Q3 2020 Regions Financial Corp Earnings Call
[music].
Good morning, and welcome to the regions financial Corporation's quarterly earnings call.
My name is Shelby and I'll be your operator for today's call I would like to.
I would like to remind everyone that all participant phone lines have been placed on listen only.
At the end of the call there will be a question and answer session. If you.
If you wish to ask a question. Please press star one on your telephone keypad I will now turn the call over to Dana Nolan to begin.
Thank you Shelby welcome to regions third quarter 2020 earnings call, John David will provide high level commentary regarding the core earnings documents, including forward looking statements are available under the Investor Relations section of our website. These disclosures cover our presentation materials prepared comment.
And the Q in a segment that today's call with that I'll now turn it over to John.
Thank you Diana and thank you all for joining our call today.
Get started I want to mention that we're taking a slightly different approach to our call today.
Rather than walk you through our results in detail, we will speak to key highlights. We think are most important and then open it up for your questions hopefully you'll find this approach to be a little more efficient use of your time.
We're very pleased with our third quarter results, we reported earnings of $501 million, resulting in earnings per share of 52 cents, a 33% increase over the prior year.
We continue to experience nice revenue growth, while prudently managing expenses generating the highest adjusted pretax pre provision income in over a decade.
Our core banking operations remain strong.
We achieved record levels of deposits with growth across all three business segments, we can.
We continue to see growth in consumer and small business checking accounts and despite the uncertain environment, our customers appear to be relatively healthy and are appropriately adapting their spending habits as well.
As a result, most credit metrics improved and we've been very pleased with the significant decline in loan deferrals.
Our customer assistance program appears to have worked as intended with the vast majority of customers, who previously received deferrals now returned to normal payment schedule.
Our results also reflect the success of simplify and grown our continuous improvement initiatives we.
We continue to carefully manage expenses, while making strategic investments to grow our business.
Our third quarter adjusted efficiency ratio was the lowest in 12 years and our investments in mortgage individual are paying off the year to.
Year to date mortgage production is more than double that of last year.
Our focus on enhancing the digital experience is also resonating with customers digital.
Digital log ins were up 22% mobile deposits are up 50% and did.
And digital account openings are up 24%.
And our recently redesigned iPhone out currently has a 4.7 star rating.
Thus far the southeast seems that unfair generally better economically during the pandemic than other areas of the country.
States across our footprint were among the last to shelter in place and the first to reopen.
As a result, the unemployment rate is generally been around 200 basis points below the national average contributing to a relatively stronger GDP.
We remain cautiously optimistic about the pace of economic recovery in our footprint and current sentiment continues to improve.
As a result, given what we know today, we believe the credit risk in our loan portfolio is appropriately reserved and losses will be manageable.
Before I turn the call over to David I want to recognize bargain.
Earlier this quarter.
Our announced her plan to retire by the end of the year. So this.
So this will be barbs last earnings call.
Barbara retire after 45 years of banking she Joe.
She joined regions in 2003 and was named Chief Credit Officer during the height of the financial crisis over.
Over the last 10 years as Chief Credit Officer, Barb has done a terrific job, leading our credit risk organization through repaired a tremendous change over that.
Over that time farms contribution was recognized by the American banker as one of the most powerful women in banking.
She is truly done a great job for regions and we will Miss her presence every day.
Hope you all join me in thanking bar for all she's done in congratulating her on a well deserved retirement. Thank you barb.
With that out thank you for your time and attention and we'll now turn it over to David.
Thank you John let's start with the balance sheet average adjusted loans decreased 3%, while commercial pipelines remain healthy business customers continue to de leverage and repay their defensive draws taken earlier in the year.
Commitments have not changed appreciably line utilization is at historic lows.
Tumor growth was driven by very strong mortgage production, which has been more than doubled year to date versus the prior year.
With respect to deposits balances increased to record levels again this quarter growth think corporate bank deposits was driven by clients consolidating their liquidity as well as increased benefit from supply chain efficiencies and declines in working asset levels.
Tumor deposits also increased as we continued to grow consumer checking accounts and customers have adjusted spending and savings behaviors.
Let's shift to net interest income and margin, which remains a source of stability for regions. Despite a challenging market interest rate backdrop.
Third quarter net interest income increased 2% aided by our hedging program the deployment of excess cash into securities and a number of items that may not repeat which are described on the slide these.
These benefits were offset by lower loan balances.
Elevated cash levels impacted net interest margin, which declined to 3.13%.
Drawing deposit growth drove cash levels at the federal reserve higher averaging roughly $10 billion. This coupled with $4.5 billion of averaged low spread PPP loans reduced the margin by 28 basis points within the quarter and nine basis points linked quarter we.
Continue to work on reducing elevated cash levels and added approximately $3 billion of agency mortgage backed securities and agency commercial mortgage backed securities. Additionally, we reduced wholesale borrowings for a 1 billion dollar bank debt tender and the early extinguishment of approximately.
$400 million of FHLB advances.
Given that the majority of our hedges are now active.
And our ability to further reduce deposit cost our balance sheet is largely insulated from the low short term rate environment.
In fact additional income from lower short term rates helped to offset some of the long term rate degradation.
Loan hedges added approximately $94 million to net interest income and 30 basis points to the margin.
Recall, our hedges have roughly five year tenors and at quarter end pretax unrealized market valuation of $1.8 billion in important differentiator and source of regulatory capital in the coming years.
Lower long term interest rates negatively impacted net interest income and net interest margin during.
From an increase in securities premium amortization and the continued reinvestment of our portfolio of fixed rate loans and securities pre.
Premium amortization was $46 million and included the impact of Ginnie Mae buyouts that aren't likely to repeat at the same level.
Looking ahead to the fourth quarter uncertainty about the timing of PPP loan forgiveness and the related fee acceleration may create volatility in net interest income.
After level setting for third quarter items that may not repeat and excluding PPP loan forgiveness. We expect net interest income to be relatively flat to modestly lower as hedging benefits and further declines in deposit cost will help to offset continued pressure from long term rate.
Its asset re mixing and run off.
Excluding PPP and excess cash our core net interest margin as expected to stabilize in the three thirtys, notably our shift to deploy a $3 billion of cash into securities will reduce the normalized margin by six basis points, but benefit net interest income.
Now, let's take a look at fee revenue and expense.
Adjusted noninterest income increased 6% quarter over quarter with.
We achieved record mortgage income and had another solid quarter in capital markets.
Service charges increased 16%, but remain below prior year levels.
While improving we believe changes in customer behavior could keep service charges below pre pandemic levels. We estimate consumer service charges will remain approximately $30 million to $35 million per quarter behind prior year levels.
Card and ATM fees have recovered compared to the prior year, primarily driven by increased debit card spend however, credit card spend continues to be slightly behind prior year levels.
Let's move on to noninterest expense.
Adjusted non interest expenses were $889 million and represented a 1% decrease quarter over quarter X.
Excluding covered related expenses and the impact of changes in market valuation on employee benefit accounts adjusted expenses were $872 million.
We have a proven track record of prudent expense management since announcing our continuous improvement initiative in 2016, we've held adjusted expenses relatively flat, while continuing to invest in technology products and people to grow our business.
Continuous improvement is ingrained in our culture.
We have completed approximately 50% of the current list of initiatives and are continuing to identify new opportunities every day.
We are facing an uncertain operating environment and to the extent revenue is challenged we will look for additional efficiency opportunities.
But from an asset quality perspective overall credit remains generally in line with our expectations from the second quarter the.
The credit loss provision totaled $113 million, resulting in allowance equal to 2.74% of total loans and 316% of total non accrual loans.
Excluding PPP loans, our allowance for credit losses increased to 2.9% of total loans.
Nonperforming loans increased 19 basis points to 0.87% of total loans, primarily attributable to downgrades in retail investor real estate and energy.
Business services criticized loans, and total delinquencies decreased 12% and 11%, respectively, while troubled debt restructured loans increased 3% they improve.
The improvement in criticized loans are generally in retail, where we noted improvements due to strong anchor tenants. Additionally, some improvements were experienced in aspects of energy and manufacturing.
Annualized net charge offs were 50 basis points at 30 basis point improvement over the prior quarter.
We are cautiously optimistic about the pace of economic recovery in our footprint. However, we also recognize we remain in a highly uncertain environment.
Assuming positive trends continue we do not believe further increases to the allowance are necessary.
Reductions in the allowance will depend on the timing of charge offs and greater certainty with respect to the path of the economic recovery.
While charge offs can be volatile. We currently expect the fourth quarter to range from 55 to 65 basis points. This range reflects the historical pattern of elevated consumer charge offs in the fourth quarter.
Predicting the timing of net charge offs depends on many variables, including any additional stimulus. However, based on what we know today, we would expect charge offs to peak around mid 2021.
We continue to refine our view of higher risk portfolios through ongoing conversations with customers and market observations there.
The portion of our portfolio considered to be at the highest risk of potential loss due to the pandemic declined from $8.4 billion at the end of last quarter to $6.6 billion at September Thirtyth our.
A roll forward of the high risk portfolios is included in the appendix.
Wrapping up the capital our common equity tier one ratio increased approximately 40 basis points to an estimated 9.3% and capital ratios are expected to continue increasing over the next several quarters.
So in summary, we feel really good about the quarter pre tax pre provision income remained strong expenses are well controlled credit quality is showing resilience capital and liquidity are solid and we are optimistic on the prospects for the economic recovery to continue at our markets with that were.
Happy to take your questions.
Thank you the floor is now open for questions.
Did you have a question. Please press the star key followed by the number one on your telephone keypad EBITDA.
At any point. Your question is answered you may remove yourself from the queue by pressing the pound.
Well pause for just a moment to the barbecue and a roster.
Your first question is from Ken is going of Jefferies.
Thank you.
Hey, good morning, everyone.
I was wondering if you could and then congratulations and best of luck to Barb I should say on behalf of everyone.
Just on the loan side, obviously customers as you mentioned building liquidity.
You start to see and I continue to decline as the industry did can you just talk to us about when you make the point about the footprint acting better relative to other parts of the country. What you see as far as that delicate balance between customers holding liquidity and then starting to see activity and the need for borrowing and increase especially as you think about.
Cnine portfolio. Thanks.
Yes, David so.
As we think through.
Generally our bank in terms of.
Loan growth, so we've been kind of a GDP plus a little bit.
It has been our expectation clearly with the liquidity sitting in the hands of.
Customers, they're going to use that first before they will tap into.
Committed lines of credit if you're a business.
Or spending our borrowing money if you're on the consumer side, what we're looking at is our production our production continues to be.
Robust on the commercial side.
But our utilization is very low and this low for everybody. We we don't know when that will bottom out.
Some of call it already we're not real sure, but we think.
I would think given that commitment there that it's just a matter of time you start getting infrastructure spending you get a little momentum going in the economy, we could see.
Our loan growth picking up in 2021, we're probably not going to see that in our fourth quarter, which is why we're giving you. The guide on Eni that we have.
Yes, I would just add Ken I think we get past the election, I think we get a little more sense about the direction of the economy.
There are a number of our customers who are have adapted their operations to the cove environment are doing fine and our thinking about potentially expanding their business or they are seeing a need to increase inventories because they're generally low all time low levels and.
And yet they are not in a hurry to do that until there is a little more uncertainty about what happens post election. So I think it will be as David said early in 2021 before we have a better feel for whether we see loan growth exceeding GDP.
Okay got it and a follow up question on the swaps portfolio just looking back at the slide you showed last quarter, there's still like a billion dollars in a quarter to still come online correct that that aren't.
Live yet so versus the 94 million that you saw in NII. This quarter, how much more incremental add do you still expect to come from the additional swaps that Havent gone live yet thank you.
Yes, Ken so you're right the last tranche of come due in the fourth quarter good.
Getting the full run rate from what we did last quarter and benefiting.
The next slug coming in in the fourth quarter, we think that 94 goes to 97 inch 90, 597, so we get to three more.
And $1 per quarter and of course, all these are five year tenders from the date they become active.
So a couple of million dollars I guess the answer.
Okay got it thanks a lot.
Your next question is from Michael Rose of Raymond James.
Good morning, Michael.
Hey, Good morning can you hear me, yes, we can.
Yes, we can.
Hey, how are you.
Yes so.
Sorry, if I missed this I got on a little bit late but can you walk through some of the dipal.
Deposit.
Repricing opportunities you may have in coming quarters, and how should we think about the.
The loan to deposit ratio as you move into a more normalized backdrop. We later next year is there is there a certain level that you guys would would want to run at.
Liquidity and stick around in these zero interest rate environment, but just looking for ways that you can potentially deploy some of that excess liquidity. Thanks.
Sure. So our deposit growth continues to be very strong.
That's coming through the growth in consumer checking accounts operating accounts for businesses its businesses, bringing cash back to regions and so I would say our deposit growth has been a little quicker and faster than we had anticipated.
And that could persist into the fourth quarter.
I think you're right to point out that our deposit costs, while 11 basis points.
Now we.
We believe there is still running room to take that down a couple of.
234 basis points over time, if you look at our interest bearing deposit COVID-19 basis points I think we have more running room there more so than we probably have in the past. We've if you look at the peers that are released thus far everybody's bringing that down.
Quite a bit we probably could pick that up a bit we are going to challenge ourselves as we go into the fourth quarter and into 2021 was the other part of the question.
No no a loan deposit ratio Mike we.
We really don't claw solve for that Thats kind of an outcome we.
We've historically run a lower loan deposit ratio than our peers because of our deposit franchise, which is really our key.
Competitive advantage.
If we can be perfect deploying it I think being in the low 90% range would be.
Would be great but.
We've kind of been in that middle 80% for a long time course, everybody is lower today.
And so we have the liquidity to make all the loans to creditworthy borrowers today. We're excited about that it's just loan growth good loan growth is hard to come by.
At this point, but we're like a cold spring ready.
When we believe that infrastructure spending habits.
That's very helpful. Maybe just one follow up the the deposit service charges came back a little bit further.
But I would have thought this quarter I think some of that obviously has to do with some of the deposit growth. We can you give us an update on.
How the normalization of service charges, and maybe credit card usage as.
As ramp up here and how you expect to play out into next year. Thanks.
Yes, so our service charges did come back a bit we are seeing.
Strength still in the consumer we are seeing spending.
Pick up a bit our debit card spend is ahead of where we were last year not so much on credit card spend is still to three percentage points behind.
Where we've been in the past.
Right now our run rate and we put in our comments, probably $10 million to $12 million a month behind prepared to.
Pre pandemic levels, which is 30 $35 million per quarter.
We don't forecast that improve.
Improving appreciably at this juncture.
We'll have to see we got a new potential wave of stimulus, which will continue to put that pressure and maintain that pressure at that run rate level. So I would not count on that at this point coming back to the to the pre pandemic level that we've seen changing customer behavior, which I think ultimately is a is a good thing.
So we're depending upon growth in consumer checking accounts as a real catalyst for driving additional fee income and the good news is that consumer checking accounts are growing and as a result that we're seeing a pickup in fee income associated with those accounts.
Exactly okay. Thank you so much for the color.
Your next question is from John Pancari of Evercore ISI.
Good morning, good morning, good morning.
On the credit on the credit front.
I know you your guidance and you indicated that losses are likely to continue to rise here and and.
And it gives.
Given that expectation if you do see charge offs continue to rise.
You do expect that given what you know now that that could lead to incremental reserve releases from here.
Well, let me let me start now, let barb kind of weigh in.
So I want to be careful about the word reserve releases.
We clearly believe we have our allowance established at the appropriate amount to cover losses in our portfolio through the life of the loan.
As we go forward, we're going to have charge offs. If we did it right. Those charge offs are completely reserve for and so you will see reductions in the reserve as a result of that event. The question is and what do you do with the remaining reserve and how does that reserve Atlas adequacy of that reserve for Whats left and right now we think.
We have it will have to continue to evaluate that at the end of each quarter looking at all the variables which include loan growth or not.
How the portfolio mix may have changed with the macroeconomic variables of a host of things that go into that when you say the word reserve release that contemplates our reserved $100 today.
And tomorrow I figured out only 90, so I'd take 10 and income we don't anticipate that movement at this juncture, there's still uncertainty out there we need to be real careful about that and make sure weve established loan loss reserves at the appropriate level, which we believe we have done.
Got it thanks, David that's helpful. Yet I'm, just I said really said all else equal so Bob.
Barring a change in the outlook and aside from reserves for new.
For new loan production, just as charge offs go against what you've reserved at that should imply.
That you've already reserved for that there could be reductions for that like you said so that's fine my other question on the on the credit front claws.
You're the does the reserve already factor in some if the likelihoods incremental credit migration into criticized assets in other words, if we do see a continued upward trend there that.
Do you expect that that could drive incremental additions or is that factor.
Yes, so when we look at life of loan. We obviously have a lot of migration studies analysis. We've looked at so we can tell you when things start to age what's going to happen and they'll go into special mention and substandard doubtful loss and so we contemplate that as we establish our reserve levels, so unless there's a change over oil.
Already estimated we wouldn't have incremental reserve for that migration.
Okay got it alright. Thank thank you and then if I could just ask one more sorry on the on the loan growth front I Wonder does your comment to Ken regarding.
The the loan growth outlook near term does that imply that we could potentially see some incremental declines in loan balances near term or do you expect more stable.
No I think that for and thus in the short term, we're doing a couple of things.
The question is has the repayment of the lines bottom out yet or not some have called that it has we're not so sure. So thats a piece of the risk that we have on loan growth our productions nice we do.
We do have some run off portfolios as you know and I think net net probably not going to see a lot of loan growth to maybe some downward and thats what equates to them, maybe we have eni flat to modestly lower so all that's baked in together.
Got it alright, David Thank you.
Your next question is from Matt O'connor of Deutsche Bank.
Good morning, Matt Good morning.
I just wanted to follow up on the comments about the timing of net charge off thinking maybe mid next year, we've heard kind of a similar theme from other banks mid next year back half next year.
Is that more just like the prior quarter.
You don't expect a material increase in the near term or is there something kind of in the in that kind of what you're seeing in the commercial consumer side that gives you confidence in that mid next year and that its barb I'll take that question. Yes. The reason that we say mid next year is given all of the deferral programs that are out there and again I have.
That uncertainty as to what's going to happen when we get a second.
Separately from the government or not relative to the programs they have et cetera, but based on what we know and just the way that things roll through the various delinquency buckets, we would think that mid next year.
Sometime in the second quarter, probably toward the end of the second quarter could you can push into the third quarter. So there's just a lot of uncertainty and volatility and that's the reason we think based on all of that it's probably a midyear event next year.
Partially related to that.
Fair to say the CD book, it's more potentially more predictable.
But even there was small business because of the relief thats in currently in circulating through the economy still hard to predict so more a place holder than necessarily.
Affirming soon so thats right.
Okay, and then on the commercial real estate does that end up being a longer tail.
Maybe traditional cnine consumer given some of the dynamics with real estate and.
I think a lot of commercial real estate out there with kind of pretty low LTV. So there should be some from their patient on the part of the bank to support that out there.
There isn't we're spending a lot of time with our customers on a one by one basis, making amendments where we need to.
Helping them get through.
Is there a rough period, we don't want to be fair weather bankers by any stretch.
But we are taking a very prudent approach and our discussions with our customers. If we see that at the end of the day there isn't a light at the end of the tunnel there, we're having us our discussions with them now but in general the discussions have been very very good relative to all of us working together to get through the other side. This.
And I would say the thing that comes through in our commercial real estate portfolio is since the financial crisis. We've remained that business weve significantly reduced the amount of exposure. We have we've rebuilt the teams that are originating commercial real estate loans were banking very experienced.
Regional and national developers that have.
Good access to capital a lot of liquidity, there involving quality projects and really solid markets strong loan to value is a combination of all those things comes together, we feel real good about our investor real estate portfolio.
Okay. Thank you.
Your next question is from Betsy Graseck of Morgan Stanley.
Good morning, guys good morning.
First bar Barb congratulations it's been great working with you all these years I really appreciate it.
One question for you maybe I missed it in the prepared remarks, but you've got the NCL guide for Threeq, you I'm sorry for Fourq. When you know the 55 to 65 fit brains and.
I thought last quarter.
I was looking more for 80, so I'm wondering is this.
Step down an expectation frenzy is something that you think is a temporary given everything we've discussed with the stimulus or.
Do you feel like you know there is.
The run rate's going to be a little bit lower than what you had been anticipating before.
Thank you very much Betsy firstly, I I thought growing goals would take a lot longer than it did I guess its content.
[laughter] secondly relative to your question.
Yeah, we started off the quarter, we had a different view of the quarter, we thought that things would not.
Turn out as they did with our customers our customers made a lot of changes to the way in which they are managing their finances et cetera, it seem to be holding up better than what we thought having said all of that there's still a lot of volatility.
And so our issue is more went around timing and so as we look at that we look at what the impacts of these deferral programs and other things are we do think that there's still going to be an impact, but it just going to be pushed out sometime into lab 21 now.
Okay. No. That's helpful. Thanks, and then just follow up is it just a question about the footprint and what you're seeing.
You are in a warmer part of the country.
I'm wondering if you're seeing any kind of in migration are you seeing.
Business trends in the southern regions.
Accelerate or retain faster speeds than what you see in the northern part of the region and maybe you can give us some color on that I'm just asking the question with the backdrop of when you.
When you could start to see some loan growth pick up as well and should you be advantage given your footprint if you could speak to that thanks.
Yes, it's a it's a great question I would say specifically about the states in the southeast where 86% plus or minus of our deposits are.
Those states were were so.
Were some of the last to shelter in place in the first to reopen their economies in fact seven of the 10 states. We operate seven other states. We operate in were amongst the first 10 to reopen their economies and as a result of that generally speaking the unemployment rates in those states was 200 basis points.
Less than the National average, while the totals were still high a number of small businesses. The close were more like 50% to 60% of small businesses versus a higher number for the national average and I'd say today, we anticipate 85% to 90% of small businesses have.
Have reopened.
So the economies seem to be.
A little better than let's say the northeast, where it's my impression any way based upon what I hear the number of small businesses there reopening hasn't been as.
Hasn't occurred as quickly as it has let's say in the south or or even in the Midwest.
Markets that we operate in and we're cautiously optimistic recognize that the economy is still is fragile their health issues or social issues are economic issues unsure about the political environment.
But based upon what we see there.
There is a an in migration of people into the southeastern markets in particular.
Leaving some of the larger cities in the north and Midwest and coming to the south and and so real estate values, while increasing our solid we don't see a real imbalance there a run up in pricing but.
But a lot of demand and.
And then there's availability for for for jobs workers here in the South and so I think again, we feel pretty good cautiously optimistic about the economy, recognizing those long answer.
Okay. Thank you.
Your next question is from Stephen Scouten of Piper Sandler.
Morning.
Yeah. Thank you guys.
I wanted to follow back around maybe thinking about the loan loss reserve and then kind of equal equal methodology.
Appreciating not wanting to call it releasing reserves, but im wondering how we should think about what may be elevated due to the pandemic and what would be a more normalized level. If we didnt have maybe some elevated allocations to expected losses here in the near term and where that could kind of normalize over time.
Well I do think one of the things you can look at is we show you an allocation and our Q of our allowance.
By.
By major loan category and you can see how that compares to the allowance that existed prepaying demick.
And that will give you an indication of where we're seeing.
Elevated loss expectations, the problem with Cecil as you're having to guess or the entire life of the loan.
We use a two year reasonable unsupportable period of time, we're in the middle of a pandemic theres a lot of volatility with macroeconomic variables. There is a lot of volatility with certain industries quick serve restaurant energy transportation certain elements of transportation hospitality, all those things require a lot of input.
Try to figure out what the allowance should be so if you looked at our our high risk areas.
And you started seeing that improvement, which we improved $8.4 billion. The high risk category to 6.6, you can look at those categories go back and look at the allocation of the reserve and that will give you some idea as to where that reserve exists for us today, and where those improvements over time might come from.
Until we see more clarity with regards to.
The economy.
We don't see any.
Any need to change the reserves that we have already.
Calculated.
That can change from quarter to quarter.
Right, Okay, but it's the pandemic weren't occurring instead of 270 in a peaceful environment would you think the reserve board meeting more and the ones that any sort of range or is that just too difficult to say well, it's too difficult to say, but an indicator. If you want to go back and look at our.
Our pre.
Pre pandemic level that we had our adoption.
So one one of of this year and that will give you an idea of what we think because at that time.
The pandemic can happen.
Well at least on the United States. So we got it and Thats, what we bought brought I'm, sorry, I thought the actual reserve level ought to be.
Perfect and then one last question just on the excess liquidity you talked about you might see additional deposit growth this quarter, but.
How are you guys I guess thinking about Bob in the stickiness that excess liquidity, maybe over the next year and what you might do in the <unk>.
In the fourth quarter and beyond in terms of uses of that liquidity much as you did this quarter.
Yeah, that's kind of centered on to an earlier question, but I think that.
The growth in our deposits have come from growth in checking accounts and operating account in addition to existing customers.
It had cash that was off balance sheet looking for a better return a better yield than than we were paying at the time and.
I mean, because rates are gone down there is really no place to go so that the cash has come back to us in the form of deposits.
Also our our customers are generating income our commercial customers generating income and they're not spending that at the pace. They had before so the cash is piling up on their balance sheets, they've worked on their working capital Theyre, turning receivables and inventory much faster all that and improves the cash cycle.
Which ends up as deposits on our balance sheet. So the question is.
The question is at what point will they start using that and I think it's when we get back to feeling much better about the economy. They start spending six capital investment whatever the case may be to utilize that excess cash. If you will first and then it gets into loan loan growth for us after that part of the reason.
We're not spending.
Our putting to work the excess cash we have at the fed which is about $10 billion round numbers.
It is because to take the duration risk today, you don't get paid a whole lot incrementally more than 10 basis points at the fed.
But we think there's prospects for steepening of the yield curve.
Regardless of who wins the election.
And with that in higher inflation can give us a better opportunity to deploy that excess cash than we have today.
If we see deposits continuing to grow at a faster clip then we'll step up our investments into the Securities book as you just saw US do with the $3 billion. This past quarter. So it's a very it's a balancing act that we are trying to take with actually our liquidity is very good but trying to get yield and opportunity our opportunity cost.
Make sure we can deploy that best we can.
Thanks, a lot of really good color appreciate it.
Okay.
Your next question is from Peter Winter of Wedbush Securities.
Hi, Good morning, good morning, Peter.
You guys have obviously done a great job managing expenses.
This is Brian grow it.
So on that.
I know thoroughly but would you expect to hold expenses expenses relatively flat again next year.
What are some of the things that you're looking at or additional expense initiative.
Yeah, so as gray.
Thats Great question, we've done or we think a really good job of holding our expenses relatively stable up over the past several years few years less than 1%, we're going to continue to work on that as we get into 2021, and we'll give you better guidance as we get towards the end of year.
But the things that we look at we certainly wanting to leverage our continuous improvement process a John Turner.
Put in had us put in that really forces us to get better whatever we're doing everyday process improvement led by leveraging technology. The drivers of our cost base clearly number one the salaries, our salaries and benefits its people cost its still 55% of our expense base. So how do we control our head count.
Matters and as we think about that.
Clearly there is a lot of people almost half of our people are our in our branch network and we've consolidated an awful lot of branches over overtime.
We continue to look at branch consolidations, we think thats been a big driver of our cost savings.
We have now got it down Pat we know when we consolidate a branch what that means for revenue and customers and so.
Our consumer teams doing a great job of evaluating every one of our branches to see how tight we can continue to make that and as we do we'll save and in terms of head count. There. We're looking every area has to look at spans and layers and and the commitment to our.
To head count how can we leverage technology, so that when we have attrition we.
We have technology that can take place and we will have to backfill that person occupancy is another area again thats tied to both branches and the back office. We've continued to do work on consolidating square footage and we're happy about that.
As we get our head count now furniture fixtures and equipment, which computers that people have also comes down third party spend we have had a pretty.
Head of procurement is pretty tough on our vendors.
And he is also pretty tough on all of us because it's a demand management approach, where we think we might need a consultant and he says you sure about that and that goes.
And that goes for all of us in the company I know he's smiling at that but.
We really have to watch that spin we have to watch travel and entertainment, that's coming down because of of Cove. It. So we have places and levers to pull on expenses is really hard because we have to make investments in technology and digital in people to.
Can you continue to grow revenue and grow customers for our company. So while we're doing that how do we keep our expenses flat and yes. All the things. We just mentioned are areas that we're focusing on.
That's great Thanks, David and good.
I could just ask one more.
Can you guys just get an update on your thoughts around banking M&A, when we get a more certain.
Environment.
Yes, our views about M&A Havent changed Peter to this point I mean, we can.
We continue to focus on bank M&A, we've made a number of successful acquisitions of smaller firms that provide additional capabilities in wealth management capital markets.
In the mortgage business acquiring mortgage servicing rights low income housing tax credit syndicator here.
M&A advisory firm things that you're aware of and we continued to have aspirations.
To do that having said that we believe that we are still in an environment, where it's in our best interest to just focus on executing our plan with respect to bank M&A. If we do that then we believe that our shareholders will benefit that will be reflected in our share price the multiple that we trade at and.
Then we can talk about whether or not we have some interest in bank M&A, but today, our focus is still on executing our plan.
That's great.
Thanks for taking my questions.
Your next question is from Erika Najarian of Bank of America Merrill Lynch.
Hi, good morning, all.
Good morning, good morning.
So David just one follow up question for me I, just think about the starting point on the net interest margin ex committed and nonrecurring items.
311, how should we think about half.
I put that hardening of 3.3, clearly or you're you're doing a great job in terms of defending the margin.
And I guess, how should we think about it.
The excess cash and what you need to see in the marketplace to more aggressively deploy that excess cash or that your your GAAP NIM more reflects that that core NIM that you point out.
Yes so.
It's a good question its a balancing act that were trying to make with regards to being paid for duration.
Putting that excess cash to work there or waiting for the yield curve to steepen a bit.
Which we think if we were just a little bit patient, we actually have a better better earning asset.
We understand everyday we wait though were trading off 1% unchanged for 10 basis points.
We did put some of that excess cash to work as we mentioned and kind of perversely that when we give you our core NIM.
Right anything the sitting at the fed and the fed account, we're carving out.
From our margin, but when we deploy some of that as we did our $3 billion, its earning 1% that weighs on our core NIM. It helps us on Eni, but it hurts our NIM so, whereas we were in the high three thirtys.
Before we decided to deploy the cash we think we're going to be in that three thirtyish range. So that deployment actually cost us six basis points in NIM.
And but it helped our eni so I wouldn't I wouldn't get too wound up on the NIM calculation, just yet I would look at the ability to grow net.
Net interest income and having the dry powder to deploy in better loan growth when that comes along or steeper yield curve when that happens.
Got it thank you congratulations.
Thank you congratulations Bob Thank you.
Your next question is from Gerard Cassidy of RBC.
Good morning Gerard.
Hey, Jon Good morning, David Good morning.
Maybe you guys can share with us and Bob Congratulations on your retirement and your insights over the years in the.
In the first question is about credit.
I am I mean, we all understand what the government has done has been pretty impressive in terms of the stimulus relieve the federal reserve is obviously aggressively move to bring in spreads in the open market and we have the forbearance program.
Can you guys share with us what had been a big differences between credit because the economy collapsed and all the metrics, we became accustomed to like the unemployment rate leading to higher consumer net charge offs. Those relationships have been held up in this downturn and I'm wondering.
What other than the programs I mentioned, maybe thats the answer what.
What is what's different about this downturn do you think versus what we saw in fixing those same again into alito nine.
Yes, Gerard I'll take that inspire benign I do think the stimulus relief is really the linchpin here. It's the largest thing, but also our consumers and our businesses have changed their habits as well for example for consumers. What we're seeing is they're not spending their money on things like the $10000 vacation.
That money is now just going into the bank and putting it away for I put quotes around the word a rainy day the rainy days here, but we're being very prudent with their money of course, the stimulus has really helped with that.
To make sure they build that did have an estimate for themselves as they work their way through to better times, but we're seeing that on the consumer side most definitely.
I thought perhaps maybe we would therefore see a lot of drawdowns and things like on the consumer side, our home equity lines, we haven't seen that or cash out refinance on our mortgages, we haven't seen that either so I think being consumed as they're being very very good about the way if they are going about spending their money on the business side.
The same thing businesses have sat back and.
And that you know they've enjoyed several years of good profit profitability they.
They too are looking at.
What does this mean for them what does this mean for their business what do I have didn't make the changes now so I've been pretty impressed with the resiliency of our economy, particularly here in the South where we are where we've seen a lot of businesses.
And the consumers make the appropriate changes so that's what's really different than last time as well last time around us we all know Gerard it wasn't meltdown in the mortgage the housing market that.
That's not happened this time, if anything the mortgage market is a little bit on fire.
Relative to.
Purchase as well as re Fi and that's all because of the low rate. So that too is something that we're also keeping our eye out for Gerard let me add to that so as you think about the southeast in regions in particular coming.
Commercial real estate is nothing like it was one we don't have near the commitment to it.
We had at that time.
Second is the real estate values haven't class to Bob's point that was a massive change in values on not only consumers in mortgages, but on homebuilders and things of that nature. We don't have that today. If you go look at disposable income disposable income for consumers continues to grow.
As you look at the financial obligation ratio. So the percentage of payments at the of disposable income that's being used for debt payments is as very low and a part of that is the leverages.
While the total leverage is actually higher end consumer the ability to pay as much lower because the rate environment is so low so.
And then last thing would be unemployment isn't.
All that even either so you have to think about where is that really happening as John mentioned, the unemployment rate for us in our markets is a couple of hundred basis points lower than other parts of the country. So as the major metro's it seemed to have fared worse on that unemployment than kind of the second.
Tier markets, where we happen happened to operate on a lot of our business.
Thank you I appreciate the color and then as a follow up David.
He's here with us.
Your margin and your net interest income you guys have done a very good job in managing it to describe for us what kind of interest rate environment in let's say 2021, or 22 would be less favorable to the way your position today, where do you kind of on the look out for in terms of.
Rates going forward that could be less favorable than what you're seeing today.
Well I think not just for us, but for most banks a flat yield curve is pretty.
As problematic, we have no expectations of of short rates move in either way and frankly, we we really don't care, where they go because were virtually insulated on the low rates. It's our biggest risk is kind of in the middle to the end of the curve, where we're having to redeploy.
Our maturing fixed rate loans and securities and for US that's about $12 billion over a 12 month period of time, so taken those cash flows and reinvesting them in.
In this kind of rate environment, where the 10 years that lower at 70 whatever basis points today is tough to make money.
And so if we can get a steepener going which we think we can with infrastructure spending again, it doesn't matter, who really wednesday election on that maybe the Democrats do it quicker, but we'll see but I think a steepening yield curve is what we'd like to see but flat is bad.
Very good and bad I hope on you're going away party, they already as a main mobs as David and John.
[laughter]. Thanks.
[laughter].
Our next question is first all Martinez of EBITDA.
Good morning, Hey, good morning.
Good morning couple of quick follow up.
First I know you're not assuming any acceleration in TCP forgiveness income in the fourth quarter, but can you just tell us what what your best guess is currently for forgiveness rates and.
What the timing.
Of that forgiveness.
Could be over the first half of 2001, and maybe and maybe even into the second half of 21. If you could just kind of give us where what your best estimate is that now.
Yes, okay. So as we think about the.
The fourth quarter, you know early on we thought we would see.
A reasonable amount of forgiveness in the fourth quarter, we've had some.
But it hadn't been enough to really talk about.
We think thats been pushed into the first quarter I think we get through the election.
Maybe we get a little bit more clarity they have come up with the forgiveness form that's.
Fairly tight.
That I think would be helpful.
We'll see what we havent seen as the borrower is actually calling and saying I'm ready for my forgiveness, they're kind of hanging out because it's not really costing them anything.
At the pull at this point, so we needed if we get little bit of pressure there, maybe we start getting a little more request for forgiveness.
Is it the first quarter second quarter third quarter, I mean, we don't know.
Today, we earned.
Little less than 2% off of the PPP loan and that is the rate plus a portion of the fees that we have to recognize on the effective interest method. So weighs on our margin, which is why we carve it out for the analysis and we've given you the dollar amount now.
30 million, so I don't know when that could happen but.
Probably the middle of 21.
Right, but just to be absolutely clear your guidance for the fourth quarter, that's not assuming any acceleration and PCP and okay. All right.
And then if I could just pivot and ask you about your reserving and kind of going to the to the waterfall your Hcl waterfall.
You mean you had.
Your reserve levels were flat and so essentially what youve terms portfolio risk imbalances, one for one offset charge offs and.
I guess, an improved economic outlook and.
And then just curious what.
That portfolio risk and balances entails because.
In an environment, where you have falling worlds and.
Yes, I'm not clear that your mix became riskier and more tilted towards high loss content loans.
Yes that effectively seeking reserves flat effectively means that your reserving more on your back book and you are assuming higher loss content on the back foot. So im just curious you know that we should view that more as sort of a mindset where.
I don't think it's appropriate yet to reduce reserves.
Note that I didn't use reserve releases, but see falling reserves or is there something else and I guess the answer to that is what would make you coffee confident enough to the point where you.
To the point, where you actually start to see qualys levels, and and lower absolute dollar reserve levels.
Yeah that would be.
Right now we put a lot of uncertainty as we talked about already on the call relative to what we think what's going to happen in the economy, we probably don't know and so.
And so with that high level of uncertainty doesn't give us.
Doesn't give us a warm feeling that we should go ahead and start releasing reserves. We just don't know whats going to happen lot of volatility that comes with uncertainty of course, the two go hand in hand, and so we just don't think its prudent to our appropriate at this point in the economic cycle that we're in for US to go ahead and start.
Releasing last are providing less so thats, what the thinking is behind that.
We do have production on new loans every quarter, even though the the gross number may not change we do have a production. We do have some of our as you mentioned bad book, we do have some that weve increased reserves on we have certain loans, we look at loan by loan. So we look at portfolios and there are certain of those that we add into this pretty.
Regular quarter it does.
As I said, it's just hard to tell what will happen next quarter, we have to get to the end and see what the facts and circumstances are at that time.
Yes, I mean, it's just simply a function of your just feeling confident that the economy, some more sound footing and.
Good point.
You would feel comfortable reducing reserves because effectively it almost seems like reducing reserves is almost calling into the credit cycle right now and some.
So I'm just like.
Curious if that's if that's the way you look at it.
Well, it's simply a function of having a more clear outlook on on the glide path of the economy's going.
More strongly about it yes.
Yes to the extent you ignore the reduction in our reserves that come through charge offs, because thats a given the rest of it yes, reducing reserves after that would have to have more clarity with regards to the economy and the performance of our portfolios over their remaining life of the loans that's exactly right.
Got it okay. Thanks.
Your next question is from Bill Carcache of Wolfe Research.
Morning morning, what we did to ask about the return.
Return on tangible common equity trajectory when we pull all the pieces together.
As discussed on the call so putting up the lowest efficiency ratio in over a decade in this environment, obviously stands out.
Layering in the expense savings that you discussed branch optimization and everything else and then and I had benefits from noninterest bearing deposit mix rising to the highest level, we have seen at 42% and.
It seems like we can kind of.
I see.
Senior ROTC continued to rise to all time highs as we look ahead feels a little bit unusual to be talking about high ROTC ease in a recession, where we have you will see losses right yet but.
Hoping you could give a little bit of color around when we put all the pieces together I think about ROTC, how you see that trajectory.
Yeah, I think I think.
I think if you were to look at generally commercial banking in this environment.
Normalized provisioning.
For this environment.
It is a low rate environment. So we think returns are in that 12% to 14% range you can get a given quarter that would be outside of those boundaries, but if you kind of look all in.
We think thats a reasonable return I think banks can earn there theyre more than our cost of capital and generate shareholder value just not at the level we would have.
If we had no idea.
A much higher steeper yield curve, where we could have margins that are you know in that 350 to 375 range, we talked about at our Investor day, some years ago that drove.
Returns.
Much higher than that 12 to 14, so I think thats, probably where we are at the moment.
But we're continuing to work hard to make it better.
And Thats, what our continuous improvement is all about.
Understood following up on your earlier comments about a steepener and the benefits. There can you give a little bit more color on your exposure to the short versus the long end of the curve than any sensitivities.
In terms of benefit to and I would be really helpful.
Phil on the short rates were really don't have any exposure there were pretty much mitigated.
There is a long in that.
And kind of the middle of the curve that pose most of risks to us I think.
Again, it's because we have $12 billion of cash flows coming out of our.
Fixed rate loan and securities portfolios that we have to reinvest.
That caused the biggest challenge to us.
There.
And the.
The front book back book, if you want to call. It that is about one point different difference between what's rolling off and what we can put it to work at it.
Reasonable way today, that's where the risk is.
Very helpful. Thank you for taking my questions. Okay.
Operator, we have any more questions.
We have a lot of it.
Jim I think your final question is from Jennifer Demba of true security.
Great. Thank you good morning.
Good morning, Congratulations bar in the Miss working with you. Thank.
Thank you so much effort.
My question is on mortgage banking fees, they've obviously been at work at record levels.
Both quarters, what are you guys seeing in terms of production.
In the fourth quarter and beyond that.
Home buying frenzy continues.
Yes, so we've been very pleased we hit a record this quarter in terms of mortgage no. Each if go back list to these earnings calls or say mortgage is strong and it should be strong next quarter, it got even stronger and.
Really benefiting from the consumer banking groups decision to higher mortgage loan originators couple of years ago in preparation for a low rate environment like we anticipated. So we're benefiting from that we think the fourth quarter based on whats in the pipeline is going to be strong.
Whether it can be as strong as the third quarter don't know.
But we think it's set up for a very strong 2021, and a big reason for that confidence is that as you know historically, we have been a purchase shop.
And.
Mainly 70% to 30% today, our mix is about 50 50 in terms or refinance and purchase both of them are strong.
Revise won't continue forever, we understand that but we've been a pretty strong purchase shop, Unlike others, who had actually 70% refi 30 purchase. So we think the fourth quarter will be good. We think all of 21 will be pretty good too.
When we meet the levels, we're at right now I don't know.
Thanks very much.
Okay.
Okay, well I think thats the last call. We had so really appreciate your your interest and thank you for just being on the call today.
This concludes today's conference call you may now disconnect.
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