Q2 2020 Regions Financial Corp Earnings Call
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Good morning, and welcome to the regions Financial Corporation quarterly earnings call. My name is Shelby and I'll be your operator for today's call I would like to remind everyone that all participant phone lines have been placed on listen only at the end up the call. There will be a question and answer session. If you wish to ask a question. Please press star one on your tell us.
One keypad I'll now turn the call ever to Dana Nolan took again.
Thank you Kelly welcome to read on second quarter 2020, <unk> earnings Conference call. John Turner will provide some high level commentary and David Turner will take you through an overview of the core earnings related documents, including forward looking statements are available under the Investor Relations section on our website. These disclosures cover our.
Ladies and take some material prepared comments as well as the Q a nice segment today's call and with that I'll turn the call over to John.
Thank you Dan. Thank you all for joining our call today.
Over the last four much we've experienced tremendous disruption and uncertainty caused by boat cope with 19 and overdone examples of social and quality.
The impact on our customers communities and associates has been profile.
And the resulting operating environment has been challenging.
Our country works through the current health crisis, and take steps to address the systemic racial and just as soon as the impacts so many people in our society.
We remain focused on things that we can control.
We're committed to supporting our associates, our communities and our customers through these difficult comps by providing much needed capital advice and guidance and financial support.
Isn't comment on us to use our resources and expertise in ways that create positive change.
Providing value to all stakeholders cringe the foundation to deliver sustainable long term performance.
The disruptive certain operating environment as presented both opportunities and challenges.
The second quarter, we delivered $646 million, an adjusted pretax pre provision income.
This was regions high ASP.
Over 10 years, and a reflection of our decade long effort to optimize our balance sheet and improve risk adjusted returns, while making strategic investments all to deliver sustainable performance and reduced variability in our revenue streams.
However, while the core business performance was solid it was more than offset by an elevated provisioned caused by further deterioration in the economic outlook and the resulting impact on risk ratings and credit quality.
Just a few weeks ago, while acknowledging that conditions were fragile I said, we were cautiously optimistic about the prospect for economic recovery in our footprint.
Southeast it fared better than other parts of the economy as evidenced by the fact that the unemployment rate and the majority of southeastern states had been better than the national average.
And the number of small businesses it closed within the region because the crisis was also below the national average.
Most of the states, where we operate had reopened consumer deferral requests have begun to taper off and consumer spend continues to increase toward more normal levels.
So clearly there were some positive signs that we felt pretty good about.
However by the end of the quarter certain areas in our footprint began experiencing an acceleration in covert 19 cases in some states paused or reverse reopening plans.
The potential for a second wave of cope with 19 infections, coupled with uncertainty surrounding the extension or renewal of various aid programs, including the cares Act.
Has impacted our view on the potential pace when the recovery.
While we have experienced positive momentum over the latter part of the quarter.
Much uncertainty remains in our provisioning reflects that.
As a result this environment, we recorded a second quarter credit loss provision of $882 million.
The provision reflects adverse conditions and significant uncertainty within the economic outlook.
Bond with downgrades in certain portfolios, particularly energy restaurant retail and hotel as well as the impact of $182 million in net charge offs.
This quarter's provision also includes $64 million related to the initial allowance for non credit deteriorated loans acquired in the purchase of Ascendiant capital, which closed on April 1st.
We're committed to assisting our customers through this difficult time.
However, we have not modified our rigorous credit review process and have continued to make risk rating adjustments as necessary.
Addition, all business loans granted a deferral had been reviewed and risk ratings have been adjusted in accordance with our existing policies.
Based upon the work we've done in our assumptions around the economic outlook.
We do not anticipate substantial reserve builds during the remainder of 2020.
We know the economy will continue to experience dresses, we combat all the Kelk crisis.
However, we spent a decade strengthening our capital position and credit risk management framework, which have positioned us well to weather the economic downturn.
In the most recent round of supervisory stress test conducted by the federal reserve regions exceeded all of minimum capital levels.
While we were pleased with our capital resiliency under stress, we believe our industry, leading hedging program, which became effective in 20, Tony will provide additional support to pre provision net revenue.
With respect to our common stock dividend federal reserves introduced to income test, where the common dividend cannot exceed the average of the trailing four quarters net income.
Management will recommended the board later next week that we maintain the dividend for the third quarter of 2020.
We are committed to effectively managing our capital to strengthen organic growth generate sustainable long term value for our shareholders and continued lending activities to support customers and communities during the economic downturn.
That being said, we must continue to focus on what we can control and remain committed to prudently managing expenses in the face of the challenging revenue environment.
Thank you for your time attentions morning, with that I'll now turn it over to David.
Thank you John let's start with our quarterly highlights second quarter results reflected a net loss available to common shareholders of $237 million or 25 cents per share items impacting our results. This quarter included a significant credit loss provision pandemic related expenses.
Branch consolidation charges expenses associated with the purchase of our equipment finance business SNCF capital and a loss on early extinguishment of debt, partially offsetting the negative adjustments was a favorable CBVA associated with customer derivatives as credit spreads improved significantly during the quarter.
As well as net interest income derived from newly originated Paycheck protection program loans in total the adjusted and additional selected items highlighted on the slide reduced our pretax results by approximately $692 million.
Let's take a look at our results starting with the balance sheet.
Adjusted average loans increased 11% loan growth was driven primarily by elevated commercial draw activity. In addition to $2 billion in loans related to our equipment finance acquisition and $3 billion average impact from newly originated paycheck protection program loans during the quarter looking.
Ahead, our focus remains on client selectivity and full relationships with appropriate risk adjusted returns.
Commercial loan utilization levels normalized during the quarter as liquidity concerns at least in corporate borrowers have accessed the capital markets. In addition, corporate borrowers were generally feeling better about the economic outlook as the economy started to reopen although the recent rising cobot 19 cases.
May temper that perspective.
With respect to PPP loans, it remains difficult to predict timing of loan forgiveness.
Currently we anticipate forgiveness request to begin in the third quarter and continue into the fourth.
We will have a better idea around timing once the forgiveness process begins.
Adjusted average consumer loans decreased 1%, reflecting declines across all categories, except mortgage which was up 3% reflective of historically low market interest rates.
Turning to deposits deposit balances increase to record levels. This quarter average deposits increased 16%, while ending deposits increased 17% as many of our commercial customers have brought their excess deposits back to regions. While also keeping their excess cash from line draws.
PBP loans and other government stimulus and their deposit accounts.
On an ending basis corporate segment deposits increased 30%, while wealth and consumer segment deposits increased 6% and 12% respectively.
These increases were partially offset by decrease in wholesale broker deposits within the other segment.
Although commercial line utilization rates have normalized corporate customers are using cash held outside of the bank to pay down line draws which continues to support elevated deposit levels.
We anticipate funds received through government stimulus and PPP will be spent by the end of the year and the remaining deposits will stay with us until interest rates begin to move higher.
Similarly, consumer deposits have continued increased primarily due to government stimulus programs, coupled with lower overall spend.
The delay in the tax filing deadline until July is also a contributor.
We anticipate consumer balances to to decline in the second half of the year as consumers make tax payments increased spending commensurate with improvement in the economy and the current round of federal unemployment benefits expire at the end of July.
Let's shift to net interest income and margin, which remained a strong story for regions.
Net interest income increased 5% linked quarter and as expected net interest margin decreased 25 basis points to 3.19%.
Net interest income remains a source of stability for regions. Despite an extremely volatile market interest rate backdrop.
Linked quarter, our equipment finance acquisition elevated loan and deposit balances and our significant hedging program supported net interest income.
The decline in net interest margin was mostly attributable to elevated liquidity.
Specifically elevated cash levels at the federal reserve and higher low spread loan balances associated with PPP accounted for approximately 19 basis points of margin compression.
Efforts to reduce these elevated cash levels are ongoing during the quarter $7.4 billion of early extinguishment of FHLB advances under $650 million bank debt tender directly reduced outstanding cash balances.
Implications of liquidity on net interest margin are expected to abate over the remainder of the year. However, the impact remains uncertain given the amount of liquidity in the system.
Now that most of our forward starting hedges have begun and given our ability to move deposit costs lower our balance sheet was largely insulated from the decline in short term rates this quarter.
Load hedges added approximately $60 million to net interest income and 19 basis points to the margin.
The benefits from hedging will continue to increase as the majority of their remaining forward starting hedges begin in the third quarter.
Current estimates for the third and fourth quarters have hedging benefits approximating $95 million per quarter.
Recall, our hedges have roughly five year tenders and at quarter end pretax market valuation of $1.9 billion and important relative differentiator.
Total deposit costs for 14 basis points for the quarter, representing a linked quarter decline of 21 basis points.
Greetings continues to deliver industry, leading performance in this space exhibiting the strength of our deposit franchise.
Over the coming quarters, we expect deposit costs to further declined to historical lows.
Lower long term interest rates negatively impacted net interest income and net interest margin during the quarter.
Premium amortization increased $7 million to $33 million attributable in part to an unusually low first quarter.
Furthermore, the repricing of fixed rate loans and securities at lower market rates reduced net interest income and net interest margin by $8 million and three basis points respectively.
Looking ahead to the third quarter, let me start by saying uncertainty surrounding the timing of forgiveness for PPP loans may create volatility and net interest income across quarters, given the impacts from fee acceleration.
We currently anticipate Eni to decline between one and a half and two and half percent linked quarter, mostly from the normalization of line activity that was elevated in the second quarter.
Excluding PPP and excess cash liquidity, our core net interest margin is expected to stabilize in the mid to high three thirtys.
Now, let's take a look at fee revenue and expense.
Despite the challenging operating environment, adjusted noninterest income increased 18% quarter over quarter.
Capital markets experienced a record quarter producing $95 million of income.
Excluding favorable CBVA capital markets income totaled $61 million.
Growth in capital markets was driven by record net net equity underwriting as well as record fees generated from the placement of permanent financing for real estate customers.
Under the current environment. It is reasonable to expect capital markets to generate quarterly revenue, excluding CBVA in the $40 million to $50 million range.
Mortgage income increased 21% driven primarily by record production volumes associated with the favorable rate environment.
Lower interest rates have contributed to a significant increase in year over year production. In fact, our full year 2020 production is expected to exceed full year 2019 levels by 50%.
Mortgage remains a core business for regions and our strategic decision to add a significant number of mortgage bankers last year is paying off.
Close mortgage loans in the month of May represent the highest single month in our company's history, and we continued to experience elevated application volumes throughout the quarter.
In addition, mortgage servicing continues to be a strategic initiative during the quarter, we initiated the new flow arrangement, allowing us to grow the servicing portfolio after experiencing several quarters of net decline.
We expect mortgage to remain a strengthen the consumer bank for the remainder of the year.
Wealth management revenue declined 6% driven primarily by lower investment services fee income, which has been negatively impact by reduced branch activity.
Service charges revenue and card and ATM fees decreased 26, and 4%, respectively, driven by lower customer spend activity.
Consumer debit card spend has improved across a second quarter. In fact, the month of June transactions were up slightly year over year, while spend was up over 15% year over year.
Consumer credit card spend has improved as well although June transaction levels were approximately 6% below the prior year, while spend was down 4%.
The current environment has led to reduced overdrafts and credit card balances are lower quarter over quarter.
Looking forward if current spend levels persist, we estimate consumer service charges and card ATM fees will be reduced by approximately $10 million to $15 million per month from pre March levels.
So despite elevated unemployment consumers appear to be holding up well they entered the pandemic in a position of strength and while spend levels are improving customers continued to de lever while carefully managing their finances.
Wrapping up noninterest income market values associated with certain employee benefit assets improved during the quarter, resulting in a significant quarter over quarter benefit.
While this increased non interest income it was fully offset by a corresponding increase in salaries and employee benefits expense.
Let's move on to noninterest expense.
Adjusted non interest expenses increased 9% compared to the prior quarter.
Salaries and benefits increased 13% driven primarily by the liability impact associated with positive market value adjustments on employee benefit accounts.
Elevated production based incentives temporary proven take increases. The addition of approximately 460 associates from our equipment finance acquisition as well as our annual Merit increases also contributed to the increase.
Professional fees increased 56% driven primarily by legal fees associated with the completion of our acquisition.
FDIC assessment increased 36% attributable primarily to the effects of unfavorable economic conditions I hire assessment base and a reduction in an unsecured bank debt.
In addition expenses associated with visa class B shares sold in a prior year increased to $9 million.
The company's second quarter adjusted efficiency ratio was 57.7%.
And the effective tax rate was 18.3%.
We continue to benefit from continuous improvement processes as we have just completed over 50% of the current list of identified initiatives. For example, excluding our equipment finance acquisition, we have reduced total corporate space by almost 700000 square feet or 5%.
Since the second quarter of last year.
Through the pandemic, we have learned how to interact and communicate with customers and each other in new ways.
We have seen a dramatic increase in digital adoption and continue to have success through increased calling efforts using video conferencing.
Our video conferencing accounts have increased by 128% since mid March and year to date, we have already surpassed the number of video conferencing sessions conducted in all of 2019.
This is clear evidence our associates and customers are embracing alternatives to in person meetings.
In addition year over year mobile deposits are up 36%.
Deposit accounts opened digitally are up 29% and digital log ins are up 24%.
Further almost half of our new digital users in 2020 have come from customers 40 years and older. In fact digital played a significant role and our ability to assist our customers in obtaining PPP loans during the pandemic approximately 80% of applications were some.
Amended online and 97% were closed using E signature.
We've been actively reducing the size of our retail network for several years now in fact, we consolidated 36 branches this quarter.
Because of increased digital adoption and changing customer preferences, we expect branch consolidations to continue.
Customers have an increasing desire for an omnichannel delivery model for the banking needs. So while we consolidate branches. We will continue to add new modern locations that are best suited to provide the advice and guidance our customers expect.
Similarly, we are evaluating our digital and technology spend priorities the best leverage the digital momentum we are experiencing.
This shift will allow us to focus on enhancing digital banking capabilities.
Further advancing our digital sales capabilities and leveraging a signature to make banking easier for our customers.
We also believe there are additional opportunities where corporate space is concerned.
Whether through increased use of Hoteling work from home or modified scheduling. We're confident overall office square footage will continue to decline.
Our expense number this quarter has a better noise in it.
And I want to spend a few minutes walking through.
If you start with our adjusted total expenses of $898 million and Backout unusual items, we don't adjust for such as the.
As always be reflective of the revenue environment to an extent the revenue environment. In this challenge, we will look for additional efficiency opportunities.
So let's move on asset quality.
The credit loss provision for the quarter totaled $882 million that provision reflects adverse conditions and significant uncertainty within the economic outlook combined with downgrades in certain portfolios as well as the impact of $182 million and net charge offs.
Folio level downgrades were made primarily within energy restaurant hotel and retail while economic outlook uncertainty is centered primarily on the impact of unemployment and the benefits of government stimulus already enacted and the potential for additional stimulus.
This quarter's provision also includes $64 million, establishing the initial allowance for the noncredit deteriorated small business loans acquired as part of our equipment Finance acquisition, which closed on April Onest.
The resulting allowance for credit losses is 2.68% of total loans and 395% of total non accrual loans importantly, excluding the fully guaranteed PPP loans, our allowance for credit losses increases to 2.82% of.
Total loans.
Annualized net charge offs were 80 basis points. This quarter the increase reflects charges taken within the energy and restaurant portfolios. Additionally for the first time. Our results now include charge offs related to our recent equipment finance acquisition.
These charge offs contributed to $24 million decline and total nonperforming loans.
Total delinquencies and troubled debt restructured loans increased 6% and 5% respectively.
Business services criticized loans increased 67%.
Despite our willingness to work with our customers. During this difficult time, we are not relaxing our credit policies and continued to revise risk ratings as necessary.
This approach as well as specific portfolio level downgrades led to a significant increase in criticized loans.
We have executed a bottom up approach to review all of our stress business portfolios and feel this gives us good insight into potential loss and underlying stress over the second half of the year.
With respect to consumers they entered the pandemic in good shape in relation to jobs income loan to values et cetera. They have clearly benefited from the government stimulus and recent momentum in the jobs numbers has been positive.
However, resurgence of coated 19 cases has slowed summary openings and expectation of certain federal benefits ending in July create some downside risk.
Based on the work we have completed in what we know today, we do not anticipate substantial reserve builds during the remainder of 2020.
Additionally, we anticipate net charge off levels for the remainder of the year to be consistent with the second quarter.
In addition, we've continued to refine our view of at risk portfolios, resulting from the pandemic.
Through our engagement with customers and actual market observations gained through the quarter, we have a more informed view of which sectors can withstand operations in this new normal.
As a result, the portion of our portfolio, we consider to be at the highest risk of potential loss due to the pandemic declined from $12.4 billion at end of last quarter to $8.4 billion at June Thirtyth.
This amount includes loans acquired during the quarter from our equipment Finance acquisition.
With respect to loan deferrals, we will have better inside in the next few weeks as the initial deferral periods expire.
But we continue to see positive underlying trends as of July onest, approximately 34% of clients have made mortgage payments, while in forbearance and the last 61 days.
For home equity payments, while end deferral have been 36%.
Credit card is at 56%.
And auto is at 41%.
And approximately 25% of our corporate banking clients and deferral have made a payment in the last 61 days.
While we have model of second business loan deferral requests and approximately 40% early trends indicate request are tracking at less than 10% for both commitments and relationships.
Let's take a look at capital and liquidity.
Our common equity tier one ratio is estimated at 8.9% in.
In late June we received notice that the company exceeded all minimum capital levels under the supervisory stress test.
Our preliminary stress capital buffer for the fourth quarter of 2020 through the third quarter of 2021 is currently estimated at 3%.
This represents the amount of capital degradation under the supervisory severely adverse scenario and is inclusive of four quarters of planned common stock dividends.
These results allow ratings to manage capital and supportive lending activities and focus on appropriate shareholder returns. Our current capital plan reflects a previously announced suspension of share repurchases through the end of 2020.
With respect to the common stock dividend management will recommend to the board that the third quarter dividend remain at its current level.
Looking ahead, we expect to maintain the dividend however, future payout capacity will be dependent on earnings over the second half of the year in any constraints imposed by the federal reserve.
Also as important to note that we have approximately $1 billion of pre tax security gains and OCI that are not included in our regulatory capital numbers. Unlike advanced approach banks.
We exclude OCI from our capital calculations, but nonetheless, it is available to absorb potential losses. As previously noted we have an additional $1.9 billion of pretax gains on our cash flow hedges in OCI, which is also excluded from regulatory capital.
Terminating these hedges would not provide immediate recognition in income or capital as a gain would be deferred and amortized into income therefore supporting capital over the remaining life of the derivatives.
These transactions our hedges designed to protect net income and a low rate environment, we believe there's incremental value and leading the hedges live based on the current Ford five year LIBOR curve. However, we continue to evaluate and discuss Decisioning points. This demonstrates significant additional hello.
Loss absorbing capacity, which is not reflected in our regulatory capital levels.
With respect and liquidity significant deposit growth during the quarter has contributed to historically elevated liquidity sources for the company.
Deposits ended the quarter at record levels and contributed to 10 percentage point decline in our loan to deposit ratio to 78%.
So in summary, our robust capital and liquidity planning processes, which are stressed internally as well as externally by regulators are designed to ensure resilience and sustainability.
This gives us confidence that we can continue to meet the needs of our customers and communities. During this exceptional period of economic uncertainty.
Despite the uncertain environment, we remained focused on helping our customers associates and communities navigate through this difficult time, we have a solid strategic plan and are committed to its continued execution.
Rest assured during this extraordinary time region stands ready to help and support all stakeholders.
With that we are happy to take your questions considering the current environment. We do ask for each of you ask only one question to allow for more questions and participants.
We will now open the line for your questions.
Thank you. The floor is now open for question did you have a question. Please press the star key followed by the number one on newer telephone keypad.
At any point your question and answer you may remove yourself from the key by pressing the pound.
For just a moment isn't follicular day roster.
Your first question is from Betsy Graseck of Morgan Stanley.
Hi, good morning, Thanks very much.
Good morning, Hi, Hi.
Okay, a couple of questions one just on the.
Outlook here for net charge offs, you highlighted flat in two weeks or so and I guess im just trying to understand.
How you're thinking about the trajectory from there is it that at this current run rate you feel like here.
Anticipating that.
Near term impact on the portfolio or is it that.
I don't expect an uptick in net charge offs until things like stimulus roll off.
Okay, all right and I'll go ahead and respond to that that team.
It's a couple of things one as we've done a deep dive and all of our portfolio's virtually 95% to fire business services portfolio. We've had conversations with the first line and credit together, we've talked to customer by customer et cetera, we have ongoing discussions upon the rehab lease them on a monthly as some of them by.
Weekly et cetera, So we really feel good about the information, we have on which to look and say, which customers may create an issue.
Also made a change in our thinking over the since the last great recession, which is we don't want all had problems age. So if we see a problem.
Out there and we think it might head towards a charge off we are actually living it towards charge off hoping we'll get a recovery in due course that recovery is going to be much further added.
So as we think about getting too and that's part of its in the second half thinking as we get to the beginning of next year outlet. We anticipate is that on our business services side to commercial part of the book that those numbers will indeed come down and consumer is a bit of the wildcard because you're right once the deferments roll off.
And the stimulus rolls off how will they behave but so far I'm pretty encouraged by what I see relative to people asking for things like second deferrals et cetera early on but still encouraged someone on that front.
Okay. That's helpful color I notice, yes, the NCR, they're up a little bit Q on Q more than.
What we've seen out of other institutions. So that reflects your more proactive stance I guess with moving people into.
The NPL.
Yes.
Just to correlate that you see a little decline in nonperforming loans quarter over quarter, which I think is again a reflection of the fact that we're moving those charge offs through system.
Yeah, Yeah exactly okay.
Focusing just on the outlook for Eni guide down would have to tune happened three QQ in Q could you just given given some color around the input to that with regard to.
What you're thinking about four average, earning asset growth versus the NIM and then I now with the hedges your core NIM is mid to high three thirtys.
You've got you've got some.
Benefit from PPP at some point through the next couple of quarters has wealthy give us some sense of the trajectory.
Mean pieces into Threeq, you and then as we look for PPP, how we should anticipate that flows through from here I guess theres a lot and there's let me see if second bone down. So we don't know is with the regime is going to be on forgiveness of PPP. So we don't have anything meaningful really coming through other than the carry that waiting or.
Getting which is.
Pretty low Kerry.
The probably the biggest driver is a reduction in loan book that we see there were lot of draws that happened in the late first quarter and in the second quarter, we saw about 80% of those be repaid.
By the end of the second quarter, but there's still some more that are going to be coming through in so I think it's reflective of that.
Continued decline.
In loans. The other is so our deposits were up some 16%.
Big part of that we believe is also driven by the fact that to tax payment date was moved to.
July 15th and so we should expect a runoff of deposits.
In the quarter.
And therefore, using some assets from that standpoint.
So when you kind of had all that we're going to have premium amortization in terms of.
Prepayment so we talked about that being up in the $33 million range. This quarter, that's probably going to be closer to the upper.
Thirtys this next quarter as we see prepayments.
Increase and then you know we've talked about the reinvestment of cash flows from fixed rate loans and securities.
That have to go on the books at prevailing rates that that component of it.
Cost us $8 billion this past quarter, and that's harder to hedge out. So we're we're fully protected on the short term moves.
But we are we still have some exposure to the reinvestment piece. So you add all that up and that's where that decline in in ice coming from.
Okay, I Betsy I should I should also point out that.
And the benefit from our hedges in the first quarter were about $10 million.
What we solve this quarter was about $60 million.
In the benefit we'll see in the third quarter assuming rates are.
In the third quarter and beyond all the way for five years is about $95 million. So that the hedges were very thankful that we have those and that's a big part of the us keeping the stability of our Eni.
And and resulting core mark.
And so then I know you don't have anything in your numbers for are you in your guidance, obviously for PPP, but as those loans are for given you get a temporary uptick in your Eni and so you're going to treat that as kind of a one off is that how we should be thinking well again it depends on what the regime is if we end up having an unusual bump.
In any given quarter will point that out so that investors understand that if it comes in overtime and it's just kind of part of our business, maybe we wouldn't but right now. It's just so we don't know with the regimes going to be and.
When we get further guidance on that will tell tell everybody and and re forecast for you.
David This is running Smith.
Just to reiterate there has been an extension from the initial eight week period, the businesses were able to account.
The funds the qualified for uses under PPP.
So the 24 weeks has pushed that out a bit depending on.
Which process the customers Aleck.
Alright. Thank you. Thank you Betsy.
Your next question is from Ken isn't of Jefferies.
Thanks.
Hey, good morning, everyone.
Obviously with the Big reserve this quarter the Cc, one ratio slipped a little bit below the 9% zone, where you talked about being comfortable and I. Just wanted to ask you to kind of flush that out visa of your other comments about continuing to recommend the dividend.
The Bakken fourth between comfort on where your ratio sit where do you think thats easy when can get back to.
And then put that in context of Doug.
Income considering how you think about that too thanks.
Sure so.
Assuming everybody is looking at the slide 18, where we have a waterfall and you could see the.
Positive contribution generated from our core engine our PPNR.
And then the impact of the dividend. So between those two is 50 basis points to the plus.
We did have provision expenses that drove that down as well as our acquisition of us NTM into first quarter. So.
Well I think we at all and acknowledge were in some form of stress in the country and we've always said, our mathematic amount mathematical calculation would lead us to.
Desiring a common equity tier one of 9% we are holding a little excess capital to take advantage of opportunities, which one occurred essent deal and so you should expect as you look at that waterfall chart.
And again, we don't expect to have a provision.
At the level, we just had so we can accrete that capital back pretty quick quickly.
While we also have pretty robust reserves, if you look at our coverage to stress losses now so.
So we couldn't pick the timing of when the transact that particular transaction hit.
We went to 8.9 were comfortable where we are the dividend is not a capital adequacy issue.
You can glean that from the de fast.
Analysis that came through now we're going through some form of stress test in the fourth quarter, and we're not sure where exactly what that regimes going to look like what we do know is that we have for the third quarter the dividend limitation on the past four quarters you based on our math.
Now as I mentioned, we mentioned in the.
Paired remarks, we'll be recommending to our board to sustain the dividend in the third quarter as we think about the fourth quarter and the first quarter of next year. We don't know with that regime will continue we have to suspect that it might and therefore, we gave you guidance that we believe our dividend is sustainable going out into the fourth quarter.
Okay and into the first quarter based on our expectations of.
Forecasted earnings that being said.
The two caveats are let's see what the economy looks like when we prepare the financial statements for September Thirtyth, and we will make whatever adjustments are necessary and them whatever the federal reserve and Supervisors may do in this fourth quarter analysis, we don't know.
So those are the two caveats, so based on where we could see we feel good about sustaining the dividend.
Thanks, Tim.
Our next question is from Stephen Scouten Piper Sandler.
Morning, Steven.
Hey, good morning.
Was wondering if you guys could give a little more color around the loan deferrals I know you said your expectations for second deferrals or maybe 40% you're tracking under 10 and I'm also kind of wondering how much of those maybe deferred loans that are still performing were were downgraded from a rating perspective, because it feels like you guys are ahead of your peers in terms of.
Changing risk ratings, but I want to see if you can frame that up fourth a little bit.
Sure.
So as we can you talk about deferrals in general you can let me I'll start with consumer work my way to business services really quick Steven and so for consumer what we saw is that deferral rate all in effect for the company's up 6%. When I was looking at effect earlier. This morning is that those numbers are in fact coming down and so far on consumer.
We've had no request for a second deferral, yet mind you. It's early and some of the first deferrals on just rolling off but it's still a good encouraging early sign.
For the business services portfolio, all in its about 6% as well.
And again talking to our customers that's benefit of these one by one conversations.
We've heard very limited need for a second deferral. So again very encouraging news from that tap on that front relative to those that are deferred and the the percent their criticized within those add we've given a chart on page 12, it doesn't give the criticise portion of the deferrals, but you can into it from that.
Yes.
The criticized a large portion of those criticized percentages were due included deferral.
Ronni Smith, who will talk about the wholesale book.
John just promo interest numbers, if I step back into its Steven.
We we have 2000.
Clients in the wholesale both been requested.
Deferral and.
Out of that particular universe, we are seeing and I think David said this in his opening comments, but we're seeing a very low request.
For a second deferral period, and we are using that as a leading indicator.
To go in and provide a scrub on a name by name bases to appropriately as time.
Risk ratings to those clients, who requested a deferral. We're finding as you can tell in the early returns and I want to stress. It's early less than 10% of those are requesting a second deferral period and so that shows the strength of cash flows liquidity that David built up and.
So.
We feel good about where we are at this point.
But theres a lot more deferrals that need to mature as we continue to work with each of these clients.
Okay very very helpful. If I could ask David one clarifier on the expense guidance earlier.
Information you gave you said 860 870 million is kind of a better longer term run rate maybe when do you think you can get to that level and in what level of kind of PPP related expenses are within that number if you have any guidance there.
Yes, So we think we'll get there now it's just.
This past quarter acknowledge there is lot noise in our numbers and that's why we actually gave you a little better guidance to what what to expect going going forward.
We had some expenses that that came through PPP, they weren't particularly material in any of those that were related to loan originations are deferred as part of the fees that we get in would be amortized over the life of loan. So I wouldn't expect anything material from that standpoint hit us in the in the third quarter.
And going forward.
Great. Thanks, we feel appreciate sense.
Thank you.
Our next question is from Matt O'connor of Deutsche Bank.
Hi, Matt.
I know you guys touched on this a little bit, but coming back to credit I'd say that had to think day because.
Your stock is getting hit because folks thank you.
Have worth credit because you reserve for more.
The company came out today, and we've taken from Haiti for baby under reserving.
So from an alkali point of view its little hard to tell like who's being aggressive who maybe behind and I guess from your point of view like why do you think youre able crew.
To be more aggressive than maybe some other.
The loan mix is it that data that you have as you mentioned has changed quite a bit.
In your markets. The last six week is the pain that you were through the last downturn.
If we could add on that.
Thank you yes.
It is.
Last quarter, we were criticized for potentially under reserving and this quarter Theres some questions about credit and I think.
I can't speak to what other banks are doing what I do know is what we're doing over the last 10 years, we worked really hard to improve our credit risk management processes and his Ronnie and Barb described on the wholesale side of our business. We've been through the large majority if not all of our portfolios harvest portfolio.
Those large exposures and we have risk granted those credits approach, we think appropriately and as a result, our allowance for credit losses reflects those risk ratings, we've considered companies industries their ability to repay and we're actively monitoring.
Our portfolios and so have presented what we believed to be an appropriate allowance given the risk. That's currently in our portfolio based upon the economic assumptions were applying and expected life of loan losses.
And it's our anticipation that the portfolio will as David has described perform consistent with.
Future at least next two quarters will charge offs will approximate or recurrent levels and we don't anticipate any significant additional provisioning.
Yes, there are no changes and the economic environment and if our credit quality doesn't further deteriorate because of changes in the economic environment.
Matt we were trying to help everybody on our page 19, showing the allowance waterfall and you can see that economic outlook component of $242 million that was added to the reserve and that's a reflection of the primary driver.
For this is unemployment so when we were at the first quarter you know our expectation of unemployment was closer to 9% today is 13% that's a big Delta and the question is how quick as the recovery going to be what's the impact of stimulus. So theres a lot of work that goes into ultimately determining what the allowance needs to be.
We are risk rating Barbie may want to chime in on this risk rating now relative to what we see in the book from the ground up process that was earlier described and Thats. The 382 that you see in the middle of that page and remember on top of that is the charge off number about 182 billion. So.
He added that is about 564 of our 882 provision so far we will talk about the risk rating.
Covered that.
Point I'd make is though that there there is it's hard to distinguish between deterioration in the credit portfolio and changes in the economic environment, because one effective against the other.
Thank you.
Visually represents what is just overall our assumptions based upon the current stress environment that we're in.
All right that was helpful. Thanks for calling for that again.
Your next question is from Peter Winter of Wedbush Security.
Good morning later this morning, and good morning, I was just wondering when I look at that Glasspiegel it seemed like.
One of the strongest they sort of been on PPNR.
And is there anything that is.
Is missing or anything you could do to address that with the fed, especially when it comes.
Capital Butler.
So Peter we.
As we.
Laid out in our prepared comments, we we have a unique benefit of our forward starting hedges that we had put in place a couple of years ago, but they didn't become effective until the first quarter of this year for a piece of them. This second quarter had another piece and then the third quarter, there's one more step up and you see that.
The chart that we put into slide deck.
Because that benefit was it in our run rate and we don't believe we got full benefit of that in our PPNR estimation in that lasted fast as a matter of fact, our PPNR, which we believe should outperform our peer group in that test. So it was in the middle of the peer feels a median car the peer group.
So we're in.
Having discussions on how to.
Now how that can be.
Reviewed by them differently, obviously, we're going to go through some form of a stress test this fourth quarter.
They will have the knowledge, Alan Tse of our derivatives and how they come into to protect our PPNR in stressful time, especially in the low rate environment. So, let's see what happens as a.
As they continue to evaluate both.
Both SCB. So it's a preliminary FCB the final will be out to August 31st and then on top of that we'll have the fourth quarter stress test or some type.
Great. Thanks.
Thank you question is from Jennifer Demba of Suntrust.
Weve Jennifer.
Good morning.
Question on.
Service charges, they were 131 million.
Second quarter, Yeah, with FDA, what kind of run rate are we looking at for that line item.
Recorders and how much fee waivers are coming back in.
Yes, Jennifer so.
We tried to give a little bit of guidance. So let me ROIC for from the first quarter or fuel recall spin was down.
Quite a bit on the consumer side and that we were concerned if that stayed at that level is that cost us about $25 million a month between service charges in card and ATM fees.
In our prepared comments because of the spin coming back in particular on debit card usage.
That numbers down to $10 million to $15 million per month at this current level now in the month of June we started to see that pick up a bit.
But still not to the level that we had seen precrisis a big driver that is the amount of stimulus is still sitting in the deposit accounts of our customers. Therefore, you don't have NSF fees for instance, coming through and you don't have credit card interchange coming through so right now we are guiding to fight.
$10 million to $15 million per month from the pre March numbers that you really ought to think through as you model.
Thanks.
Thank you.
Your next question is from Saul Martinez.
Good morning Saul.
Hey, good morning.
Hey, I wanted to go through.
The dividend masked a little bit.
In a little bit more detail.
You guys said based on your best estimate and realizing there is what I'm sorry to hear you should be able to pay your dividend, but if the fed does.
Then the dividend cap into into the fourth quarter by my calculation you guys would have to do about 260 million of net income for buffers in the third quarter to keep your dividend at 16 cents share and if it gets extended into next year. It's even more difficult is 2019 rolls off because of presumably that.
Goes up closer to 300, so I guess, so where I want to get better sense for that when you say that you're confident.
In meeting your dividends are used for you basically saying that you're confident that you'll be able to meet that credit metrics threshold over the next quarters.
So that's what we're saying.
Okay, Alright thats.
Good.
Albeit respective we'll have to one question.
So thank you.
Okay. Thanks Saul.
Your next question is from Dave Rochester of Compass point.
Hey, good morning, guys morning.
Hey, given all the work you guys have done with both the more at risk book and those credits in distress.
Which drove a lot of use downgrades in the quantitative reserve build you guys have here.
We just wondering what the reserve ratio is you have on that at risk book, which you're seeing is the overall potential loss content there.
Yes. This is barb and right now we would have a reserve ratio on that at risk book of about little over 7%.
And then.
If you look at some of the sub sectors.
Energy as an example, albus high risk segments that we point out at 10.5%.
To give you a sense restaurant over 7%.
And we think we have a pretty healthy reserve on it.
Great.
Alright, thanks, guys.
Thank you.
Your next question is from Christopher Marinac Janney Montgomery Scott.
Good morning, good morning.
Just one follow up on the on some points thats, the barber's, making earlier so given the changes on the business criticized.
And the reserve build this quarter what has to change to see that further deteriorate.
You are ahead of that with the changes that you made this quarter.
Yeah, I would say, we're certainly on top of it.
And of course, the wildcard as the on what's going to happen in the economy. So.
Our best view of the economy is what's incorporated into what our thinking is if all of a sudden we get a second wave that comes in and it closes everything down there's going to be some more pain based on what we know today on back to yes, I'm really confident on it as I said, we've got three we've had the discussions there not a one and done discussion they are and all.
Ongoing discussion we have these meetings set up with our U.S running team again, and we have them all in there we have credit in there we spend hours going through it. So again that gets back to giving me that level of confidence that.
There's nothing that's happening that we're not talking about RCM and more importantly, reflecting in our thoughts around what are we going to call. It criticized loan or classified loan on NPL or charge off for that matter.
I think though the other caveat is we really had the level of federal government relief is unprecedented and it is.
Very difficult for us to apply.
Any sort of modeling to that and so depending upon whether the relief is extended or not what that looks like certainly is a factor as we look forward.
With that of course would influence I think that the economic conditions that were currently assuming as well so.
It is it isn't unusual Tom but as Bob said, we feel like we're on top of our reserving and credit issues absolutely.
Great. Thanks, no additional color I appreciate it.
Yes.
Thank you question disruptive actually major JP Morgan.
Back to more high launching thank you just a couple of clarifications around credit you mentioned.
As David mentioned, no motors build David I'd like to presume that Joe and at the same time, you gave a guidance when that charge offs to remain at second quarter levels.
So two elements to that where are you expecting charge offs, whereas.
A line of sight that you've given this guidance, you've obviously expecting charge offs in some categories, which of those and.
And then to Europe.
Reserve quick point related to that David are you expecting provisions. Let me let charge also you have a presuming reserves to loans are not going to stop to come down ticking up stopping to at least with though right.
Well, let me start with your back part of the question and bar will answer the first part so.
The way Cecil works is we're supposed to reserve for all losses in the portfolio at the balance sheet date based on all the factors that are in that weekend observed economic indicators of the alike.
You know and so if we do that right and portfolio at the economy doesn't change.
There's no degradation in the.
Credit metrics loans aren't growing that you wouldn't expect to have.
Provision eight you can't you can't have provision necessarily equal to charge offs, it's kind of whatever it takes to get the reserve to the level it needs to be at at the balance sheet date.
So right now we think we have at all but as we did in the first quarter. The caveat. We gave you then we're going to give to you now we don't know with the economy is going to look like at September Thirtyth.
But based on what we do know you know even subsequent to closing the books economy hadn't degraded.
Materially from where we where we set the reserve so we're feeling better about that going into the third quarter, which was different than going into the second so.
Bob you want to answer the yes in front of the question, which is where the charge offs going to come from and our estimation based on the analysis that we've done the conversations that we've had again primarily from the two portfolios. We've already talked about energy and restaurant you have to see divested that play out.
Just going to be some retail in some hotel that could impact as well but.
That's generally what I would say set up to.
Thank you.
Thank you Vivek.
Your next question is from Gerard Cassidy of RBC.
Good morning Gerard.
Good morning, John how are you.
Good thank you.
I guess some questions on the forbearance part of the portfolio.
Once the technical question on are you accruing all the interest for those loans even.
Customers that may not be paying this is the ones that are paying and then the second part of the question is.
Yes, Hello in conversations with the said on when they May go back to their more traditional stands on forbearance in one hand banks have too.
Okay.
Carry the cap higher capital levels against those loans with third party. The question is once you go off forbearance the fed sense. It ends looks a second quarter of 21.
Do you still got loans on forbearance will they immediately start.
Going into and nonperforming status, meaning being 30 days past due or will you just immediately put him in crude because theyre already been in forbearance.
Drawer, just David I'll start with the first part.
So loans go into forbearance, we still accrue interest.
Unless that loan was already on non accrual status or it had it didnt have the ability to pay all of his principal net contractual principal and interest which case any payments that we would receive we actually write down the principal balance that's our accounting policy.
So for the most part this type of forebears that you're seeing you can see the performance where people are still making their payments, but even if they're not.
And they're not on non accrual we are in fact accruing interest on those.
You had talked about the second part in the second part of the question is we have not had any conversations with the fed about.
When they may change their guidance about how we work with customers see in respect to the Corona virus.
And our initial guidance gave examples including six month periods of forbearance as examples of how we might consider working with customers and we really havent had any guidance. Since then the third part of your question I think was will hypothetically what do we do if we get out nine months 12 months in a customer still.
Can't pay Barbie want to talk about that yeah, I don't see uplift at that point in time, because what we're doing is but the process. We haven't place right now. It's we're taking all of that information we have in place today customers onto for all that but one input point. We're looking at their cash flows were looking at a lot of other things to make the determination on the risk rating, which is why.
Are you going to see customers, who are paying that we may have sitting in the nonperforming loan category and moved to the criticized or classified category. So we are making those risk rating changes.
Not because of the deferral, but as I said deferrals simply a point so I don't see a huge cliff on any of that and bar, we're using the deferral as a leading indicator to go dig deeper gerard into that relationship not looking at trailing 12, but what the current information is today and.
What challenges that that that relationship is facing so we're to bobs point, we're calling it as we see it today.
This David I hate to pile on this but it is it's important that people understand that.
We aren't we aren't because you are given leeway on forbearance for regulatory standpoint, if we believe that needs to be risk rated a certain way we're doing that.
So that's why you shouldn't see a cliff effect, regardless of what the fed says about how we can treat.
Loans are TDR is there anything recall that independent.
Piddly exactly.
Thank you.
Thank you George.
Your final question is from John Pancari of Evercore.
Good morning, John.
Hi, This is about who's been do on behalf of John.
Can you just have one question on the on the efficiency ratio.
Like Twoq, you 20 efficiency ratio was it on adjusted basis, 57.7%.
No you talked about.
Willingness duplicate expenses need to closely it does have the environment the challenge.
Can you talk about how you're thinking about the efficiency ratio going forward.
What's sort of level is reasonable.
The current condition kind of stay will persist two at year end.
Because I know in the past you've talked about a mid 50%.
I'm not sure there's any update on that.
Yes, so we still have that as our long term goal to get our efficiency ratio down into the mid Fiftys and then when we get there were on will be pushing that even harder so were have a little bit of volatility obviously and.
Revenue given changing our rate environment will have a little bit of pressure on Eni as we've mentioned just a minute ago for the next quarter, but.
When you have challenges on revenue than you have to go back and work on expenses and Thats part of our program. So while you may see that percentage change a bit any given quarter to quarter I think where we are right now as sustainable over time, and perhaps working that way down over overtime as we as we continue to work on expense.
Susan and the benefits from further hedges that that actually come into force in the third quarter will help us from a revenue standpoint.
Okay.
Okay.
Well Theres no further questions. We really appreciate your participation today. Thank you for your interest in our company.
Hi, good weekend.
This concludes today's conference call you may now disconnect.