Northern Trust

On an absolute basis, Northern Trust reported a strong quarter with underlying revenue growth of 13% (including net interest income growth of 11%) and adjusted expense growth of 5%. Returns on equity, excluding notable items, were 17% by our calculations, and up from 16% last year.

Why it matters: While Northern Trust reported strong results, shares traded 4% lower in intraday trading July 22 as strong results were largely anticipated given peer results and the guidance increase was relatively modest. Total trust fees were up 10% and to us indicate strong activity levels and subdued pricing pressure. Volatility helped boost foreign exchange trading income and securities commissions and trading income, which were up 92% and 40% respectively. Deposits performed well with average deposits of $128 billion up 4% from last year. Noninterest-bearing deposits rose both sequentially and year over year and helped the firm’s net interest margin rise to 1.81% versus 1.75% in the first quarter and 1.69% in the year-ago quarter. That said, client deposits at custody banks can be lumpy. The firm had some elevated client activity related to fund liquidations, and the third quarter being seasonally weaker suggests that deposits may decline sequentially.

The bottom line: Overall, there was little in its earnings release that would alter our long-term view of the firm, and we will maintain our recently updated fair value estimate of $158 on wide moat-rated Northern Trust. We would wait for a better entry point before recommending shares.

Between the lines: Wealth management trust fees were up 10% and were strong, in our view. We note that fees are often billed on a quarter-end lag, so the second quarter’s market appreciation will show up in the third quarter. Northern Trust noted that individuals and families with more than $100 million in assets outpaced the broader portfolio, indicating it is seeing a K shape of sorts.

Northern Trust’s second quarter was busy from a notable items perspective. The firm took a $525 million pretax gain related to its Visa Class B exchange offer. Northern Trust used some of these proceeds to reposition its portfolio, that is to sell certain securities at a loss to purchase higher-yielding ones. This resulted in a loss of $74 million. Also of note, the firm took $51 million in severance charges, $33 million in one-time equity grant charges as part of a new employee ownership initiative, and $62 million in software write-down charges. The software write-down charges were from the company no longer investing in an internally developed fund administration capability.

From a guidance perspective, Northern Trust now expects net interest income to grow 9%-10% (previous: mid- to high-single-digit growth) and total revenue growth of 9%-10% (previous: mid-single-digit growth). This feels a touch conservative to us as the firm assumes no further market appreciation, lower deposits, and for volatility to be lower. Our pre-earnings model calls for 11% net interest income and 11% total revenue growth.

After updating our valuation model following first-quarter 2026 financial results, we are increasing our fair value estimate for Northern Trust to $158 per share from $145 as market appreciation and higher activity levels have boosted peer results. Our fair value estimate is equivalent to 2.4 times book value and roughly 14 times our 2026 GAAP earnings estimate.

After 2027, we expect about 4% core fee revenue growth. While the custody banks have historically faced fee pressure, results from 2024 and 2025 suggest this fee pressure has moderated. Net interest income growth can be volatile, but we expect this to mirror fee growth as growth in assets services leads to higher deposits.

Northern Trust has less scale than peers BNY Mellon and State Street and, in our view, this is the cause of higher expense growth in recent years. Over time, we believe Northern Trust can get to a low-single-digit percentage expense growth rate. We model for about 6% expense growth in 2026 due to higher revenue-related expenses. We expect this to decline to about 3% over the next several years. Overall, this leads to average returns on tangible equity in the high teens during our forecast period.

We believe custody tends to be a wide-moat business, built on cost advantages and switching costs. Northern Trust currently services about $19 trillion in assets. Given the low basis points paid for custody services, we believe this is a business where scale matters. Technology is important to the custody banks. Both State Street and BNY Mellon spend over $2 billion annually on technology, and we estimate Northern Trust spends about $1 billion in technology investments and capital expenditures per year. We believe these numbers are difficult to match for smaller firms.

In addition to scale, we believe the clients of the custody banks face meaningful switching costs from process disruption, the interconnectedness of a clients’ workflows, and the custodian’s infrastructure as well as onboarding costs. As a result, Northern Trust’s clients tend to be sticky.

In the custody segment, we believe the hedge fund administration business is a lucrative business for Northern Trust. Given that hedge funds have high fees, they are less sensitive to the basis points paid for fund administration. In addition, in some cases, these fees are passed through to investors. Finally, during investor due diligence, switching fund administrators can invite additional scrutiny similar to that of switching an auditor.

We believe Northern Trust’s wealth-management segment is also a wide-moat business. Northern Trust specifically caters to high-net-worth and ultra-high-net-worth customers, which can include family offices, business owners, executives, and other wealthy clients. Its global family office unit, for example, caters to clients with $200 million in assets or more.

Although the switching costs might not be explicitly large, the benefits of switching from one private wealth manager to another are uncertain to clients. In contrast to a pure asset manager, clients are typically more focused on financial planning, estate planning, tax planning, and wealth preservation rather than beating the market. We believe private wealth operators with long histories of advising and managing money have developed strong intangible assets in their brands.

Northern Trust has built a strong wealth-management franchise. Its reputation and conservative capital allocation help its capture and retain ultrawealthy private banking clients. In addition, these wealth-management relationships are stickier and client AUM has less exposure to equities compared with other wealth managers.

Lower inflation and cost-cutting should result in slower expense growth in the near term.

Media reports suggest Northern Trust could be a take-out candidate even as the company reaffirms its independence.

Fee compression and lower margins in the asset-management industry will result in asset managers being more conscious of their costs, thus limiting the pricing power of custody banks.

Northern Trust is exposed to many factors outside its control, such as equity market movements, interest-rate movements, and foreign-exchange volatility.

Northern Trust’s custody business is smaller than that of State Street and BNY Mellon, and thus its peers can theoretically benefit more from technology investment spending.