Q4 2020 Fifth Third Bancorp Earnings Call
Yeah.
Ladies and gentlemen, thank you for standing by and welcome to the fifth third Bancorp fourth quarter, 'twenty and 'twenty earnings Conference call.
This time, all participants are in a listen only mode. After the speaker's presentation, there will be a question and answer session.
Quick question during the session you will need to press star one on your telephone.
Please be advised that today's conference is being recorded.
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I would now like to hand, the conference over to your Speaker today, Chris Doll Director of Investor Relations. Please go ahead.
Thank you Melissa good morning, and thank you for joining US today, we'll be discussing our financial results for the fourth quarter of 2020. Please review the cautionary statements and our materials, which can be found in our earnings release and presentation.
These materials contain reconciliations for non-GAAP measures along with information pertaining to the use of non-GAAP measures as well as forward looking statements about fifth third's performance. We undertake no obligation to we would not expect to update any such forward looking guidance or statements. After the date of this call.
This morning, I'm joined by our CEO, Greg Carmichael, CFO, Jamie Leonard President and expense and Chief Credit Officer, Richard Stein.
Following prepared remarks by Greg and Jamie We will open the call up for questions.
Turn the call over now for Greg to comment for his comments, thanks, Chris and thank all of you for joining us this morning.
Hope, you're all well and stay and healthy earlier today, we reported for full year 2020, net income of $1 $4 billion for $1 83 per share we delivered strong financial results and 2020 and despite the challenging operating environment brought on by the pandemic. We had several highlights for the year for <unk>.
General and record adjusted pre provision net revenue.
We maintained our expense discipline, producing and adjusted efficiency ratio below 59%, which was stable compared to the prior year remains near decade low.
And we generate a record adjusted fee revenue, including records in both for commercial and wealth and asset management businesses.
We also continue to generate purely and consumer household growth of 3% with outsized success, and Chicago and our key southeast markets.
Well nearly doubling our reserves, we generated $11, 7% adjust.
Adjusted return on tangible common equity, excluding a OCI for the full year and generated and Oreo TCE of 18, 4% and the fourth quarter.
Just as importantly, we have successfully navigated the COVID-19 pandemic, keeping 99% of our branches open for business, we're working closely with our customers to support them. During these challenging times through the PPP program hardship relief programs and other outreach efforts that we have previously discussed.
Our efforts have been dose externally we were recognized by an independent third party as a top performing bank. Among the 12 largest U S retail banks based on of our pandemic response for customers and communities and employees.
Also we had the honor what do you need the Greenwich Middle market. She X award, reflecting our commitment to delivering a superior customer experience before and during the COVID-19 crisis.
Additionally for the year, we published our inaugural ESG report.
Highlighting our efforts to generate sustainable value for all stakeholders and Justice, we announced that we became the first regional bank to achieve carbon neutrality and our operations.
Turning to the fourth quarter, we reported net income of $604 million our reported EPS includes a negative tencent.
And impact from the items shown on page two of our release.
Excluding these items adjusted fourth quarter earnings were <unk> 88 per share Jamie will walk you through the quarterly financial results and more detail and just a minute.
Focused execution on our key strategic priorities and our disciplined approach to credit risk management.
And two to drive strong financial performance.
Recently announced we have taken decisive action.
Two drive efficiencies and improve the long term profitability of the bank by streamlining our operations.
Moving divesting less profitable businesses, such as property and casualty insurance, while still investing in areas of growth and profitability. For example, we recently finalized the acquisition of HTC, which strengthens our health care investment banking and strategic advisory capabilities.
We continue to assess select strategic investments and non bank acquisitions to improve fee growth.
All reported and adjusted return metrics were solid and improved sequentially and the fourth quarter, reflecting our strong operating results, including the provision for credit loss performance, we expect deposit momentum and our.
Our operating results to continue and 2021.
Net interest income increased 1% sequentially, despite loan portfolio headwinds underlying NIM, which excludes excess cash and PPP impacts increased eight basis points sequentially.
We expect to generate differentiate and NIM performance relative to peers in 'twenty, and 'twenty, one and beyond and reflecting the hedge and investment portfolio actions, we have taken over the past several years.
Our credit quality remains solid with net charge offs for 43 basis points stable compared to the recent quarters.
Also our criticized assets and allowance for credit losses, both declined sequentially, reflecting our credit discipline and improved credit results and economic outlook.
We continue to benefit from the diversification and resilience of our fee based businesses and retail commercial and wealth and asset management. Many of our fee based businesses are generating strong results for helping to cushion the impact of lower rates.
Our robust capital liquidity levels further improved this quarter indicative of rebel of our balance sheet strength.
Our regulatory capital levels have increased for three consecutive quarters of growth.
And all of our strong earnings power and balance sheet dynamics and the fifth temporary suspension of buybacks.
With a partial relief and.
<unk> by the fed and December we intend to execute up to $180 million and share repurchases and the first quarter.
Through proactive management, we have built a strong and stable balance sheet and significantly improved the diversification of our fee revenue. We have done this all while maintaining our culture of expense discipline and demonstrating our commitment to consistent and solid through the cycle performance are for.
Performance continues to give us confidence that we can safely and soundly operating company a significant lower capital levels for.
And our CET one target remains at nine 5%, we will continue to evaluate the appropriate target capital target as the economy improves.
You'll also see continued strength in our commercial loan production levels and our pipelines fourth quarter loan production was the highest and 2020.
And it was down around 20% from the year ago quarter, but was up over 50% from the third quarter.
We are encouraged by the recent trends for sequential improvement and almost all regions and all verticals and strong production was more than offset by elevated payoffs and another 1% decline and line utilization.
Our middle market pipeline improvement is well diversified throughout our footprint includes civic and strength in our southeast markets and corporate banking pipeline strengthened again this quarter with a proven and industrials retail health care solar and financial institutions, partially offset by continued sluggishness and hospitality.
And energy.
Based on our strong pipeline and stable utilization trends through the first three weeks of January we currently expect C&I loan balances to improve on a pure net basis during the first quarter, excluding the impact of PPP loans commercial real estate pipelines continued to be well below pre COVID-19 levels.
Before I turn it over to Jamie for discuss results and our outlook I want to reiterate our strategic priorities.
Which will enable us to continue to generate long term shareholder value are.
Our forecasts are for key strategic price I'm not changed over the past several years and include leveraging technology to accelerate digital transformation driving organic growth and profitability expanded market share in key geographies and maintaining a disciplined approach on expenses and client selection.
We will put the appropriate level of prioritization and focus on areas, where we see the highest probability for driving strong financial returns and generate long term value for our shareholders our balance sheet strength diversify revenues and the continued focus on disciplined expense management will serve us well as we navigate this environment and 'twenty 'twenty, one and beyond.
I'd like to once again, thank our employees I'm very proud of the way you have continually risen to the occasion and support our customers and each other during these challenging times fifth third continues to be a source of strength for our customers and our communities and we remain committed to quality equity and inclusion for all to it and we've made a three year $2 8 billion.
And pledged to this commitment and lending investing and donating including a $25 million contribution to the fifth third foundation.
Our financial results continue to reflect our focused execution discipline through the cycle principles, we remain committed to generating sustainable long term value for our shareholders and anticipate that we will continue and improving our relative performance as a top performing regional bank.
With that I'll turn it over Jamie discussed our fourth quarter results for our current outlook.
Thank you Greg and thank all of you for joining US today, one quick housekeeping item before discussing our financial results for the quarter and you'll see and our earnings materials. We are no longer adjusting certain metrics for purchase accounting accretion or intangible amortization and given that they largely offset and have an immaterial impact on pre tax income.
We hope this will help simplify our disclosures going forward to more easily assess our financial ratios.
Now turning to our fourth quarter performance.
We ended 2020 with positive momentum and delivered strong financial results reported results were impacted by several notable items, including a $23 million after tax negative mark related to the visa total return.
A $21 million after tax charge related to our acquisition and disposition accident as Greg mentioned.
The sale of our HSA business remains in process and should close by the end of this quarter we.
We also recognized a $16 million after tax charge related to our branch and non branch real estate efficiency strategies.
This includes impairments associated with seven branches, we will be closing in April as part of our normal rigor and reviewing our network for efficiencies and these closures are in addition to the 37 branches, we announced last quarter.
Furthermore, as Greg discussed, we reported a $19 million after tax charitable contribution expense to promote ratio lead quality and we also recorded $4 million after tax from Covid related expenses.
Lastly, we had a onetime favorable item related to state taxes of $13 million.
In terms of the financial highlights for the quarter.
Despite the nearly 160 basis point decline and one month LIBOR over the last 12 months, we were able to generate and adjusted P. P and are above the fourth quarter of 2019 level with.
We generated and efficiency ratio.
58%, our operating performance reflected a 1% increase and NII, a 16% increase and adjusted fees and a 4% increase and adjusted expenses.
Given the strong P P and our results combined with continued credit related improvements, we produced strong reported and adjusted return metrics, including an adjusted ROA of 131% and adjusted return on tangible common equity of 18, 4% excluding OCI. Despite.
Growing our regulatory capital of 20 basis points during the quarter.
Drilling and other income statement performance, the sequential increase and NII of 1% reflected the strength of our balance sheet and deposit franchise.
And we saw a four basis point improvement and our total loan yields which was supported by both the continued benefits from our long duration and deepen the money cash flow hedges as well as $10 million and.
Additional PPP income.
Our NII results included $11 million of incremental favorable prepayment penalties and the securities portfolio, reflecting one of the benefits from our strategy to invest and bullet and locked out cash flows.
Approximately 59% of the investment portfolio was still invest in and bolt locked out cash flows at quarter end and our investment portfolio yield increased nine basis points sequentially to three 1% net premium amortization and our securities portfolio was only $1 million and the fourth quarter.
On the liability side, we reduced our interest bearing core deposit costs by another five basis points for the fourth quarter. The average cost of our core deposits was only five basis points C. D and debt maturities also provided a two basis point improvement for NIM versus the third quarter.
Reported NIM was stable compared to the third quarter, reflecting the favorable securities portfolio and PPP income I mentioned offset by the impact of higher cash levels and underlying NIM, excluding PPP and excess cash improved eight basis points to three one and 4%.
Once again, we had another strong quarter generating noninterest income to cushion the rate driven NII pressure.
And the resilience and our fee income levels continues to highlight the revenue diversification that we have achieved.
Total non interest income increased 9% relative to the third quarter, excluding the notable items noninterest income increased 16%.
We generated record commercial banking revenue, which increased double digits sequentially and year over year driven by strength across most of the business. We also recorded TRA income of $74 million as well as gains from several of our direct and tech investments and venture capital funds. These investments generated $75 million of fee.
Net income in 2020, and we expect continued gains in 2021.
Topline mortgage banking revenue declined $46 million sequentially, driven by a $26 million headwind, reflecting a decline and rate lock volumes, a $12 million impact from our decision to retain $250 million of our retail production during the quarter and $8 million due to margin compression.
MSR decay and servicing fees were unchanged sequentially and will remain challenged in this environment.
While we did not deliver the mortgage results we expected.
Due to capacity pressures, we have seen meaningful improvement in December and January.
Noninterest expenses also increased relative to the third quarter, albeit to a much lesser extent and fees adjusted expenses were up 3%, excluding the mark to market impacts associated with nonqualified deferred compensation that is offset and security gains within non interest income.
The largest contributor of the expense growth was performance based compensation driven by the strong performance and fees related to business growth and other revenue linked expenses.
Moving to the balance sheet total average loans declined 3% sequentially with both commercial and consumer balances in line with our previous guidance ranges.
Loan balances continued to reflect lower revolver utilization rates, which decreased another 1% and the quarter to 32%.
Why needle and utilization rates, so far in January our stable relative to the fourth quarter.
And currently expect utilization to remain unchanged for the first half of 'twenty and 'twenty, one and are forecasting and only a modest increase of approximately 1% and the second half of the year as the economy improves.
Average CRE loans were flat sequentially with end of period balances declining 1%.
As we have discussed before we believe that the commercial real estate sector is particularly vulnerable to the current economic environment and supports our strategy of lower exposure and our focus on high quality borrowers.
We have provided more information related to our CRE exposures and our presentation this quarter.
Average total consumer loans increased 1% sequentially driven by continued growth in the auto portfolio, partially offset by declines in home equity and credit card.
We took additional action and the consumer portfolio at the end of December to improve our NII trajectory for 2021, deploying approximately $2 billion of our excess liquidity by purchasing government guaranteed residential mortgages currently in forbearance under the cares Act provision.
These loans are and our held for sale portfolio as they are not expected to be held for more than one to two years. These loans provide a more attractive risk adjusted return than other current investment alternatives.
Our securities portfolio of roughly 35 billion decreased 1% compared to the prior quarter, reflecting the impact of Paydowns combined with the lack of compelling reinvestment opportunities.
Our investment portfolio positioning continues to support NII and the current environment, allowing for patients and investing at the current unattractive long term rates given the potential for strong economic growth and the second half of 2021, we do not believe long duration securities are providing an appropriate risk return tradeoff as.
A result, we do not expect to grow our investment portfolio and the near term.
Our unrivaled unrealized securities and cash flow hedge gains at the end of the quarter remained at $3 $5 billion also our deliberate actions within the securities portfolio over the past several years.
Focused on structuring the portfolio and anticipation of a lower rate environment and should continue to give us a strong advantage is a very effective hedging tool to help mitigate the rate headwinds.
Average other short term investments, which includes interest bearing cash increased to $35 billion growing $5 billion from the prior quarter and $33 billion compared to the year ago quarter.
In addition to the loan growth headwinds outside of P. P. P. A significant increase and excess cash reflects record deposit growth over the past nine months core deposits increased 3% compared to the third quarter.
<unk> a 12 for.
12% reduction and consumer CD balances, which helped drive down interest bearing core deposit costs by five basis points.
Moving on to credit overall credit quality continues to be to be solid, reflecting our disciplined approach to client selection and underwriting balance sheet optimization and the improved macroeconomic environment.
Charge offs remained well behaved at 43 basis points nonperforming assets declined $67 million or 7% with the resulting and NPA ratio of 79 basis points declining five basis points sequentially.
Also our criticized assets declined 12% with appreciable improvements and energy industrial and middle market.
Given the solid credit results lower end of period loan balances and improvements and the macroeconomic outlook. Our reserve coverage declined eight basis points to two for 1% for portfolio loans and leases with improvement in both consumer and commercial.
The low level and net charge offs combined with the $131 million decline and the loss allowance resulted in a net $13 million benefit to the provision line.
Our ACL decline of $131 million was attributable to several factors approximately one third of the decline was the result of lower period end loan balances with the remainder of the released due to both the improved economic outlook and the improved commercial credit risk profile, which is reflected in our lower NPA.
And criticized asset levels.
As is required under Cecil our reserve reflects all known and macroeconomic and credit quality information as of December 30.
While we are not predicting or forecasting reserve releases at this point given both the significant uncertainty and the economy and our loan growth expectations.
To the extent, there would be meaningful and sustained improvement and the broader economy, that's not unreasonable that reserves could come down from here, even if credit losses tick up.
Our base case macroeconomic scenario assumes GDP remains below 2019 levels until the end of 2021 and.
Unemployment rate higher than the current six 7% ending 2021 at seven 2% and declining to five 6% by the end of 2022 <unk>.
Importantly, our base estimate incorporates favorable impacts from fiscal stimulus generally consistent with the $900 billion package passed at the end of December but does not incorporate additional relief as currently proposed by the New administration.
We did not change our scenario weights of 60% to the base and 20% to the upside and downside scenarios.
Applying a 100% probability weighting to the base scenario would result in a 200 million dollar would lease so our fourth quarter reserve, Conversely apply and have 100% to the downside scenario would result, and a $900 million bill.
Inclusive of the impact of approximately $136 million and remaining discount associated with the N b loan portfolio, our ACL ratio is 253% and.
Additionally, excluding the $5 billion and PPP loans with virtually no associated credit reserve the ACL would be approximately $2 six 5%.
Moving to capital our capital remains strong during the quarter. Our CET one ratio ended the quarter at 10, 3% above our stated target of nine 5%, which amounts to approximately $1 $2 billion of excess capital.
As a reminder, we have remaining capacity to purchase 76 million shares from our 100 million share program authorized by our board of directors and 2019.
Representing $2 $4 billion or 11% of our current shares outstanding.
As Greg mentioned, we plan to execute approximately $180 million and share repurchases during the first quarter and showed the federal reserve permit banks to continue to repurchase shares in 2021 under the current net income test framework.
We would have around $1 billion of buyback capacity and total for 2021, assuming no change to our reserve coverage.
Moving to our current outlook, we have provided detailed guidance for both for full year and the first quarter consistent with previous fourth quarter earnings calls.
We expect full year 2021 total loans to be stable with 2020 on both on average and end of period basis, reflecting the full year headwinds of commercial line utilization declines from the second half of 2020, and PPP forgiveness offset by the benefit of the consumer loans added at the end of 2020.
And our forecast of $2 billion of new PPP loan originations and 2021.
Average commercial balances are expected to decline and the low to mid single digit range compared to 2020, while consumer balances should increase and the mid to high single digits range.
For the first quarter, we expect average total loan balances to increase approximately 2% to 3% sequentially, reflecting relative stability and the C&I portfolio continued strength and the auto portfolio and growth and residential mortgage and other consumer loans, partially offset by a 1% decline and so.
Sorry.
Given the loan outlook combined with our expectations for the underlying margin to be around 3% reflective of the structural rate protection from our securities and hedge portfolios. We expect NII to decline approximately 3% next year and also decline around 3% and the first quarter relative to the fourth quarter.
Or assuming no deployment of our excess liquidity.
We expect non interest income to increase 2% to 3% and 2021, which includes a 1% headwind from lower TRA income in 2021, if not for the TRA and back our fee expectations would be for 3% to 4% growth, which includes the impact of approximately $40 million and foregone.
Annual revenue associated with our business exits as part of our expense savings program.
For the first quarter, we expect fees to increase mid single digits year over year, which is not which is a 9% to 10% decline sequentially, reflecting seasonal impacts.
Such as the lack of TRA revenue and lighter other noninterest income, partially offset by the seasonal uptick and wealth revenue from tax preparation fees and the first quarter and significantly stronger mortgage revenue, we expect top line mortgage revenue to improve $30 million to $35 million and the first quarter relative to the fourth quarter and <unk>.
Also anticipate stronger results and our loan and lease syndication businesses.
We expect full year 2021, non interest expense to decline approximately 1% relative to the adjusted 2020 expenses driven by the impacts of our expense reduction program, but I'll share, but partially offset by expenses associated with strong fee growth servicing and expenses associated with the consumer.
Sumer loan portfolio purchased and the fourth quarter and continued investments to accelerate both our digital transformation and our sales force and branch expansion and our growth markets.
As is always the case for us our first quarter expenses are impacted by seasonal items associated with the timing of compensation awards and payroll taxes.
Paired to the first quarter of 2020 reported expenses, we expect total expenses to be flat on a sequential basis, excluding seasonal items. Our total first quarter expenses are expected to be down approximately 3% to 4% from the fourth quarter.
We currently expect to generate year over year adjusted positive operating leverage and the second half of 2021, reflecting our expense actions. Our continued success growing our fee based businesses and our proactive balance sheet management.
We expect total net charge offs and 2021 to be and the 45 to 55 basis point range.
If the proposed stimulus passes we would expect to be at the lower end of that range.
In summary, our fourth quarter and full year 2020 results were strong and continue to demonstrate the progress we have made over the past few years toward achieving our goal of outperformance through the cycle.
We will continue to rely on the same principles disciplined client selection and conservative underwriting and a focus on a long term performance horizon, which gives us confidence as we navigate this environment.
With that let me turn it over to Chris to open the call up for Q&A.
Thanks, Jamie before we start Q&A as a courtesy to others. We ask that you limit yourself to one question and a follow up and then return to the queue. If you have additional questions and we will do our best to answer as many questions as possible and time, we have allotted this morning.
<unk>. Please open the call up for questions.
Thank you and as a reminder to ask a question and you will need to press star one on your telephone and withdraw.
Your question. Please go ahead.
Your first question comes from the line of Scott <unk> from Piper Sandler Your line is open.
Good morning, guys. Thanks for taking the question.
I guess I wanted to ask about sort of the C&I outlook near term I guess I would characterize the.
And commentary is constructive but you had the outlook for just I think a 1% increase and line utilization and in the second half.
To me it stands and a bit of contrast from some of your peers who seem to.
And require a more robust and.
Acceleration and CNI and later in the year I guess I'm just curious for maybe more color on how youre thinking about.
<unk> rebound and C&I as the economy normalizes around say mid year or so.
Scott. This is Greg first of all I'd tell you we were encouraged by the by the fourth quarter.
Pipeline growth that we've seen up significantly for the third quarter, albeit slightly down from where we were and 10 to 2019. So we're seeing progress out there and it's really pretty broad.
Based across all of our regions and across our verticals.
Articles. So we're encouraged by the strength, we're seeing there obviously theres a lot of unknown volume as we go into 2021.
Additional stimulus the vaccines and so forth for recovery. So it's a hard thing for us to gauge what the expectations are but there's a lot of liquidity out there right now so we're optimistic that the vaccines get distributed appropriately and we get a call me back in full swing second half of the year and if those numbers might look stronger, but right now and we're just being at the end of the day Conservative.
But encouraged by the pipelines and we've seen already or Tim if you have anymore.
No I think that's absolutely right as you said I think we're particularly pleased with the pickup and middle market production that we saw in the fourth quarter and the continued strength in industry verticals like renewable energy technology and health care, where the bank has made fairly significant strategic investments over the course of the past several years.
Okay perfect. Thank you and and then just within your guidance for the full year and now did you guys. Conservatively don't include the PPP impact just curious Howard to the extent that they do come through how are you expecting those to have an ebb and flow you know well most of the forgiveness from the first round and expect them to be.
Sort of a first half event or how do you see that flowing through.
Yes, Scott, it's Jamie for PPP and total NII.
And we expect about 150.002 million 21, which includes about $60 million and accelerated forgiveness phase, which compares to about $100 million of total NII in 2020, which included only $10 million and accelerated forgiveness fees and right now and our outlook we are.
<unk> first quarter forgiveness fees to be in line with the fourth quarter, perhaps that's what we will do better than that from a forgiveness perspective, we've had about 400 million are a little bit less and 10% of.
For 2020 originations forgiven and so as we model it out we expect the majority of the fees from the 2020 originations to be forgiven and the third quarter as borrowers approach that 16 month time horizon.
And to make payments or habit forgiven. So right now we expect the back half of the year to have a little bit more.
The accelerated fees and then as we mentioned in the prepared remarks, we expect the 2021 round of P. P. P.
To be about 2 billion and originations and then that will accrue.
At a lower rate just given the five year term on those loans. So we expect about a one 8% yield prior to any of the forgiveness phase.
Perfect Alright, Thank you all very much.
Your next question comes from the line of Ken <unk> from Jefferies. Your line is open.
Hi, Thanks, Good morning, guys.
And Jamie on the on the on the fee side and good to hear you.
Reiterate that up 3% to four core growth, excluding TRA I heard your comments about mortgage for the first quarter, but can you just give some more color in terms of what you expect to drive that growth this year and how mortgage fits into that equation.
Sure I think some of the momentum coming off of 2020 will lead to a very successful 2021 and the fee businesses, we did grow households, and 3% on the consumer side and then the investments we've made and the capital markets offerings over the past several years should bear fruit in 2021.
So when you lineup for fee categories for 2021, and I expect high single digit growth and Treasury management and commercial banking, which does include the capital markets business mid single digits growth and consumer deposit fees wealth and asset management and card and processing and.
And then low single digit growth and mortgage.
Got it so even with the strong year given some of that I guess I guess it was a capacity point you made earlier about mortgage do you still think mortgage can grow. This year is that just because you would see production pulling through or do you see less of the MSR drag over time, just maybe a little more color on the mortgage side. Thanks.
And.
Mortgage.
Fourth quarter, there were capacity constraints and there was the headwind from our decision.
It's a portfolio of $250 million of our retail production and those loans will close and the first quarter and then you'll see that show up and the residential mortgage balances.
Balances and held for investment and.
And from there we do expect.
The capacity constraints to be behind us and from.
From an MSR perspective.
This environment for servicing them.
And is certainly challenging and we expect that to.
And the second half of 2021, and all and then.
Low single digit growth for 2021, I think is a very achievable number for us.
Okay understood. Thanks, Thanks, a lot Jamie.
Your next question comes from the line of Peter Winter from Wedbush Securities. Your line is open.
Good morning.
Peter I wanted to ask about <unk>.
Capital and.
And if you could just go over that.
<unk>, what's left and the existing share buyback.
How much you have left and then secondarily, if the third word too.
Lift the restrictions on share buybacks, just how youre thinking about capital returns.
Yeah. Thanks for the question Peter.
In 2019, we approved $100 million share repurchase program, we have 76 million shares left under that program. So call it $2 $4 billion right now.
For 2021 if.
You assume the fed continues their trailing 12 months net income test and you look at our guide on earnings you should generate about $1 billion of capacity assuming no additional reserve releases and if you look at our capital from a spot basis at the end of 12 31 2012.
<unk>, we have about 1 billion to Av access even with the.
Loan performance that we've had so I think for 'twenty and 'twenty, one should the fed open the window of $1 billion or so.
I think everything triangulates to that level.
Okay. That's helpful and then.
And I was lowered debt the net charge off guidance.
From December.
We're in December I think it was 55 to 65.
And what gives you the confidence that I think theres nothing looming.
Especially with some of these loans coming off deferral.
Assuming we don't get and additional stimulus package.
Yeah, Hey, it's Richard Thanks for the question I think it really comes down to the the activity we have from a risk management perspective, the confidence we have and the underwriting and our portfolio management, we continue to see.
Consumer loss rates are lower than normal we saw them lower than normal and in 2020, we expect that to continue in 'twenty one.
As the impact of stimulus.
Relative to the portfolio remember our portfolio is concentrated and prime and Super Prime we have a wide weighted average FICO of close to 760, so confidence and and what's happening there from a from an activity standpoint.
Do expect commercial losses to tick up a little bit.
And from the end of the high forties, low fifties and that's just going to be a function of the normal migration we see in.
In commercial we highlighted some some potential at risk industries.
And the and the deck, but we've seen we've seen criticized assets come down as Jamie mentioned.
And we've seen positive resolutions and our workout group and so just given what we see and the portfolio, where we see performance re stabilization across a number of sectors, we have a lot more confidence and that range.
That's great. Thanks.
Thanks very much.
Your next question comes from the line of Terry Mcevoy from Stephens. Your line is open.
Hi, good morning.
Maybe start with a question for for Jamie who I guess by now we would call the chief Cook and Bottlewasher at fifth third.
Question for Jamie.
Pretty clear on kind of the securities purchases and your thoughts there on holding cash I guess my question are there opportunities to purchase loans like the government guaranteed loans that you had and the fourth quarter.
As well as the decision to just hold more mortgages on the balance sheet and as you think about the next 12 months.
Yeah, and that's essentially what we did and the back half of 2020, and the third quarter, we repurchased our own and Ginnie Mae.
And the forbearance pool and.
And that was about $750 million that came onto our balance sheet and the fourth quarter, we purchased the Servicers pool.
Two to the tune of $2 $1 billion.
As well as taking the $250 million of retail production and putting it on the sheet I think for now we've we've done a lot of work on the residential mortgage portfolio.
And to improve it and we think the returns are incredibly attractive I think going forward I'd like to see.
The loan growth being other categories, just given the convexity risk you have and residential mortgage and that we've we've done enough. So that's why we expect and the first quarter to get back to selling all of our production.
But again I think the trade debt.
And that we were able to execute was a nice deployment of excess cash and certainly a far better return than just buying mortgage backed securities. You know, we think the ROA was 2% or so on that transaction versus security purchases are.
And one to sub one right now.
Thank you and then just as a follow up just looking at the seasonal allowance I'm curious what was behind the increase and commercial mortgage and commercial construction and other categories drifted lower those two were up higher over.
Over quarter and was hoping to get some insight there. Thank you.
Yeah, It's it's Richard again, I look and in commercial real estate.
We've seen continued negative migration that that's just a portfolio and an asset class that has a longer and longer tail in terms of when problems arise and a longer tail when theyre going to be resolved.
So we saw criticized assets go up and that sector.
And <unk>.
And so we that plus some qualitative adjustments because we don't believe that the models.
<unk> fully reflect the the variables that are impacting some of the sub sectors like hospitality and retail in terms of the time of recovery and so just given the asset migration transit and.
And some qualitative adjustments that drove the ACL for commercial real estate higher and the quarter.
Alright, Thanks again.
Your next question comes from the line of Ken Zerbe from Morgan Stanley. Your line is open.
Alright, great. Thanks.
First question just in terms of the NII guidance I just wanted to make sure that the.
Question, whether the down 3% and 2021 does that include your expectation of accelerated PPP fee income.
Yeah. Thanks for the question. So we do include the $2 billion of additional 2021 P. P P and our guide.
I think the NII guide of down three.
And that trajectory could improve I guess.
And to the point of the first question on the call today.
Through higher commercial line utilization, because we do assume.
Just for small uptick and the back half for the year and you know frankly theres not.
Not much we can do about that that's a borrower.
Customer demand situation.
A steepening yield curve benefit would also help we anchor our guidance on the January force.
Implied forward curve.
So, perhaps we'll we'll do a little bit better there and should the curve steepen significantly then we would have opportunity to deploy excess cash.
Third with regard to the P. P. P. We're assuming a $2 billion of originations, but as we and perhaps that's a conservative number because as we sit here today we've.
Submitted over $1 billion and apps and just the first two days.
And then finally as Greg mentioned, perhaps they'll be better commercial loan production.
And through higher.
Borrower demand and Capex and inventory build buildups and.
From a production expectation.
Perspective.
And we're expecting 2021 commercial loan production to be up about 20% or so from 2020, but still down.
Down 7% or so from 2019 levels. So our outlook assumes improving improvement, but not returning to a 2019 type of economy.
Got it okay.
Alright, and then just my second question.
I think Craig mentioned, the nine 5% your CE tier one target currently which I totally understand.
But you didn't make a comment that you would kind of reconsider that as the economy gets better can you just help us dimension like let's assume that the economy is fully better.
Where where is a good level for fifth third run on CE tier one.
So prior to.
Some of the challenges that we're cropping up and the environment, we had a 9% target so should the economy.
Economy.
You know improve as we hope it does and the back half of 2021 nine.
And 9% I think is a logical next step for us.
When we stress test our balance sheet, we believe our balance sheet has a risk profile that could be run.
And the eight 5% to 9% range, our stress capital buffers currently 7%. So I guess, the fed's perspective is much lower than that but I think for US you know for this year, we're targeting nine 5% and we'll evaluate that target as we see how the economy unfolds.
Alright, thank you.
Your next question comes from the line of railcar cash from Wolfe Research. Your line is open.
Thank you good morning.
We saw that book repricing headwinds to loan yields persist throughout the last strip cycle not just for fifth third but across the banking system I believe about half of your loan portfolio is true variable rate and the mix for the short end of the curve, but there's still some repricing and yet to come through would you expect a similar dynamic with further pressure on loan yields to come.
And this sort of cycle as well, maybe if you could just speak to that and maybe.
And you compare and contrast, what what's different about this cycle.
No I think thats, a good observation and we are experiencing that phenomenon and we saw it and the fourth quarter NIM and it's a factor and our first quarter guide right now from C&I production levels, just given the floating nature of the portfolio.
Yields are roughly in line, maybe five bps below the cash.
Current portfolio.
But on the consumer side, which is more fixed rate and nature instruments. We are seeing a new production yields and 25 to 35 basis points below portfolio yields and so.
That is certainly a headwind.
And our NII outlook.
Understood and.
Separately.
And sorry, if I missed this but I wanted to ask about if you could give some color on new money rates in light of the curve Steepening and that we've seen and the security side. It seems like some of the dynamics around QE have led agency MBS spreads over treasuries to turn negative which would seem to temper some of the benefits of the steeper curve, but I was hoping that you guys could discuss some of the opportunities that you see there.
Yeah, I think it's a good.
It's a great question and you're seeing a divergence and practice across the banks.
And our view in terms of.
But the rate environment would need to progress to.
In order to put our excess liquidity to work as we would like to see 50 basis points or more improvement and the entry points either through the spread widening or curve steepening.
A lot of banks, you know to your point.
And on the 25 basis points of Steepening or even before that but credit spreads have tightened tens of basis points or more over that time. So that the net entry point improvement to us is not that compelling.
In fact, you know by our math, if you bought and the third quarter, even in the first couple months of the fourth quarter.
You lost $2 and value for every one dollar and Carrie you picked up over that period of time. So you still have more risk should the curve steepen further and we don't want to be stuck in a bad trade chasing balances and what at what are still historically low levels of rates.
So the good news for US is we are very well positioned and the investment portfolio. We have the luxury of time portfolio cash flows are about a $1 billion per quarter. That's how we're modeling. It. So we just think are being.
And being patient, we can afford to be patient.
And we'll move when we think we're getting the appropriate risk return.
And the environment.
That's very helpful. Thank you for taking my questions.
Your next question comes from the line of Erika Najarian from Bank of America. Your line is open.
Hi, good morning.
My first question is.
Clarification question, Jamie you mentioned $1 billion and buyback capacity for the year, but that would imply debt.
And expenses income cash beyond the first quarter correct, yes.
The 180, and the first quarter and then any additional repurchases are certainly subject to the FET, allowing us to do so.
So if they lift the income restriction.
And number one what are your plans for DFAST participation. This summer and number two where could that capacity growth to if you were not subject to that income restriction after first quarter.
Okay.
So.
And I'll take the second part of the question first because that's the easier one right now against our target of nine and a half we have 1 billion of excess capital. So.
Until the economy shows.
He can improvement of $1 two would take us down to our target. So I think that's a fair number to use the income test will deliver a little bit less and that.
In terms of the CCAR opt in.
Funny, because and we've discussed this was a team and we officially have until April 5th to decide but right now given that our binding capital constraint is our own internal target of nine 5% versus the feds prior stress capital buffer for us at 7% or even seven 2% and.
And their Covid test should they adopt those December results and the SCB.
And frankly, we feel like our team deserves a respite following the six stress tests, we did during the pandemic and there is essentially nothing to be gained by participating so I think for now.
If I had to decide today I would decide not to opt in.
Got it and just my second question is on and net charge off outlook for this cycle.
Should we think and about 45 to 55 basis points.
Your quantification of the peak or are you expecting you know despite.
And the spike to be delayed in 2022, I'm, just trying to square that with a $2, 6.5% Reserve X P. P. P.
Yeah. So it's interesting when you when you look at the guide.
For us for 45 to 55 basis points.
For the first quarter, we actually expect charge offs will be and the 40 to 45 basis point range and grow during.
During the year and to your point, our losses get pushed out, but we certainly expect for.
45 to 55 range to be the peak.
Even though some of the additional stimulus or.
Elongated and the cycle I think ultimately the peak of the cycle peak keeps coming down which is why we continue to guide to a better and better numbers. So right now.
I think 45% to 55 will be the peak for us.
Got it thank you.
Your next question comes from the line of Johnson and carry from Evercore ISI. Your line is open.
Good morning.
On the back of the capital topic.
And given your thoughts on capital and where you stand in terms of excess can you just give us your updated thoughts on M&A potential and.
Terms of both bank opportunities and what your thoughts are there as well as on the non bank side.
John This Greg good question get off and as you might imagine maybe first off we haven't changed our position and we're really focused on non bank M&A opportunities as evidenced by our recent acquisition of age to see that really supports.
And for private health care.
Part of our our vertical so it's really about making sure we are additive to both our products and our service capabilities for our fee based business, whether it be wealth and asset management our payments capability.
Our capital markets capability, that's where we're spending our energies right now and and really getting out of businesses that are more hobbies, such as we talked about our property and casualty business that wasn't really providing the returns we're looking for and we couldn't get to scale. So our focus is going and continue to be on those opportunities to enhance our business value proposition and grow those feed business.
And that's what we would do focus on the last five years mainly from.
From a bank M&A perspective, its not on our agenda right now.
As always we would we would assess and attractive situation, but today, that's not our focus our focus is on non bank M&A that adds to the business as we just discussed.
Thanks, Craig and then on that front on the non bank front I know you mentioned, a wealth and asset management just to confirm is that.
Is it both carriers that you'd be interested in I know you've expressed an interest and wealth, but you would also be interested and the institutional asset management side and as well no.
No, but the institutional side, we're pretty much focused on like I said, the wealth and asset management side, where.
And where we've made acquisitions like the Franklin Street partners and in North Carolina, and that's pretty much our focus right now and.
And well side of business.
Okay got it that's helpful. If I can ask just one more for more question.
In terms of the securities portfolio, just wanted to get an update on on how the underlying credit within the Securities book is holding up I know you have a CRE concentration there in terms of see MBS, but just wanted to.
And again and updated.
And update there and what Youre seeing in terms of the performance of the underlying securities if theres any stress there evolving thank you.
Yeah we're.
Invested and about $3 5 billion of non agency MBS, and it's holding up well, but delinquency rates are mid to high single digits, but the credit enhancement right now is approaching 40% and.
And we only invest and the Super senior AAA rated tranches.
So that we and we're at the top of the repayment stack and.
So we're not concerned about the credit exposure and the non agency book.
Got it okay, great. Thank you.
Your next question comes from the line of Mike Mayo from Wells Fargo Securities. Your line is open.
Hi, Mike.
And I think I heard you correctly, so you're kind of guiding for negative operating leverage and the first half of the year and positive operating leverage for the second half of the year and.
And kind of flattish for the year as a whole is that.
Kind of a fair summary of what you guys said.
Yeah.
Okay and the question really is on the spending.
And I'm sure, there's a lot of opportunities to spend money.
From the strategic landscape.
You know you have a lot of large banks that are opening up branches and some of your markets. Others that are saying you know branch light digital first some are trying to use their credit cards and the markets to cross sell and others are moving kind of middle market.
Businesses and to your area and so as it relates to the.
Kind of the competitive banking wars and your markets.
How do you think about that I mean are you seeing any impact yet are you worried about that over the next five years.
And is it might be to do about nothing or is this a major strategic threat and you say, hey, we need to spend more money on X y and Z and <unk>.
Let me start this is Greg and younger throw it to Jim. This is a great question for him also and you think about the investments we're making we still expect the run and expense base is down next year as we continue to make the strategic investments and our strategies and you've heard this over and over and not changed and the last five years for us how we're focused on our business, which is digital transformation.
<unk>.
C D card business organic opportunities to grow our businesses such as our fee based business as I, just discussed a moment ago and it'd be and add to the acquisitions or fintech plays that add to our products and capabilities to deliver to our customers. Our services. So we really continue to focus on debt and we're very competitive the household growth that we've seen and 3%.
Strong growth and our southeast markets.
We're a leader and the Chicago market. So we like those investments. So we're very couple of and ability to compete we think our investment structure. We have in place today allows us to continue to grow our franchise and be extremely competitive. So we're not going to change that will continue to feed the opportunities that we think create the greatest value for our shareholders, but let me let Jim add.
No I mean like new competition is always something that we watch closely.
And I think I wouldn't isolate it just to the folks who are traditional financial institutions that are building into our markets. We pay a lot of attention to the fintech companies particular, given that in some cases, they are arbitrage and the regulatory.
Apparatus at the moment in a way that creates a imbalance competition I think the point that Greg made that to me is the most important one is we have on a sustained basis continued to gain share even in our highest density markets over the course of the past three or four years on primary banking relationships.
Which we view as being the best measure of market share because the decisions you make on pricing and deposit product or where your dominance and domicile headquarter deposits or otherwise have a big impact on the FDIC numbers that you sometimes see people use on a period to period basis and.
So the strong household growth we have seen across the franchise in particular and focused markets like Chicago and the southeast as Greg mentioned on the consumer side of that and business.
Business and the strong core relationship growth that we continue to see out of our middle market franchise for the things that give us confidence and our ability to continue to compete.
And I think that Hey, you say, 3% household growth over what timeframe and that's that's an interesting way to think about it because what youre, making for household and this is depressed from the low rate environment.
And so.
For 3% of household growth over the past year or what timeframe you see yeah, it's 3% household growth over the past year, but if you were to look at our growth and prior years. It would've been in the 2% to 3% range quite steadily so we actually seen some acceleration driven both by the build out and the southeast and they and their growth rates.
For our Chicago, Mark at post MB, and then among the strongest and the franchise and definitely far stronger than we had seen and Chicago. When we were fifth third on a standalone basis.
Alright, thank you.
Yeah.
Your next question comes from the line of Sal Martinez from UBS. Your line is open.
Hey, good morning, Thanks for taking my question I wanted to follow up on <unk> com.
Comments and question.
It seems to me like your reserve ratios are just completely inconsistent with your charge off guidance.
Your your NCO of fifth.
The basis points at the midpoint.
And at the peak of the cycle does seem to be suggesting that.
The government is effectively played the role of superhero and prevented.
Credit cycle for them really even emerging and your reserves of about five times that and I would guess your weighted average remaining life and not five years and that that that doesn't even consider that your NCO rates are going to fall from here. So can you just help me bridge the gap on.
Your reserve levels relative.
To your charge offs, because the conclusion would be you would seem to me to be that youre, making and ample level of qualitative adjustments or your probability weighting downside scenarios pretty conservatively and that we should be thinking that it's pretty likely youre going to see pretty significant reserve releases and coming in the coming quarters.
Yes.
Very good question and the answer really comes down to the fact that the modeling of the ACL is based on the Moody's.
Hypothetical scenario that and that's frankly, why we included that in the prepared remarks, everybody would have that information. It is certainly a scenario that is.
And the base scenario is more conservative and our own outlook and two does include a 20% allocation to a downside scenario that obviously, we don't expect to happen so by its very nature.
Delivers a and <unk>.
C L reserve that would.
It would be higher than our expectations for losses in this environment.
So it was your model factoring and net charge offs that are higher than what you're guiding to and 21.
Well the reserve calculation is a three year for us a three year reasonable and supportable period, and then it reverts back over and the remaining years to your historical loss rates, whereas our guide is.
Our internal modeling over the next 12 months. So you can have differences and there and that given the different scenarios that are news.
Yeah, I don't want to belabor this but like if you if you're saying that this is the peak and your reserve of five times that it just seems hard to disconnect with two to that to that degree.
It just it just seems like there is.
And I think we're way there.
I think to your question it's.
If the outlook.
Continues to improve all other things being equal the reserve will come down and shutdown down point right. Our point is we remain conservatively positioned and prudently position given the uncertainty and the environment and we'd like to get through another three to six months and see how this.
Unfolds with vaccine efficacy and the economy turn around I think that's important.
And that's really important Jamie just good problem to have.
Go ahead I'm sorry.
No. This is this is the conversations and Greg just a conversation obviously, that's on the forefront and how we think about our business, but we are taking a conservative approach, we do one and wait and see over the next couple of quarters, how others vaccine plays out how the economy plays out and used.
You're right you know if you look and what we've got modeled versus what our expectations are we would either.
So for good upside for reserve releases as we go into the latter part of this year if things play out as we expect they would.
Okay, just as a quick fault.
Additional question on on expenses, just make sure I'm.
Getting the glide path right here.
Based on your full year and your first quarter expenses.
And it seem like at the midpoint of the range you would your factoring and about $1 1 billion a quarter of expenses from <unk> to for Q and I guess you get there in <unk> with most of the way there with the seasonal expenses going away, but I mean is it fair to say, it's like how do we think about that glide path and and.
And should we be should we be thinking that by fourth quarter and some of these expense initiatives filter through.
You could be even below that $1 1 billion as your run rate as you head into 2022.
Yeah, it's a good.
Good observation, we do have a higher run rate and the first quarter and due to the seasonal items that.
And we typically have and that I've, just got out and the prepared remarks and yes. When you model. It out one one is a fairly good run rate to.
To assume given the revenue projections that fee growth ends up being better than the 3% to 4% and expenses, obviously revenue would be higher but for our outlook.
Exactly right and then the benefit.
And that we might have and the fourth quarter is to the extent, our lean process automation and and other initiatives.
Pay off sooner than the 2022 time horizon, and then you could see some additional improvement and the fourth quarter, but for now we're expecting and 100 day 150 million of savings to occur in 2022 and not in 2021.
Got it okay. Thank you very much.
Your next question comes from the line of Gerard Cassidy from RBC. Your line is open.
Good morning, Greg and Jamie Hey.
Hey, Gerard.
Coming back to loan loss reserves when you take a look at your loan loss reserve and January 1st.
When the seasonal was put into place for you and your peers I think your loan loss reserve was about 180 basis points.
There you go clearly has hired today do you think ultimately I don't know if it's 22 or 23, but is that a good endpoint that we should look at in terms of when this whole COVID-19 issues behind US and then the second part of this whole loan loss reserving, what's your guys view and seasonal now that we've had it for a year.
I know it was a very tumultuous year, but do you think it's made it more volatile less volatile.
[laughter] I'll take that.
And that drag I guess.
Okay.
In terms of the 182 and the day one level, we spend a lot of time looking at that.
So when should we or if we ever should return back to that day 182 basis points and right now our current thinking is that in order to get there. It will take it's going to be measured a lot longer than several quarters, because we're going to exit.
And this crisis with corporate debt levels leverage levels.
And these are significantly higher coming out and they were going in.
And you would the way the modeling works you would have to have and economic outlook as good as the outlook was essentially and for Q of 19 and that might be hard to ever get back to at least in the next couple of years. So I think the bias.
For all of our reserves across the industry is probably.
To take a longer period of time and ultimately if you you said if you know.
Take a guess as to where that plays out over the next two years or at the end of two years from now would you be at your day, one and I'd say, we probably are over that number because of the corporate debt levels and because of the economic outlook is probably not as favorable as the <unk> 19 outlook was when we adopt Cecil.
Got it and in terms of ideas and volatility absolutely yes.
Okay.
And given given the see some methodology and <unk>.
And going into a stressed environment you sold a huge huge swings.
And we were dealing with right now and then also the adjustments necessary to release of reserves on the bottles haven't been tuned for this no one mode and a pandemic and these are new model. So there's a lot of qualitative adjustments to these models that you know.
And there Theres burns to the the uncertainty in front of US right now so it does definitely makes it more bolt for us.
No doubt, Greg and here's a bigger picture question for you win when you go down the elevators and are in the evening.
Yes.
The outlook for the banking industry, including fifth third is positioned very well and assuming this economy recovers as we all think it will and those.
Bank stock prices as you know from your own stock price since the Pfizer announcement right. After the election has been fantastic.
What do you see as the.
Other things hopefully going to shape out real well this year, but what other risks that you worry about when you go down that elevator at night.
First of all good question I think we're well positioned to be competitive and the markets that we're in the investments that we've made I think are aligned with our long term growth expectations and success of our business. So I feel really good about how we're competing today. The challenge always is and we'll look watch these fintech players come forth.
But the same regulatory oversight that we're doing with capital expectations and so forth. So there's a threat there that we're kind of watching and they get access to the.
And the banking system payment rails, and so forth that could create some stress for us than I am.
Concerned about but as far as our investments and fintech entities themselves and investments that we're making them coupled with its really those there's fintech players out there that aren't under the same regulatory.
Framework that we are pretty some stress for us and nipping around the edges of our profit pools and <unk>.
Maybe shifting to some customer behavior. So that's probably the thing that keeps me up most of the night sports compete against other banks I think we've done all the right things to do that just making sure we keep our eyes open and we have been on what it looks like.
Some of these other non traditional bank players to that and that's why we've made significant investments and our digital capabilities and.
Create a digital bank ourselves all the lending products for online available phosphate products and online service capabilities, and we've made huge investments and our digital capabilities to make sure we're well positioned to deal with those type of threats.
Yes.
Great. Thank you Greg.
Thanks.
Your last question comes from the line of Christopher Merrimack from Janney Montgomery Scott Your line is open.
Greg just leveraging off of your last answer to Gerard do you see fintech acquisitions is a necessary item and the future or do you just want to be a good customer of these companies.
I think once again, we've been we've been either a partner or acquire a fintech opportunities. Once again it gets back into our strategy, whether it's by partner and then build so we've always want to focus on the technology and capabilities, we're already out there and it fits into our strategic direction with respect to how we're going to all your proper and off for how we're going to <unk>.
Offer it you know and what the opportunity looks like for the growth perspective, we'd like to buy that capability. If it's already there and so quick way to get to the market. If we can't do that you've watched us do numerous fintech partnerships.
And to allow us to get the capabilities through that type of relationship and if we can't do that you've watched us build and build those capabilities and that's really been our mindset over the last decade.
With respect to how we handle fintech share how we address the zone.
Great. Thanks, very much and thanks for all the information this morning. Thank you.
Okay.
And there are no further questions at this time, Mr. <unk> I'll turn the call back over to you.
Thank you Melissa and thank you all for your interest and fifth third if you have any follow up questions. Please contact the IR Department and we will be happy to assist you.
Yes.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating you may now disconnect.
And.
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