Allison Dukes
Senior Managing Director and Chief Financial Officer at Invesco
Thank you, Andrew, and good morning, everyone. I'll begin on Slide 6 with investment performance. Overall, our investment performance was solid in the third quarter with 67% and 65% of actively managed funds in the top half of peers or beating benchmark on both a three-year and a five-year basis, respectively. This is in line with the timeframes in the second quarter. We did see investment performance improve considerably on a one-year basis, going from 67% in the second quarter to 70% in the third quarter, reflective of the improved investment performance we are seeing across several categories, including global and international equities and alternatives. As Andrew noted, we've excellent performance in fixed income across nearly all capabilities and time horizons, an important fact given our strong conviction and our ability to attract flows as investors deploy money into these strategies.
Turning to Slide 7, AUM was $1.49 trillion at the end of the third quarter, $51 billion lower than last quarter. The quarter began with what appeared to be a continuation of a recovery in markets, albeit uneven, that we saw in the second quarter. However, that quickly shifted to a risk-off posture again as the quarter progressed and uncertainty grew, marking another volatile quarter for markets worldwide. Market declines, coupled with foreign exchange movements, drove the decline in AUM. Despite the market volatility, we did generate $2.6 billion in net long-term flows, and we expect we will outperform peers in what has been a very difficult environment for organic asset growth.
Client demand for passive capabilities remained strong as we garnered $13.5 billion of net long-term inflows during the quarter. ETF inflows were $11.8 billion, marking one of our best quarters for ETFs. Our S&P 500 Equal Weight Index Fund led the quarter with $3.6 billion of net long-term inflows. This ETF is also our leading flow driver year to date, with our newer QQQM drawing the second highest flows in our ETF suite year to date.
The QQQM was launched three years ago and has attracted $14 billion of AUM since inception, now making it our fourth largest ETF. We've demonstrated the ability to sustain growth in ETFs throughout the full market cycle with organic growth in 12 of the past 13 quarters. We also saw solid growth in our index strategies with $2.3 billion in net long-term flows for the quarter.
Offsetting some of the growth in passive was $10.9 billion of net outflows in active strategies. Contributing to the outflows was a single sizable redemption in our global targeted return strategy. This strategy has been in significant outflows for several years and now has less than $1 billion remaining in the fund. In September, we announced plans to close the fund and focus on other capabilities within our multi-asset franchise, where we are seeing stronger client demand. Our global active equities, which includes the Developing Market Fund, were also drivers of net outflows in this quarter. The level of outflows from this investment class has moderated after significantly elevated redemptions in the second half of 2022.
Looking at flows by channel, the retail channel generated $4.3 billion of net long-term inflows, while the institutional channel had $1.7 billion of net long-term outflows. This was driven by the global targeted returns redemption. Outside of this redemption, we would have had $800 million in institutional inflows for the quarter.
Moving to Slide 8, inflows by geography. Asia Pacific delivered net long-term inflows of $2.8 billion due to growth in Japan, which offset outflows in Greater China during the quarter. In Japan, we experienced another quarter of strong growth, with our Henley Global Equity and Income Fund, garnering $1.8 billion in net inflows from Japanese clients, making it the top selling retail fund for the industry in Japan on both a quarterly and a year-to-date basis. We are well positioned as Japanese markets are experiencing some of the most constructive conditions for risk on assets in many years, including favorable new regulations.
After resuming organic growth in the second quarter, our business in Greater China experienced net long-term outflows of $1.9 billion for the quarter. The outflows in our China JV were $1.7 billion. Outflows were concentrated in active fixed income, where continued weak market sentiment and interest rate tightening has led to diminished growth across the industry this year. However, as China's economy recovers, Invesco is extremely well positioned to capture additional share in the world's fastest growing market.
Turning to flows by asset class. Equities generated $7.4 billion in net long-term inflows, mainly driven by the strong growth in ETFs. The $2.4 billion in outflows and alternatives was largely driven by the previously mentioned single client global targeted returns redemption. Excluding this redemption, alternatives were in slight inflows of $100 million. We have a good track record in our private markets platform within alternatives and are well positioned to capture long-term flows in this asset class as client demand shifts to these strategies. We have over $6 billion of dry powder to capitalize on opportunities emerging from the market dislocation of the last several quarters, but greater market clarity will be required for this opportunity to meaningfully materialize.
Fixed income net long-term flows turned modestly negative with $1.3 billion of net outflows, with growth in investment-grade SMAs and global debt offset by the outflows experienced in China. As Andrew outlined, we like our position in this space and believe we are well positioned to capture flows as investors put more money to work in fixed income products. We have the track record to support our conviction with 18 straight quarters of net inflows prior to this quarter.
Moving to Slide 9, we've provided additional insight into our portfolio and the trends driving our revenue profile. Secular shifts in client demand across the asset management industry, coupled with more recent market dynamics, have significantly altered our asset mix since the acquisition of Oppenheimer Funds. As you'll note, ETF and Index AUM, and this excludes the QQQ, have grown from $171 billion or 14% of our overall $1.2 trillion in AUM in 2019 to $318 billion, or 21% of our nearly $1.5 trillion of AUM in the third quarter. We've also seen very strong growth in Asia Pacific, driven primarily by our success in China.
During this same time frame, we've seen weaker demand for fundamental equities, driven in part by the risk-off sentiment that was sparked in early 2022, coupled with the pressure 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 AUM. At the end of the third quarter, that portfolio was $242 billion or 16% of our AUM.
The resultant revenue headwinds created by these dynamics has weighed on our results over the last two years. While we have experienced excellent organic growth and lower fee capabilities like ETFs and global liquidity, it was not enough to offset the revenue loss from higher fee fundamental, equity outflows and market depreciation. Our overall net revenue yield has declined significantly during this time frame, but that decrease has been driven by the shift in our asset mix, not degradation in the yields of our investment strategies. Net revenue yields by investment strategy have been relatively stable within the ranges provided on the slide.
The other point I want to emphasize is that this multi-year secular shift in client preferences has been increasingly captured in our results. Our portfolio is better diversified today than four years ago, and our concentration risk and higher fee fundamental equities have been reduced. These dynamics, though challenging to manage through as they occur, should pretend well for future revenue trends and marginal profitability improvement, independent of market improvement. 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 10. Net revenues of $1.1 billion in the third quarter was $12 million lower than the third quarter of 2022 and $7 million or 1% higher than the second quarter. The decline from the third quarter of last year was due largely to the shift in our asset mix that was just discussed. Total adjusted operating expenses in the third quarter were $789 million, $48 million higher than the third quarter of 2022 and unchanged from the prior quarter. Included in our third quarter operating expenses were $39 million of compensation expenses related to the organizational changes we are making to position the firm for greater scale and profitability as we grow our revenue base. In the second quarter, we had $27 million of compensation expenses related mainly to executive retirement.
The full benefits from our simplification efforts will be seen over time as we generate revenue growth and margin recovery. To this point, we have identified $50 million of annual run rate expense savings that will be realized by the beginning of 2024. The restructuring costs associated with these efforts were $39 million in the third quarter as we accelerated several of the reorganization activities that we were undertaking into the quarter. Next quarter, the fourth quarter, we expect an incremental $15 million to $20 million of expense associated with these efforts, bringing the total expense associated with the efforts to $55 million to $60 million.
As we've discussed, we manage 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 that range in periods of revenue decline. At current AUM levels, we would expect the ratio to be slightly above the high end of the range for 2023 when excluding the costs pertaining to executive retirements and other organizational changes.
Marketing expenses of $27 million were $6 million lower than the prior quarter and $3 million lower than the third quarter of last year, as we continue to tightly manage discretionary spend given the ongoing challenging revenue environment. Property, office and technology expenses were relatively unchanged as compared to last quarter and the third quarter of last year.
Another area in which we are diligently managing expenses is G&A. G&A expenses of $108 million in the third quarter were down $6 million from the prior quarter. Compared to the third quarter last year, G&A expenses increased $2 million. However, the third quarter of this year includes $8 million in spending on our Alpha platform, which prior to the second quarter of this year was included in transaction, integration and restructuring expenses. We expect quarterly average spending on our Alpha platform to remain near this level for the next few quarters.
Moving to Slide 11, adjusted operating income was $309 million in the third quarter, which included the costs related to organizational changes. Adjusted operating margin was 28.2% for the third quarter. But excluding the costs related to the organizational changes, third quarter operating margin would have been 350 basis points higher. Earnings per share was $0.35 in the third quarter. Excluding the expenses related to the org changes, third quarter earnings per share would have been $0.07 higher. The effective tax rate was 23.6% in the third quarter. We estimate our non-GAAP effective tax rate to be between 23% and 25% for the fourth quarter of 2023. The actual effective rate can vary due to the impact of non-recurring items on pre-tax income and discrete tax items.
I'll finish up on Slide 12. Stated priority, where I'm pleased to say that we've made significant progress is building balance sheet strength. This quarter, our cash balance exceeded $1.2 billion. We've lowered our net debt significantly, and it now stands at less than $250 million. I'm pleased with the improvement we've made on the balance sheet as we continue to work to bring net debt, excluding the preferred shares, down to zero by the second half of next year. Our leverage ratio as defined under our credit facility agreement was 0.7 times at the end of the third quarter. We have an opportunity to further address outstanding debt with the maturity of the $600 million in senior notes at the end of this January. We ended the third quarter with zero drawn on the credit facility.
To conclude, the resiliency of our firm's net flow performance in a difficult environment for organic growth is evident again this quarter, and I'm 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 are committed to driving profitable growth and a high level of financial performance. We have the right strategic positioning to do so.
And with that, I'll ask the operator to go ahead and open it up to Q&A.
