OPERATING EXPENSES

Compensation and Benefits

In managing compensation and benefits expense, we focus on annual awarded compensation (cash compensation and benefits plus deferred incentive compensation with respect to the applicable year, net of estimated future forfeitures). We believe annual awarded compensation reflects the actual annual compensation cost more accurately than the GAAP measure of compensation cost, which measures applicable-year cash compensation and the amortization of deferred incentive compensation principally attributable to previous years’ deferrals. We believe that by managing our business using awarded compensation with a consistent deferral policy, we can better manage our compensation costs, increase our flexibility in the future and build shareholder value over time.

For the third quarter of 2012, adjusted compensation and benefits expense 1, including related accruals, was $278 million. The corresponding adjusted GAAP compensation ratio was 62.7% for the quarter, compared to 62.0% for the full-year 2011, and 59.3% during the third quarter in 2011.

For the first nine months of 2012, adjusted compensation and benefits expense 1, including related accruals, was $876 million. This excludes the 2012 first-quarter charge related to staff reductions. The corresponding adjusted GAAP compensation ratio was 62.7%, compared to 62.0% for the full-year 2011, and 58.7% for the first nine months of 2011.

Adjusted GAAP compensation ratios include, among other items, amortization expense related to 2008 deferred compensation, which had a comparatively longer, four-year vesting period. For the first nine months of 2012, we expensed approximately $32 million related to the 2008 grants, or 2.3% of first-nine-month 2012 operating revenue.

As of September 30, the amortization expense for the full year of 2012 is expected to be approximately $339 million versus $289 million for the full year of 2011.

The third-quarter 2012 adjusted GAAP compensation ratio assumes, based on current market conditions, that the full-year awarded compensation ratio will be approximately 60%, compared to 62% for the full year of 2011.

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