized number, but neither of which you're willing to share with us. These numbers, they're not that meaningful to us if you can't provide us this historical range or a prop and what you think is a normalized number. Just a suggestion, that if we're going to put values on these numbers, it might be helpful to actually provide some numbers around your guidance. Yeah, I think, again, when you look at page 14 and you look at the last three quarters and recognize the currency movements, you'll see very little change between those three numbers. Clearly, not suggesting, but showing a well-diversified sales and trading business. As I talked about earlier, we've seen shifts within the geographic performance, but they've performed very well in terms of the total. Gord, then as the CEO, is the normalized number essentially kind of the average of these last three quarters? The normalized number is what we build into our planning process, which probably wouldn't be that far off, but as I said, there is volatility around that, so I wouldn't necessarily take a pure average, but it's probably not that far off. That's helpful. Thank you. Thank you. Our next question is from Darko Mihelic of Cormark Securities. Please go ahead. Hi, good morning. I was hoping Janice would take me to page 7 of the supplemental and walk me through how this helps in terms of understanding with respect to the derivatives gain you've got in corporate support versus what's reported here on page 7. I'm sorry, I haven't had enough caffeine yet. This total trading revenue on page 7 is, and the breakdowns is for Capital Markets. If you go to our total trading revenue, that difference between Capital Markets and this total trading revenue represents trading revenue that we have in corporate treasury, which is reflected in corporate support. Part of the decline in that residual related to the fact that we had that negative trading revenue there, which offset the positive mark in the derivatives in other income. I think we can give you the map because I can't see where the total trading revenue is. Josie can give you the map, but that's where you see largely the difference. If you look at our other income and consider that we think that about CAD 100 million is ongoing other fees and that sort of thing, the difference between that and what is in that other revenue number relates primarily to that derivative mark that I told you about. The reason we have had so much volatility in the other revenue number is we have had a lot of volatility in our marks and our hedging and all of those derivative marks flow through there, and that is what you also see in corporate support. Darko Mihelic, that is how it sort of aligns, but we will take you through, maybe put out more of a mapping of the numbers, Josie Merenda. Yes, sure. Okay. It is my understanding that the derivative marks happen every quarter, and it just so happens that this quarter was relatively high. Yeah. It has been relatively volatile in the past year because of where spreads and FX rates have been. This is in particular on a bond position that was put on. It's interesting. The derivative. It's interesting when you look at it that way because I would have thought that if you had such a big positive mark, that when I looked at corporate support, I would see better revenues there. I actually don't see that. I'm wondering. The other difference has to do with the securitization income and how we neutralize Canadian banking from a segment perspective on the mortgages we securitize. So in Canadian banking, you see the actual historic yields on the mortgage without the impact of how we funded those mortgages. Because we front-ended the securitization gains last year when we securitized those mortgages, what we do is to make sure that we have comparable reporting in the segment. We keep the segment whole for that drag on the spread. So that accounts for some of the negative drag in corporate support now because we don't have the flow of securitization gains, but we do have the flow of this accounting implication of keeping Canadian banking whole. I understand. Okay, great. Thank you. One last question real quick. Underwriting and other advisory fees dropped off significantly in the quarter. Can you speak to that at all as to why that decline happened? I would have thought that with some of the hiring that was going on, some of the expansion activities in capital markets, that Yeah this would not have actually occurred. Right. We are looking at the 428 versus the 573? There are a number of different ways to look at it. When I look at it on the other income at 250 versus 311 last quarter. I think that it's been a little quiet in Canada, frankly. I think that it's been pretty steady in the U.S. In fact, the run rate we have in the origination business is the U.S. is sort of on par, slightly ahead of the Canadian business now. In terms of what's causing it, once you get a fairly robust dislocation in equity markets, then things will slow down. Some of that origination is also, a good amount of it is high yield, and that backed off a few times during the quarter. I would say that if we get constructive markets, I think that it feels pretty good in terms of the backlog and the amount of business that we can do. Do you look at things like revenue per head or per professional, or is that something that's meaningful to you in your business? We do. We look at revenue per MD, and it really depends on the business in terms of how much leverage support the producer has. Are you satisfied with the levels that you have now, or should we be expecting I think that we're certainly satisfied in Canada. I think the franchise in Canada certainly helps. I would say that the productivity in the U.S. has gone up quite considerably. It wasn't good for the past few years, but it has gotten a lot better this year. We're much more productive there, and we expect it's going to get better as we support that business with an improving product platform and a larger loan book. Thanks very much. Okay. I think that we now run out of time. Darko Mihelic, I'll mention on the caffeine comment that we moved our meeting to 8:00 A.M. about a year and a half ago at the request of analysts. We weren't expecting other banks to follow, so that you end up with a stacking of them. But I would reiterate that we did that at your request. With that, I guess thank you everyone for your participation in the call, and if there are any follow-up questions, I know that Josie Merenda and Janice Fukakusa and others are certainly available, and we look forward to hearing from you next quarter. Thank you very much. Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.