Royal Bank of Canada at Scotiabank Financials Summit
Sep 03, 2014 AM EDT
RY.TO - Royal Bank of Canada
Royal Bank of Canada at Scotiabank Financials Summit
Sep 03, 2014 / 12:30PM GMT
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Corporate Participants
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* Dave McKay
Royal Bank of Canada - President and CEO
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Conference Call Participants
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* Sumit Malhotra
Scotiabank GBM - Analyst
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Presentation
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Sumit Malhotra, Scotiabank GBM - Analyst [1]
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Our next presenter this morning will be Mr. Dave McKay, President and CEO of RBC Financial Group. Dave has been a member of the Bank for 26 years, and has held a series of progressively senior positions across the Personal and Commercial bank, the corporate bank, and risk management. He is another one of the new chief executives we'll be hearing from this morning, having just assumed the role on August 1st.
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Dave McKay, Royal Bank of Canada - President and CEO [2]
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Good morning. Good to see you.
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Sumit Malhotra, Scotiabank GBM - Analyst [3]
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How are you?
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Dave McKay, Royal Bank of Canada - President and CEO [4]
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Very good, thanks.
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Sumit Malhotra, Scotiabank GBM - Analyst [5]
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And just to tick the box, I will again say that Dave's comments may contain forward-looking statements. Actual results could differ materially from forecasts, projections or conclusions in these statements, and listeners can find additional details in the public filings of RBC.
They put it up for me, and I can just point to it.
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Dave McKay, Royal Bank of Canada - President and CEO [6]
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There you go. Good morning.
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Sumit Malhotra, Scotiabank GBM - Analyst [7]
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Thanks for being here.
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Dave McKay, Royal Bank of Canada - President and CEO [8]
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It's great to be here.
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Sumit Malhotra, Scotiabank GBM - Analyst [9]
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So, I started this question with Mr. Porter, previously, and I think it applies to you, as well.
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Dave McKay, Royal Bank of Canada - President and CEO [10]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [11]
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With a number of new chief executives presenting this morning, I wanted to start by giving you a chance to make some opening comments. As I said, not only are you the -- one of the senior executives of the Bank, you are a shareholder.
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Dave McKay, Royal Bank of Canada - President and CEO [12]
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Absolutely
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Sumit Malhotra, Scotiabank GBM - Analyst [13]
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So, as you talk to a room full of them, can you say, or can you talk to us, please, about what you see as the greatest challenges facing the Bank as you start your term as CEO, and, more importantly, what are you most excited about from an opportunity perspective, looking forward?
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Dave McKay, Royal Bank of Canada - President and CEO [14]
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Yes, it's a great way to start, and I'll try to keep my comments brief, because I can probably talk for a while on this.
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Sumit Malhotra, Scotiabank GBM - Analyst [15]
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And this will keep us both --
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Dave McKay, Royal Bank of Canada - President and CEO [16]
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I see the ticker going. I know you've got a lot to cover.
I think technology really jumps to the forefront with me, and technology, as we look at how the world is changing, we've kind of digitally mapped information as phase one, and you look at phase two, we've digitally mapped our physical world, and that's leading to a transformation of business models out there.
So, when you think about our customers and how they're reacting to this changing landscape, it affects everything from how we think about lending to customers, and we evaluate the credit quality of our commercial and corporate customers. It affects how we look at partnering with vendors, and everything we do internally.
So, the world is changing. Business models are changing, and it affects how our customers want to interact with us.
So, as every challenge comes an opportunity, and we think about how does technology present opportunities to our organization, and it's significant. When we think about our core strategy, it's going to allow us to serve our customers differently, whether it's the mobile payments that you're talking about, whether it's different channels that we can bring to our customers, being more efficient at the back end.
We're certainly spending an enormous amount of time and effort digitizing our own business processes, our own business flows, looking at optimizing the back office, rolled out capabilities like electronic signatures that take our mortgage process and our investment process digitally end to end. So, I think those are very exciting opportunities to improve the efficiency, and we're still in a, I think, an infancy there.
Now, the third thing is to be a more efficient user of multi-channel rollover. Our channels are converging. It's an opportunity to shift costs and move costs out of our channel optimizations. Customers interact with us very differently.
I think we're an industry historically where we've had to sell products, where you have to sell complex products that customers don't really understand, and the opportunity here is to simplify our products, to simplify our processes, and actually have customers buy our products, like they do with so many other industries.
I think that, in itself, will transform our world. So, technology is pervasive throughout everything we do in transforming business models of our customers and ourselves, and presents just an enormous opportunity to drive our business forward, whether it's Capital Markets, the Wealth business, and the retail business.
The second major trend, I think, is the demographic shift that we're seeing in the Western world. We have an aging population. You're seeing the shift from lending and lending-centric consumers to investment and deposit-centric consumers. We see that in the volume growth in the industry, and we see that in the psyche of our customers and their conservatism.
So, I think, over time, as that shift continues, I think we're extremely well placed with the investments we've made over the last decade, in really building out the capability of our franchise in the Wealth and retail side, to deliver advice and capture a disproportionate share of the investment and deposit, which, when you look at the last two or three quarters, we've certainly seen very, very strong performance on our investment and deposit market share growth, and core franchise growth there.
So, I think there's a -- certainly a -- more than just a cyclical shift, but a fundamental shift in that direction, and I think that is an exciting opportunity to grow. I've inherited a franchise, I've been part of helping grow it under Gord, but I've certainly inherited a franchise that I characterize as enormously flexible and adaptable, and one that's able to capture growth wherever it occurs in the economy.
Our businesses are number one in each of the areas we compete in our domestic marketplace in Canada, whether it's Capital Markets, Wealth, retail bank, investments, deposits, loans, and we are able to go out and capture growth. We've invested significantly in our infrastructure and our sales force to do that.
We use a term internally that we call sales power. And sales power, for us, is a function or product of capacity times capability, and the exponential lift in sales power comes from capability building within your sales force. And we've spent the last decade building capability around advice, delivering advice, building investment, deposit, and advice capabilities that we're really starting to see that trajectory and that capability come into play, and it's fitting in well to the changing demographics.
So, I think technology and aging demographic are two fundamental trends in our business.
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Sumit Malhotra, Scotiabank GBM - Analyst [17]
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Thank you for that, and I do want to come back to technology, because I think you've spoken in more detail on that topic than, probably, any Canadian executive, but let's tie that in to the flagship business, one you know well, the Canadian Personal and Commercial bank.
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Dave McKay, Royal Bank of Canada - President and CEO [18]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [19]
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I'll say it candidly, I think the growth rate in this segment, from both an earnings and loan perspective, have been a lot slower than the market has been accustomed to with RBC for a number of quarters. It's been offset by great results elsewhere, which we'll talk about --
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Dave McKay, Royal Bank of Canada - President and CEO [20]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [21]
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But P&C has, obviously, always been the straw that stirs the drink, if you will, for the Bank. What do you think is the key driver here, relative to the industry, and is it something deliberately the Bank has done to, metaphorically, take your foot of the gas, so to speak?
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Dave McKay, Royal Bank of Canada - President and CEO [22]
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No, I don't think it's that. I think as you look at -- I set that objective, the 25% premium growth to the market, in an investor day about five years ago. We've delivered that consistently, up until recent quarters.
A couple things were happening. One, our base of business has grown significantly as we've driven 30% premium growth over an extended period of time. So, our base is very large now. We have a very large business, double many of our competitors from a balance sheet and income and profitability perspective. So, we're starting from a higher base.
The second thing, a more fundamental thing that's happened is the overall pool of growth has shrunk significantly. So, we used to compete for, among the top five or six banks CAD100 billion to CAD110 billion pool of growth every year in mortgages and consumer loans and commercial loans and deposits. And that pool has shrunk about 30%, largely on the consumer lending side.
And so that we're competing for a smaller pool. We also measure very carefully what share of that pool we get, and our share of the pool really hasn't changed that much. We're still getting around 30% share, plus or minus a couple points, of that pool, but it's a pool of CAD85 billion, not of CAD110 billion. So, when you're driving CAD25 billion of growth that you saw on that pool, on our base, the percent growth starts to diminish. So, a slowing environment, I think, has slowed down our overall outperformance, as all banks have come down, but it hurts the largest bank the month.
The second thing is, I think we're comparing a little bit of apples and oranges. Hold levels in the commercial bank are very different across the banks, and that has been the one source, as we isolate where we've underperformed the most from an absolute volume and a relative volume performance, it's been in the commercial lending side of the business. Where we're doing the same dollar volumes on a much larger base, our percent growth is lower, and it comes down to what we analyze is we're gaining significant market share in the core market that we compete in, which is zero to CAD25 million of loans.
So, we're up 100 basis points in that core market. That's our hold appetite in the retail bank, because we're trying to manage the volatility and the predictability of the earnings stream. Hold levels above that are usually held in our Capital Markets business, for the most part. And other banks have very different appetites where they'll book a CAD100 million loan, where they'll book a CAD150 million loan.
So, we'll take participations in syndications where we'll take a CAD40 million participation, others will take CAD100 million, and we'll both book that in our retail bank, or our commercial -- our Capital Markets bank, and I think those two hold level differences, for us, is what we analyze, is contributing to a significant part of the difference in volume growth.
So, our Capital Markets business is doing exceptionally well, as we'll talk about, and we've certainly seen very robust loan growth. So, part of it, honestly, as we spend a lot of time looking at this, is hold level strategy.
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Sumit Malhotra, Scotiabank GBM - Analyst [23]
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Well, we can focus on top line or volume, to be fair to the Bank, it really hasn't hindered your ability to continue to generate positive operating leverage in Canadian P&C.
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Dave McKay, Royal Bank of Canada - President and CEO [24]
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Right.
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Sumit Malhotra, Scotiabank GBM - Analyst [25]
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If my numbers are correct here, I think the revenue growth -- and I know there was a tough comp with the margin because of the Ally stuff last year. The revenue growth was 2.3%, and the operating leverage was a full 2 points.
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Dave McKay, Royal Bank of Canada - President and CEO [26]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [27]
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So, you've talked for a while about the efficiency target in this segment. How difficult does positive operating leverage consistently become, as the revenue growth continues to moderate, number one? And, number two, what about the spend for those technology initiatives that you're undertaking? It certainly would add to that cost pressure, at least in my mind.
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Dave McKay, Royal Bank of Canada - President and CEO [28]
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I think we're in a different point here. You've always heard me commit to delivering positive operating leverage, and you can forecast your revenue growth pretty well in this industry. There's surprises, but it doesn't turn on you very quickly the way Capital Markets revenue growth can turn, sometimes, on the market.
So, we can see our revenue growth. We managed our costs very well, but we've been investing heavily in technology for the past five or six years when many of our competitors have pulled back.
So, we put in a new mortgage system, state of the art, with SAP. We've put in a brand new data center, state of the art, to capture the big data movement and to make sure that we're ready to capitalize on the emerging technology trends. We've invested heavily in our commercial lending systems. So, they're already built into our current run rate.
So, we've completed these projects. They're live. They're invested.
We're halfway through a complete modernization of our commercial deposit business. You saw a press release we did in bringing our cash management capabilities to the mobile phone. We're one of the first to do that.
A really important capability for our customers. From a corporate to a small business, they want to manage their cash position, their money management, on their phone. And we've been able to do that.
So, you've seen a lot of significant investment already embedded in our run rate. So, we're ahead of the curve when it comes to investing in our infrastructure.
And we look forward to the things we still have to do, because when you're number one in every business, you do want to protect that franchise. Therefore, you have to invest in each business, going forward, and we feel we can manage that.
So, very conscious. We're still driving that productivity ratio, efficiency ratio, to low 40s, and when we made that commitment to the marketplace, that was in a view that interest rates would be 200 basis points higher than they are today, and we are within 100 basis points of hitting that target, without the benefit of a rate increase, which our franchise has significant leverage to higher rates.
So, we're very, very happy where we are, given the rate environment, and we feel we can do more with technology and cost takeout, and we're not stepping off of that invest for the future and drive operating leverage. We think we can do both.
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Sumit Malhotra, Scotiabank GBM - Analyst [29]
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Good. Capital Markets.
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Dave McKay, Royal Bank of Canada - President and CEO [30]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [31]
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Timing is everything in this business, or so it's been my experience. 2010, 2011, the Bank is building out RBC's Capital Markets capabilities in fixed income. A large part of that was happening in Europe just as the European debt crisis was taking place.
So, clearly, there was a lot of volatility in the trading revenue line over that two-year period. It does seem like there has been a concerted effort, and Gord and Doug have talked about it for a couple of years now, to move to more of a originate and distribute model.
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Dave McKay, Royal Bank of Canada - President and CEO [32]
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Yes. Absolutely, yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [33]
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At least in my sense, that would be more in line with what you would want your Capital Markets business to be, and maybe we start there. What, exactly, is your vision for what is, still, by a considerable margin, the number two business line of Royal? How are we positioned or how do you plan to position RBC Capital Markets' global footprint, going forward?
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Dave McKay, Royal Bank of Canada - President and CEO [34]
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I think Doug and the team have done a fantastic job in repositioning this franchise over the last three or four years. Certainly it is in line with building out a sustainable, long-term customer franchise, using our balance sheet selectively to lend, leading to ancillary cross-sell. On average, we sell two to three products to that customer, once we put our balance sheet out there, within a five-year window.
So, it's no different than how we think about the commercial and consumer franchise that we'll often put our balance sheet out there. We'll cross-sell into investments and into deposits from there, or vice versa.
And the franchise model that we're pursuing under Doug in the Capital Markets area is very similar to that. We're thinking about long-term customer relationships. We're thinking about stability of the growth, and consistency of the growth, because we're -- really our objective here is to build consistent, stable growth within the RBC franchise as a whole.
So, very much in synch with that strategy over time. Done exceptionally well in Canada. Our goal is always to be the best in Canada in everything we do. I can proudly say with the momentum in Capital Markets we continue to do that with some of the numbers you might have read in the paper today about the deal pipeline.
In the United States we've enjoyed enormous momentum. Took advantage of a secular disruption in '08, '09, '10. Have built a sizable number of new customer relationships by putting our balance sheet out there in a prudent originate and distribute and keeping our hold levels as low as possible to do that. And that growth has been exceptional over the last two or three years.
You'll see some moderation of that, as you'll certainly see, I think, in a higher rate environment US demand will come off, and you'll see a little bit lower activity, but we've garnered enough new clients through this strategy that the business will be really focused on cross-selling and developing fee-based relationships with many of those new customers, as those relationships mature over that five-year cycle. So, I think in the US we're very well positioned to drive stronger fee-based growth from that client activity.
And in Europe, certainly, pursuing a strategy no different than maybe the US five or six years ago, seeding growth with new market coverage, waiting for a rebound, trying to bring in good people to increase our coverage of a number of sectors, and being patient and waiting for customer relationships to build. It'll probably take a longer trajectory because the disruption is less acute in Europe, and the recovery will probably be a bit slower and uneven, but a market that we're committed to building a similar type of franchise.
So, as we look at the Capital Markets franchise, which on a year-to-date basis represents just under a quarter of our total earnings, and within our overall strategic guideline, for sure, very, very happy with where we are.
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Sumit Malhotra, Scotiabank GBM - Analyst [35]
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Thank you for bringing up the business mix. It's been a bit amusing for me, probably more amusing for me than it has been for you. There's so much scrutiny.
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Dave McKay, Royal Bank of Canada - President and CEO [36]
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Yes, or Doug, for that matter.
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Sumit Malhotra, Scotiabank GBM - Analyst [37]
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There's so much scrutiny on the Capital Markets proportion for Royal, even though, I think, three of your competitors are actually higher than you in that mix.
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Dave McKay, Royal Bank of Canada - President and CEO [38]
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Absolutely.
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Sumit Malhotra, Scotiabank GBM - Analyst [39]
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Your franchise is, obviously, somewhat different on a global footprint. Now, look, some of that comes from the rating agency issues that we've seen with Royal in the last couple of years.
But, based on what you just talked about, do you think there's an appreciation over your various stakeholders that not all Capital Markets earnings are created equally?
And let me just say this. I think sometimes when you say "Capital Markets" guys think of somebody sitting a bond desk punting interest rate futures, and the financial crisis and things like that. The model does seem to be different.
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Dave McKay, Royal Bank of Canada - President and CEO [40]
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Absolutely.
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Sumit Malhotra, Scotiabank GBM - Analyst [41]
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And is there an appreciation that if the mix changes a little bit in a good market, it shouldn't be that much of an issue as far as ratings, valuation, these kind of things are concerned?
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Dave McKay, Royal Bank of Canada - President and CEO [42]
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I don't think there's a full appreciation of that, but I think we're starting to see a turn in the appreciation of that as you get feedback from your people in this room and many others from rating agencies and all our stakeholders that there is an appreciation of building core customer relationships, prudently lending. Everyone looks at the strong history we have through the last cycle of the lending.
We actually brought our book down significantly, pre-crisis, because we didn't think we were getting paid for risk, and we managed that down. And when you look at where our lending book is, in Capital Markets now, it's only 9% higher than it was in 1999.
So, the Group has done a very good job of understanding the market, getting paid for risk, picking the right customer relationships to nurture and grow. So, we feel we're good lenders. We have a good risk management group. We can manage this business, and I think it certainly has been repositioned around long-term customer relationships that we want to grow, over time. So, I think we certainly want to get that message out there, and we believe it's a very important part of our overall diversified business model.
And, you're right, you look at our peer group of the top five, and two of our banks have higher than 25% ratios. So, it does feel a little unfair at times. We are -- it is a bigger absolute number, but we're a bigger bank with a bigger balance sheet, and a bigger equity base, and we've got great absorption capability for that business.
And when you look at the overall risk profile of our retail bank, it's at the bottom end, which is an issue potentially. It's at the bottom end of the risk profile of all the other bank. So, that gives us even more absorption capabilities.
We've not gone into the subprime business in Canada, for the most part, certainly not deep subprime that a number of banks have done. So, we have a lower volatility aspect on our retail bank, giving us that absorption capability. So, when you talk to the rating agencies, that balance is really important.
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Sumit Malhotra, Scotiabank GBM - Analyst [43]
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So, P&C over here, Capital Markets over here, I think it's fair to say the unit in the middle of those would be Wealth Management, which, going back a number of years, Royal had identified, seemingly as, particularly after the Centura sale, that this would be the primary vehicle for growth.
Acquisition-wise, with the exception of BlueBay in 2010, there hasn't been anything sizable at all. So, say, if we go back to the Investor Day three years ago this fall, if you had told me the S&P 500 would be up 50%, 60%, from that time, it does feel like to me that Wealth has, maybe, left some money on the table in terms of what I thought it would have delivered.
I'm not sure if that's your view, but wanted to get an outlook from you on what has been the biggest impediment to acquisition activity in this business, number one? And number two, what do you think Wealth has to do better to get those pretax margins closer to the 30% to 35% aspirational range that was talked about, low interest rates notwithstanding?
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Dave McKay, Royal Bank of Canada - President and CEO [44]
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Yes, great question. Wealth is a very important franchise for us. There's going to be enormous wealth creation. There's going to be a disproportionate amount of wealth creation within the higher end of the North American marketplace and customer groups.
We set some very aggressive targets back in 2011. I --
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Sumit Malhotra, Scotiabank GBM - Analyst [45]
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Aspirationally.
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Dave McKay, Royal Bank of Canada - President and CEO [46]
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Aspirational. That's a little bit part of our culture is that we stretch. We expected higher rates to propel some of that.
But if you look back at some of the core metrics, if you just look at AUM, and where -- AUM growth, we've moved from seventh in the world to fifth in overall AUM. So, there's been a very good execution against the overall growth in the baseline in AUM measurement. We are the second-fastest-growing wealth manager in the world behind BlackRock.
So, I think there are some signals that we look to, and whether it's customer acquisition, AUM performance, that signal that the business is performing well and delivered. It has not met those lofty aspirational targets, and maybe that's -- if that's the benchmark, it looks like it's slipped, but when you look at absolutely where its position is in Canada and the world, it has done -- it has done well, but has more that it can do.
So, as we look at where we want to take this business, and what we think we can do to enhance its performance, we look at the Canadian marketplace, and on an efficiency basis, both our Global Asset Management and our Canadian Wealth are well above benchmarks. So, those are performing exceptionally well. We're seeing good growth in GAM.
Our Canadian Wealth business, I think, has an enormous opportunity to capture the growth in succession in the commercial business world, the opportunity to cross-sell between our Commercial businesses and our Private Banking business into our Global Wealth business. You're going to see a significant number of wealthy commercial and small business owners in Canada retire, want to extract equity from their firms, invest that money, and I think that presents an enormous secular opportunity for the Bank, on all sides of our business, but particularly in Wealth, to capture that.
We feel with the largest Commercial franchise and the number one Wealth franchise, we are best positioned to capture that significant amount of wealth creation and money creation in motion, and I should have hit that off the top of our comments. So, I think in Canada very well positioned to capture a very unique opportunity.
In the United States, I think where we would run maybe a little bit below benchmarks, advisor productivity is a big goal, a big focus. I think there's more we can do in improving advisory productivity. We're focusing on an increasing client acquisition in the US, and finding other products that we can sell to these affluent customers that our 2,000 financial advisors service in the United States market.
So, more work to be done in the US -- an attractive marketplace, as far as the ability to compete for high-net-worth and affluent clients, and the growth potential in that marketplace from that end of the marketplace.
Certainly, as we think about our international business, we're investing for long-term growth, so it's a horizon three strategy for us, in many cases, as we reposition that business and think about productivity there. And there's work to be done. It's an important part of our overall Global Wealth Management franchise.
We have to be in a number of markets to serve customers efficiently and effectively, and to build relationships, and we're focusing on building those out, whether it's hiring teams in London, as we've done, and Clive coming in from JPMorgan to help us. It's a franchise that we need to keep focused on, outside of Canada.
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Sumit Malhotra, Scotiabank GBM - Analyst [47]
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Am I correct in stating that investment spend, particularly for the US and international components of Wealth, have been the primary impediment to lowering the efficiency ratio, which, if my numbers are correct, it's still in the mid-70s that that business has been trending in. Is it primarily the investment spend outside of Canada?
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Dave McKay, Royal Bank of Canada - President and CEO [48]
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We're making long-term infrastructure and business refocusing, so it is dragging the business, without a doubt. And it's something we have to do if we want to be in this business for the long term, which we do. There's cycles that you go through where you're investing and thinking about how you're going to serve customers.
The other area that we feel we're doing well, but we've got some capability gaps is Global Asset Management. We've been very public about customer flows moving into alternatives and needing to build alternative capability to capture that, and we certainly remain very focused on trying to do that, albeit we have to balance finding a firm with the right culture that can fit in and enhance our firm, that drives shareholder value at the same time.
And when you put three high benchmarks out there, many firms fall below that, and we're going to be patient and selective in pursuing the right opportunity to fill those gaps.
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Sumit Malhotra, Scotiabank GBM - Analyst [49]
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As the -- as the clock ticks on us, that leads into the next topic of conversation, which is, first off, capital adequacy, and secondly, capital deployment. So, on the CET1, the Bank, for the last couple of quarters as you've gone through the RWA review, is at about 9.5%. A year ago, that would have seemed like a good place to be. Now, I'm not so sure.
I'll ask you this. Maybe leaving the domestic environment out of it, do you feel there's additional scrutiny to the capital position of the bank because of the global nature of the Capital Market, or is it still the local regulatory backdrop that drives where you feel capital needs to be?
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Dave McKay, Royal Bank of Canada - President and CEO [50]
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So, we -- obviously, we have a large, diversified business model. We feel confident where we are with our capital levels, and we've kind of managed to that 9.5% target, as we've talked about in the marketplace, and we feel that provides us a significant buffer against fluctuations, whether it's FX fluctuations, and a conservative and prudent place to be.
So, I think from the perspective, we feel good about where we are. We're making our plans to grow our franchise, and to deploy marginal capital into organic growth, which we see good opportunities to do, going forward.
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Sumit Malhotra, Scotiabank GBM - Analyst [51]
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Let's talk about some of those.
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Dave McKay, Royal Bank of Canada - President and CEO [52]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [53]
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Whenever a new guy takes the seat, there's always the question of, all right, where does he want to take this institution over the next 10 years? I think the Capital Markets build out has, obviously, been more organic in nature. Canadian P&C, obviously, is the 800-pound gorilla.
So, it would seem that Wealth and some of -- to bring it back to some of the technology comments you made earlier, would be the most obvious areas of need.
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Dave McKay, Royal Bank of Canada - President and CEO [54]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [55]
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On the conference call in May, you did provide some comments about it could be payments, it could be Wealth, it could be certain credit-related items. Maybe an update, a few months later, on where, exactly, the acquisition focus of the Bank may be, and how large, potentially, is the appetite for what you're looking to add?
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Dave McKay, Royal Bank of Canada - President and CEO [56]
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We do feel we've got good organic growth opportunities. We don't feel we're in a position where we need to do anything significant, without a doubt.
My comments in May really reflected what we're not going to do, and that is, from a standing start, we're not going back into a mass-market traditionally branch-based US bank, which we exited three years ago, for very good reasons. So, that is a low-ROE business with a lot of headwinds against it, technology headwinds, regulatory headwinds, and, from a standing start, it just does not make any sense, from a shareholder perspective, to revisit that strategy.
So, that is an area that is not of interest from us from a traditional perspective. If there was a disruptive opportunity, with the technologies that we're building organically, to go after that client base, we would entertain it, but nothing's imminent, and we're watching how technology plays out, and whether opportunity is there.
So, we're really watching the mass-market retail, but with no interest in entering -- re-entering in a very traditional way, and it's more of a watch and wait and see, as far as is there a disruptive digital technology play that would go. But it's a very difficult marketplace to go after from even on a digital basis, as you look at ING sold its business in the US and online, because they couldn't balance the balance sheet from a deposit and lending perspective.
So, it's a tough business to build a balanced balance sheet and drive a hurdle ROE. Very, very difficult business in the US to go after. For that reason, we're really not interested in it.
We are much more interested in enhancing our US Wealth franchise, where we've got a significant number of affluent and high-net-worth customers, served by our broker/dealer out of Minneapolis, which is the seventh largest broker/dealer in the US.
There lies an opportunity to cross-sell that client more product. Right now, we have purely an advisory relationship with that client. We don't sell them jumbo mortgages. We don't sell them core checking accounts. We don't sell them credit cards. They have a very deep and broad financial wallet, and it's a very attractive customer to serve, because it has a very low credit risk profile to it, and you don't find yourself caught in to many of the consumer protection issues around collecting bad debt, and pricing issues that mass-market retail banks have struggled with in the US for the last five years, and will continue to struggle with, we feel, going forward.
So, that customer segment, and serving that customer segment, is lower credit risk, lower regulatory risk, and a high-growth opportunity, and they're poorly served. So, we find that to be a very attractive segment that, with our organic banking license that we kept out of the sale to PNC, we can serve that customer.
So, there's no need to go out and do something, from that perspective, but if there was a property, a modest size, small, that could enhance that, we'd consider it, but, again, it'd have to fit those criteria. It'd have to be a cultural fit. It'd have to be an outstanding operating entity, and it'd have to come at a reasonable price, and when you put those criteria against it, it makes it difficult, and, hence, we're focused on continuing to pursue those clients in other ways.
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Sumit Malhotra, Scotiabank GBM - Analyst [57]
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Last one, and I think it's well suited for you, given your background, if something happens later this month or next year on the interchange fee, I don't think it's going to be a big surprise to the industry or the people in this room.
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Dave McKay, Royal Bank of Canada - President and CEO [58]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [59]
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And I also get the sense that you've been preparing for this for some time, signing up your own coalition partners with a credit card program.
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Dave McKay, Royal Bank of Canada - President and CEO [60]
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Yes.
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Sumit Malhotra, Scotiabank GBM - Analyst [61]
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Can you -- maybe that's one example, but can you give us an idea on some of the offsets the Bank has been working on, knowing that something was probably coming down the pipe in this regard?
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Dave McKay, Royal Bank of Canada - President and CEO [62]
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I wish we had more time to kind of let everybody know how --
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Sumit Malhotra, Scotiabank GBM - Analyst [63]
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It's a tough one to leave for the end.
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Dave McKay, Royal Bank of Canada - President and CEO [64]
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Yes, it -- we don't set interchange. Interchange since the creation of Visa and MasterCard in the 1960s has been set by the networks, as a clearing price for the market, along with the core rules around honor all cards, and no surcharging. And those three components were the foundation to creating an efficient and effective payment system.
You can imagine without a clearing price called interchange, you would have to have bilateral deals between 10,000 banks, and 500,000 retailers on what is the clearing price for my credit card in your store, and that's just not feasible.
So, we have market rate that's set by Visa and by MasterCard, and that drives the revenue that we get every time one of our cards is used at a retailer, online or offline, in the world. And that rate has been embedded in the Canadian economy in the price of goods for 50 years now, and has crept up recently with Visa and MasterCard going public and competing on rates a little bit, and the merchants have created pushback and said we need a broader dialogue.
So, it's been a dialogue in the industry between the government Department of Finance, the merchants, the networks, and the banks for quite a period of time now on how do we balance this ecosystem for the long-term health of the economy, and how do we, still, promote and instill an advanced investment in the best payment system in the world. So, you're trying to balance all stakeholders here, and I think you'll see and speculate some change is coming.
How do we -- how do we react to that? We've got many tools. If there is a reduction in our revenue stream from that clearing price reducing in some shape or form -- I'm speculating; I don't know for sure -- there's a number of things we can do.
That revenue, which ranges, I think, depending on what type of issuer you are. If you're a transaction-centric issuer, it could be up to 35% of your credit card revenue. If you're a lending-centric credit card, it could be down as low as 15%.
If there's a disruption to that, or a reduction to that, that revenue funds loyalty programs. That revenue funds credit losses and your appetite to take on credit risk. So, the tools that you have are to reduce benefits to consumers, to remove cards from the marketplace, because they're no longer profitable from a credit appetite and a pricing perspective, to reduce your cost base operationally in other areas.
So, we've simulated and stressed these events for many years, in case something shocked, and we feel, for a best place to do that, because we manage our loyalty program in-house as a cost base. Our loyalty program isn't a co-brand partnership for the most part. We have some co-brand relationships, but the bulk of our clients are managed in house, and we have a cost advantage in doing that, and we have a flexibility to adapt and change that in many different ways.
So, I know we're over time, but I feel we're very well placed to absorb that. It will impact Canadians, and the disruption -- we're going to have a lot of unhappy customers. Every bank is going to have a lot of unhappy customers. Canadians love loyalty. They're addicted to loyalty in all shapes and forms, and it's -- it could be a significant impact to Canadians' loyalty programs.
So, unhappy customers will have to manage through it. The banks should be able to manage through this. I think Royal is best placed to do that, because we have a cost advantage in house, and we have the flexibility to do things that a partnership might not allow you to do.
So, I think that's where we are.
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Sumit Malhotra, Scotiabank GBM - Analyst [65]
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I appreciate your candidness on that answer, and your time today. Thank you very much.
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Dave McKay, Royal Bank of Canada - President and CEO [66]
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Thanks.
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Sumit Malhotra, Scotiabank GBM - Analyst [67]
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Thank you very much.
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Dave McKay, Royal Bank of Canada - President and CEO [68]
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Thank you.
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