Q2 2021 M&T Bank Corp Earnings Call
Good day, and thank you for standing by and welcome to the anti bank.
Second quarter 2021 earnings conference call today's call.
At this time all participants are in a listen only mode.
Speaker's presentation, there will it be of question and answer session to ask the question. During this session you will need the Pascal.
The 1 on your telephone please be advised for today's conference is being recorded if you require any further assistance. Please press star zero I would now like to hand, the conference over to Don Macleod. Thank you. Please go ahead.
Thank you Eric and good morning, I'd like to thank everyone for participating in <unk> second quarter of 2021 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 dot emptied.
<unk> dot com and by clicking on the Investor Relations link and then on the events and presentations link on.
So before we start I'd like to mention that today's presentation may contain forward looking information cautionary statements about this information as well as reconciliations of non-GAAP financial measures are included in today's earnings release materials as well as our SEC filings and other investor materials. These materials are all available on our Investor Relations webpage.
And we encourage participants to refer to them for a complete discussion of forward looking statements and risk factors. These statements speak only as of the date made an empty undertakes no obligation to update them.
I'm happy to say that our chief financial Officer, Darren King will be leading the call. Today also joining us today is Brian Klock, who started with <unk> in May and who will take over as the head of marketing and Investor Relations at the end of this year Darren.
Thanks, Don Good morning, everyone welcome back Brian After a 17 year hiatus welcome to the the other side of the table and I have a rhetorical question for you where would you rather beat on right here right now you got it Mark I mean Darren.
Alright.
Let's jump into into the business of the day.
As we noted on this mornings press release, we were pleased with the continued rebound in the economy from the pandemic induced slowdown.
We continue to see improved customer activity across all sectors of the economy, notably while not back to pre pandemic levels, we're seeing improvements in the leisure and hospitality sectors.
While non accrual and criticized loans increased from prior quarter lots of merchant remained subdued leading us to recognize the further moderate release from the allowance for credit losses the.
The balance sheet continues to strengthen as both capital and liquidity group from already elevated levels positioning the bank to continue to be a source of strength for our customers.
We continued to make progress towards the fourth quarter close of the People's United merger, and we were pleased with the overwhelming shareholder support of the combination.
Looking at the results for the quarter.
Diluted GAAP earnings per common share were $3.41 for the second quarter of 2021.
Improved from $3.33 in the first quarter of 2021 and $1.74 in the second quarter of 2020.
Net income for the quarter was $458 million compared with $447 million in the linked quarter and $241 million in the year ago quarter.
On a GAAP basis <unk> second quarter results produced an annualized rate of return on average assets of 1 point to 2%.
And on annualized rate.
The return on average common equity of 11, 5%.
This compares with rates of 1.2%, an 11.57% respectively in the previous quarter.
Included in GAAP results in the recent quarter for after tax expenses from the amortization of intangible assets amounting to $2 million or <unk> <unk> per common share little changed from the prior quarter.
Also included in the quarter's results were merger related charges of $4 million.
<unk> to <unk> proposed acquisition of peoples United Financial.
This amounted to $3 million after tax or <unk> <unk> per common share.
Results for this year's first quarter included $10 million of such charges amounting to $8 million after tax effect or 6 cents per common share.
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 acquisition.
<unk> net operating income for the second quarter, which excludes intangible amortization and the merger related expenses.
Was $463 million compared with $457 million in the linked quarter and $244 million in last year's second quarter.
Diluted net operating earnings per common share for $3.45 for the recent quarter up from $3.41 in 2021 first quarter and up from $1.76 in the second quarter of 2020.
Net operating income yielded annualized rates of return on average tangible assets and average tangible shareholders common shareholders' equity of 1 point to 7% and $16, 6% to 8% for the recent quarter.
The comparable returns were 129% and 17.05% in the first quarter of 2021.
In accordance with the SEC guidelines. This morning's press release contains the tabular reconciliation of GAAP and non-GAAP results, including tangible assets and equity.
Now, let's take a look at some of the underlying details in our results.
Taxable equivalent net interest income was $946 million in the second quarter of 2021, compared with $985 million on the linked quarter.
A decrease in PPP related income accounted for approximately half of the quarter over quarter decrease in net interest income as the first round of PPP loans continues to wind down.
The net interest margin for the past quarter was 277%.
Down 20 basis points from 297% in the linked quarter.
Higher levels of cash on deposits at the Federal reserve continued to contribute pressure to the margin, which we estimate the accounted for 7 basis points of the decline from the first quarter.
Lower fee amortization from the PPP loan portfolio.
The scheduled amortization and accelerated recognition from for given loans contributed about 6 basis points of the margin pressure.
The impact of interest rates, primarily lower income from our hedge program.
Partially offset by a lower cost of deposits accounted for about 3 basis points of the decline.
All other factors.
For some for basis points of margin pressure.
Compared with the first quarter of 2021 average, earning assets increased by some 2%.
Reflecting a 13% increase in money market placements, primarily cash on deposits at the fed.
And the 6% decline.
And invest the investable securities.
Average loans outstanding declined just under 1% compared with the previous quarter.
Looking at the loans by category on an average basis compared with the linked quarter.
Overall, commercial and industrial loans declined by $668 million or 2.4%.
Dealer floor plan loans declined by $859 million.
Reflecting the well documented auto production and inventory issues experienced by the industry.
Due to the late first quarter timing of round, 2 originations and delays and forgiveness of loans over $2 million of size average PPP loans declined by less than $50 million from the prior quarter.
All other C&I loan categories grew slightly over 1%.
Commercial real estate loans declined by about half a percent similar to what we saw on the first quarter.
We continue to see very low levels of customer activity.
Residential real estate loans declined by 2%.
We've seen little opportunity for additional buyouts of loans from Ginnie Mae servicing pools as delinquency in payment trends continue to improve.
Absent those the ongoing runoff of acquired Hudson City mortgage loans continues at a moderate pace.
Consumer loans were up 3%.
Consistent with recent quarters as growth in indirect auto and recreation finance loans has been outpacing declines in home equity lines and loans.
On an end of period basis total loans were down 2%.
Reflecting the same factors I just mentioned.
<unk> loans totaled $4.3 billion.
At June 30th compared with $6.2 billion at the end of the first quarter.
Average core customer deposits, which exclude deposits received at <unk>, Cayman Islands office and Cds over $250000.
The increased over 3% for $4 billion.
Compared with the first quarter.
That figure includes $2.6 billion of non interest bearing deposits.
On an end of period basis core deposits were up by just under $700 million.
I'll note here that the repeal of the prohibition of paying interest on commercial checking deposits has led us to reconsider the need for our Cayman Islands office.
It held no deposits at the end of the quarter.
Turning to noninterest income.
Noninterest income totaled $514 million in the second quarter compared with $506 million on the linked quarter.
The recent quarter included $11 million of valuation losses on equity securities largely on our remaining holdings of GSE preferred stock while.
While the prior quarter included $12 million of such valuation losses.
Mortgage banking revenues were $133 million in the recent quarter compared with $139 million on the linked quarter.
Revenues for our residential mortgage business, including both origination and servicing activities were $98 million in the second quarter compared with $107 million on the prior quarter.
Lower gain on sale margins were the primary driver of the decline in.
In addition, residential mortgage loans originated for sale were down about 5% to $1.2 billion compared with the first quarter.
Commercial mortgage banking revenues were $35 million on the second quarter compared with $32 million on the linked quarter.
Trust income rose to $163 million on the recent quarter improved from $156 million in the previous quarter.
Yes.
This quarter's results included $4 million of seasonal fees arising from tax preparation work, we undertake for clients as well as the result of growth in assets under management in the wealth and institutional businesses.
Service charges on deposit accounts were $99 million compared with $93 million in the first quarter the.
The primary driver of the increase whereas the customer payments related activity.
Turning to expenses.
Operating expenses for the second quarter, which excludes the amortization of intangible assets and merger related expenses were $259 million.
The comparable figure.
<unk> $907 million in the linked quarter.
Salaries and benefits declined by $62 million to $479 million from the prior quarter.
Recall that the first quarter's results included $69 million of seasonal salary and benefit costs.
Our deposit insurance increased by $4 million to $18 million during the quarter.
Primarily reflecting higher levels of criticized loans, which factor into the Fdic's assessment calculation.
Other cost of operations for the past quarter included in the $8 million addition to the valuation allowance on our capitalized mortgage servicing rates.
Call there was a $9 million reversal from the allowance in 2021 first quarter.
The efficiency ratio, which excludes intangible amortization from the numerator and securities gains or losses from the denominator was 58, 4% in the recent quarter compared with 63% in 2021 first quarter.
Which included the seasonally elevated compensation costs.
Next let's turn to credit.
As I noted at the start of the call.
We're pleased with the signs of spending.
<unk>.
And revenue trends for our customers as the overall economy continues to improve.
That said some industries are improving more rapidly than others and the supply chain issues and pressures on costs go beyond just the automotive sector.
The allowance for credit losses declined by $61 million to $1.6 billion.
At the end of the second quarter.
That reflects a $15 million recapture of previous provisions for credit losses, combined with $46 million of net charge offs in the quarter.
The allowance for credit losses, as a percentage of loans outstanding declined to 1.6% on 6.2 excuse me per cent.
That ratio was little changed from 165% of loans at the end of the peer off of the prior quarter.
Annualized net charge offs as a percentage of loans were 19 basis points for the second quarter compared with 31 basis points in the first quarter.
The allowance for credit losses at the end of the quarter reflects our assessment of credit losses in the portfolio under the seasonal loss measurement methodology, which includes our macroeconomic forecast.
As we've previously indicated our macroeconomic forecast that cash uses a number of economic variables with.
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 5.4% through 2021, followed by a gradual improvement reaching 3.5% by mid 2023.
The forecast assumes the GDP growth at a 7.4% annual rate during 2021.
Resulting in GDP, returning to pre pandemic levels during 2022.
Non accrual loans increased by $285 million to $2.2 billion.
For 231% of loans at the end of June.
This was up from $1, 97% at the end of March.
We expect to disclose an increase in criticized loans.
With our second quarter 10-Q filing.
This reflects the prolonged recovery in certain sectors of the economy, notably hospitality and health care.
<unk> commercial loan grades reflect the performance of individual properties with limited consideration of property values for guarantor ability to sustained cash flows from other sources.
Notwithstanding those increases loss emergence on troubled loans continues to be moderate.
Interest reserves are healthy sponsors remains supportive and collateral values are well within our underwriting assumptions.
The allowance for credit losses continues to reflect our ultimate loss expectations.
Loans 90 days past due on which we continue to accrue interest were $1.1 billion at the end of the recent quarter.
And 96% of these loans were guaranteed by government related entities.
Turning to capital.
<unk> common equity tier 1 ratio was an estimated 10, 7% compared with 10, 4% at the end of the first quarter.
And which reflects lower risk weighted assets and earnings net of dividends.
As previously noted while the People's United merger is pending we don't plan to engage in any stock repurchase activity.
Now turning to the outlook.
As we reached the halfway point of the year the cautious outlook, we conveyed on the January and April earnings calls has been well aligned with what we're actually seeing.
The fiscal and monetary stimulus programs, along with the vaccination programs have clearly brought of turnaround and economic growth and employment.
But the downside effects from these actions continues excess liquidity.
In the system has suppressed loan growth, particularly commercial loans for empty in the broader industry.
Customer deposits are at all time highs and grew faster than our ability to deploy them into assets that earn above our cost of capital.
The fundamental aspects of our outlook Hasnt changed.
Total loan growth roughly flat on a year over year basis, excluding the PPP loans with pressure on C&I, especially dealer floorplan and CRE loans being offset by growth in consumer loans.
Net interest income down low single digit percentage from full year 2020.
Low single digit growth in total fees.
We see the potential for a slowdown in mortgage banking in the second half offset by stronger trust income payments related fees and commercial loan fees.
Expenses for the first half of the year have been mostly in line with our expectations with year over year growth largely attributable to expenses directly tied to revenue growth.
Such as in Trust.
And 2 higher corporate incentive accruals coming as a result of improved overall profitability compared to last year.
As these trends continue together with costs associated with the reopening of the economy and costs incurred in preparation for the People's United merger, we expect there to be a little more pressure on expenses in the second half of 2021.
The credit environment continues to improve along with the overall economy.
But some segments of recovering more slowly than the others.
We're encouraged by the progress we're seeing in our hospitality portfolio with respect to bookings and cash flows, but that sector's returned to normal will lag the overall economy.
Lastly, the planned merger with People's United remains on track and our estimated timeline for approval by the regulators closing and integration remains unchanged.
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 the call to questions before which Erica will briefly review the instructions.
As a reminder to ask the question you will need the press star 1 on your telephone to withdraw your question the question.
Please go on.
Okay.
Yes.
Your first question comes from the line of Ebrahim <unk> with Bank of America.
Good morning.
Yes.
Good morning.
If you could just follow up on the outlook for expenses being pressured in the back half.
When I look at the second quarter, we grew about 7% year on earlier.
Doug.
Give us a sense of how we should think about it like you said back half of the higher than first half levels in terms of what we saw in expenses any color on that would be helpful.
Yes sure.
I guess when you look at.
The quarter comparison in the second quarter versus second quarter last year that was when the economy shut down on everything everything stops. So you are in for a larger expense increase there.
That quarter looking on a year over year basis.
When we when we think about.
The whole year on where we go for the second half.
On the things that we're looking at is we're looking at some increase in fee related expenses as we continue to see those fee categories growth.
We're looking at as I mentioned before continued increase in our incentive accrual based on the performance of the bank on it. So you recall that last year we.
We reduced the incentive paid to our senior folks based on the performance of the bank.
And then the other place where youll see some some growth as we continue to make our investments in technology and prepare for the peoples integration. So we'll probably see some expense pressure in the third quarter, we will call out what's related specifically to the merger.
Because some of those will either be 1 times or they could in fact, the expenses that we will start maybe a quarter earlier than we might have thought as we prepare for the for legal day, 1 and for the conversion but.
Overall.
The expense growth that we saw this quarter, we wouldn't be running at that high of of rate for the whole year, certainly not excluding the impact of the peoples merger.
I'd be thinking more in the 3% to 5%.
But taking into account the the.
Corporate incentives as well as the the growth in.
And some of the fee businesses.
Got it.
That's helpful and I guess, just on a separate topic the Ronnie.
Last quarter, you provided some color around the hospitality book.
Just wondering if you've seen any improvement in terms of the debt servicing for these borrowers and I understand that you don't expect credit losses of stemming from this portfolio, but how does how does that inform your ability to get back to sort of on the reserve levels. As you think about the next few quarters. Thank you.
Yes sure.
I guess, the the way we're looking at it and thinking about it is when we look at the criticized portfolio.
We're really focusing on on the Standalone cash flows of each of the each of the properties on each of the each of those specific.
I guess called pieces of collateral.
Because with many of our relationships our clients will have multiple.
Multiple properties and so we look at each property and we assess its ability to cash flow.
And Thats what effects of the criticized balances when you look at actual losses.
Just because they're struggling many of them are actually still earning interest and accruing interest because of the sponsors have outside sources that theyre, bringing to to support the deals and then the other thing we're looking at as we keep getting updated appraisals on loans on properties that we have both on criticized and in particularly on non accrual and what's been a pleasant.
<unk> when we look at the recent approval of appraisals that have come in they've been very strong.
We've seen values.
Evaluations I believe we're on us.
Our fully.
As is basis that are that are above well above our loan cost and on a stabilized basis that are maybe down 10% from from the original appraisals and so when we think about the loss content in the portfolio, which is.
As reflected on our allowance, we feel quite comfortable with what's there.
The question, obviously will be the timing on when the cash flows get to a point, where we would see them as not criticize any longer.
We are seeing improvements in occupancy rates in the hotel portfolio across the board.
But we're not quite back to pre pandemic levels there.
Mainly because of business travel hasnt resume versus seeing good good.
Performance in leisure travel, but not as strong yet in business.
And so as those vacancy rates come down.
And revenue per available night or per available room comes up.
We will see those of those assets go from criticized back into performing and then that will support for.
For the reductions in the allowance.
Got it thank you.
Your next question comes from the line of Ken Zerbe with Morgan Stanley.
Alright, Thanks, good morning, good morning, Ken.
Actually we'd love to stay on the whole reserve question or topic for just the second more.
Obviously your the amount of reserves that you released this quarters is very small I mean, certainly relative to what we've seen the number of other banks I know you can't necessarily comment on on how you differ from other banks.
I'm kind of curious.
Any color you have on like what assumptions that youre, making that might explain the differences in your sort of your Youre limited reserve release.
Versus everyone else or maybe its not assumptions at all it really is like the big criticized portfolio that youre talking about any color would be helpful. Thank you.
Sure No happy happy to go into some of the details there.
I guess couple of a couple of broad thoughts to start.
On the seasonal methodology is a lot more penal on consumer books, the non commercial books, because they tend to be longer dated in our institution as you are aware skews more commercial.
That's 1 it also is has the big impact on credit card portfolios and credit card at <unk> is not a huge part of our book of business and so when you look at some of what was being done last year in reserving. What you saw was much larger additions to allowance than you would've seen it empty because of those mix difference.
And so now we're on we're going on in the other direction. The releases are also higher for.
Of those same reasons.
So when you look inside our portfolio and just to give you a little flavor on on the allowance. It's obviously, it's a collection of the different asset classes and the loss expectations in those assets.
And so if you think about the C&I the.
C&I provision there was a little bit of of release of recapture because there was a decrease in the loans outstanding because of the auto floor plan right and so that was as much of a function of a decrease in assets as it most of the loss rate on the assets.
Within the real estate portfolio, we continue to have a.
Loss assumption.
Pretty much unchanged and there was a slight uptick there.
Because of the.
Increase in.
Or is it the.
The size of the criticized portfolio. If you look in the mortgage book It was the decrease.
Again because of the reduction in the.
And the assets as well as the continued great performance of home prices, which affect the model on the loss expectations on so there was a decrease there and then in the other consumer portfolios there was actually an increase.
<unk> of the growth in imbalances.
The offset a little bit by strong used car prices, which brought the loss rate down a little bit and so there's different pieces in each of the portfolios that will move the allowance.
Either up or down it could be because of economic factors it could be because of the balance.
But those are some of the dynamics that are happening underneath and hopefully that helps give a little bit more color.
The 2.
What's happening.
What the allowance.
Alright, guys.
Perfect. Thank you and then just maybe the follow up question.
Of the securities portfolio.
I understand the rationale for not wanting to invest in at very low yielding securities at this point.
At what point might that change.
How low could the securities portfolio go before you feel like you need to invest in the something.
Yes sure.
Was waiting for this conversation.
I think I've got to listen to <unk> last time on the.
On the same subject.
When you look at where we sit today.
I'll talk about the securities portfolio portfolio, but also just some of the other parts of the bank.
We just talked about the reserve and where the reserve sits relative to seasonal day 1.
When we look at our underwriting and our and our losses.
On our expectations to me.
We are adequately reserved if not maybe a little bit more and that's the future potential.
At our capital ratios of 10, 7%.
Probably going to print near the high of the peers in terms of that ratio.
And we'll hold on to that until we do the merger.
That's untapped potential and I see the securities portfolio of the same way.
And so we've been allowing that to run off I think what will you'll start to see as we start to think about maintaining it.
Where it is.
And then look as we prepare to merge with peoples and if you.
What's on our mind as we think about how and when to deploy that excess cash it's a combination of.
Replacing some of the cash was securities in our own book, but what the combined balance sheet is going to look like and so people's will bring a higher percentage of securities and cash, which will which will balance us out a little bit and they will also bring a bigger on balance sheet consumer mortgage portfolio as a percentage of their assets.
Because they tended to be an originate and hold shop, where we were we've been an originate and sell and so the combination of those 2 factors when we combined the portfolios we will start to bring down some of our asset sensitivity and based on that combined portfolio will start to think about how we want to deploy that cash into what types of securities.
And what type of duration, we might want to add so it could be through the securities portfolio itself with the with mortgage backs. It could be just retaining mortgages on getting the same exposure, but having it on the balance sheet.
On HTM as opposed to on.
The type of portfolio and so.
So those of the things that we're looking at and we.
We will look to do other things we tend to optimize the the cash looking to reduce borrowings and we will continue to reduce time deposits, which will get some additional ones.
With peoples.
But I think as we look forward our belief is of the deposits of probably going to stick around a little bit longer than we might have anticipated, which is affecting our thinking about deploying and the duration that we want to.
Assume and what percentage of the cash we want to put to work, but I think we're probably at the point, where we start to see that securities portfolio of level off and we'll be selective about about jumping in book will probably keep it roughly where it is.
Alright, great. Thank you.
Your next question comes from the line of of John <unk> with Evercore ISI.
Good morning, Hey, John just.
Just a question on the margin from 1 of the Thats the C.
If you can.
<unk> net interest income.
Our expectation for a low single digit decline in 2021.
How should we think about margin trajectory underlying debt going forward from here on the.
Obviously on underlying basis, clearly the peoples deal would impact that but wanted to see if you can elaborate a little bit on the standalone margin expectation yeah.
It's a tricky 1 John and so when we think about when I think about the net interest income the reason I've been explicit and we've been explicit about talking about that dollar number as opposed to the margin is theres a lot of things that are going to bounce of the margin around the don't affect the dollars right. So first and foremost as cash and.
We're still in a place where.
Each extra $1 billion of cash compresses the margin by 2 to 3 basis points.
Actually add the nominal amount of net interest income.
The other thing that bounces the net interest margin around is just the pace of forgiveness on the PPP loans and when you look at the first for the last 4 quarters, we've really seen.
The bulk of round, 1 PPP loans forgiven and so when you accelerate that origination fee.
That affects the net interest income and the margin.
But it isn't necessarily repeatable.
And so when we think about the full year guide for net interest income down.
Low single digit factored in there is the earning assets, which we've talked about where we think those will be.
And if you go underneath and look at the actual loan spreads and deposit costs those are pretty stable and that portfolio is producing a pretty stable stream of net interest income and the movements are generally caused.
Certainly in the NIM by cash by the pace of PPP and then ultimately the hedge.
Portfolio that we've talked about I think for several quarters now that it's out there the notional amount outstanding Hasnt changed is still around $17.5 billion.
But the effective yield is.
Is coming down each quarter, and so that will that will put a little bit of pressure.
On the net interest margin and ultimately net interest income, but is the at least look through the next couple of quarters on a standalone basis.
Net interest income is roughly around where it was this quarter.
Great. Thanks.
Before I ask my second question I have to acknowledge the Marc Levy.
I appreciate you for development.
He is 1 of our favorites.
Yes.
Now the bills fan, but kind of acknowledge it.
And then just separately on the loan growth outlook.
For the for the relatively flat expectation for.
For the year.
Could you just talk about when do you see an inflection in balances as we look over the next couple of quarters.
Election.
In the near term can you see on the collection in the back half of his consumer offset the continued declines in C&I and CRE.
Yes.
I think youll start to see it.
But it's going to be nuanced and it's going to be it's not going to be obvious and the reason it's going to be that way is there is 2 portfolios that we have that are going to cause the topline decrease in loans. So first and foremost the PPP, which is well documented right and we know we've got now for 3 billion.
At the end of the quarter that that's going to run off.
And will depend on the pace of forgiveness, but theres reason to believe that that will happen in the next 3 or 4 quarters and then there is also the Ginnie Mae buyouts that we've.
We've added onto the balance sheet too.
To use up some of that excess liquidity, because we like the duration and the yield on that and as the economy continues to improve its our expectation that we will actually those will become re performing and they will get packaged and sold back of securities and that will bring down those mortgage balances, but obviously will drive some fee income.
So when you look underneath the portfolio back to some of the trends that we had talked about.
On ex Floorplan.
C&I was actually up modestly and we did see a very slight uptick in utilization rates.
Of C&I lines in.
In the quarter.
And we will see production come back in the auto sector, and we will see some of those floorplan balances growing again.
Just for context, our current line utilization in the C and the are in the auto Floorplan space is about half of its long term average.
And so that by itself is worth a couple of billion dollars and so we will see that start to come back.
We think it'll be.
The first quarter of next year.
And then when you look in the real estate space.
Not surprisingly, there's not a lot of activity going on and usually what drives some of the CRE growth and declines as just activity in assets changing hands.
And.
When that happens is both a positive in the negative we.
We see pay offs, because some of our clients sell but we also have grain gain assets when the when construction projects come come online or come due and <unk>. When our clients are are out looking at assets in growing their portfolio and so right now thats pretty subdued and expect that the CRE balances will be kind of flattish maybe slightly.
As we work our way through and then the big growth is in the consumer portfolio, let's say big debt it sounds more grandiose than it is.
Its consistent growth in the auto floor plan of our auto indirect as well as rectify and the.
And the rest of auto.
<unk> and <unk> sorry.
So it's it's there.
I like the trends that we see.
The spreads are still holding up.
Of the returns in the business we're booking.
Our solid and so on.
We don't we don't feel the need to chase it to be.
There to support our clients with the.
What the activities are and it'll largely reflect the economy.
Got it alright, thanks very helpful.
Thanks, John and thanks for for the Marvel EV referenced we've got room in the on the bandwagon for more bills fans. Okay.
Okay.
Sure.
And your next question is from that line of Kim.
Austin with Jefferies.
Thanks, Hey, good morning, good morning.
Ken.
Darren I wanted to follow up and ask to the point about the eventual re securitization on the Ginnie Mae's up I was wondering if you could just help us understand how big is that book and the loan book now and if your fee guide for down low single digit contemplates getting some of that re securitization income back into fees. This year.
<unk>.
Sure so.
If you look at the Ginnie Mae.
The portfolio, it's call it $3.5 billion to $4 billion.
That will ultimately get re securitized and sold.
The the pace is a little bit unknown right now is the foreclosure moratoriums keep getting extended that gets pushed out when we gave the original guide about fee growth in low single digits.
That contemplated some degree of.
Of gain on sale coming from that portfolio, that's been pushed out a little bit.
1 of the things that happens on the other side, though is as long as those assets sit on our balance sheet. We're accruing interest income and so thats, helping with the with the net interest income and.
When we look at the at the potential gain on sale.
It will it will move the percentage growth in fee income.
Maybe a percentage point and it would be towards the fourth quarter of the year not likely much before the before then just given what we're seeing in the time it takes to get those.
Securities considered re performing and available for sale so it would be backend loaded.
And start to spill into 2022.
GAAP understood and just a follow up question, it's great to see the trust business continuing to rebound up another 4% I'm. Just wondering can you just talk through just some of the underlying growth drivers in trust and do you have the.
What the fee waivers were this quarter and if you expect that those would have peaked and maybe we get a little bit of help back on those going forward given the IRB or changes. Thank you.
Yes, let me make sure I got all of the so I'll start with Trust and then we'll talk about the waivers.
So so we're really pleased with how the.
Things are progressing in the trust business, there's really 2 main drivers of the trust fee income.
In the in the last few quarters.
Our wealth team has really done a great job.
Leveraging the changes that they made to their platform.
The out and growing new customers, which is which is very encouraging and then for the existing customers plus the new ones everybody is benefiting from the the capital markets and the growth there.
And another piece of our trust businesses.
We manage assets on behalf of retirement plans.
And as we manage those assets.
It's a great business because each month employees contribute more to their plan, we're signing up new employers and the market has been growing and so the combination of those 3 things is driving growth in assets under management, which is leading to top line.
Keep in mind, this is where I'd say, we're seeing expense growth debt.
In many cases were of fiduciary of those were not the.
The underlying asset manager and so there's a sub adviser fees that doesn't get netted against the trust fee income its in the other expense line and so as we grow those assets under management, we like the returns on that business and we like the profit it adds.
But it does cause expenses to go up at the same time and so that's why when we say there is.
The expense growth related to fee growth, that's 1 of the big drivers.
When we look at the at the waivers in the funds.
It's in the neighborhood of.
Of.
Yes.
Call it.
At the high end of $15 million for the quarter.
Where we are today.
And what it will take to get get back in there, we'd probably need I think we need fed funds up.
Probably closer to 50 basis points before you see that start to materialize as opposed to the first 25% so.
This would be another 1 of these things.
Look forward and I think about what what the potential is for for the bank. In addition to the things we talked about.
With the with cash and capital on the provision obviously the waivers.
<unk> is another 1.
Can can turnaround.
So lots of lots of latent potential and we just need to unlock it.
Got it thank you Darren.
Your next question is from Bill Clark.
<unk> with Wolfe research.
Good morning, good to have you back Darren.
Bill nice to be back on us.
PPP balances wind down is there an opportunity to grow your small business lending into other markets outside of your traditional footprint, perhaps by partnering with other financial technology players or doing a bolt on type deal like we've seen from others.
More broadly the question is I guess, just any color that you can give on the extent to which you consider these kinds of moves across any of your business lines.
Sure.
Great Great question.
Small business is 1 of the cornerstones of empty and who we've been for for years in the communities that we serve I think the number 1 opportunity that sits in front of us as peoples.
We mentioned it on the announcement of the deal.
And the more we get to know our new colleagues at peoples in the geographies. We continue to be excited about the upside there and that bringing our brand of small business banking too.
To that franchise is.
Is really exciting.
We have been watching with great interest what's been happening with.
Nationwide small business lending and I have the benefit of I used to actually run that division.
And the prior career here at <unk>, and we've seen people come in and out of that business a lot and 1 of the things that always excited me on that business was when people announced they were getting in because it's tough.
And 1 of the things Thats really important to remember about small business is the small business loans are okay business.
But.
On.
The real value in the deposits.
And the small business franchise is actually self funding and so 1 of the tricks and when you talk about nationwide small business lending what we're watching is not the ability to give out money because that's easy but the ability to make sure that your risk rated that you take care of fraud, which we saw some fraud on some of the PPP situations.
And then ultimately your ability to win the whole relationship.
So if you think about <unk> and our approach to banking, it's always been full relationship banking.
And 1 of the keys is having on we've always talked about the operating accounts of our customers, whether it's consumers whether it's small business are middle market companies and that's a little bit of a tougher proposition on AR.
On a nation wide and remote basis, but it's something that we watch and.
Fortunately.
We had a very strong PPP, showing and we were able to win some new relationships in our footprint.
And for now we are I think will focus primarily on on capturing the upside that we see in the new markets that come with the the.
The peoples combination.
Understood. Thanks for taking my question.
Yes.
Okay.
Erica we move into the next question.
Your next question comes from the line of Gerard Cassidy with RBC.
Hi, Darren will come back into the seat.
Gerard Thanks.
I'm sorry for a minute that just dropped me off of with that long delayed, but I'm glad you picked up.
Couple of questions for you.
All in you referenced in your prepared remarks about floor plan lending and what's going on in the auto industry.
And the supply issues in other industries as well.
The question is this.
Autos in particular.
And there are some stories that have been written recently that maybe the auto dealers may follow the what theyre doing today into the future, meaning keeping of lower inventory and having higher margins. So maybe they sell fewer units, but the margins are higher.
That may be a way to go are you hearing anything like that from you guys on the frontline who deal with the auto dealers that the.
The normal inventory levels in the normal floorplan lending will come back or maybe it will not come back.
Gerard it's of Great question, and it's 1 that comes up often it tends to come up a little bit more than other.
The circles than with the dealers and so obviously they loved the situation that we're in right now.
Because of the.
How quickly the cars are moving off the lot.
The thing that you got to keep in mind, especially as it relates to the auto business is a lot of the production is pushed by the manufacturer.
And while we do a lot of floor plan.
With the dealers generally of the new car production is floored by the by the manufacturer and the manufacturer will actually of incentives and we will buyback.
The cars that don't sell and so theres whats on the dealer's lot and what they'd like to do and then there's what the manufacturing industry are part of the the value chain wants to do.
And I think the last sorry, if my Memory's correct printed around $15 million and it had averaged about $17 million pre pandemic and so that's a lot of production.
On there right now.
And 1 of the other elements of the production that happens is it goes from the manufacturer to the dealer and some of the.
The unused inventory ends up in rental agencies, and obviously that was an industry that early on was was hit pretty hard by the pandemic, but seems to be coming back at least if any of you have tried to rent a car lately, you'll find 1 that's difficult and 2 it's really expensive. So I think of some of that production comes back you will see it move its way through the through the lot.
And back into the rental car companies so.
Probably more insider information and you wanted in the and the response, but I don't think it will it will stay this way because I think there are other other forces at play that are unique to auto.
It's a different world and rectify where the manufacturers don't have that same power.
And the dealers themselves have more control over inventory on the lots and obviously that sector has been through a big change.
Through the pandemic as well but.
We will see a rebound in auto floorplan lines, while they get a usage I should say will they get all the way back to where they were.
That remains to be seen but it will be a function I think of.
The ability of the manufacturers to ramp up production.
Very good I appreciate the insights.
Coming back to your comments about Europe.
Average balance sheet.
You talked about the <unk>.
Is that the fed your securities et cetera.
If you were able to do this but when you look at your spread I think in this quarter was $2.7 1%. Your margin was of course of $2.7 to 7 and.
When you look at the different categories of asset yields how for away is the.
The current market your incremental loan that you make on the Incrementals security that you purchase to the actual averages that youre showing in the third quarter is of the 10.2030 basis point difference on the incremental new.
Acid production versus what your averages of showing.
So when you when you look at when I look at roll on and roll off margins, what we've seen for probably the last.
6 to 9 months is roll on margins have been better than roll off margins.
And so.
That bodes well for the portfolio over the long run, but what we've also been seeing in the last few quarters is the.
The the spread.
Or call it abnormal spread I don't know is coming back closer to what it was pre pandemic and so youll see overtime.
The spread which is really the piece of that matters. The most of us.
Coming back to pre pandemic levels, but hopefully not below but in the last little while what we've seen is roll on better than roll off.
Im.
Turning a little bit because when I think about the press release on I think about the page in the press release the talks about.
Yield and particularly on the C&I Theres a lot of movement in there right now because that's where all of the PPP fees of rolling in and out of and so that's why we're getting some wild swings in margin there and then when we look at the CRE yield Thats, where some of the.
The hedge.
Would be but when you take all of that stuff away and just look at what's actually in the portfolio.
The yields and they are sort of the spreads over the last year have been a little bit better than what they were going into the pandemic, they're trending back there and so it would think debt over time of our long term average yield or.
Or spread.
Would be similar to what it was pre pandemic.
And as we start to deploy some of that cash hopefully in the things other than securities.
But in the supported customers that we continue to see our net interest margin.
In the long run prints in the top quartile of the peers as has been our history.
Very good I appreciate it again welcome back Thanks Gerard.
Your next question is from the line of Christopher Spahr with Wells Fargo.
Good afternoon. So my questions of our tech related so what's your outlook for your tech budget over the next say 3 to 5 years in the past you said Tek.
Is it cost is around low double digits of revenues, but given the challenging rate environment and the pending peoples deal I'm. Just wondering what you think it will be a post merger and then what are the incremental investments here in light of the comments you had for the second quarter and then as a follow up I'll just give that now what is the mix of this budget in terms of run versus the change.
The bank before the pandemic, we kind of estimate it was around 60.40 issue focused on reducing customer friction reducing improving processes.
Alright, let me make sure I got all of them trying to keep up with you Chris on on the list here.
So tech budget.
The things that we're focused on and spending.
The kind of mix of build the bank versus run the bank did I Miss anything correct no that's pretty much of thanks, Okay.
So I guess I'll just start with the what we saw in quarter over quarter.
I mean look on the software and data processing line, there's 2 elements there 1 is.
Contracts that we have where we pay a fee based on volume and so as some of the data processing volumes increase so will that fee and thats 1 of the drivers and then the other 1 in there as software licenses and what we tend to find is the first quarter is a little bit light on on that and the tends to catch up as the year goes on some of.
Of the licenses will grow as we prepare for peoples.
Because we'll be buying additional licenses for the People's employees, whether it's for commercial loan RMS whether it's for the branches our staff employees.
And you might see that a little bit in advance of the merger and those would not be considered onetime expenses, but they would have been contemplated in our due diligence.
And so youll see some of that.
And then the other thing that happens is as you shift more.
Of your technology into.
The.
<unk>.
Asps or cloud based environment that you pay more in kind of monthly or quarterly fees versus the upfront investment costs and so it's a little bit of a shift and so that impacts the growth of the overall tech budget, alright that youll have a higher tech budget, if youre kind of building your own software.
Sure.
Versus buying off the shelf the differences of cost you a little bit less upfront, but then you've got the the tail of the ongoing.
Software licensing costs and so when we look at our tech budget and how it's grown over the last several years.
It's been high single digit compound annual growth rates.
When you look over the last 5 years Theres times, when it moves up and we invest a little bit more entitled on it levels off but I think that's a pretty good.
Estimate of where we've been and likely where we're going and.
And the focus is across built the bank and run the bank.
It's $60.40, I think thats a good number the way to think about it whether it's $60.40 run versus $60.40 improve or bill can shift in time.
Some of the things that you're investing in and we're investing in include data data quality data warehousing.
Cyber security.
Risk management things, which I guess are build the bank.
But could be considered run the bank depending on how you how you qualify them.
But they're just part of being a <unk>.
Larger institution.
As we've noted we're spending.
Focused on engage in things that improve the customer experience, whether it's been the mobile app, whether it's been improving.
On the interactions that happen in the call center, whether it's providing better technology to the branch teams.
Some big upgrades to our cash management system, we've made the upgrades to our loan origination systems to try and help the the commercial RMS and make their lives easier and so it's across those types of investments.
That youre seeing us spend spend our dollars.
And I think tech budgets are just part of banking theyre going to be there.
It's hard to separate technology from banking these days.
But that doesn't mean, it's the only part of banking is.
I will reemphasize that.
We've always been a bank in our communities there are folks in the personal touch on relationship management matters and the technology is there to complement that approach and to make our teams are that much more effective with clients.
Thank you.
Your next question is from Dave Rochester, with Compass point.
Hey, Good morning, guys are now good afternoon, I guess, how are you doing more on yes. Good afternoon.
Yeah.
A quick 1 on capital I know.
Maybe a better question for the next earnings call.
But just given what youre seeing today on your higher capital levels do you think youll be in a good position to get a lot more aggressive with the buyback once you close the deal.
The capital ratios will still be pretty robust at that point. So just curious if youre.
If youre looking to get more aggressive following the close.
Yes, I guess I would more aggressive.
It gives me a little bit of the auditor, but.
We certainly are will be continue to be active in prudent stewards of capital. My first hope is that we go back to the conversation we were having before about loan growth and if we continue to grow customers and grow balances and we use that capital.
To deploy it for the.
The sake of our customers that said when you look at the at the.
Things in front of us with hopefully deploying.
Some of that cash and seeing some releases of provision and get the the synergies the cost savings out of the merger.
Or could it be creating more capital and that gives us a great opportunity to go.
And do buybacks and so we'll go through and put the 2 banks together.
We'll put our forecast of loan growth together.
Uses of that capital.
We will consider the dividend and where that is within our capital governance and then what we can't deploy.
Effectively we will give it back to you guys and so I think just based on where I sit and where our ratios are right now it's safe to say that the.
Capital deployment will be in our future.
Would you say that the chances are better than not that you wrap up the buyback that you have out there.
CCAR next year.
Well since we announced the buyback in January and we got approval from the board, but we didn't actually use it because we announced the deal and so I don't think we could use that whole thing up before CCAR of next year because of that we'll be submitting that in.
In April of next year, and so between the fourth quarter in the in the first quarter to be able to use up that whole allotment would be pretty difficult.
Yes.
Go ahead.
Thinking through the first half of next year.
Even through the first half debt that would start to get tough but.
The vote will be back.
So you guys with the more detailed thoughts on on capital deployment.
As we get through the legal day, 1 and get the 2 banks put together at least on on paper.
We can get a look at the balance sheet and confirm the forecast but.
I think its definitely safe to say as I mentioned for the.
A ramp up in the rate of capital deployment compared to the certainly the last few years.
<unk> is in front of us.
Sounds good maybe just 1 quick 1 on expenses you guys addressed this a little bit earlier, but just trying to tie this back to the guidance. You gave earlier this year for flat sort of lessen up 1% the expense growth for the year ex the deal I know you've factored in some fee growth into that guidance as well or are you still thinking that that guidance works at this point as the dealer.
As the revenue performance of better than what you thought at that point.
I guess what.
I think theres a couple of things some of the revenue performance has been a little bit better and then it's more overall bank performance has been better right. So when we were contemplating.
Our accruals for incentives at the start of the year, we were expecting.
As quick a rebound in the economy, and maybe a little bit higher charge offs than what were actually experiencing.
So as we work through the year and we see better performance at the bank, we tend to set our accruals as a percentage of the bank net income and as the net income increasing.
We are accruing a higher amount for incentives and so if you go back to that original guide of flat to 1% ex the peoples on the other things, we're probably more going to run 1% to 2% ex the.
Yeah.
On the peoples deal.
Okay, Great 1 last 1 on the deposit side.
I hear you loud and clear when you say youre expecting deposits the stick around for a while but was just curious if you've seen any increased spending whether it's amongst the consumer customers of business customers.
The deposits.
In recent months.
Yes, it's interesting to see the deposits, we are seeing people spending, but but it's not seeing were not.
Not showing up on the decrease in the balances.
What's interesting is the.
It started to get back out again as we as we reopen the economy.
Lucky for Gerard the question I had spent some time with some of them of our dealers.
But a couple of our other customers.
And they had received PPP loans.
Go on somewhere with us because it was interesting to me that they had just gotten forgiven and I said, Oh, well what are you going to do with the D of the money left and they said we have every cent still and I said why you've got that too.
Pay for these expenses and they said Oh, we did that out of our normal cash flow. We just adjusted our operations, we didn't want to spend the money until we actually had the loan for given in case, we didn't get it forgiven.
And so that gives you a little bit of an insight into some of the mindset of the type of customers that we have 1 but to the those dollars are still sitting there and available to be spent and so I think we'll start to see those move.
But we need to continue to see movement in the economy.
<unk> from any of the customers that I spend time with and talk to.
Theres, obviously, some supply chain challenges in certain sectors.
The biggest supply issue is talent and available workers and I think thats for the next thing to go is to get.
Get get more folks back.
On the employment rules and then we'll start to see it.
So more of that spending and demand for for the cash out of both the consumer of the business.
Deposit accounts.
Alright, great appreciate all of the color. Thanks.
Your next question is from Peter Winter with Wedbush Securities.
Great. Thanks, Hi, Darren Welcome Bank Theater.
Thank you.
Just 2 quick housekeeping questions.
Last quarter <unk> mentioned that there was about $90 million in swap income and I was just wondering what it was from the second quarter and maybe the outlook for the second half of the year.
Yep.
The.
You said you had a couple of is that the is that your own the question or do you have another 1 on just.
The other on PPP.
The last 1 in terms of Emerson IC.
So in swap fee income.
For the quarter it was down about $14 million.
And as we had mentioned I think a couple of calls ago that the.
The total.
For the year was going to be closer to <unk> for 'twenty, 1 close to what it was in 2020, but kind of peaking in the fourth quarter last year first quarter of this year and then declining.
Each quarter.
From there.
Looks like the will be down kind of round numbers call it $10 million a quarter of the rest of the way. This was the bigger quarters because of the the nature of some of the swaps that went on and off but no change to that guide.
<unk>.
When we look at TPP, when we look at TPP round 1.
The bulk of the origination fee has now gone through and been captured in the income statement and sort of net interest income, but PPP round 2.
Well the forgiveness portals are open we haven't really recognize the any forgiveness on on those yet and so the whole second round of balances on the origination fees associated with them.
Are still hanging out there.
Round numbers emphasized round.
Maybe $100 million of of income to come in.
Hopefully, we'll start to see at the next quarter, but the good news with it is that either amortize it.
Every month or for it accelerates, but you don't lose it and so so that's out there and that's also factored into our.
Our guide about net interest income being down low single digits year over year.
Got it thanks Darren.
Sure thing.
And this does and our allotted time for question and the Nancy.
Now I'll turn the call back over to Don Macleod for closing remarks.
Again, thank you all for participating today and as always if clarification of any of the items on the call of our news release is necessary. Please contact our Investor Relations Department at 706, 8 for 25138 Goodbye.
Yes.
This concludes today's conference call. Thank you for participating you may now disconnect.
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