Q4 2021 Mercantile Bank Corp Earnings Call
[music].
Good morning, and welcome to the Mercantile Bank Corporation fourth quarter, 2021 earning results conference call.
All participants will be in listen only mode.
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Please note this event is being recorded.
I would now like to turn the conference over to Kate Kraft Lambert Investor Relations. Please go ahead.
Good morning, everyone and thank you for joining mercantile Bank Corporation's conference call and webcast.
The company's financial results for the fourth quarter of 2021, joining me today are members of mercantile management team, including Bob Minsky, President and Chief Executive Officer, Chuck Christmas Executive Vice President and Chief Financial Officer, and Ray Reitsma, Chief operating officer, and President of the Bank. We will begin the call with management's prepared remarks and presentation.
The quarters results then open the call up for questions.
Before turning the call over to management is my responsibility to inform you that this call may involve certain forward looking statements such as.
Projections of revenue earnings and capital structure as well as statements on the plans and objectives of the company's business. The company's actual results could differ materially from any forward looking statements made today due to the factors described in the Companys latest Securities and Exchange Commission filings. The company assumes no obligation to update any forward looking statements made during.
The call.
If anyone does not already have a copy of the fourth quarter of 2021 press release and presentation deck issued by mercantile today, you can access it at the Companys website Www Dot Merck Bank Dot com at this time I would like to turn the call over to <unk>, President and Chief Executive Officer, Bob Kaminski.
Thank you Ken and good morning, everyone and thank you all for joining our call today.
Our company's strong fourth quarter rounded out what was an excellent year highlighted by steady operating performance continued organic loan growth and very sound asset quality metrics. Our results in 2021, where based on the solid foundation that we have built and driven by a relentless focus on serving our clients and communities at.
The highest level.
We accomplished this by adding value as a trusted adviser to our customers.
The mercantile team is devoted to delivering exceptional service to our customers building new relationships and deepening the penetration of our markets our fourth quarter and full year 2021 performance reflects the continued success of that approach.
We earned fourth quarter net income of $12 $3 million or <unk> 74 per share for the full year 2021, net income totaled $59 million.
33, 7% increase over 2020.
Earnings per share were $3 69.
An increase of more than 36, 2% from the prior year.
Excluding the year end initial funding and formation of the Mercantile Bank Foundation as a new vehicle for charitable, giving and community investments EPS would have grown to 94 cents per share in the fourth quarter and $3 89 for the full year 2021.
We also announced today the declaration of a cash dividend of 31 per share for the first quarter 2020 to Chuck.
Chuck will provide you with detailed comments on our full year 2021, and the fourth quarter performance.
Any more color on revenue expenses and capital position.
We believe a key differentiator for mercantile is there a level of sustained organic loan growth.
Total loans of three four or $5 billion are up 8% year over year as we continued to build out our new and existing markets by adding talented and market lenders to maximize growth.
Our organic commercial loan growth, excluding paycheck protection program loans has been nothing short of stellar up an annualized 27% in the fourth quarter and 20% in 2021 compared to the prior year.
Ray will provide you with a full update on the performance of our loan portfolio, but in a short based on the strength of our team.
Of our customers' businesses and the size of our loan pipelines, we expect to continue demonstrating strong organic commercial loan growth relative to peers.
Fortunately, we took steps in the fourth quarter.
To bolster our capital position issuing $75 million of subordinated notes that will provide support for the for the strong loan demand we are expecting.
Importantly, organic growth is coming from all of our markets led by the Grand Rapids in West Michigan region. We are confident in our ability to continue our success given the trends and outlook for our primary Michigan markets, where the economy and real estate conditions continued to be healthy.
Our ongoing focus on proper underwriting and partnering with commercial borrowers with proven business acumen as reflected in our exceptional asset quality as.
As we continue to report low levels of past due loans and nonperforming assets.
We also continue to see excellent results with our residential mortgage function.
Banking income totaled $6 $9 million for the fourth quarter and $30 million for the full year.
This success is possible because of our ongoing strategic initiatives to increase market share with a growing focus on the purchase on purchase financing as opposed to the refinance market.
Our team continues to build a robust pipeline and maintain strong volumes. Despite seasonality in the winter months, we continued to position ourselves for greater mortgage banking production in this extraordinary housing market as evidenced by our strategic hires of lenders and new office openings in Cincinnati, Ohio.
I'll.
In Midland and potassium Michigan.
While mortgage banking income is a large component of our noninterest income we are pleased with the growth in all all other key fee income categories during the year, including our commercial loan interest rate swap program interest and introduced in late 2020.
Ray will provide more color on this in his comments.
As I touched on earlier, our launch of the Mercantile Bank Foundation during the fourth quarter impacted expenses for the quarter and the year ended December 31 2021.
Mercantile is strongly committed to sound environmental social and governance practices and our foundation will enable us to better support our all communities and the markets we serve.
It also enables us to more consistently distribute grants and other investments in the communities over time, enabling the company to more efficiently and effectively allocate funding to the foundation.
In closing our operating performance in 2021 illustrates the effectiveness of our strategic initiatives.
Our entrepreneurial focus and our culture.
We have the right talent and strategies in place to continue to deliver high level of performance, including steady profitability and a commitment to excellence.
We're extremely proud of the efforts from our mercantile team throughout the entire year and remain focused on the continued continuing to deliver exceptional financial results, serving our existing and future clients supporting our communities and rewarding our shareholders.
That concludes my introductory remarks, I'll now turn the call over to Ray.
Thanks, Bob Today, My comments will center around three topics and evidenced in the 2021 year end results.
<unk> core commercial loan growth strategic growth and sustainable noninterest income.
Stability and operational efficiency.
First core commercial loan growth for the fourth quarter, we are reporting core commercial loan growth of $184 million, representing a 27% annualized growth rate.
Full year core commercial loan growth was $482 million.
Representing an increase of 20% this growth has been possible due to the efforts of our commercial team and their focus on relationship building and the business community bank value proposition.
Pandemic in the PPP program gave us an opportunity to prove an action what we marketed in concept, namely that mercantile has the capability and technology to serve them along with timely local decision, making and exceptional service.
Pause on our stock repurchase program and recognition of the fact that this strong level of growth requires robust capital support.
Our backlog remains consistent with prior periods as we fund this impressive level of core growth.
Secondly, strategic growth and sustainable noninterest income.
During 2021, where we reported noninterest income of $55 2 million.
Net of gain on a branch sale compared to $45 $2 million last year, an increase of 22% and $10 million how do we make the case that this is sustainable performance.
<unk> income accounted for $6 million of the growth and the swap program allows us to meet customer demand for fixed rates without taking on the balance sheet risk of a conventional fixed rate, which is very important to margin sustainability in the present environment.
Our term debt funding has been nearly 50% fixed over a long period of time and we do not expect the mix to change meaningfully.
Our mortgage banking income was relatively flat for the year, increasing $6 million or 2% over the prior year as our team grew production from $864 million last year $952 million this year.
Case for sustainability in this business is supported by the fact that last year's volume represented a mix of 34% purchase activity to 66% refinance activity. While the present your mix is 52% to 48% split between purchase and refinance activity and of course purchase active.
It is far more sustainable than refinance activity.
<unk>, but important contributors to the noninterest income picture or the role of service charges on accounts and credit and debit card income, which increased by 11% and 26% respectively for the year, reflecting growth in the number of relationships serve as well as increased activity within the accounts as the academy.
It covers from the pandemic.
And some noninterest income made up 28% of total revenue for fiscal 2021.
Up from 23% in the prior year as income from swaps debit and credit cards and service charges overshadowed relatively flat income from mortgage activities compared to the prior year.
The final topic of my comments relates to stability and operational efficiency in this inflationary environment.
Year to date, we are reporting an efficiency ratio of 59, 3% when adjusted to exclude the impact of the foundation expense compared to 58, 9% for the comparable period last year.
Our consistent spending on technology over the years has served us well, allowing our customers to utilize numerous digital channels as alternatives to visiting a branch and providing the ability to reallocate resources toward further enhancements to an already up to date digital platform.
It is worth noting that during this period of robust loan and noninterest income growth our ftes increased by only six from the prior year to a total of 627.
That concludes my comments and I'll turn the call over to Charlie.
Thanks Ray as noted on slide 25. This morning, we announced net income of $11 $6 million or <unk> 74 per diluted share for the fourth quarter of 2021 compared to $14 1 million or <unk> 87 per diluted share for the respective prior year period.
Net income for the full year 2021, total of $59 million or $3 69 per diluted share compared to $44 $1 million or $2 71 per diluted share for 2020.
Costs related to the initial funding and formation of the Mercantile Bank Foundation decreased net income during the fourth quarter of 2000, Q1, and full year 2021 by approximately $3 2 million or <unk> 20 per diluted share.
Excluding these costs diluted earnings per share increased seven.
Or 8% from the fourth quarter of 2021.
And $1 18.
Over 43% for the full year 2021 compared to the respective 2020 periods.
Turning to slide 26 interest income on loans during the three and 12 months.
2002, one period declined from the respective prior year periods as lower PPP loan fee accretion and a lower interest rate environment offset growth in core commercial loans and residential mortgage loans.
Interest income on securities in the fourth quarter of 2021 was 44% higher compared to the same period in 2020 in large part reflecting growth in the securities portfolio over the past 12 months to meet internal policy guidelines and deploy a portion of the excess liquid funds position.
Securities interest income in the full year 2021 increased about 7% from 2020, if accelerated discount accretion on called U S. Government agency bonds in 2020 is excluded.
In total interest income for the most recent quarter decrease zero point $6 million from the fourth quarter of 2020 and was down $4 $8 million for the full year 2000 to one as compared to the full year 2020.
Interest expense declined to remain relatively unchanged in virtually all categories. During 2000 to one periods compared to the prior year period with the reductions, reflecting the low interest rate environment.
And total interest expense declined $1 $3 million during the fourth quarter of 2002, one compared to the fourth quarter of 2020 and was down $6 6 million between the full years of 2021 and 2020.
Net interest income increased zero point $7 million for the fourth quarter of 2002, one compared to the fourth quarter of 2020 and was up $1 $8 million for the full year of 2021 compared to the prior year.
We recorded a negative provision expense of $3 4 million for the fourth quarter of 2021 compared to provision expense of $2 $5 million for the prior year fourth quarter.
For all of 2021, we recorded a negative provision expense of $4 $3 million.
Compared to provision expense of $14 $1 million in 2020.
The negative provision expense recorded during the 2021 periods, mainly reflects the reduced allocation associated with the economic and business conditions environmental factor depicting improvement in both current and forecasted economic conditions and the recording of net loan recoveries, which more than offset required reserve.
<unk> necessitated by net growth in core commercial loans.
The economic and business conditions environmental factor was upgraded during both the second and fourth quarters of 2021 resulted in an aggregate reserve balance reduction of approximately $7 3 million.
Net loan recoveries totaled $1 3 million for the fourth quarter of 2021 and $1 $7 million for the full year.
The relatively large provision expense recorded during 2020, primarily reflected distressed conditions related to the Corona virus pandemic included two separate downgrades of the economic and business conditions environmental factor. The introduction of the COVID-19 pandemic environmental factor to address the unique challenges and on.
Certainties, resulting from the pandemic.
And certain commercial loan downgrades.
We elected to postpone the adoption of seasonal until January one of 2022.
Based on preliminary results the reserve balance on the seasonal methodology will be about $5 million to $6 million lower than our reserve balance as of year end 2021 as determined using the incurred loss methodology.
The difference measured between $6 5 million and $7 million as of the previous two quarter ends.
The primary difference between the two reserve models over the last few quarters is related to the economic forecast aspect of the calculation.
Under seasonal employee economic forecast has shown significant improvement.
Under the incurred model, our view of economic and business conditions, as generally positive and improving but less so than what is reflected in market economic forecast.
Continuing on slide 28 as announced in late December and referenced earlier, our bank made an initial $4 million of contribution to the newly formed Mercantile Bank Foundation. Excluding this contribution overhead costs during the fourth quarter of 2021 increased $3 $4 million when compared to the fourth quarter.
Last year, while increasing $8 $3 million for the full year of 2021 compared to full year 2020.
Is the significant portion of the increases were recorded in the salaries and benefit line items.
Salaries increased $2 $4 million in all of 2021 compared to 2020, primarily reflecting annual merit and market adjustments along with promotions.
In regard to the bonus programs.
We expense $4 $5 million in 2021 compared to $3 2 million in 2020, reflecting a strong year of operating results during.
During the first three quarters of 2021, we had expense zero point $8 million each quarter based on a lower bonus payout rate.
That accrual was increased to $2 $1 million in the fourth quarter to reflect actual results and final bonus calculations as determined by the compensation Committee.
In regard to the stock based compensation programs, we expect $3 $8 million in 2021 compared to $2 3 million in 2020.
During the first three quarters of 2021, we had expense of zero point $6 million each quarter.
That accrual was increased to $2 million in the fourth quarter to reflect right sizing adjustments to the performance based restricted stock awards, taking into account actual 2021 operating results and updated 2022 and 2023 forecast.
We recorded a $1 $1 million increase in health insurance costs related to increased claims in 2021 compared to 2020, primarily reflecting services associated with the coronavirus.
We also recorded an aggregate zero point $9 million increase in liability and FDIC insurance costs.
As far as 2022 overhead costs. We are currently projecting a quarterly run rate of between $26 million and $27 million.
Continuing on slide 29, our net interest margin was 274% during the fourth quarter of 2021 up three basis points from the third quarter and within the range of $2, 71% to $2, 77% for the four quarters of 2021, but down from the 3% level recorded during.
The fourth quarter of 2020.
Compared to the year ago fourth quarter, the yield on earning assets decreased 43 basis points, while the cost of funds declined 17 basis points.
Our yield on loans has been relatively consistent over the past six quarters, except during the fourth quarter of 2020, when we recorded larger than typical ppp's fee income accretion.
If we refer back to slide 24.
Net PPP fee income accretion of $2 $3 million during the fourth quarter was down from a quarterly average of about $2 8 million. During the first three quarters of 2021 and well below the $5 4 million recorded during the fourth quarter of 2020.
As of year end 2021, unrecognized net PPP fee income totaled $1 million virtually all of which is related to PPP round number two fundings.
You mean, PPP forgiveness trends remain unchanged, we expect a large majority of the remaining unrecognized net PPP fee income to be recorded as income during the first quarter of 2022.
Our net interest margin continues to be negatively impacted by a significant volume of excess on balance sheet liquidity depicted by low yielding deposits with the federal reserve bank of Chicago.
The excess funds are a product of increased local deposits, which are primarily a product of a federal government stimulus program as well as lower business and consumer investing and spending.
Total local deposits and sweep balances increased $774 million or 22% during 2021 and are up one $6 billion or 60% since year end 2019.
Almost one half of the growth in local deposits since year end 2019 is comprised of increased noninterest bearing checking account balances.
Overnight deposits averaged $738 million during the fourth quarter and $671 million during all of 2021 substantially higher than our typical average balance of around $75 million. This excess liquidity lowered our net interest margin during the fourth quarter and all of 2012.
One by about 40 to 45 basis points.
While we expect the level of excess overnight funds to decline in light of continued loan growth and wholesale fund maturities, we expect the level of overnight deposits stay elevated well into the foreseeable future.
Given the asset sensitive nature of our balance sheet any increases in short term interest rates would have a positive impact on our net interest margin and net interest income.
We remain in a strong and well capitalized regulatory capital position.
And the bank's tier one leverage capital ratio continues to be impacted by the PPP loan portfolio and excess liquidity. Although there is no similar impact on the total risk based capital ratios as both components are signed a zero percent risk weighting.
Both our tier one leverage capital ratio and our total risk based capital ratio have also been impacted by the strong core commercial loan growth over the past several quarters.
Our total risk based capital ratio.
And all of our banks regulatory capital ratios were augmented in December with our $75 million of issuance of subordinated notes of which a vast majority of the funds were downstream to the bank as a capital injection.
And as you might have seen last Friday, we closed on an add on $15 million issuance all.
All of which was provided to the bank.
As of year end 2021, our total risk based capital was 14% compared to 12, 5% as of <unk>.
September 32002, one.
Our bank's total risk based capital ratio was $147 million above the minimum thresholds to be categorized as well capitalized at year end 2021.
We've repurchased about 47000 shares for $1 $6 million at a weighted average cost of $33 35 per share during the fourth quarter of 2021, bringing.
Bringing our year to date totaled up to about 683000 shares for $21 $4 million at a weighted average cost of $31 29 per share.
Year to date weighted average cost equates to about 125% of average tangible book value.
As of year end 2021.
We had $6 $8 million available in our repurchase.
However, given the recent stock price in prospects for additional solid loan growth, we do not plan to repurchase additional shares at least in the near term.
In closing we are very pleased with our operating results for all of 2021 and financial condition as of year end and believe we are well positioned to continue to navigate through the unprecedented economic environment created by the coronavirus pandemic and other events. Those are my prepared remarks, I'll now turn the call back over to Bob.
Thank you Chuck that concludes management's presentation.
I'll turn the call to questions and answers.
We will now begin the question and answer session.
Ask a question you May press Star then one on your telephone keypad.
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Two questions. Your question. Please press Star then two.
At this time, we will pause momentarily to assemble the roster.
Okay.
And our first question will come from Brendan Nosal with Piper Sandler. Please go ahead.
Hey, good morning, guys how are you.
Good morning, Brendon good to you.
Okay. Thanks.
Maybe just to start off here on the expense side of things.
I think Chuck kind of given the quarterly guide you provided that kind of implies roughly a $106 million of full year costs at the midpoint of that range, which I think it'll be pretty much flat with the core expense level you guys put up in 2021, So just given I guess, one the inflationary environment and to what sounds.
We've got a pretty good revenue opportunity environment for you folks how do you guys kind of keep a lid on costs in 2022 and hold it flat there.
Yeah, there's a couple of things going on and I think ray flushed out and a little bit with our operating efficiency and our ability to continue to grow the company without a growing a corresponding growth in our operating environment.
Of that as we have excess capacity that we're utilizing.
And I think it's also a very important point and Ray also brought this up because we have always stayed very current on technology.
While we definitely increased our technology spend every year theres, nothing outsized year over year and doing that approach. So.
Pleased about that I think another part of that is we are expecting a reduction in mortgage banking and with that will come a reduction in associated <unk>.
Commission expense.
Okay.
Alright, that's helpful commentary.
And then one more for me just turning to the loan growth I mean, typically I think of mercantile has had an upper single digit grower on average, but obviously this is a much different environment youre clearly seeing better opportunities.
I've shown by 20% core loan growth next year.
Help us size up how you think about.
The potential for loan growth in 2022.
Okay.
Yeah. This is ray I mean, the potential is.
Is pretty robust as our.
Our backlogs have not fallen off.
Appreciably as we funded all of this growth.
We'd have to think about the caveat of ASUR.
Asset sales and business sales by our customers, which can offset that growth.
But we are.
We are well positioned to continue to grow into the future.
Have a number of relationships that are moving from prospect status to customer status, our customers are continuing to do well in their business.
And I also think that inflationary environment will lead to our customers carrying higher levels of receivables and inventory, which will lead to higher funding needs from the bank. So I think all those factors together make us fairly bullish on a gross level at that level.
It depends a lot on.
Which businesses so for.
<unk>.
Reduced loan balances from some of those non controllable factors that we face every day of the year.
I think Brendan what reflects that.
The success of the relationship building that we've continued to do even during the pandemic. When there was a lot of distraction with focus being shifted to round, one and round two of PPP, helping customers navigate through some of their challenges, but our team continuing to prospect there a list of.
Businesses that they wanted to bring on board the mercantile in some cases, we've talked about previously we're able to help those prospects, but their PPP loans that are built further goodwill and so what you're seeing now with pipelines as Ray said continuing to be replenished is just the effect of that.
We've added some new lending talent to our team that is opening some new doors for us in terms of other opportunities in the community that maybe we hadn't had previous.
Exposure with so all of that together really.
Makes us feel very confident about the ability to continue our robust loan growth in 2022.
Alright, great. Thank you for taking the questions.
Thanks Brendan.
The next question comes from Damon Delmonte Keefe VW. Please go ahead.
Hey, good morning, guys hope everybody's doing well today.
Great Great. So first question.
Just to kind of close the loop on the loan growth outlook.
Are you confident that you can keep a double digit pace I know that.
This year, it was 20% ex PPP and raise instead, it's very robust outlook.
Are you thinking like something in the 10% to 12% range or do you think you could repeat something like you saw here this past year.
Hey, David This is John I'll take a swing at it since I didn't get a chance on the last one but I think from a budget standpoint, we're in a pretty high single digits.
I think as Ray mentioned, the one wildcard is always out there.
As pay offs.
Those that we encourage as part of our loan portfolio administration or as we definitely see from time to time, the selling of the business is selling the underlying collateral.
<unk>.
That's the that's one that's always difficult to predict basically it's impossible to predict with any degree of accuracy.
The pipelines remain very strong and certainly indicative of ongoing growth.
We also wanted to be at least from a budgetary standpoint, do you want to take into account.
Yes.
<unk> known but expected payoffs.
Got it okay. That's helpful. Thanks.
Part of the part of the situation with the type of lending that we do that timing is everything and.
While relationships, maybe Brian to the bank in terms of the funding of those opportunities may vary from quarter to car quarter to quarter and you have a bunching up some fundings in some other quarters that theres a lag. So I think overall, we felt really good about the ability to do those high single digits in the way of growth as Chuck just suggested but as we have.
<unk> seen from quarter to quarter, there can be some choppiness.
But in the end over the long haul I think of a sustained growth is what will continue to demonstrate.
Got it I appreciate that color and then with regards to like kind of a core margin Chuck could you help kind of walk us through that like.
I know you mean for the dollar amount I think on the PPP impact, but could you just goes back to like the PPP impact.
On the margin as well as the drag from the excess liquidity.
Yes, I think.
From a margin that is a loaded question you've got there obviously a lot of different different tentacles to it.
We get the information about the PPP, we got $1 million remaining lesson that.
I expect the vast majority of the remaining PPP funds seem to be paid off or the fee income to be fully accretive by the end of this quarter. So we'll get $1 million out of that mostly in the first quarter, so that will be.
I hope to this quarter this first quarter here.
Liquidity, it's all about how fast we can utilize that excess liquidity.
Theres definitely we expect some deposit movements within there.
Definitely letting our wholesale funds runoff, although that's a measured approach gradual throughout the year.
So that will take some time.
We just talked about loan growth certainly we would love to use all of our excess liquidity for loan growth and we do think there'll be solid loan growth, but hard to tell.
Exactly from that so I guess, everybody can put their pencils degree is what they want to say how far down does our excess liquidity to go by the end of the year.
We think.
A majority of it will be gone by the end of the year, but it will be gradual given our lateral approach to wholesale funding and our ongoing loan growth throughout the year.
Obviously, it looks like the federal reserve is going to start raising.
Short term interest rates.
We're definitely an asset sensitive bank, if nothing else on our $900 million.
That will that would of course, the expectation was that would re prices they've changed the rate on that if they were to change the federal funds rate.
From a commercial standpoint, commercial loan standpoint, which of course dominates our balance sheets.
Just under $3 billion.
At the end of the year about 55% of that is floating rate.
Either tied to.
30 day, LIBOR or Wall Street Journal Prime and of course, now reusing Sofer's will go forward.
So 55% of that.
We do have floors.
Obviously helped us to win win.
When rates are going down but of course will result in some lag as rates go up.
Got some data here for you about half of that floating rate portfolio. So a little over $800 million will reprice immediately with any change.
After the first 25 basis points.
We go up to about 70% of our floating rate portfolio.
After 50 basis points, we get about 80%.
After 75 basis points, we're up to about 90% and then the rest falls and after that so there's a little bit of a lag, especially with that first one and maybe the second one.
But our loan portfolio it gets into a fully price are almost fully repricing standpoint, not too far down the road.
So definitely a benefit there.
Our securities portfolio is pretty much laid out on our maturity basis, we'll see where that goes over the years.
So the next big question comes as the deposit rates.
And.
Of course, it's always unknown, what's going on the banking industry and are.
Specifically, our competitors are going to react to increasing interest rates.
You know rates are incredibly low right now on the deposit side they have been for quite a while.
I think for the most part the positives are pretty much indifferent I would say that this is especially true for interest bearing checking accounts and savings accounts.
Rates are very very low even if you raise that 10 15, even 25 basis points.
It's not overly noticeable.
So I think my guess would be on those types of deposits there will be a lag in increase in interest rates there.
I would think it would be more susceptible to increase rates. When you look at money market rates and then.
Offered CD rates.
I think the one backdrop that we have this time, which is unique.
Is the incredible amount of liquidity that not only mercantile has but the industry has and I would say most banks have.
There's two reasons why rates go up and down one obviously is the <unk>.
The rates go up and down what is the interest rate environment itself.
The other is demand and clearly.
At least I'll speak just for mercantile, but again I think this is most banks, we don't have a huge need to go out there anytime soon and raise additional deposits to fund loan growth now having said that we are still trying to raise deposits. We know that this excess liquidity is relatively short term in nature.
We expect our loan growth to be solid as we move forward and we want to continue to grow our deposits.
That's a big part of our lending approach and trying to drive our loan growth with C&I and owner occupied opportunities. Those are the ones that are bringing the deposits. So that's also of course important for liquidity, but it's also very very important for our fee income initiatives that ray talked about whether it's treasury income payroll card income swapping.
All of those things are really relying on us continuing to grow our C&I book.
And break it in those deposits.
So we certainly expect some deposit growth and want deposit growth.
From those activities.
But if we just see rates going up which it looks like we're going to I think that at least initially.
Positive increases will be.
You did buy the position that we're all in.
That's that's just my guess my expectations, we'll just see.
Part of it has to depend on the magnitude and the timing of what the fed does.
You are at a very very aggressive out of the box, which some people are starting to suggest or is it more of just a gradual one.
25 basis point increase each quarter.
Which may be won't grab the attention of the positives as much as the fed is much more aggressive than that.
So I think that's probably the <unk>. It's a great question. It's one that we scratch our heads and we're trying to put our budget together as to how all thats going to come out so don't need to be evasive, but.
There's a lot of unknowns there.
I'd say, probably the most unknown is the deposit pricing.
Got it okay.
Good color there. Thank you.
And then I guess just lastly.
Quickly on the non interest income.
You've obviously made some investments in mortgage banking you talked about the kind of the focus on purchase market versus the refi and you've added teams and locations and whatnot.
But.
Are you expecting a material pull back from this.
This year's results.
Can you kind of give a little perspective on what you. What do you think you guys can do in 2022.
Sure Damon from a volume standpoint, just from a production we're budgeting about a 25% decline.
That's all made up of refinanced we actually expect we expect refinance to be down more than 25% will be expect our purchases to be up to mitigate that to some degree.
But overall, it's 25% reduction in volume.
We're also projecting where we had been seeing some.
Reduction in the gain rate, which is just a function of the market.
So there'll be a little bit of a headwind associated with that one.
Certainly we will continue to endeavor to try to sell as much of our product as we can.
Historically and even currently.
We basically sell fixed and keep floating.
I'm sure you've seen that our on balance sheet balances have been going up in residential mortgage loans and that is something that we've taken a pretty strong look at right now.
We want to start selling floating rate mortgages.
A question that we have that we're asking ourselves.
A vast majority of the floating rates our sellable into the secondary market. It's just been our approach to keep on the balance sheet.
But that's just part of our ongoing analysis of our balance sheet and the composition that we want it to be as well as our goals in regards to mortgage income.
Got it okay. That's all I had thank.
Thank you very much.
Thanks, David and welcome.
Again, if you would like to ask a question. Please press Star then one.
And our next question will come from Daniel Tamayo of Raymond James. Please go ahead.
Good morning, guys.
Got it.
Yeah.
Maybe just.
And just to touch on the swap fees again, and I know you talked about it earlier in the prepared comments, but.
What.
And in case I missed it what are your expectations going forward I know.
The number was a little bit lower.
Obviously in the fourth quarter.
Even if we do end up in a rising rate environment, which seems likely.
Where do you see that kind of run rate for swap fees going forward.
Yeah, Dan This is Chuck another difficult one to answer but.
One of the things that do want to highlight is that 2021 was obviously a very strong.
Income on swaps for us and we.
Introduced it just a little over a year ago.
I think from a core standpoint, we feel really good about the fact that this is going to be an ongoing product for us.
We're certainly going to want to push the product.
Those customers that want longer term fixed rate financing.
And the lenders are doing a really good job of it.
Pressing that desire out on their calls that in their calling efforts.
So kind of regard I mean, certainly when rates change there'll be some impact.
On swap activity, but we do expect that this to be a core part of our offering.
On the commercial side.
One of the things that benefited us in 2021 is that some of the loans that we put into the Sop program, where were refinances of existing fixed rate loan.
And virtually all of our fixed rate loans have prepayment fees on them.
And in those cases, and this is especially true in the third quarter. We did a handful of loans that went into the program that had prepayment fees and.
And basically the customer can go ahead and pay those fees in cash.
Which is how you typically collect on a prepayment fee what we've allowed them to roll that prepayment fee into the swap rate basically embed that fee into the rates that we're doing on the swap.
And in the vast majority of cases, they've elected to do the latter.
So what that does is it gives us we're.
We're going to collect the fee one way or the other it's just a matter that we recorded in interest income on loans, if they pay us in cash.
Or does it get reported as a swap fee if they embedded into the swaps. So one way or the other that fee is going to show up we're talking about swap fees.
We budgeted a little bit.
For the embedding of prepayment fees into our budget, but not to the degree that we saw last year.
So I think if you kind of if you kind of extrapolate that third quarter out a little bit.
For my comment I think that will give you what we think will be a pretty good run rate.
For this product as we move forward.
Okay, great. Thank you.
Then finally just on credit.
Credit quality.
Our reserves continue to come down you've talked about.
The Covid environmental factor.
How much of that is yes.
Thank you.
Talked about it but.
If you could just kind of remind me how much of the Covid environmental factor is remaining in.
Maybe what kind of impact that that may have on where reserves land as we get through kind of the end of.
Our get back to normal phase here.
Yeah sure. So we introduced the Covid back in 2000, I think all banks did it in various ways that they did it within their models.
And we just simply added it is another environmental factor gets included in our incurred model and it's also included in our system model exactly the same way. So the impact is the same.
Like all banks because of the really strong asset quality since the great recession.
A significant portion of reserve balances are supported by environmental.
And that's just because the base loss rates are relatively low given the low level of charge offs over the last decade or so.
So you saw in our in our fourth quarter and even our second quarter.
As when we do when we.
Did it change in environmental it does have a <unk>.
Relatively large impact.
On our reserve balance.
The Covid itself, it's a little over $6 million is the current impact to our reserve.
We have never we haven't since we introduced that we have not changed that.
That rating if you will it's at its highest ranked so there is the ability and probably likelihood knock on wood that we're able to start reducing that I don't think it will be an all or nothing.
Think over time, we'll probably start like we did the economic conditions in 2021, my expectations that we would start reducing that COVID-19 number.
As we move forward on a quarter by quarter basis.
Slowly and hopefully moving that obviously, we all want that that environmental factor to go away.
But I think it will be a gradual approach and not a not an overnight or one quarter approach.
Thank you that's all I got.
Thanks, Dave.
This concludes our question and answer session.
I'll turn the conference back over to Bob Kaminski for any closing remarks.
Thank you very much for your interest in our company. We hope you and your families continue to stay healthy and safe. We look forward to speaking with you again in April at the end of the first quarter. This call is adjourned. Thank you.
Okay.
The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.
Okay.
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