Q4 2020 M&T Bank Corp Earnings Call
Ladies and gentlemen, this is the operator today's call is scheduled to begin momentarily until that time your lines will again be placed on music hold thank you for your patience.
[music].
Ladies and gentlemen, thank you for standing by and welcome to the M and T Bank fourth quarter 2020 earnings Conference call.
At this time all participant lines have been placed in a listen only mode and later the floor will be open for your questions.
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It is now my pleasure to turn the call over to Don Macleod Director of Investor Relations. Please go ahead.
Thank you Ray and good morning, everyone.
I'd like to thank you for participating in <unk> fourth quarter and full year 2020 earnings conference call, both by telephone and through the webcast. If you have not read the earnings release, we issued this morning, you may access it along with the financial tables and schedules from our website www MTB dot com by clicking on the Investor Relations link and then.
On the events and presentations link.
Also before we start I'd like to mention that comments made during this call might contain forward looking statements relating to the banking industry and to <unk> Bank Corp. Imitate encourages participants to refer to our SEC filings, including those found on forms 8-K, 10-K, and 10-Q for a complete discussion of forward looking statements now I'd.
Like to introduce our Chief Financial Officer, Darren King.
Thanks, Don and good morning, everyone and happy new year.
Before we get into the details I'll touch on just a few highlights from the recent quarter's results.
PPP loan forgiveness ramped up in the fourth quarter average PPP loans declined by $351 million compared with the third quarter and were down $1 1 billion on an end of period basis.
This resulted in the accelerated recognition of $29 million of PPP loan fees into net interest income during the quarter.
In addition to the impact of accelerated PPP loan fees net interest income increased as a result of improved deposit pricing across all customer segments.
Notwithstanding the PPP forgiveness average loans were up during the quarter, including growth in dealer floor plan loans and mortgage loans purchased from servicing pools.
Fee revenues held up well, particularly trust income due to continued strong capital markets and service charges due to the improved economic activity.
Expenses were impacted by costs relating to the migration of our retail brokerage platform to LPL financial and were otherwise in line with our expectations.
As to credit.
We saw an increase in non accrual loans. This quarter that is consistent with the higher expected credit losses that we provided for earlier in the year.
While CRE loans came off Covid forbearance and net charge offs rose to a level just above our long term average.
Capital levels remained strong with our CET, one ratio growing to 10% at year end.
We will review the numbers for the full year in a moment, but first let's turn to the results of the fourth quarter.
Diluted GAAP earnings per common share were $3 52 in the fourth quarter of 2020, compared with $2 75 in the third quarter of 2020 and $3 60 in the fourth quarter of 2019.
Net income for the quarter was $471 million compared with $372 million in the linked quarter and $493 million in the year ago quarter.
On a GAAP basis <unk> fourth quarter results produced an annualized rate of return on average assets of one 3%.
And an annualized return on average common equity of 12.07%.
This compares with rates of 1.06, and 953% respectively in the previous quarter.
Included in GAAP results in the recent quarter were after tax expenses from the amortization of intangible assets amounting to $2 million or <unk> <unk> per common share little change from the prior quarter.
Consistent with our long term practice <unk> provides supplemental reporting of its results on a net operating or tangible basis from which we have only ever excluded the after tax effect of amortization of intangible assets as well as any gains or expenses associated with mergers and acquisitions when they occur.
<unk> net operating income for the fourth quarter, which excludes intangible amortization was $473 million.
Compared with $375 million in the linked quarter and $496 million from last year's fourth quarter.
Diluted net operating earnings per common share or $3 54 for the recent quarter compared with $2 77 in 2023rd quarter and $3 62.
In the fourth quarter of 2019.
Net operating income yielded annualized rates of return on average tangible assets and average tangible common shareholders' equity of 135% and 17, 53% from the recent quarter.
Comparable returns were one 1% and 13, 94% in the third quarter of 2020.
In accordance with the SEC's guidelines. This mornings press release contains a tabular reconciliation of GAAP and non-GAAP results, including tangible assets and equity.
Included in the recent quarters results was a $30 million distribution from Bayview lending group.
This amounted to $23 million after tax effect and <unk> 18 per common share.
We expect that this distribution occurred in place of the usual distribution. We have received from Bayview lending group in the first quarter of the past few years.
Turning to the balance sheet and the income statement.
Taxable equivalent net interest income was $993 million in the fourth quarter of 2020, marking an increase of $46 million or 5% from the linked quarter.
The primary driver of that increase was the accelerated recognition of $29 million of fees on PPP loans.
Following forgiveness of those loans by the small business administration.
The net interest margin increased by five basis points to 3%.
Compared with 295% in the linked quarter.
The accelerated recognition of PPP fees at an estimated nine basis points to the margin.
A five basis point decline in the cost of interest bearing deposits repayment of debt outstanding and slightly higher income from our hedge portfolio boosted the margin by an estimated four basis points.
Continued inflows of excess liquidity, including DDA and interest checking resulting in a $4 $5 billion increase in cash on deposit with the federal reserve.
While this had a negligible impact on net interest income it contributed to about 10 basis points of pressure on the net interest margin.
All other factors, including lower premium amortization on acquired mortgage loans and mortgage backed securities provided an approximate two basis point benefit to the margin.
Average total loans increased by $456 million or about one five per cent compared to the previous quarter.
Looking at loans by category on an average basis compared with the linked quarter <unk>.
Commercial and industrial loans declined by $620 million or about 2%.
Contributing to that decline was a $351 million decline in PPP loans, primarily reflecting loan forgiveness.
Partially offsetting that was a $231 million increase in floorplan loans as dealers seek to rebuild inventories following a very robust sales here.
All other C&I loans decline by $500 million.
Largely from lower line utilization.
We would note that on an end of period basis dealer loans were up $800 million and all other C&I loans were roughly flat excluding the PPP forgiveness.
Commercial real estate loans grew just over 1% compared with the third quarter, primarily the result of further draws on preexisting loans.
New originations in the CRE space remains subdued.
Residential real estate loans increased by $204 million or 1%, reflecting loans purchased from Ginnie Mae servicing pools pending resolution, partially offset by repayments.
Consumer loans were up 3%, reflecting higher indirect auto and recreation finance loans, partially offset by lower home equity lines of credit.
Average core customer deposits, which exclude deposits received at <unk> Cayman Islands office as well as Cds over $250000 grew by $4 5 billion or 4% compared with the third quarter, reflecting higher interest and noninterest checking as well as <unk>.
Market deposit accounts.
Okay.
Turning to noninterest income.
Noninterest income totaled $551 million in the fourth quarter compared with $521 million in the prior quarter.
That increase reflects the $30 million distribution from Bayview lending group that I previously mentioned.
The recent quarter also included $2 million of valuation gains on equity securities largely on our remaining holdings of GSE preferred stock while the third quarter included $3 million of such gains.
Mortgage banking revenues were $140 million in the recent quarter compared with $153 million in the linked quarter.
Residential mortgage loans originated for sale were $1 2 billion in the quarter unchanged from the third quarter.
Total residential mortgage banking revenues, including origination and servicing activities were $95 million in the fourth quarter compared with $119 million in the prior quarter.
The decrease reflects lower gain on sale margin.
And residential servicing revenues declined very slightly.
Commercial mortgage banking revenues totaled $45 million encompassing both originations and servicing.
The improvement from the third quarter was mainly a result of higher origination volumes.
Trust income was $151 million in the recent quarter up slightly from $150 million in the previous quarter.
Business remains solid with slightly higher money market fund fee waivers more than offset by higher levels of assets managed and continued good capital markets activity.
Service charges on deposit accounts were $96 million improved from $91 million in the third quarter.
The improvement is largely the result of increased economic activity that resulted in growth and payments related income.
Excluding the LG distribution the improvement in other revenues from operations compared with the linked quarter also reflected an uptick in card credit card related activity.
Turning to expenses.
Operating expenses for the fourth quarter, which exclude the amortization of intangible assets were $842 million compared with $823 million in the third quarter.
Salaries and benefits declined by $3 million from the prior quarter.
In accordance with the previously announced contract with LPL financial empty took its first steps to transition its retail brokerage and advisory business to the LPL platform.
In doing so <unk> incurred $14 million of transition expenses, including severance payments included in salaries and benefits and a contract termination payment that is included in other cost of operations.
Also included in other cost of operations as a $3 million addition to the valuation allowance for our mortgage servicing assets.
This follows additions of $10 million to the allowance in each of the first and second quarters of 2020.
The efficiency ratio, which excludes intangible amortization from the numerator and securities gains or losses from the denominator was 54, 6% in the recent quarter.
Compared with 56, 2% in the third quarter and 53, 2% in the fourth quarter of 2019.
Next let's turn to credit.
Under Cecil.
And as a result of the pandemic driven economic slowdown.
<unk> added $800 million to its allowance for credit losses over the course of 2020, while delinquencies non accrual loans and net charge offs have until recently remained relatively benign.
In the seasonal environment statistical models help predict expected loss content, which must be reserved for well in advance of default.
The old loss reserving process didn't permit establishment of an allowance until loss content became incurred.
Loss reserves and charge offs generally rose as delinquencies and non accruals increased.
We're beginning to see the expected rise in non accrual loans and charge offs that have already been reserved for under the <unk> methodology.
Net charge offs for the recent quarter amounted to $97 million Andy.
Annualized net charge offs as a percentage of total loans were 39 basis points for the fourth quarter compared with 12 basis points in the third quarter.
It's interesting to note that the charge off rate in the fourth quarter approximated our long term average.
During the quarter.
We restructured substantially all of our limited exposure to the operators of regional malls.
These had been under stress prior to the COVID-19, pandemic, which resulted in further deterioration and push them into default.
The provision for loan losses in the fourth quarter amounted to $75 million.
<unk> was $22 million less than net charge offs.
The allowance for credit losses declined slightly to $1 7 billion or $1 seven 6% of loans.
That ratio was 179% of loans at the end of September.
As has been the case since the beginning of 2020.
The allowance at the end of the fourth quarter reflects an updated macroeconomic scenarios.
The scenario was different and less severe than those used at the end of the first and second quarters and modestly less severe than that used at the end of the third quarter.
Each of which model the uncertainty of the COVID-19, driven damage to the economy.
In addition to losses that may be expected from newly originated loans.
<unk> and the related provision for the recent quarter continue to reflect the ongoing impacts of the COVID-19 pandemic on economic activity.
Certainty over additional economic stimulus and the ultimate Collectability of commercial real estate loans, most notably in the hospitality sector and retail sectors outside of the regional mall exposure.
Our macroeconomic forecast uses a number of economic variables with the largest drivers being the unemployment rate and GDP.
Our forecast assumes the national unemployment rate continues to be at elevated levels on average six 9% through 2021, followed by a gradual return.
To long term historical averages by the end of 2022.
The forecast assumes that GDP grows at a four 1% annual rate during 2021, resulting in GDP returning to pre recession levels by the end of 2021.
Our forecast considers government stimulus, but not any further fiscal from monetary actions.
Non accrual loans as of December 31.
Rose to $1 9 billion.
An increase of $653 million from the end of September.
That increase came primarily from the transferred to non accrual status of a handful of hotel relationships totaling $530 million.
At the end of the quarter non accrual loans as a percentage of loans was 192%.
It is important to keep in mind that some of the usual credit metrics have been affected by the PPP loans on the balance sheet, which are zero risk weighted and carry little or no credit risk.
Excluding the impact of PPP loans, the ratio of the allowance for credit losses to loans would be 186%.
Similarly, the ratio of non accrual loans to total loans would be 2.0% to 3% and annualized net charge offs as a percentage of total loans would be 42 basis points.
Loans 90 days past due on which we continue to accrue interest were $859 million at the end of the recent quarter.
Of these loans $798 million or 93% for government guaranteed by government related entities.
Government guaranteed loans under Covid, forbearance, and which we have purchased from servicing pools are generally not reflected in these figures.
As we noted on the October conference call in the third and in the third quarter 10-Q total loans under Covid related modifications declined to $9 4 billion as of September 30.
Those figures declined further to $5 3 billion at the end of the fourth quarter.
Commercial and industrial loans with Covid related modifications declined from $815 million to $433 million at the end of 2020.
Of that figure less than $100 million of those loans still have a form of payment deferral.
Covid forbearance is other than payment deferrals relate to things such as fee waivers and in some cases covenant waivers.
Similarly, commercial real estate loans under Covid related modification declined from $5 $1 billion at the end of the third quarter to $2 billion at December 31.
Some $600 million of those loans have received a payment deferral.
Mortgage related loans under Covid related modifications were $3 3 billion at the end of the third quarter net figure declined to $2 $7 billion as of the end of the fourth quarter.
Remaining consumer loan modifications also declined to less than $100 million.
Modification or forbearance status has not prevented us from updating loan grades within our commercial portfolio.
The pace of downgrades into criticized slowed meaningfully in the fourth quarter rising about 5% from the end of the prior quarter.
Turning to capital.
<unk> common equity tier one ratio was an estimated 10% as of December 31, compared to $9 eight 1% at the end of the third quarter.
This reflects the impact of earnings in excess of dividends paid and slightly higher risk weighted assets.
Next I'd like to take a moment to cover some of <unk> highlights of the past year.
Overall, we believe the events of 2020 provided an illustration of the operational and financial resilience of Mt's franchise.
Our colleagues per Formula champions.
Dare I say like Division champions.
Switching with barely a ripple to the work from home environment, helping clients through the extraordinary challenges presented by the Lockdowns that all but brought the economy to a standstill and helping customers navigate the PPP loan process that resulted in $7 billion of originations.
The severe economic conditions brought about by the COVID-19, pandemic and the resulting in zero interest rate environment had a material impact on our financial results, including a 6% decline in pre provision net revenue and a 30% decline in net income.
Partly the result of seasonal accounting.
Key financial highlights for the year were as follows.
GAAP based diluted earnings per common share were $9 94.
Compared with $13 75 in 2019.
Net income was $135 billion.
Compared with $193 billion in the prior year.
These results.
<unk> produced returns on average assets and average common equity of 1% and 872% respectively.
Net operating income was $1 $36 billion compared with $194 billion in the prior year.
Net operating income for 2020 expressed as a rate of return on average tangible assets and average tangible common shareholders' equity was 1.0% to 4% and $12 seven 9% respectively.
Average diluted common shares declined by 4% the result of repurchase activity in 2019.
As well as the limited repurchases in the first quarter of 2020 prior to the pandemic.
The total payout ratio for the year, including common stock dividends was approximately 73%.
Tangible book value per share grew to $80 52 at the end of 2020 up 7% from the end of 2019.
And despite the challenges for the year, our CET one ratio increased to 10% at the end of 2020 from 973% at the end of 2019.
Yeah.
Now, let's turn to the outlook.
We're all pleased to see that the economy has continued to improve.
The rollout of the vaccine holds the promise of a return to normalcy, but we continue to face pressures.
Starting with the balance sheet, there are more moving parts than we would see in a typical year.
PPP loans on our balance sheet amounted to $5 4 billion at the end of the year.
We expect that substantially all of those loans will be repaid or forgiven in 2021 with the bulk of that occurring in the first half of the year.
That process will be beneficial to net interest income and net interest margin in the quarters in which the small business administration actually forgives the loans similar to what we experienced in the fourth quarter.
This week, we began accepting customer applications for PPP round two.
We expect these new loans to offset the decline in the original PPV balances to a certain extent.
Another atypical elements of the balance sheet as we enter 2021 is.
Is the level of cash and securities.
It is our practice to maintain cash and securities such that we maintain sufficient liquidity and <unk> to meet our internal liquidity governance.
The various stimulus programs enacted in 2020 have resulted in <unk>, along with our peers carrying higher levels of cash than normal.
We believe that at year end, we were holding close to $20 billion more in cash and securities than we would need under normal circumstances.
The excess cash has little impact on net interest income, but significantly impacts the net interest margin.
Every $1 billion in cash impacts the margin by one to two book sorry, two to three basis points.
One of the ways, we've chosen to deploy the excess cash is through buyouts of Ginnie Mae mortgages from the pools of loans that we service or sub service.
Those buyouts create net interest income in the short term and fee income in the long term when those loans returned to performing status and may be sold to investors.
As previously discussed the active cash flow hedge position on our floating rate loan portfolio has increased to $17 4 billion in the fourth quarter and remains at that level until late this year.
However, the fixed receive rate will decline as older swaps mature and newer forward starting swaps become active.
Uh huh.
Holding the unusual aspects of the balance sheet to the side, we expect total loans to be relatively flat in 2021.
Commercial and industrial loans, excluding PPP are expected to be flat to up slightly as increased economic activity leads to increased line utilization.
CRE loans are expected to be flat to slightly down with a subdued outlook for new originations and slowing draws on pre pandemic loans.
Consumer loans are expected to grow at a mid single digit pace.
All in we expect low to mid single digit year over year decline in net interest income primarily the result of the challenging year over year rate environment.
Turning to fees.
We expect low single digit year over year growth in noninterest revenues similar to 2020.
We believe the strong originations trends in mortgage banking will continue but with continued pressures on gain on sale margins.
Net outlook also reflects our ability to resell the loans purchased from servicing pools, which could be delayed depending on state and federal payment and for closure holidays.
Trust income should be flattish with the full year impact of money fund fee waivers offset by growth in other categories.
This also assumes some growth in assets managed combined with some stability and market values.
We expect service charges to reflect the run rate in the fourth quarter and to improve on a full year over year basis.
Receipt of the Bayview lending group distribution this quarter pulled forward $30 million of revenue, we previously expected to receive in 2021.
Turning to expenses.
Based on our expectations for growth and some fee revenue categories, primarily mortgage banking revenues interest income, we expect expenses tied directly to those businesses will grow as well.
Outside of those increases we expect all other expense categories in the aggregate to be generally flat with the prior year.
Overall, we expect expenses to be flat to up less than 1%.
The trend in credit provisioning should show improvement in line with the macroeconomic outlook.
Charge offs, given the nature of the portfolio and the sectors most impacted by the pandemic will be lumpy.
We will likely take longer to emerge.
That said, we anticipate charge offs will be higher in 2021 and likely higher than our long term average.
Given the uncertainty we will focus we will focus our credit outlook on the near term and.
For the first quarter of 2021, we don't currently foresee charge offs higher than what we saw in the fourth quarter.
Lastly, turning to capital.
The board has authorized us to repurchase up to $800 million of our common stock.
We will continue to operate within the guidelines currently in effect by the federal reserve as well as taking into account the economic environment, our earnings outlook and capital position and any alternative capital deployment opportunities.
Of course as you are aware our projections are subject to a number of uncertainties and various assumptions regarding national and regional economic growth changes in interest rates political events and other macroeconomic factors, which may differ materially from what actually unfolds in the future.
Now, let's open up the call to questions before which Maria will briefly review the instructions.
Thank you the floor is now open for questions.
Wanted to ask a question at this time simply press Star then the number one on your telephone keypad again that is star one.
If at any point your question has been answered tenuous remove yourself from the queue.
King.
Our first question comes from the line of Ken Zerbe of Morgan Stanley.
Alright, great. Thank you.
Yes.
I guess, maybe starting off you mentioned that Youre, certainly sitting on a huge amount of excess cash versus kind of where you would normally have been.
There's obviously a lot of debate around whether it's prudent to invest the excess deposits from low rates are low rate low yielding securities or keep it in cash how are you guys balancing that debate and where do you come out on it.
Yes, good morning, Ken and thanks for the question.
It's a discussion that we have.
Every every other week at our Alco meetings.
Our our debate is always how long the cash will hang around.
Even the way it showed up on the balance sheet.
Just really exploded in this in the second half of the year and that impacts our decision and thought process about what kind of duration to take on and so in the short term.
As we work our way through that thought process.
Holding it in cash versus investing it in short term treasuries, there really isn't much of a basis point gain from doing that and so we're looking at alternative ways, where we can get maybe a little bit better spreads or yields on that cash.
Without setting up a tremendous amount of <unk>.
Duration risk.
One of the things we mentioned.
Sure.
The prepared remarks was we've been using that cash for buyouts of Ginnie Mae Securities.
And we've found that to be an attractive use of cash in the short term.
Because it it offsets in expense.
The spread on those is better than what we would get on one year treasuries and it creates the opportunity for some fee income. So we'll look for other opportunities like that and all we'll watch and see how the PPP two goes and what the net change in loan balances and then we'll continue to watch the the rate curve and the.
The environment in <unk>.
We'll keep our powder dry, but it's something we continue to look at on a regular basis to see where we can.
But some of that money to work because obviously, we're not we're not paid to hold cash. So that's always our objective, but we're trying to be.
Prudent with how much duration risk we might be taken on.
Alright, great helpful. And then maybe just a follow up question can you just talk a little bit more about the.
You mentioned $530 million worth of hotel credits that were transferred to non accrual.
To learn more about the credit quality of those.
Yes, sure I'm happy to discuss that.
When when we look at it those credits.
I guess it's.
I don't need to take off my shoes, and socks to count the number of them, which is a good thing. So we know exactly how many there are we know exactly where they are and we've had a longstanding relationship with many of these all of these clients.
When I look at the loan to values of the top let.
Let's say, we looked at the top 10, most are 60% or below that 60%. Obviously is primarily based on at origination, but we still haven't seen a material decrease in asset prices in the market with anything Thats traded.
You've seen.
We've seen the MBS market come back a little bit as we got to the end of the year, which also should help sustain asset prices.
A couple of the downgrades are full relationships and so there's a couple of larger ones, but it's not just one single property has multiple properties and so there is a.
Theres good collateral behind these.
Good long standing relationships, we can see some level of occupancy.
And the hotels they tend to be in the larger cities.
And so as the larger cities.
Start to see more either business travel or tourism they'll start to come back but.
Where we sit right now.
We feel comfortable that we have our arms around these and we have good visibility into them and are able to watch them closely and so.
I would just view this as as what would be the normal progression.
When youre in one of the.
These economic cycles right that you start to see signs of delinquency. Some of these were in the <unk>.
Forbearance and.
And now they've gone to non accrual and.
What's interesting about the new seasonal environment is that you you kind of take the provision and set up the reserve before you see stuff in non accrual and so these are just kind of catching up to that that provisioning.
Generally.
We called out hotels, because when you look outside of hotels.
A lot of the CRE trends are actually pretty solid outside of that there's really not a lot of.
Concern today in multifamily retail portfolio has actually done reasonably well.
And then we're actually seeing some parts of the portfolio not necessarily CRE related but seeing some upgrades.
And the dealer book and that the dealers have done just had a fantastic year and in some cases had record profits and so.
That's really the sector that we're watching and that's obviously why we did.
<unk> made that move with.
With those with those loans and classifying them as non accrual.
Got it did you have to do did you build any incremental reserve associated with those credit when they went to non accrual.
No there wasn't anything material.
That was in effect accounted for.
In the provisioning that we have done.
Through through.
Through the prior three quarters of the year.
Alright, perfect. Thank you very much.
Our next question comes from the line of Jonathan Quarry of Evercore ISI.
Good morning, Good morning, John.
On the back to that.
$530 million.
Let's see was that a result of that.
A deeper dive into those credits this quarter that resulted them all moving to non accrual this quarter or was it just how it played out in terms of them coming off of forbearance.
Yes, John it's really the latter.
We've been able to identify.
And the hotel portfolio on a credit by credit basis rate from the start and being able to pay attention to each one of these relationships.
Working with them understanding what their NOI is and how it's moving in and what kind of situation they're in.
These these would largely be.
Folks that got to the end of that forbearance period and.
We thought the appropriate thing to do the most.
Servicing to do was to start to move them into non accrual and not continue down that forbearance path.
Got it Okay and then.
It looks like Youre 90 day past dues also increased.
More than 60% in the quarter.
Was that also related to.
Hotels, and then also maybe if you can comment on your office exposure and just how that's been holding up.
Yes, I guess I'll start with the office exposure.
When when we look at what's been happening in office the <unk>.
<unk> and rent collection have been have been pretty solid.
Haven't seen a big decrease in what's what the.
Our customers have been able to.
Received from the tenants and obviously a bunch of that is with the leases that are signed they tend to be longer term and oftentimes with larger corporations. So it's been it's been pretty steady.
When I look at that space and I look at how many.
Modifications there are in there that are outstanding it's like 1%.
The portfolio.
So overall the office space.
It's doing very well.
Again, I would I would say the multifamily space is also holding up quite well.
And retail after our concerns early on.
<unk>.
Where is also doing well.
When you look at the over 90 day.
To answer that question and what's going on the bulk of that is driven by the residential mortgage loans and the things that we're buying out of the pools and they're largely government guaranteed so.
It's kind of the way they are classified but not something that we worry about from a credit perspective.
Got it okay. Thanks for thanks for taking my questions.
Our next question comes from the line of Bill Kirk <unk> of Wolfe Research.
Thank you good morning.
Darren following up on comments that you've made on credit specifically the hotel credits that moved to.
Non accrual.
No longer.
Applying a forbearance can you just give a bigger picture view of.
What's the trajectory is across the loan portfolio.
Downgrades and and.
Then along those lines is it reasonable to expect that we could see your reserve rate revert to the day one level of about one 3%.
Your side of the pandemic and maybe you could just discuss how soon we get there in light of some of the longer tail concerns that you guys decided in CRE in particular.
Yes sure.
So I guess just watching the trends and what we've been seeing over the course of the last I would.
I describe it is six months.
We're in June in the thick of things.
Forbearance was quite widespread there.
It was across a number of industries and across quite a number of customers and what's happened over the course of the last six months.
We've seen stability and we've seen improvement.
Really the most remarkable turnaround was in the in the dealer book that was if my memory is correct about $4 $2 billion of.
Forbearance.
And all of those are off of forbearance and in fact all of those are current they have not just.
<unk>.
They're not just thought forbearance, but they've recovered what they what they had skipped and when we look through the rest of the portfolio and what was in forbearance.
I think I mentioned that.
Well first talking about criticized trends. So we've been even though forbearance has been on we go through and we grade the book.
Following our grading system and looking at our.
That review process looking at cash flow is looking at collateral looking at ability to repay intend to repay and grading the book and so what Youre seeing is a.
A slowdown in the migration to criticize right. So we talked about that being up about 5% this quarter and so the rate of increase in criticized is declining and the non accruals is really just that progression of people going from criticized into non accrual and.
What's what's really in the book is hotel.
There's a little bit of retail, but retail is performing quite well.
And a little bit of multifamily and those are those are really the big three industries, but but hotel is far and away the largest one.
And what's interesting is when we look within the hotel portfolio.
It's it's larger city hotels that are struggling we have some hotels throughout our footprint that <unk>.
<unk> tend to be in less densely populated areas and perhaps are are more like retreats our spas.
And through this pandemic, they're actually seeing occupancy rates north of 70%.
So there.
There is a real.
<unk>.
Range in skewness to occupancy rates within the hotel portfolio and so the part that I guess, we feel good about is we've been able to help a lot of customers.
Stay in business and stay paying and work them through the process and we've got a segment of the portfolio.
Still have some struggles.
But we've got very very clear visibility into who those are and what the issues are and are in a position to be able to work with them as much as possible to help protect the value of the assets and to try and keep them in business.
The question about the portfolio in the long term.
Average I think it's fair to say that going back to the pre the post seasonal.
Allowance or reserve rate.
Subject to a similar mix of business is a fair assumption, it's important to keep in mind that some parts of the portfolio carry different loss rates under cecil than others and so.
All else equal that's a good place to be.
Or at least a good starting point as you think forward do we get there in 2021.
Probably it's a little hard to see that at this point.
But right now we think that that's possible by the end of 'twenty, two I would think thats possible by the end of 2022.
That's super helpful color. Thank you if I could squeeze in another one on just broadly if you could discuss your thoughts around back book repricing dynamics.
For you guys and really across the industry in the last cycle loan yields continued to decline.
Throughout the ZIP cycle until we got our first.
Rate hike in late 2015.
I was wondering if you could just discuss whether you expect to see a similar dynamic in the cycle.
Yes, I guess a.
A couple of things on the back book on.
On the deposit side, we've seen a tremendous amount of repricing and the reactivity and the deposit book for us and for the industry, especially given the excess liquidity has been very rapid.
And when you when we look at deposit pricing and yields.
Certainly for a lot of the interest bearing categories, excluding time deposits.
We're getting close to the loans that we saw.
Over the last 10 years and so there's some room to go there but it's.
Single digit low single digit basis points, when you talk about.
Loans and loan yields we think about it as low margin.
And the yield is always off in reference to the benchmark rate because theres still variable rate.
Yes.
Different product, but when you look at what the spread is on the new originations versus what's rolling off we're actually seeing better spreads on new originations and we've been seeing that for the last two quarters.
And it's in the range of.
Call It 40 to 60 basis points.
Over where we had been pre pandemic and so what's nice about that is obviously over time as the hedge benefit rolls off we're starting to see we will see a larger percentage of the book at the new pricing, which is a little bit better than the roll off pricing and so we actually were quite.
Positive on that part of.
What's happening in the portfolio, especially in the consumer or sorry, commercial real estate.
C&I space.
Great how does that better spreads on new originations compared to the last cycle.
Just a follow up.
I guess I would say, it's reasonably consistent with what happens in the cycle and usually what you see as you see.
Leading into the cycles, you see margins drop because usually there is there's lots of liquidity and lots of capital lots of people looking for growth and then you will see.
Margins compress when a.
When you are in that environment, and then as you see.
A little challenge in the economy.
And you tend to see and people protecting capital you tend to see a little bit of an improvement in pricing because there is a little more pricing power.
Obviously with the with the liquidity this time, probably not quite as severe as last time and so there might not be the same.
Level of increase in pricing, but we're certainly seeing it in the short term and I would say that that general trend.
In an economic environment like this and as you come out of it is actually pretty consistent with what you see.
Got it. Thank you so much for taking my questions.
Our next question comes from the line with Steven Alexopoulos from Jpmorgan.
Hey, Darrin good morning.
Good morning, Stephen how are you good how are you.
So thank you.
Follow up not to beat a dead horse on the hotel non accruals, but I know you said there was no provision taken as you move these into non accrual, but were there any charge offs taken.
Yeah.
There were no charge offs taken on that part of the portfolio. If you look at the charge offs for the fourth quarter.
There is really three large relationships.
Really drove that increase.
Two of them were.
What we would describe as in closed malls.
Regional mall operators.
And by taking those charge offs that pretty much eliminates our outstanding exposure to enclosed malls and then there was one.
Company.
That was in the <unk>.
Thats described as delivery service.
Highly related to the travel industry and with no travel going on.
That necessitated the charge offs there.
Side of those.
It was a it was a variety of things, but generally relatively small compared to those three that I mentioned.
Yes.
Darren in terms of what you do now with these hotel loans on non accrual I know you said there are long term relationships are you planning to offer deferrals in total maybe better days ahead do you plan to modify the principal to moving back to current or do you plan on going into the hotel business and taken these collateral over.
[laughter] well not the latter the latter is as always our last resort.
We're bankers not hotel operators and so we'd rather let the experts do that.
But it's generally it's generally the first two things that you talked about so we will work with the borrower.
And see whether we think that.
First question is do they have any outside liquidity and can they bring something to the table to be.
Addition to the interest reserve.
It could be some combination of that plus some extended payment relief.
You could see some restructuring into something that looks more like an a b note kind of structure, where you split the credit and it might have a partial charge off on those but not a complete and so there is a bunch of different options about ways that we can work with the clients to try and keep them in business and keep them operating.
As long as possible because obviously us.
US being in that business is absolutely the last last resort.
Okay, and if I, if I could squeeze one more in dealer floor plan. Thank you said $800 million in the quarter what was the balance at year end and can you talk about expectations for that business rate. It seems dealers have gotten a lot more efficient with managing inventory levels during the pandemic.
So can you talk about what you expect from the business.
Yeah, I guess when you look at the number of cars on lots, we bottomed out in.
I want to say it was in the summer to early fall.
And inventories have been have been building. Since then there's a bunch of factors that go into the inventory that are sitting on the lots I mean, not the least of which is what the car rental companies are doing.
With the challenges in travel.
There has been less demand for cars from that sector and the economy.
In the early part of this year.
As the manufacturers shut down there was tremendous demand from the dealers to put used cars on their lots and so they were buying up some of the inventory that was coming off.
The rental agencies.
And so what we expect is that we'll see.
An uptick in inventories as we go through 2021, we don't believe will go all the way back to what we saw pre pandemic or or in 2019 that the Saar won't go all the way back into that 16 $517 million range, but we will see some pickup.
And just I guess to to give a little bit of sense of magnitude.
Looking at it as that balances.
From where we are at the end of the year to where we were at the end of the year last year, you know theres roughly call it $802 million to $1 billion difference.
And what is outstanding at that point in time so.
How quickly we get back there I don't know that we'll get all the way back there in 2021, but we should be approaching that as we get to the end of the year, assuming the economy continues to operate the way it was.
But we think theres still some room for that.
Segment to show some growth.
Okay terrific. Thanks for taking my questions.
Our next question comes from the line of Matt O'connor with Deutsche Bank.
Hey, guys.
Any comments on the outlook for the tax rate in 'twenty one.
You did not.
Missed that.
Our expectation for the tax rate for next year is 24% plus.
Plus or minus half a point.
Okay and are there opportunities.
Through lower that like we're seeing from other bank have he is the.
Kind of partnership.
Some might be actually buying low income housing credits from off is going to be.
During from other thing structure with partnerships with customers of our clients and is that kind of.
Another way to maybe deploy capital.
Theres not a lot of loans can't really don't want to grow securities.
Buying back stock after it's double the there'll be lots of appealing.
Theoretically so are there opportunities there or are you trying to think differently and what you can do their capital given everything I just said.
Yes.
Tech is a part of the sector.
We've always been in.
We've actually kind of increased it in the last.
18 to 24 months.
It's part of being a community bank that being in the community.
Supporting those kinds of projects is critical.
We found that.
Overtime to be effective in that space, you need to be not just on the loan but in the equity side of those deals as well and so we've been we've been doing a little bit more of that.
And so it's absolutely part of how we do it's also an important part of your CRA rating and so for all those reasons Thats absolutely.
A space that we have been and will continue to be.
And as opportunities present themselves we will.
We'll certainly be there for the communities in from clients.
And then anything that would specifically on somebody's like ESG initiatives that.
Other bank seem to be.
Kind of leaning into it pretty heavily that reduce tax rate yes.
Yes, we do.
Some of that.
We're in the space.
We see opportunity for there to be.
A little bit more we haven't discussed it because it's not it's not been a huge part of our.
Our portfolio and I guess, one of the one of the questions as we go forward is.
Even with the tax rate, where it is how much tax users using capacity will be with us, making less money than we did a year ago and.
Maybe maybe there'll be more capacity use taxes, depending on if theres any changes with the new administration. So it's a space that we're familiar with and we do do some business in but.
Selective at the moment.
Okay. Thank you.
Our next question comes from the line of Ken Houston of Jefferies.
Thanks, Good morning, Hey, Darren just.
Good to see that buyback announcement. This morning I was just wondering if you can just walk us through that.
December stress test results and the implied SCB that was brought forth in that document does it mean anything in terms of how you have to think about capital and does it.
Would you to think about participating in this year's stress test process as a result thanks.
Yes.
So the CCAR stress test results.
In.
December obviously reflected a much more severe economic environment.
Than anything we've seen before.
And is meaningfully more severe than what the current environment looks like and so the good news is we're not operating in that environment.
That said.
We learned a lot from that output.
And we continue to work and talk with the federal reserve to understand a little bit more what is behind some of the outputs there.
So we have we're using it to inform our thinking.
We havent as we go through that process and learn more.
From the fed that will help inform our decision about whether or not to participate.
In this year's CCAR.
I guess, if you look at the implications of that and where we are at the end of the year. The nice thing is when when you look at where our CET. One ratio ended the year. We ended the year at 10% and so theres a comfortable amount of space.
Between where we sit and what might be implied by the outcome of that test and with the with the restrictions that have been in place.
With that with capital sitting at 10%.
I would feel given also the reserving that we've done that we're well protected and that we we certainly don't need to see the CE tier one ratio dropped dramatically to 9% and in.
The environment that we're in today with the restrictions that wouldn't be possible, but we equally don't see.
I need or concern that we would want to run the capital ratio is up materially from here.
So as we as we think about those tests, we think about the feedback that came with them.
And we think about.
As we go forward, we will be taking that those things into account.
As we determine when and if and how much.
Shares stock repurchase.
And ladies and gentlemen, we have time for one final question.
Our final question will come from the line of Erika Najarian of Bank of America.
Yes, Hi, Darren just a follow up to Ken's question is net.
Okay.
Should we think about your day results.
Results from the 5% SBB is binding.
How you think about buybacks I.
I guess I was under question that most bank for operating with the assumption that DFAST one.
Our results were tier to the findings result.
And.
G fast to point I wasn't findings.
I'm wondering, especially relative to your 800 million buyback from Mt.
Your thoughts there.
Yeah.
I guess I wouldn't consider that binding per se.
It's obviously, an input and an important one in our thought process.
Because the federal reserve told us something with that and so we're paying attention to it I think the.
By the letter of the law.
The.
Ted.
Indicated that they would not.
Share with.
The institutions, if that was to become a new SUV until the end of March if not sooner.
And so we will learn a little bit more about that.
Over the course of the coming days and so until that point, it's our understanding that the SCB that was calculated in the June results as the binding one.
That said when you look at the.
The earnings and some of the restrictions on distributions relative to earnings in the forecast.
Moving the CET, one ratio down meaningfully would be pretty difficult and so.
The announced buyback kind of takes into account our current capital position our forecasted earnings.
Our forecasted balance sheet growth and contemplate some of the restrictions that have been in place and that was really what got us to that.
That amount at this point and as we mentioned before we think that we're still not through the challenges of the pandemic and so we wouldn't see it.
It doesn't seem prudent to us to lower those ratios dramatically.
But on the flip side, we don't think that we need to be higher much higher than where we are and so we'll kind of manage to that in the short term and as we go through the year and see how the recovery unfolds, we will continue to update our thinking and share that with you.
And if I could just squeeze in one more question on the NII Guide Darren.
On the NII guide for down low to mid single digits. What are you assuming if any in terms of cash deployment relative to $22 6 billion on average at the first and the fourth quarter if you could.
Remind us what the swap income realized in 2020 versus Robert This is John.
Anyone.
Yeah. So.
Within that projection there is some expectation that the cash balances.
Come down a little bit and.
Generally it's it's.
The volatility in our cash balances as opposed to them going into <unk>.
Higher yielding securities or loan growth and so I guess.
Better than that guide is still relatively elevated cash position so to the extent that we find ways to deploy that into higher yielding assets, which were always fun to look out for.
There is some upside to that.
When you look at the.
The income from the hedge portfolio.
What we earn this quarter was very similar to what we earned last quarter in terms of NII.
And what we should see in Q1 is also in line with that and then it starts to decline as we've talked about.
On prior calls over the course of 2021.
Theres still some benefit in.
In 2020.
<unk> 2021 from the hedges, but it's declining as we go through the year.
Okay.
Care to quantify in dollars.
I've got it in front of me by quarter. So I'm just looking at it.
It was around $300 million in 2020 and drops to about $275 million in 2021.
Thank you so much.
Yes.
Yes.
Yes.
And that was our final question I'd like to turn the floor back over to management for any additional or closing remarks.
Again, thank you all for participating today and as always if clarification of any of the items on the call. Our news release is necessary. Please contact our Investor Relations Department at 706, eight <unk> 500 138.
And goodbye.
Yes.
Thank you ladies and gentlemen, this does conclude today's conference call you may now disconnect.
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