Q4 2023 Invesco Ltd Earnings Call

Participants

Allison Dukes

Andrew Ryan Schlossberg; President, CEO & Director; Invesco Ltd.

Gregory Wade Ketron; Head of IR & Treasury; Invesco Ltd.

Brennan Hawken; Executive Director and Equity Research Analyst of Financials; UBS Investment Bank, Research Division

Brian Bertram Bedell; Director in Equity Research; Deutsche Bank AG, Research Division

Craig William Siegenthaler; MD & Head of the North American Asset Managers, Brokers & Exchanges Team; BofA Securities, Research Division

Daniel Thomas Fannon; Senior Equity Research Analyst; Jefferies LLC, Research Division

Glenn Paul Schorr; Senior MD & Senior Research Analyst; Evercore ISI Institutional Equities, Research Division

Kenneth Brooks Worthington; MD; JPMorgan Chase & Co, Research Division

Michael C. Brown; MD; Keefe, Bruyette, & Woods, Inc., Research Division

Michael J. Cyprys; Executive Director and Senior Research Analyst; Morgan Stanley, Research Division

Unidentified Analyst

William Raymond Katz; Senior Analyst; TD Cowen, Research Division

Presentation

Operator

Thank you for standing by, and welcome to Invesco's Fourth Quarter Earnings Conference Call. (Operator Instructions) As a reminder, today's call is being recorded. Now I'd like to turn the call over to Greg Ketron, Invesco's Head of Investor Relations. Thank you. You may begin.

Gregory Wade Ketron

All right. Thanks, operator and to all of you joining us today. In addition to the press release, we have provided a presentation that covers the topics we plan to address on the call today. The press release and presentation are available on our website at invesco.com. This information can be found by going to the Investor Relations section of the website. Our presentation today will include forward-looking statements and certain non-GAAP financial measures. Please review the disclosures on Slide 2 of the presentation regarding these statements and measures as well as the appendix for the appropriate reconciliations to GAAP.
Finally, Invesco is not responsible for and does not edit nor guarantee the accuracy of our earnings teleconference transcripts provided by third parties. The only authorized webcasts are located on our website. Andrew Schlossberg, President and CEO; and Allison Dukes, Chief Financial Officer, will present our results this morning, and then we'll open up the call for questions. I'll now turn the call over to Andrew.

Andrew Ryan Schlossberg

Thanks, Greg, and hello, everyone, and I'm pleased to be speaking with you today. In a reversal from the third quarter, overall market sentiment in the fourth quarter turned more constructive as investors began to gain confidence, putting money back to work in the last several weeks of the calendar year. Equities and fixed income were both beneficiaries of a growing belief that central banks would cut rates sooner in 2024.
The S&P was the best-performing major equity index and while outside the U.S., there was solid market growth in Europe, while China continued to lag. Fixed income markets performed well, led by government bonds as expectations for tightening interest rates earlier in 2024 prevailed. The market volatility and shifting macro trends exhibited this past quarter, strengthened our conviction in the areas we focused on throughout 2023, and continuing to reposition Invesco to perform through various market cycles and in front of the rapid evolution underway in our industry.
As discussed on previous calls, we continue to streamline and simplify the company for the benefits of our clients, colleagues and shareholders. The focus of these efforts is to further emphasize long-term investment quality, strengthen our diverse product offering and build on our value proposition that uniquely meets a broad range of client needs around the world. We are also tightening our financial discipline, which will further enable us to allocate resources to drive innovation and acceleration for the benefits of clients.
We're going to continue to leverage our scale to more effectively invest in profitable growth and further strengthen a culture that attracts and retains the top talent in our industry. While our work in each of these areas continues, we are making good progress, and I'm appreciative of the client focus and dedication of my Invesco colleagues around the world. Our results, which are highlighted on Slide 3 of the presentation, summarize many of these external and internal factors at play.
During the quarter, we continued to benefit from growing client demand and assets beginning to move off the sidelines. In the fourth quarter, we delivered $6.7 billion in net long-term inflows, which is a testament to our advantageous position with deep client relationships, strong geographic mix and a broad suite of in-demand solutions. While organic flow growth and improving sentiment drove asset levels higher, most of the gains occurred later in the quarter, limiting the revenue impact in the fourth quarter but increasing AUM nearly 7% from September 30 levels.
Several factors contributed to our strong organic flow growth in the fourth quarter. Most notably, demand for our ETFs and our SMAs continue to drive market share gains in these important product platforms. During the quarter, we achieved $14 billion in positive flows in our ETF factor and index capabilities globally and hit a record high of $634 billion in AUM. We also produced our 13th consecutive quarter of positive flow growth in SMAs as we continue to see strong demand for custom tax optimized solutions in the U.S. wealth management channel, in particular.
The second set of quarterly organic growth drivers were the return to positive flows in two of our most critical growth areas, our China business as well as the broader Asia Pacific region and private markets alternatives. While overall sentiment in China remained relatively weak, our well-established position in the country drove positive organic growth in the fourth quarter. The majority of the flow growth came from the launch of 7 new products which were augmented by equity product sales in existing capabilities.
Strong demand for these new products could signal a more constructive 2024 in China. Long term, we remain optimistic about this market and our unique leadership position within it. We continue to believe that the Chinese asset management industry will grow and mature in the coming years with the development of the local retirement and capital market systems in the world's second largest economy. In private markets, we generated net long-term inflows led by a stabilization and modest inflow into direct real estate and inflows to credit strategies, notably bank loans, which includes CLOs.
We have over $6 billion in dry powder to capitalize on opportunities emerging from the market dislocation of the last several quarters, but we will need greater market clarity before we begin to see significant growth. Shifting to fixed income, which is a key area of strength for Invesco. We continue to see steady ongoing growth, having reported positive inflows in 19 of the past 20 quarters. Leading contributors in the fourth quarter included investment grade, custom SMAs as well as municipal bond strategies.
As investors gain greater clarity on inflation and Central Bank interest rate policy, we expect clients to move out of cash and extend the duration profiles of their fixed income allocations into a wider range of strategies. As previously highlighted, fixed income is one of our absolute strengths in Invesco, and we remain focused on ensuring we're well positioned to capture an outsized share of this ongoing reallocation.
Finally, pressure on active equity flows continued in the fourth quarter for both the industry and for Invesco. We continue to emphasize investment quality, product differentiation and client engagement to ensure we remain a leading provider in this space, with a focus on our in-demand capabilities where we can gain market share. Despite the continued headwinds, we have seen some moderation in certain areas of active equity flows particularly in global, international and emerging market segments.
Our net outflows into these important strategies moderated during 2023 to $1 billion to $2 billion a quarter significantly lower than what we experienced in 2022. These early signs of reversal have been led by our Global Equity and income strategy, which achieved top retail selling status in Japan and delivered an incremental $1.4 billion of net inflows in the fourth quarter. While we are cautiously optimistic about market conditions for 2024, we remain prepared to meet client and shareholder expectations across a range of scenarios.
We have the breadth of capabilities, the discipline to drive performance as well as the organizational structure and focus to ensure we are well positioned to meet evolving client demands. As market sentiment improves, this should translate to even greater scale, performance and improve profitability. With that, I'm going to turn the call over to Allison for a closer look at our results, and I look forward to your questions.

Allison Dukes

Thank you, Andrew, and good morning, everyone. I'll begin on Slide 4. Overall investment performance was solid in the fourth quarter with 64% and 71% of actively managed funds in the top half of peers were beating benchmark on both a 3-year and a 5-year basis, respectively. Investment performance improved considerably on a 5-year basis, going from 65% in the third quarter to 71% in the fourth quarter reflective of improved performance that we're seeing across several categories, including in U.S., global and international equity.
We continue to have excellent performance in fixed income across nearly all capabilities and time horizons. An important fact given our strong conviction in our ability to attract flows as investors deploy money into these strategies. Turning to Slide 5. AUM was nearly $1.6 trillion at the end of the fourth quarter, $100 billion higher than last quarter end. The fourth quarter began with weak markets in October and then recovered as the quarter progressed ending the year with equity and fixed income markets higher versus the third quarter.
Higher markets, coupled with net long-term inflows and favorable foreign exchange movements drove the increase in assets under management during the fourth quarter. We generated $6.7 billion in net long-term inflows, which was an organic growth rate of 2.4% that we expect to once again outperform peers in what has been a challenging environment for organic asset growth.
Looking at flows by investment approach, client demand for passive capabilities remain strong as we garner nearly $14 billion of net long-term inflows during the quarter. ETF inflows were $12.4 billion, an annualized organic growth rate of 17%, marking this as one of our best quarters for ETF. The S&P 500 Equal Weight Index bond once again led the quarter with $4.6 billion of net long-term inflows. This ETF was also our leading flow driver for the year with nearly $13 billion of inflows.
Our QQQM ETF through the second highest inflows in our ETF suite with over $2 billion for the quarter. The QQQM was launched a little over 3 years ago and now stands at over $18 billion of AUM, making it our third largest ETF outside the QQQ. We demonstrate the ability to sustain growth in ETFs throughout the full market cycle with organic growth in 13 of the past 14 quarters. Offsetting some of the growth in passive was $7.2 million of net outflows in active strategies. What's encouraging is that the level of outflows in the fourth quarter was the second lowest since the market sell-off began in early 2022.
The lower level of net outflows was driven by growth in active fixed income products led by our custom fixed income SMA, which totaled $2.1 billion in inflows. Regarding active equity strategies, we experienced another quarter of strong growth in Japan with our Henley Global Equity and income fund garnering $1.4 billion of net inflows from Japanese clients. This fund continues to be the top-selling retail fund for the industry in Japan on both a quarterly and a year-to-date basis.
Active global equity products experienced net outflows of $1.6 billion, of which $1.2 billion came from the developing markets fund. The level of outflows from this investment class has declined after significantly elevated redemptions in the second half of 2022. Looking at flows by channel. The retail channel generated $4.6 billion of net long-term inflows, while our institutional channel had net inflows of $2.1 billion. Driving the growth in the retail channel or the ETF products I noted previously, as well as the custom fixed income estimate.
Growth in the institutional channel resumed after net long-term outflows in the third quarter that were driven by the global targeted returns redemptions. Moving to Slide 6 inflows by geography. Asia Pacific delivered net long-term inflows of $5.8 billion, representing organic growth of 12%, driven by growth in Japan and a resumption of growth in our China joint venture. Japan's net long-term inflows were $3 billion in the fourth quarter, representing an organic growth rate of 21% driven by the Henley Global Equity and income fund as well as fixed income products.
We believe Japanese markets are seeing the most constructive conditions for risk on assets in many years, and we're well positioned to capture that growth. Our China joint venture generated $1.7 billion in net long-term inflows driven by ETFs and fixed income strategies. Turning to flows by asset class. Equities generated $8.3 billion and net long-term inflows, mainly driven by the strong growth in ETFs. Fixed income flows were impacted by our planned bullet share ETF maturities that occurred each December which totaled $2.8 billion.
This is an annual occurrence, and these outflows are typically offset by new bullet share products launched in the first quarter, where we are already seeing strong inflows in January. Excluding these maturities, fixed income and net long-term inflows were $2.9 billion. In alternatives, we generated $1 billion of net long-term inflows in bank loans, including CLOs and $400 million in net long-term inflows into direct real estate. These inflows were offset by outflows and other products that we classify as alternative products, such as global asset allocation and commodity ETFs.
We have a strong track record in our private markets platform with alternatives and are well positioned to capture long-term flows in this asset class as client demand shifts to these strategies. Moving to Slide 7. Secular shifts in client demand across the asset management industry, coupled with more recent market dynamics have significantly changed our asset mix since the acquisition of Oppenheimer Fund. Going back to 2019 after the acquisition, ETF and index AUM, excluding the QQQ have grown from $171 billion or 14% of our overall $1.2 trillion in average AUM in 2019 to $362 billion or 22% of our average AUM of $1.5 trillion in the fourth quarter.
In QQQ, a product we earn no management fees from, but does provide a substantial marketing benefit has tripled in size over this time, going from [$74 million to $230 million] or from 6% to 14% of total average AUM. We've also seen very strong growth in global liquidity going from $82 billion or 7% of average AUM to $170 billion or 12% of average AUM in the fourth quarter. These product areas carry lower net revenue yields compared to our overall net revenue yield. During the same time frame, we've seen weaker demand for fundamental equities and multi-asset products, which carry higher net revenue.
This has been driven in part by the risk off sentiment that was sparked in early 2022, coupled with the pressure that we experienced in developing markets and global equities as well as the closure of our GTR capabilities. Our fundamental equity portfolio in 2019 was $348 billion or 29% of our average AUM. By the fourth quarter, that portfolio had declined to $261 million or 16% of our average AUM. Multi-asset also declined from 7% to 3% of the average AUM over this time frame. Looking at the fourth quarter as compared to the third quarter of 2023, we continue to experience similar dynamics with ETF going from 21% to 22% and the QQQ going from 13% to 14% of average AUM, while fundamental equities declined from 17% to 16% and multi-asset from 4% to 3% of average AUM in the quarter.
The result of revenue headwinds created by these dynamics has weighed on our results over the last 4-plus years. While we've experienced excellent organic growth and lower fee capabilities like ETFs and global liquidity was not enough to offset the revenue loss from higher fee fundamental equity and multi-asset outflows. Our overall net revenue yield has declined meaningfully during this time frame, but that decrease has been driven by the shift in our asset mix not degradation in the yields in our investment strategy.
Net revenue yields by investment strategy have been relatively stable within the ranges provided on the slide. The other point that I want to emphasize is that this multiyear secular shift in client preferences has been increasingly captured in our results. Our portfolio is better diversified today than 4 years ago, and our concentration risk and higher fee fundamental equities and multi-asset products has been reduced.
These dynamics, though challenging to manage through as they occur should portend well for future revenue growth and marginal profitability improvement, independent of market gains. Further, we now have a more diversified business mix, which better positions the firm to navigate various market cycles, events and shifting client demand. Turning to Slide 8. Net revenue of $1.05 billion in the fourth quarter was $62 million lower than the fourth quarter of 2022 and $52 million lower than the third quarter of 2023. The decline from last year was due largely to a $35 million decline in performance fees and the shift in our asset mix that was just discussed.
The decline in performance fees was mainly driven by lower fees generated from real estate related and other private market activities. The decline from the prior quarter was primarily due to incremental asset mix shift and lower average assets under management, partially offset by higher performance fees in the quarter. Total adjusted operating expenses in the fourth quarter were $771 million, relatively unchanged from the fourth quarter of last year. Included in fourth quarter 2023 are $22 million related to organizational change expenses and $12 million of Alpha platform related implementation expenses.
Adjusting for these items, fourth quarter expenses were $32 million lower than the fourth quarter of 2022. Total adjusted operating expenses were $18 million lower than the third quarter. More specifically, looking at employee compensation that has been impacted by the organizational change expenses. Compensation was $26 million lower in the fourth quarter which includes $11 million in expense savings related to the organizational changes that I'll provide more detail on shortly. Marketing expenses of $28 million were $6 million lower than the fourth quarter of 2022, as we continue to tightly manage discretionary spend given the ongoing challenging revenue environment.
Property office and technology expenses were flat to last year and $4 million higher than last quarter. G&A was $19 million higher than last quarter as we typically see higher G&A in the fourth quarter.
We also had $12 million in spending related to our Alpha platform implementation, higher than the $8 million incurred in the third quarter due to incremental implementation costs in the fourth quarter. Going forward, we expect onetime implementation cost to be approximately $10 million per quarter in 2024 with some fluctuation quarter-to-quarter. We will continue to update our progress on the implementation and related costs as we move forward.
Now moving to Slide 9. We realized $11 million in expense savings in the fourth quarter related to the organizational changes. On an annualized basis, we have achieved $44 million or nearly 90% of the $50 million in expense savings we expect to realize in 2024. We expect to realize the remaining $6 million in the first quarter. We're not expecting any further significant restructuring costs associated with these efforts.
The full benefits from our simplification efforts will be seen over time as we generate revenue growth and margin recovery. As we've discussed, we managed variable compensation to a full year outcome in line with company performance and competitive industry practices. Historically, our compensation to net revenue ratio has been in the 38% to 42% range, trending towards the upper end of the range and periods of revenue decline. At current AUM levels, we would expect the ratio to be at or slightly above the higher end of this range for 2024.
Seasonally, we see approximately $25 million in higher compensation expenses related to payroll tax and other benefit reset in the first quarter. As a result, we would expect the ratio will exceed 42% during the first half of 2024. Moving to Slide 10. Adjusted operating income was $275 million in the fourth quarter, which included the costs related to organizational changes. Adjusted operating margin was 26.3% for the fourth quarter. Excluding the costs related to organizational changes, fourth quarter operating margin would have been 210 basis points higher.
Earnings per share was $0.47 in the fourth quarter. Excluding the costs related to organizational changes, fourth quarter earnings per share would have been $0.04 higher. Effective tax rate decreased to 9.9% in the fourth quarter from 23.6% last quarter. The decrease was primarily due to a discrete tax benefit related to the resolution of certain tax matters, favorable tax treatment related to a gain on sale of certain Hong Kong pension sponsorship rights, and the favorable impact of a change in mix of income across tax jurisdictions.
We estimate our non-GAAP effective tax rate to be between 23% and 25% for the first quarter of 2024. The actual effective rate can vary due to the impact of nonrecurring items on pretax income and discrete tax items. I'll conclude on Slide 11. As stated priority for us is building balance sheet strength. This quarter, our cash balance was $1.5 billion, and we ended the year with nothing drawn on our credit facility. We have lowered our net debt significantly, and it now stands near zero.
We have a $600 million senior note maturing on January 30, and we are in a position to redeem the notes at maturity. We estimate we'll have approximately $500 million in excess cash and will draw approximately $100 million on our credit facility to fully redeem the notes. The first quarter is a seasonally high cash usage quarter so we do expect to have a balance on the credit facility at quarter end, which will pay down as we move through the second and third quarters and reach our goal of zero net debt.
We also hope to begin a more regular stock buyback program as we move towards this goal. To conclude, the resiliency of our firm's net flow performance and a difficult market for organic growth is evident again this quarter, and we're pleased with the progress we're making to simplify the organization and build a stronger balance sheet while continuing to invest in key capability areas. We're committed to driving profitable growth and a high level of financial performance, and we have the right strategic positioning to do so. And with that, I'll ask the operator to open up the line for Q&A.

Question and Answer Session

Operator

(Operator Instructions) The first question comes from Glenn Schorr with Evercore.

Glenn Paul Schorr

I'm sure you said something very intriguing towards the beginning. You said you expect clients to move out of cash into longer duration fixed income at some point. And I think a lot of us have been waiting on that. You saw some fixed income flows, but a lot more money market outflows the last couple of quarters. I'm curious where the money market outflows going in general? And how do we determine the cash sitting on the sidelines is actually waiting to move out versus it's just treasuries and money markets that used to sit in cash, meaning is it just another cash alternative? Or is it actually waiting? I hope that makes sense.

Andrew Ryan Schlossberg

Yes, it does. Let me start, and Allison can pick up. It's a little of both. So some of the money market flows out of Invesco and our business is largely corporate treasurers, they're buying T-bills directly. So I wouldn't look at that as a great indicator from Invesco. As we're out talking to clients and we're looking at of where flows are going. Early signs have been clearly into ETFs, which might be telling you a little bit about conviction and maybe the lack there of full conviction.
And then on the fixed income side, active and otherwise, starting to move into municipal bonds, in particular, some investment-grade strategies. Europe is picking up a little bit. But I'd say it's pretty early days on assets moving off the sidelines.

Allison Dukes

And maybe just to put a finer point on our money market products, in particular, our liquidity products. Our client base there is about 85% institutional. So when we see fluctuations in some of those balances, it is to Andrew's point, really corporate treasurers taking advantage of the increase in T-bill rates and moving out of money markets in the T-bills. It is only about 15% retail, which is where -- and of course, on the institutional side, they're just limited in where they're going to go.
So they're going to stay and cash yielding kind of products there. The retail side is a smaller component of our client-base there.

Glenn Paul Schorr

Makes sense. So in that revenue yield slide, you showed us the come down and you talked about not degradation of product pricing, but just mix shift. With the markets up so much, average assets -- ending assets way above average assets. How much of that revenue yield pickup could we see coming back the other way in the first quarter?
I'm not sure you've gone through that math yet, but obviously, markets are up a bunch.

Allison Dukes

Yes. No, they are, for sure. And I mean, the exit rate for net revenue yield will be -- it was modestly higher coming into the first quarter. I mean the delay, frankly, in the market pickup in the fourth quarter didn't do much for revenue, as you could see, but it does portend well for just the average AUM mix coming into the quarter, and it does give us a net revenue yield coming into the quarter that's modestly higher than the exit call it, (inaudible) of the basis point there. So very modestly higher.
I think within those asset categories that we showed on that page, it's really the mix within there as well as the mix between those categories. So one of the elements of our revenue performance in the quarter was even in our net revenue yield within our passive capabilities. And you saw our net revenue yield in passive declined about a basis point inside of the quarter as well, which really speaks to where client demand was in the quarter, largely for some of our lower fee products there, like the QQQM and the S&P 500 Equal Weight product that I noted earlier.
We do continue to see strong client demand. It's hard to predict where the client demand will be in the first quarter, and that has a huge impact on our revenue. All things being equal though, the market run has been helpful.

Gregory Wade Ketron

And the other thing I'd add, and you're seeing it as well. I'm sure the broadening out of the market, and as Allison mentioned earlier, the greater diversification in our overall portfolio of client assets, puts us in a position under any kind of market environment where we think we're relatively well-positioned.

Operator

Our next question comes from Daniel Fannon with Jefferies.

Daniel Thomas Fannon

I wanted to follow up on Slide 7 and talk a bit more about the alternatives in private markets. Dynamics in the quarter and more prospectively, how you were thinking about the potential growth in that business, considering the broader alts bucket has been seeing outflows for you, but yes, I think there's some underlying trends.
I think you've talked about seeing some inflows. But curious to get a little bit more of an update.

Allison Dukes

So let me start with just maybe an update on the flows, so I think we noted modest inflows on the direct real estate side, so about $400 million. And again, that's really divestitures net of acquisitions. And so we continue to see some modest improvement, which is nice to see just given some of the challenges in the real estate market.
On the private credit side, we talk about $1.2 billion of inflows. Again, our business there is only about $42 billion. So a relatively nice pickup inflows there. That was primarily driven by bank loans and CLOs. And some modest inflows in there are distressed credit capabilities as well. That's all on the private side, and that was largely offset by outflows on the public alternative side. And that's driven by commodity ETFs, listed real estate and global asset allocation that I noted on the call. So you've got a bit of a mix in our alternative strategies, again, with good gains on the private side being offset by some outflows in the public alternative strategies.

Gregory Wade Ketron

And as we look forward, we continue to view private markets and alternatives as one of our best opportunities. As Allison said, on the credit side, about $45 billion in assets. And on the private real estate side, another $70 billion in assets and seeing some moderation of flows and some positive gains, as Allison mentioned, we're [good] for us to see in this environment. I think if we take the long-term view, what we've been very focused on over the last several years is diversifying from a largely institutional base into a wealth management base and the issuance of our non-traded REIT, credit real estate credit strategies and other sort of distressed and direct lending strategies, both into institutional, but probably more impactfully into retail, we continue to see as a great long-term opportunity for us.

Daniel Thomas Fannon

Understood. And then just switching to expenses. I understand some of your comments. But maybe Allison, if you could talk to, is the State Street project -- Is the goal to ultimately reduce expenses or just flat -- get flatter growth going forward? So I just want to understand the components post the $10 million a quarter you mentioned for this year. And then underneath that, how we should think about the general growth rate of kind of G&A and other expense items for the year in terms of inflation or other factors?

Allison Dukes

Let me start with Alpha. And if you think back around the implementation costs for the last few quarters, they have been growing. So we -- it was $7 million in the second quarter, $8 million in the third quarter, $12 million in this most recent quarter. And then our guide was to roughly $10 million a quarter per quarter throughout 2024, there will be fluctuations.
It is not precise. We are deep into implementation. And so there is going to be some variability and some uncertainty quarter-to-quarter, but I think the $10 million expectation is reasonable with what we know today. The expectation is we are building to a peak, and then there are expenses that will be coming out the other side. And that is 2025 and beyond. So we're not ready to give exact guidance on that yet. But it isn't just a flattening out. It is building to a peak, and then there are some expenses that start to come back down. As implementation cost fade and there are some -- the ability to continue to rationalize and streamline some of our systems, which will lead to some expense rationalization on the other side.
And as a reminder, that is as much about -- the whole effort is as much about really eliminating the duplication of systems and some of the heavily customized processes that we have today and really moving towards a single operating model to streamline our operations and accelerate some of what we can deliver from a client experience perspective. I think you mentioned some of the other expense line items, maybe let me touch on some of those.
Note that the G&A was seasonally high in the fourth quarter, and I would expect that to be a bit lower in the first quarter. From a compensation expense perspective, as we noted, there's always seasonality in the first quarter. We typically expect to see compensation expense about $25 million higher in the first quarter for taxes, FICA and the like but we also expect to fully realize our $50 million in expense savings. So there's another $6 million that we expect will be realized in the first quarter.
All of that is, of course, assuming flat markets at 12/31, et cetera, et cetera. But hopefully, that gives you some color that relates to the primary driver of alpha seasonality of G&A coming back down, seasonality and compensation expense going up modestly, but that's offset by the realization of our expense savings.

Operator

Our next question comes from Ken Worthington with JPMorgan.

Kenneth Brooks Worthington

I wanted to follow up on margins on Slide 10. Excluding the unusual items, margins in 4Q '23 were the lowest level on the page. Can you give us some color as to how business mix is impacting margins? To what extent is margin pressure being impacted by growth of lower fee, lower margin businesses and slower negative growth in higher margin, higher fee businesses. And I know it used to be some of the non-U.S. businesses were the highest margin. At this point, can you kind of call out what are your highest margin and lowest margin businesses?

Allison Dukes

Sure. Let me take a stab at that. So yes, you are correct. The fourth quarter adding back severance expenses would be our lowest quarter. And so what is impacting that? Certainly, it's business mix. Before I go to business mix, I will also note, just from an underlying expense base standpoint, keep in mind, for all the years prior to the last 3 quarters on this chart, we had TIR as a line item.
And there was a significant amount of our expense base that within TIR. So our expense base has been fully loaded for the last 3 quarters inclusive of all the alpha implementation costs. So that is part of the pressure on margins, although it is not the whole story. The business mix story and the degradation in revenue is absolutely part of the story as well. Business mix is a big driver of it as you continue to see the shift in our business mix, as we highlighted on Page 7, from fundamental equities into some of our lower fee capabilities, including ETFs and index even global liquidity to some extent as well.
And within that, as I noted, even within those passive capabilities, you see some business mix pressure just in the most recent couple of quarters with a strong demand for products like the S&P 500 Equal Weight and QQQM as opposed to commodity ETFs, bank loans and some of the other higher fee capabilities that would be within that asset category. So it is business mix among the categories and within the categories. In terms of margins, margins sort of by region are relatively consistent. I think it's worth noting in China, we've often pointed to our margins there, which you can look at and see really as you add back the joint venture there are higher than the firm average.
They are modestly lower now with the implementation of the regulatory mandated fee cuts in China, which we have noted -- that -- the margins there are still stronger than the firm average and still very attractive, very positive in our positioning there and our growth rate there. We're very optimistic there. But modestly lower than it would have been previously. And the fourth quarter was our first full quarter of the realization of those fee cuts, which has an overall impact of about $10 million per quarter in revenue.

Operator

I think the next question comes from Bill Katz with TD Cowen.

William Raymond Katz

Maybe to mix up a little bit. I was wondering if you could just sort of expand a little bit on where you stand with your relationship with MassMutual and the opportunity to potentially accelerate growth either into the alternative segment or perhaps even on building out some retail democratization products?

Gregory Wade Ketron

Bill, thanks for the question. Maybe just to refresh everyone's memory MassMutual in addition to owning our comment and being a preferred shareholder, has about $12 billion invested with us across broker-dealer, annuity, sub-advised general account capabilities. One of the most important parts of that has been the $3 billion they have invested into the seating and co-investment of many of our private market strategies, in particular, the ones we've been bringing to wealth management over the last several years. And so it's a very, very important partner in that regard.
And that's a multiple of 3x what we carry on our own balance sheet around those sorts of strategies. So opportunities to continue to develop the relationship there are something we're focused on, although a lot of that growth has come already. I think the second area is just taking our relationship further where it makes sense on their insurance platform with things like our alternative strategies, models, SMAs and ETFs and then select fixed income and equity products. And we're well placed there, but we're continuing to look for opportunities and ways to grow effectively. So it's an important partnership on many levels.

William Raymond Katz

Maybe just a follow-up on capital. So it sounds like you're in a much better spot just in terms of reengaging on buyback. Allison, are you expecting to be able to buy back stock in concert with carrying the line of credit? Or do you need to get on the other side of that before you'd restart buyback?
And then more broadly, what kind of payout rates should we be thinking about now that your earnings are more diversified and the earnings power is higher?

Allison Dukes

All good questions. And I'd say short answer is, yes, we'd like on the other side of -- we're very committed to getting our net debt down to zero. And that has been a stated goal of ours and something we've been working closely in concert with our Board on achieving a stronger balance sheet. And so as we approach that, and we look forward to having conversations with the Board and evaluating the opportunity to reengage in more regular share buybacks.
I think our payout ratio would stay kind of modestly in that 40% to 60% range as it has been in the past. I think that's a reasonable range for us to operate in as we think about both modestly increasing the common dividend each year as well as buying back stock. But we are a couple of quarters away from where we want to be there, just given the seasonality of cash needs that are before us over the next few months.
We are within sight for the first time in a long time, and we're really pleased about the progress we're making with the balance sheet, just the growth in cash and where the debt is heading. So it does feel like for the first time in a long time, we're kind of getting back into a position where we can be a lot more opportunistic than we've been able to be in the last few years.

Operator

Next question comes from Mike Brown with KBW.

Michael C. Brown

Great. Maybe just a quick follow-up on that last question on capital allocation and the buybacks as you get further along on your goals on the balance sheet, do you expect M&A to kind of come back into the equation, not necessarily large M&A, but perhaps maybe more on the bolt-on side as you think about adding capabilities and perhaps altering the strategic asset mix as you start to look out to, say, 2025?

Andrew Ryan Schlossberg

It's Andrew. At the moment, the focus is very much on the organic side, the priorities around the balance sheet and the uses of cash, as Allison described stay true. As we have described in the past, the place where we see opportunity for us to add on in time for the right situation, opportunity would likely be in that private market space as extensions to the things that we already believe we do well today and could continue to grow both organically and inorganically.
And that would be in the real asset space and in the private credit areas. But for now, very focused on the work we have to do organically.

Michael C. Brown

Okay. Great. That's good to hear. And then maybe if I just change gears to the developing markets fund. You had flagged performance has improved there. That product is still outflowing, but assuming that performance can continue to improve. I guess my question is what causes client interest to really come back to this fund, just given that seems like investor sentiment and interest in EM strategies is just kind of remains tepid.
Is this going to be more about a kind of lower redemption story and kind of narrowing on the redemptions? Or can that eventually translate to more of a growth story?

Andrew Ryan Schlossberg

Yes. Look, I think you outlined the question well. It's probably a bit of both. I mean the first thing is continue to strengthen the investment performance there. And we're unknown, as you know, a known emerging markets manager well known in the (inaudible) space well-placed in the wealth management channels. So the things we can control our investment quality. What we have started to see a bit is the redemption picture improved, and that's sort of early sign.
I think you're not really going to see a material uptick in gross sales until you see more demand come back in the marketplace from investors. And it's -- we've been waiting for that moment, and we haven't seen it difficult to predict, but it's an important category as is more broadly what we're doing in international equities and global equities, where those categories as well have been under some pressure. Our performance has improved materially, redemption rates declining, but same comment on the gross sales side.

Operator

Thank you our next question comes from Brennan Hawken with UBS.

Brennan Hawken

Allison, I appreciate the color on 1Q expense. But when we're thinking about full year 2024, is the right base by which to grow off of that [$3 billion] that's adjusted for some of the charges. And how should we think about -- are you able to keep that flat? Or is that going to be having some positive pressure here through 2024?

Allison Dukes

Brennan, good question. Yes. If you look at the expense base and '23 adjusted for the severance and retirement expenses that we incurred in '23, which we aren't anticipating at this point, more of in '24. When I look at our '24 expectations relative to where the markets are, where we ended the year in AUM, the usual caveat of all things being equal, I would say we expect the expense base to be flat to 23% to just relatively very, very modestly, perhaps higher.
But I'm going to call it just flat plus. And that, importantly, in '23 excuse me, in '24 is inclusive of a full year of all 4 quarters, no TIR. So it is a 4-quarter no TIR year as compared to a 3-quarter year last year, inclusive of some of the inflationary pressures, merit increases and the like. So we did a lot of work on our expense base last year. We've got a lot going on as it relates to output implementation costs in the $10 million per quarter guide we put out there. All those things taken into account; we're expecting relatively flat this year.

Brennan Hawken

Okay. Thanks for the color. I appreciate it.

Allison Dukes

And I'll note with that, with some of where we are in the market, some of what we've seen in terms of the appreciation and average AUM exiting the fourth quarter and coming into this year. We are optimistic that we start to see modest improvement in operating margin from here.

Operator

And our next question comes from Brian Bedell with Deutsche Bank.

Brian Bertram Bedell

Switch the conversation to the QQQ franchise. I guess as you -- obviously, there's a -- the earning products, but do you think about monetizing that whole franchise? Can you talk about how you think you might be able to monetize that asset base? I think obviously, QQQM is, I think, $20 billion in AUM and QQQs more than 10x that. First of all, the 15 bps on QQQM is that also the asset management revenue yield, or is that just the extent ratio? And then how do you think about potentially -- are there opportunities to effectively try to cannibalize the QQQ in favor of developing a more sort of fee-bearing QQQ franchise at the Invesco level?

Allison Dukes

Great questions. And precisely, the topic we spend a lot of time talking about thinking about and really working on as a team. That the QQQ is a tremendous asset for us and the brand awareness that, that creates can't be underestimated. The opportunity that creates for us in terms of the marketing budget that comes from that. All of our sort of ad campaigns, the brand work we do is really fueled by the QQQ.
And so it's, it is a tremendous asset to us. It is certainly unique in nature and that's the value it creates. So we have to be very thoughtful about how do we optimize the value that is created from that capability. The QQQM, as you note, is approaching $20 billion and has been a cannibalization strategy and a very successful one, given it's only about 3 years old, and it has grown that quickly and assuming there is continued demand in the underlying or interest in the underlying exposure there, we expect the growth in that capability to continue.
In terms of the actual net revenue yield from the published fee rate, it would be about half net of all of the costs there. So it is -- it would be one of the lower-yielding capabilities, again, part of what we were pointing to in terms of the business mix that is driving some of the pressure on net revenue yield overall. So it's a 2-sided coin but one that is certainly well positioned to capture client demand.

Andrew Ryan Schlossberg

The relationship with the NASDAQ on the Q goes back celebrating, I think its 25th year coming up soon. And very much what Allison was describing, how we've been growing that relationship. In addition to it being the QQQM being an alternative -- it's also -- we're creating a situation where the traditional [Qs] is really for traders and the QQQM can be more for buy-and-hold investors.
And I think it's indicative of what's happening in the ETF industry in general is it's a preferred vehicle now for people that have short-term interest and long-term interest. And so I think part of our strategy is just indicative of that. You should expect to see more of that from us, whether it's passive or active.

Brian Bertram Bedell

Great. And then maybe just a follow-on. I think Allison, you mentioned it, of course, you are investing in the business as well, sort of reinvesting some of those cost saves. Maybe if you can just talk about the top 2 or 3 areas from an investment management perspective in terms of product that you are investing into Catalyst growth?
You just talked about the QQQ franchise, maybe you can leave that one out. And I think on private markets, you mentioned that's an investment area, however, that can also be an area where M&A can play a role. So maybe if there -- if you can talk about any other say, a couple of areas that you're most excited about in terms of investment dollars that you're putting in and growth that could result from that?

Allison Dukes

Sure. I'd probably point you back to our key capability areas and those being the areas where we've really focused the most on continuing to grow and invest. So certainly, within our ETFs, SMAs factor and indexer capabilities, we continue to look at how do we build those capabilities out to really capture the client demand that's there.
Private markets both for the retail channel and the institutional channel. The institutional product capability really being our legacy capabilities and our strength where we've got a tremendous amount of history and success and continuing to build those out, invest in those capabilities and position those for client demand, but increasingly so on the retail side. And I think as we've talked about before, it's not just seeding and launching the product that's really building out the distribution capabilities there and working closely with our clients as we expect that shift to be a multiyear shift in transformation in the education that's involved there and investing significantly in the education that's involved on that side.
I'd also point to China and continuing to invest in our capabilities there. That is a -- it is self-funded and largely speaking, as we've discussed before, it is a very attractive business, highly profitable, cash flow positive but we are able to continue to invest in those capabilities. Your question was primarily around our product and client-facing capabilities, but I would also note a lot of what we invest in the benefit of clients, is it just the products, but the systems, the client experience and really streamlining the overall client experience behind the themes there. A lot of our investment goes into our platform, our technology and our capabilities in order to continue to deliver a better client experience.

Andrew Ryan Schlossberg

And to a forward room on our shelf for that, I mean, we've been routinely pruning and closing parts of the product line that we haven't seen demand in and closed several hundred strategies over the last few years. The only other thing I'll point to beyond what Allison covered would be it's probably less investment capabilities that you'll see extensions on and more how it gets delivered to the market.
And so the trend towards vehicles like ETFs and SMAs and bringing things beyond passive capabilities or fixed income capabilities is something we're going to continue to seek to lead in.

Operator

The next question comes from Craig Siegenthaler with Bank of America.

Craig William Siegenthaler

My first question is on the 40% to 60% payout target after you reach your goal of zero net debt later this year. So why not a higher payout target because it sounds like M&A isn't a big part of the intermediate-term strategy.

Allison Dukes

Reasonable question. I would say, as Andrew said, we do continue to think about the opportunities we have from a bolt-on perspective with certain capabilities from an M&A perspective. And given our balance sheet, is returning to a better position, but we want to be in a position to continue to build cash as we think about some of those opportunities and making sure we're in position should we find the right bolt-on capabilities to be able to execute.
So it's a balance of making sure we have the ability to execute on several of those priorities, and it's not going to be all in returning cash to capital to shareholders.

Craig William Siegenthaler

Makes sense, Allison. And just as my follow-up, with the $3 billion in alt seed capital for MassMutual, can you remind us which products the $3 billion has been invested in and then to date, how successful has that been? Like one way to quantify that is how much third-party AUM have you been able to attract around that $3 billion of initial seed capital from MassMutual?

Andrew Ryan Schlossberg

Let me start and then Allison can pick up. Probably the two most important strategies were the non-traded REIT or in REIT strategy where MassMutual was in exist -- or a early [seeding] partner. I don't have the exact percent that they have, but I would say it's still -- it's still relatively large, although we've been generating a decent amount of volume over time from one of the big wealth platforms in the U.S.
And then the second one was our real estate debt strategy that we just brought to the wealth management market. That was the other sort of strategically important strategy. But I'll turn it to Allison maybe for more specifics on the numbers you asked about.

Allison Dukes

Yes. I would say it's largely their general account and where they would want to make sure they've got exposure as well across various capabilities. So I mean, they are invested in everything from INREIT, which we've been public on that strategy to things like municipals and CLOs and some of our private credit capabilities it's really kind of the breadth of those types of capabilities where you would see them really [boast] invested.

Andrew Ryan Schlossberg

And aside from the capital, which is clearly important, I think the signaling and showing up at these wealth management platforms in particular, not with new investment capabilities, but there are new packages that we're putting things together in. And I think that's really critical in terms of credibility that we show up at these platforms with.

Operator

The next question comes from Alex Blostein with Goldman Sachs.

Unidentified Analyst

This is Luke on for Alex. I appreciate some of the color on expenses and revenues in 2024, and I appreciate that it's not easy to forecast going out so far. But do you have any high-level goal post 4 margins over the longer period into 2025, especially as some of the State Street Alpha costs coming down?

Allison Dukes

I would say, high-level goalposts and this is going to -- longer term, and it's going to take us some time to get there. But getting back into the mid-30s is absolutely our high-level kind of goalpost. I hope everybody here is loud and clear. We are in no way satisfied with where our margins are today and getting them back on a quarterly basis, north of [30%] and starting to climb back into the low 30s and mid-30s from there, absolutely the goal over the next handful of years.
Our focus coming into 2024 is absolutely around expense discipline. We've done a lot of work on our expense base. We've got a lot of headwinds and things we have to make our way through at the implementation being the most notable and sizable of that -- but despite that, our expectation is to really try to hold our expense base relatively flat. And as you know, and thank you for giving us a little bit of grace on that one, that it is hard to predict it quarter-to-quarter, especially with the impact of revenue in market.
So it's really about being very disciplined on everything we can control and where we can continue to take expenses out in places where it's not necessary and evaluate opportunities to eliminate those expenses or reinvest them in areas that will help facilitate and fuel further growth.

Unidentified Analyst

Awesome. Just for my follow-up. You guys highlighted the plans to continue to shift from institutional to wealth and some of the strategies that you're looking to build on. Do you have any upcoming product launches in the wealth space that you guys are either working on or are free to talk about at this point?

Andrew Ryan Schlossberg

Yes. Look, I think the -- I'll just speak generally about them, because getting specific is difficult. The real estate debt strategy, we were seeing a lot of demand and interest for that, and you should expect to see more of that in the market, and we should be talking more about that going forward. And then private credit strategies, whether they're distressed or direct lending, how we can position and factor those into the wealth channels.
And just to be clear, this isn't just in the U.S. It's in Europe and Asia Pacific as well.

Gregory Wade Ketron

Operator, we have time for one more question.

Operator

Okay. And our last question comes from Michael Cyprys with Morgan Stanley.

Michael J. Cyprys

Just a follow-up question on expenses. I was hoping you could maybe elaborate on some of the steps you guys are taking to drive greater operational efficiency in the business, additional steps you might look to take over the next couple of years? And how is the variable nature of the expense base evolve?
And how should we think about the sort of sensitivity of expenses if markets are up, say, in '24? I know you guided to around flattish expenses adjusted for things, but that was assuming flat markets if markets are up 10%. How do we think about the impact on expenses?

Allison Dukes

Thanks, Mike. I would say, what the relationship of our expense base being about 1/3 variable is still a reasonable relationship and expectation to think about as you think about the potential growth in revenue. So I would start with that, certainly, as we've seen some of the real revenue pressure. It has made it difficult because there is some element of our expense base that's fixed.
But I think as we anticipate starting to climb out from a revenue perspective, I think the 1/3 relationship is still a reasonable expectation. In terms of what we will do and how we will continue to think about streamlining, I mean, look, it's a continuation of so much of what we've done and a lot of what I just said, which is -- we are going to continue to evaluate our expense base everywhere. We're looking at our margins at a granular level on where we can really unlock some costs and evaluate some of what's been done in the past and perhaps where it doesn't need to be done that way in the future.
We have been on a multiyear effort as it relates to facilities and rationalization of office space. And I would say -- I'd call out some usual [success] that you would expect us to be focused on elements like that, that's going to continue. That takes many years to really make it dent in, and we will continue to do things like that. But it's broader than that and really thinking about how we streamline our business, how do we really think about operating more holistically and a lot of the work that started almost a year ago now. I mean maybe with that, Andrew, if you want to kind of close on some of our thoughts there.

Andrew Ryan Schlossberg

Yes. And Mike, thanks for the question. Look, the simplification efforts in 2023, we believe were some of the most impactful things that we did that will bear fruit as we go forward here. I think bringing together elements of the investment platform and investment areas, the distribution areas, marketing and product and then allowing our enterprise and operational areas to match off against a much more simplified platform was the goal. I think the areas and investments where we started to bring some things together -- it also gives us an opportunity to think about the margins in those businesses and the way that we make money and how to run those strategies and disciplines, not from the investment side, but from the platform side at scale where scale is needed at quality enhancement or quality enhancement's needed, et cetera.
So the simplified organization helps us in those ways. So maybe just to wrap up here in closing. As we enter 2024, hopefully, as you can tell, we feel well positioned to help clients navigate the impact of the evolving market dynamics and subsequent changes to their portfolio that we expect. I had the pleasure of meeting with many of our clients around the globe this past year and hearing directly from them has assured me that we really are well positioned across a range of outcomes. And when and as the market sentiment improves, we believe this should translate to even greater scale, performance and improve profitability.
And finally, I'd like to thank my colleagues around the world, the executive leadership team, our Board of Directors for their efforts in 2023, they're focused on our clients and our shareholders and their support for a smooth transition during the year. And given the work that we've done to strengthen our ability to anticipate, understand and meet evolving client needs, we're I'm truly excited for the future of Invesco.
So I want to thank everyone for joining the call today. Please continue to reach out to our Investor Relations team for any additional questions, and we appreciate all of your interest in Invesco and look forward to speaking again soon. Thank you.

Operator

Thank you, and that concludes today's conference. You may all disconnect at this time.