Q2 2022 Comerica Inc Earnings Call
Speaker 2: helllo and thank you for standing by. Welcome to the kera second quarter 2022 earnings conference call.
Speaker 15: At this time, all participants are a listen and only mode.
Speaker 15: After the speaker's remarks there will be a question-and-answer session. To ask a question during the session, you will need to press one zero on your telephone.
Speaker 15: To dtry your question: press one zero again.
Speaker 15: I would now like to turn the conference over to daren persons. Director of Investor Relations. Please go ahead.
Speaker 17: Thanks Tony. Good morning everyone and welcome to kera second quarter 2022 earnings conference call. Participating on this call will be our President, Chairman and CEO Kirk Farmer, Chief Financial Officer Jim herzag, Chief Credit Officer Melinda chause and Executive Director of our commercial bank, Peter subseick.
Speaker 18: During this presentation, we will be referring to slides which provide additional details. The presentation slides in our press release are available on the SEC's website, as well as in the Investor Relations section of our website, comomega com.
Speaker 17: This conference call contains forward-looking statements, and that regard should be mindful of the risks and uncertainties that can cause actual results to vary materially from expectations.
Speaker 18: Forward-looking statements speak only as of the date of this presentation and we undertake no obligation to update any forward-looking statements.
Speaker 18: Please refer to the safe harbor statement in today's earnings release on Slide 2, which incorporate into this call, as well as our SEC filings, for factors that can cause actual results to differ. Now I'll turn the call over to Kirk, who will begin on Slide three.
Speaker 19: Thank you darlen, and good morning to everyone and thank you for joining our call.
Speaker 20: Today we reported first quarter earnings of $261 million, or $1 92 cents per share, an increase of 40% over the first quarter.
Speaker 20: preree tax preprovision net revenue was up 53% and our ROE increased to 17% and.
Speaker 20: These results reflect the rising rate environment, including prudent actions we have taken to lock in higher rates.
Speaker 21: In addition, we produced strong loan growth and generate a solid increase in fee income.
Speaker 20: While the overall economic environment is uncertain overall, our customers are generally optimistic about the future and, while they may be seeing some pressure on their margins, they remain in good shape.
Speaker 21: As I discussed on our last earnings call, we kicked off several initiatives related to modernization as we continue to evolve and adapt to meet the changing landscape and move into a new era of banking.
Speaker 20: We believe that our branded entity should also reflect this change.
Speaker 20: Therefore we recently unvelled a refreshed corporate logo that represents our commitment to both our 173 -year legacy and our vision for the future.
Speaker 20: Also last month, we announced actions taken as part of our retail bank transformation, which included adding small business bankers and strategic locations, updating our web and mobile banking platforms and expanding our interactive tellller machine network.
Speaker 21: In addition, we are consolidating 22, or 5% of our banking centers, which is expected to be completed by the end of the third quarter.
Speaker 21: We have continued to work on other initiatives around optimizing our facilities.
Speaker 20: The goal is to better accommodate flexible work arrangements and reduce our footprint, while maximizing locations that best serve our customers.
Speaker 21: In addition, as we progress on our cloud journey and decommission data centers, our technology facilities are being consolidated.
Speaker 20: We are excited about the progress we have made in the past. We are laying for our future.
Speaker 20: As far as our progress in the ESG area. I encourage you to review our fourteenth annual corporate responsibility-related report, which was recently published.
Speaker 20: In the second quarter, our green loans and commitments continued to grow and total $2 billion a quarter-end.
Speaker 20: Once again, our commitment to corpate responsibility has been recognized with Honors from the national diversity council is one of the 50 most community-minded companies in the U? S.
Speaker 20: Also we appointed our national Hispanic business development manager to further support our commitment to strengthening relationships with Hispanic business leaders, entrepreneurs and communities.
Speaker 20: And finally, we've established a renewable energy solutions group.
Speaker 21: Turning now to highlights of our second quarter results, outlined on Slide four.
Speaker 20: Second quarter loan growth was one of the highest in our history, with increases in nearly every business line.
Speaker 20: The biggest drivers were general middlemarket large corporate equity fund services, as well as modest growth in National dealer services.
Speaker 20: In general, customers are rebuilding inventory levels, which has resulted in increasing working capital needs. All CapEx spending remains relatively slow.
Speaker 20: We are strategically managing deposits and customers are putting their excess liquidity due to work which resulted in a decline.
Speaker 21: Net interest income benefited from higher rates, as well as growth of our loan and hedging portfolios.
Speaker 22: Credit quarity remained excellent.
Speaker 20: As fee income increased 10%, led by syndication, derivative and warrant activities.
Speaker 20: Expenses were driven by investments we are making to support growth and performance-related compensation.
Speaker 23: Higher revenue, combined with solid expense management, resulted in a significant improvement in our efficiency ratio to 58%, and.
Speaker 22: Overall a strong quarter.
Speaker 20: And we feel positive about the path we are on as we move to the remainder of the year.
Speaker 22: And now I'll turn the call over to Jim, who will review the quarter in more detail.
Speaker 24: Thanks Kirt, and good morning everyone.
Speaker 24: Turning to Slide 5, as curchase mentioned, loan growth was very robust, increasing one point eight Bill dollars, driven by favorable environmental factors as well as our relationship-focused approach.
Speaker 24: As of quarter-end loan commitments were up $2 billion or 4%, and the line utilization rate held steady at about 46%.
Speaker 24: National dealer services loans increased over $4 million. This included a $2 million increase in four planant loans to eight hundred and forty million.
Speaker 24: However these balances remain well blower: a typical run rate of about four billion.
Speaker 24: We expect it will take some time for inventory levels to rebuild as supply issues are resolved and pent-up demand is satisfied.
Speaker 24: General middle market average loans were up over 3% and large purparit grew 7%.
Speaker 24: Borrowing needs are being driven by higher material prices and inventory levels, as well as MA, into a lesser extent, CapEx.
Speaker 24: We continue to have great success in our refund services business, where we provide capital call and subscription lines to venture capital and private equity firms.
Speaker 24: Of note mortgage banker increased about $125 million.
Speaker 24: While home sales were seasonally higher, volumes remained depressed due to higher rates, lack of housing inventory and shorter dwell times.
Speaker 24: We expect third quarter mortgage banker loans to be stable.
Speaker 24: Commercial real estate loans decreased. However, production remained strong and loan commitments were up. We expect moderate loan growth in commercial real estate as projects fund through the year.
Speaker 24: Loan yields increased 42 basis points, primarily reflecting the benefit from higher rates.
Speaker 25: As shown on Slide six on a year-over-year basis, as average deposits were up two point one billion.
Speaker 24: Relative to the first quarter, deposits declined as customers continue to put their excess liquidity to work, and we prudently managed pricing as it relates to nonrelationship-based deposits and highly rate sensitive segments.
Speaker 24: Approximately half of the decrease occurred in our municipalities and financial institutions- businesses which fall under general middle market.
Speaker 24: Notably retail and wealth management deposits increased.
Speaker 24: The average cost of interest-bearing deposits remained at an all-time low of five basis points.
Speaker 26: We continue to monetize our asset sensitivity as rates increased by growing our securities portfolio.
Speaker 24: Average balances increased $1.7 billion, as shown in Slide seven and.
Speaker 24: During the second quarter, we've purchased $3.5 billion in MBS, with average yields of 350 basis points, and we had repayments of six hundred and fifty million.
Speaker 24: As we continue to execute our balance sheet hedging strategy, we will likely pivot towards swaps, given the relative size of our securities book and the desire to maintain adequate cash to fund loan growth.
Speaker 27: The larger portfolio, along with a favorable new purchase yields, resulted in a $23 million increase in securities income.
Speaker 24: Holding balances in rate steady at June thirtieth levels. Third quarter securities revenue would increase about $16 million.
Speaker 24: The risise in rates resulted in a mark-to-market impact on our securities portfolio of 85 million, which runs through OCI and affects our book value, but not a regulatory capital ratios.
Speaker 24: While we maintain the portfolio as available for sale, mostly for liquidity purposes, we typically hold these securities to maturity, in which case the unrealized losses should be recouped.
Speaker 24: Net interest income increased $105 million. In the net interest margin increased 55 basis points.
Speaker 24: The benefit from higher rates, sfppedted loan income $52 million and added 26 basis points to the margin.
Speaker 24: Loan growth added $15 million in three basis points.
Speaker 24: one additional day in the quarter provided $4 million and, as I mentioned, the increase in the size of our securities portfolio at higher yields added twenty-three million.
Speaker 24: Higher rates on deposits of the Fed added 29 million, which was partly offset by lower balances, and together added 26 basis points to the margin.
Speaker 24: Higher rates on our floating rate. Wholesale debt had a $3 million impact.
Speaker 27: Altogether the risise in rates provided, a net benefit of $82 million to net interest income.
Speaker 27: Credit quality remained excellent, as outlined on Slide 9, including no net charge-offs.
Speaker 24: Criticized loans decreased to a record low level and nonaccrual loans declined as well.
Speaker 27: Overall our customers have continued to perform well and they maintain strong balance sheets, despite supply chain issues, labor constraints and inflationary challenges.
Speaker 27: Strong credit metrics. Loan growth in a somewhat weaker economic forecast resulted in a relatively stable allowance for credit losses at one point onepoint: 8% of loans and a provision of only $1 million.
Speaker 25: As always, we are closely monitoring the portfolio for signs of stress.
Speaker 27: Nevertheless, with our consistent, disciplined approach to credit, as well as our relationship-based, diverse portfolio, we believe we are well positioned to manage through a recessionary environment.
Speaker 28: Noninterest income increased $24 million or 10%, as outlined on Slide 10.
Speaker 24: Syndication activity was strong and increased from a seasonally low first quarter, resulting in a $8 million increase in commercial lending fees.
Speaker 27: Were related income also in pre state million.
Speaker 24: Derivative income increased $7 million, including $5 million a favorable credit valuation adjustments, along with increased interest rate derivative activity.
Speaker 24: Fiduciary income increased $4 million, mainly due to annual tax-related fees.
Speaker 25: Deposit service charges increased with a pickup in activity relative to a slow first quarter.
Speaker 27: Finally deferred comp, which is offset and expenses, decreased $7 billion to a total negative return of $14 billion for the quarter.
Speaker 24: Of note: relative to the second quarter last year, deferred comp decreased $2 million and card fees declined 15 million due to last year's stimulus related activity.
Speaker 27: Turn to expenses on Slide eleven.
Speaker 25: Our efficiency ratio improved nine percentage points to 58% as we continue to maintain our expense discipline as revenue generation accelerates and we position for future growth.
Speaker 25: Salaries and benefits increased $5 million, with a number of moving pieces.
Speaker 25: Performance-based incentives tied to our strong financial results increased seventeen million.
Speaker 24: Annual merit, higher staff insurance and technology-related contract labor: each added four million.
Speaker 25: This was partly offset by the resetting of annual stock, comp and payroll taxes, which impacted the first quarter.
Speaker 27: Finally as I mentioned on the previous Slide, deferred comp asset returns decreased seven million.
Speaker 25: Of note, our staff levels were stable, as we are successfully retaining and attracking talent in a very competitive market.
Speaker 24: Certain technology-related costs, such as software, equipment and consulting, increased $8 million.
Speaker 27: Litigation-related legal costs were higher, and the increase in occupancy includes our branch consolidation activity.
Speaker 27: Operational losses decreased from the elevated first quarter level and we received a $4 million state tax refund.
Speaker 24: We are experiencing some inflationary pressure, particularly in Al salaries travel, entertainment and insurance.
Speaker 27: By leveraging technology investments to increase productivity. We have been working hard to offset this headwind.
Speaker 24: As Kirt described, we continue to make progress on certain modernization initiatives, which totaled $7 million in the second quarter.
Speaker 27: This is a journey which includes transformation of our retail banking delivery model, alignment of corporate facilities and technology optimization.
Speaker 27: The cost savings generated are expected to be reinvested as we continue to evolve.
Speaker 29: Slide 12 provides details on capital management.
Speaker 24: Loans and securities portfolio growth resulted in a decrease in our CT one ratio to an estimated 10%.
Speaker 24: We continue to closely monitor loan trends and we expect to move closer to the targeted CT one ratio over the near term through capital generated from strong earnings retention.
Speaker 24: As always, our priority is to use our capital to support our customers and drive growth, while providing an attractive return to shareholders.
Speaker 27: Our common equity declined in the second quarter as a result of the impact of O losses from our securities and swap portfolios.
Speaker 24: Excluding the OCI losses, our common equity per share increased the dollar thirty-five.
Speaker 29: Slide 13 provides an update on our interest rate sensitivity.
Speaker 27: The bulk of our loans are floating rate in. The majority of our deposits are non interest-bearing. Therefore, as demonstrated in the second quarter, our balance sheet reacts very quickly to changes in interest rates.
Speaker 27: In order to provide a more sustainable earnings stream through the rate cycles, we have been adding hedges to lock in market expectations for future short-term rates while importantly reducing the downside impact of a potential decline in short rates over time.
Speaker 27: To provide an outlook for net interest income, we used the forward curve as of June thirtieth as well as expectations for loan and deposit activity for the remainder of the year. A slightly steeper curve and added hedges have provided incremental revenue relative to the previous outlook.
Speaker 30: We now expect 2022 net interest income to increase by approximately 31% relative to 2021 and increase about 21% in the third quarter relative to the second quarter.
Speaker 27: Of course, there are many dynamics that may cause results to differ, specifically the pace of changes in short-term rates, deposit betas and loan activity.
Speaker 25: Our outlook for 2022 is on Slide 14 and assumes a continuation of the current economic environment.
Speaker 29: Given the robust broad-based loan growth we've generated so far this year, we are increasing our expectation for average loans to grow 6% to 7% year-over-year, excluding triple-pe loans.
Speaker 25: Relative to the second quarter, we expect average loans to grow 1% to 2% per quarter.
Speaker 25: In the first half of the year. In certain areas, like middle market, for example, we saw increased utilization as customers work to rebuild their inventory.
Speaker 25: In the second half of the year we expect that trend to stabilize.
Speaker 29: Consistent with customers increased borrowing needs. We expect they will continue to draw down deposits.
Speaker 27: Also the impact of the Fed's tightening is expected to be partly offset by our typical fourth quarter seasonality.
Speaker 24: As far as rates, we are closely monitoring the environment and staying close to our customers.
Speaker 25: We expect to increase deposit rates in the second half of the year and start moving towards our historical bea, as interest rates continue to increase.
Speaker 27: Net interest income expectations were reviewed on the previous Slide.
Speaker 31: Credit quality is expected to remain strong.
Speaker 32: Assuming the macroeconomic challenges continue to remain manageable, we expect criticized and nonaccrual loans to remain low and that charge-offs could begin the trend to the lower end of our normal range of 20 to 40 basis points.
Speaker 31: We believe our reserves are appropriate for the current and expected environment.
Speaker 27: Noninterest income is expected to decline 6% to 7% on a year-over-year basis.
Speaker 25: Recall that 2021 was the highest on record and included elevated levels of warrants derivatives, deilus-related card fees and deferred compensation.
Speaker 30: We expect third and fourth quarter levels to be consistent with the second quarter.
Speaker 25: Following strong activity in the second quarter, we expect some pressure on commercial lending fees, derivatives and fiduciary.
Speaker 25: This may be offset by deferred comp, which is difficult to predict. Therefore, we assume will not repeat.
Speaker 33: We expect expenses to increase 4% to 5% year-over-year, excluding any notable expenses related to our modernization program.
Speaker 27: This year-over-year increase is primarily due to higher performance-based compensation, annual merit, technology investments and inflationary pressures.
Speaker 24: Relative to the first half of the year, the second half is expected to increase 5% to 6%, excluding modernization-related expenses.
Speaker 29: The increase is driven by annual merit.
Speaker 25: Higher staff insurance advertising, business investment and outside processing expense partly offset by lower performance-based comp and deferred comp.
Speaker 29: Excluding the $21 million benefit from deferred comp in the first half, which is not expected to repeat expenses are expected to be up 3% to 4% in the second half of the year.
Speaker 33: We expect the tax rate to be 22% to 23%, excluding discrete items.
Speaker 25: And finally, as I indicated on the previous Slide, we are focused in our CT one target of 10% as we monitor loan growth trends.
Speaker 25: In summary, our outlook for the full year has improved, with the benefit of higher rates, including the execution of our hedging strategy, or robust loan and fee income generation, partly offset by higher expenses in conjunction with growing revenue and our strong financial performance.
Speaker 25: Now I'll turn the call back to Kirt.
Speaker 23: Thank you, Jim. Many business lines continue to show good momentum, with very strong loan, loan growth and increases in commitments in our pipeline.
Speaker 20: Our unique expertise in many areas, as well as our geographic footprint, offer significant opportunities.
Speaker 23: Credit quality remains excellent, a testament to our strong credit culture.
Speaker 23: Our expense. Discipline was evident as we continue to invest, provide a high Caliber customer and colleag experience.
Speaker 23: Our balance sheet structure is quickly produced, benefits from rising rates and we expect to continue to have prickly add hedges with the goal of providing a more consistent earnings performance through to cycles.
Speaker 23: It was a strong quarter.
Speaker 22: And I'm very grateful for the dedation of my colleagues who work hard every day to ensure America success.
Speaker 20: We believe we are well positioned to continue to produce strong results as we move to the remainder of the year.
Speaker 23: Thank you for your time, and now we'd be happy to take your questions.
Speaker 15: Ladies and gentlemen, if you wish to ask a question over the phone, please press 1, then zero.
Speaker 15: You may withdraw your question at any time by repeating the one zero command.
Speaker 15: Our first question will come from the line of Scot seaers with biper Sandler: Please go ahead.
Speaker 34: Morning iran.
Speaker 34: Thank you for your questionion. Just wanted to discuss the MI to trajectory a bit. So I think the guide sort of arsing between the you full year in the third quarter would, it implied, reach a fourth quarter 22 andi of about 72 million or so. Is that a sustainable level? And I guess you know? More broadly the question is: can you just sort of describe in layman's terms how your N I will react once that reaches its peak and you know what exactly happens to the margin this time around one rates either stabilize at a higher level or begin to to come back down.
Speaker 35: Great Scot good morning. Thanks for the question. Yes, your math is correct. It would imply, assuming the June thirtiethfour curve holds a fourth quarter nety interestpercent income of $72 million.
Speaker 25: I think that's a pretty good jumping off point for 2023. of course, we're not offering 23 guidance at this time, but there are some puts and takes there. We we do not realize the full impact of the December and November hikes in the fourth quarter. On the other hand, deposit betas, dde leg and you could see some upward pressure there once we get beyond the fourth quarter. And so, with that said, I think it's a pretty good jumping off point in the four quarter. Of course, we'll have loan volume increases and other balance sheet movement, but it does position us very well for 2023.
Speaker 25: In terms of how we react interest rate changes. Our goal along to spend to reduce the asset sensitivity to the point where we can produce a very high level in net interest income, and I will know that $72 million, if the forward curve is realizede- is by far and away the highest net interest income we've ever earned for a quarter. So I think we will achieve our goal. We loleft enough asset sensitivity to achieve record levels yet at the same time, we're protecting that net interest income. And, to answer your question more directlythree, our goal once we enter 2023 is to have our asset sensitivity to the downside at a low single digit percentage. So that would imply that a short term rates do drop. We should be largely protected now. Over time you will have swap securities roll off and rolling back on, So there'will be a little bit of up or down depending on what happens to the long end of the curve, but we think we're very well positioned for 2023.
Speaker 36: All right, that's perfect, Thank you, and then just want to ask on deposit costs of the. The five basis points are just deposit costs are just just terrific. You noted betas will start to ramp up in the second half year. Just curious, sort of broadly, how you balance pressures on costs with a desire to ultimately hold certain balances.
Speaker 35: Yes you know Scot, we are paying very close attention, deposit to deposit costs. We're staying extremely close to our customers. Those conversations were going on daily. We will clearly see those costs rise in the second half of the year. You know there is a little bit of a leg typically between when those discussions happen and when they're fully realizede So know, I've heard in some other earnings calls in terms of when, when the roll pivot point is and frankly I don't think you can ever point any one hike when these hikes are sope close to each other. But we will certainly start seeing a move towardsyou, not just to our standard beas in the third quarter but by the end of the year will probably be approaching our standard beta for the accumulated standard beta that we publish also. But those conversations will go on and you know ll just stress that it's a very relationship based model here also. It's based on the full relationship with the customer. It's based on those conversations and we feel like we're in very good communication with the customers and feel good about our positioning there.
Speaker 37: Perfect Thank you guys very much.
Speaker 19: Thank you.
Speaker 15: Thank you. Our next question comes from the line of John Arstrom with R B, C capital. Please go ahead thanks. Good morning, morening. Can you help us understand what you're seen in hearing from borrowers in terms of the conomic outlook at you know, we're all on recession watch and I guess I'd love to hear your views and maybe for you Melinda, can you just touch on what kind of an economic outlook your one and 18 reserve level reflects?
Speaker 38: John is is Peter. I'll go first on customers and the meilla. You can talk about the economic outlook, but you know, I think recession, recession watch that you used there, that's not unique to you or all of us. Our customers are probably in the same both. That said, I think that they are doing really well. Our pipeline is strong. Our activity levels are good. So it's hard to see, you know, sort of immediate concerns. I think a lot of the concerns that we hear are a lot are further out. They don't feel like 22 concerns but obviously inflation, interest rates, all the things that we're dealing with. But you know, the outlook we said generally optimistic. We still feel that way. We're encouraged about what we're seeing. It does depend a little bit on geography and it does depend a little bit on line of business, but overall we feel like our sentiment of our customers is still is still pretty good at this time.
Speaker 38: one you want to comment on. Yes John , thanks for the question. So, as you know, we use a variety of third party forecast and the Q2 economic forecast, although it was still positative, did show some deterioration from the first quarter, with weaker growth, higher likelihood of recession in a higher, much higher degree of uncertainty. So our baseline forecast, I would say, was slightly worse than our Q1 forecast. We also use a severe recessionary scenario distress. Certain parts of our portfolio- and this is really used to inform the qualitative component and of qualitatves continue to comprise a meaningful component of the total reserve. So we feel really good about our reserve levels at this point. We believe that they are appropriately conservative for the economic environment, including kind of the near term uncertainty.
Speaker 39: Okay.
Speaker 38: So the general message on provision would be growth plus charge-offs, and that's that's generally adequate in your view at this point? Yeah yes, assuming the economic forecast remains sort of stable in the portfolio metrics don't lead to the downside, the reserve Bill will tend to tie pretty closely to loan growth and then obviously, if the economic forecast worsens, then we'll see reserve builds. But as you know, this is a complex process that we go through each corarter and it would be pretty impossible to deestimate what that would actually be.
Speaker 40: Okay all right, Thank you, it's very helpful.
Speaker 21: The show.
Speaker 15: Thank you. Our next question comes from the line of Steve alexapollo with J P Morgan. Please go ahead. Morning everyone. So first to drill down deposits. Historically speaking, companies drawing down deposits- the fund business of vessel- was a good thing, but we also have companies now drawing down to earn a higher yield. Curious, when you guys look at the 42 billion of noninterest bearing, how much of that do you see that could be a risk of outflows?
Speaker 41: Casey Steve. Good morning. If you look at where we were prepandemic, our mix of noninterest-bearing deposits was just under 50%. I think it's forty-eightpercent to 49%.
Speaker 25: You see that we're closer to 55% this quarter. I think that might be a good proxy for where we could end up if rates go up to where the forward curve we'predicting right now. So it's going to be a little bit dependent on ECA rates and other levers we pull to either keep customers onor off the balance sheet. But I think that would be a pretty good proxy.
Speaker 38: ok Jim steve- I might add this is a peter- I mean a lot of deposits that are going to be rate driven, that are are going to be in our bigger businesses. You might say so. You know, call it U's banking- are business deposit services, businesses where they're moving higher deposits. But you know we have relationships, but it's notum, we don't have like all the treasury management and have all the relationships. So there their deposits that are going to move for rate. But you know we can negotiate that if we need to. We can be more aggressive if we need to. But I mean we we feel like we can have conversations and handle that appropriately.
Speaker 42: ok actually to follow up by that. So if we think through this right, the Fed actions are going to have an outzed impact on deposit markets. How do you see that playing out into the business and do you think that you might continue to see deposit runoff in 2023? Right, could this just continue through next year?
Speaker 25: I think we will see.
Speaker 24: The bulk of it were likely in that fourth quarter of 22 to first quarter 23 range. At least that's our forecast right now. Predicting deposits is always a little little bit challenging. Not just pricing can leg a little bit but sometimes customer reaction can leg a little bit. To haven said that these outsized changes by the Fed do put the intentna up on some customers or maybe we won't see quite the same leg we've seen in the past but I do think it's kind of in that crossover range of fourth quarter, the first quarter. Haven said that you'll recall earlier from my opening comments we usually get seasonality in the fourth quarter. So may not be apparent when you see the fourth quarter results it would probably bmanifest more in the first quarter. But I would expect most of that to shake out by the first quarter of 23.
Speaker 43: T like squeeze one more. And going back to John's questionion on customer sentiment, you know, and when I look at line utilization- not line utilization but commitments increasing- it could be assign that customers are more optimistic or it could be in aassign that the Re more cautious on recession coming. Are you guys really convinced that what you're seeing is because of optimism in their business and not just companies historically want to get more credit before recession comes? Thank Steve again, it's Peter. Yeah, I would. I would say that that is true. We don't. We don't really see this as defensive as or recession concern. Certainly nothing like you. Know what we saw when the pandemic started and we saw tremendous asks for recession lines of credit insurance. That', S. That's not what we're seeing right now. We're seeing business reason asks for all the things that Jim cur outlined of working capital needs. Everything costs more money. There's good IM a opportunities for some of these companies. So now it's all. It's all pretty legitimate business needs and at this time it doesn't appear to be or- but we're not seeing indications of it being- recession preparations sort of asks you.
Speaker 42: Thanks for all the color. I appreciate it.
Speaker 2: Thank you. Our next question comes from the line of Abraham punawala: footbank of America. Please go ahead.
Speaker 19: Thing wherening Abraham.
Speaker 44: I guess 'just one Jim to follow up on Scot's initial question around NI and just want to make sure we.
Speaker 44: Understand ly comments correctly. In a world where the Fed stopped hiking by the end of the year, potentially gets cutting into rates at some point in twenty three.
Speaker 45: Do you expect NI in that backdrop to stabilize compared to- and I'm looking back to 19 when NI the same quarter, when the Fed stop hiking, and just something to make sure the impact of your swaps essentially implies it that 720 plus kind of NI will still hold for the foreseeable future until some of the swaps roll off, which is in the out eyears?
Speaker 46: Yes Abraham, we feel we are much, much better position if rates were to drop in 23 than we were in' 19. we were somewhat exposed there and had not finished the hedging program. We feel much better about holding on to the higher levels of net interest income this time around and, as I mentioned, the goal by the end of the year is to get down to the single digit percent of net interest income, at risk for a gradual hundred pike or 50 beps on average. So we should hold on the most of that income as we move into 23.
Speaker 21: Jim just with the puts and takekes around, you know where deposit betas might go in, what longan growth does. And 2023, that's right. Yeah, certainly somes and outs there. As I mentioned, the full impact in November , December hikes isn't factored into that fourth quarter guidance, loan volume not factored in, but deposit betas made leg into the year. So you definitely some moving parts when different directions, but I mean the whole goal, long Abraham, as you know and you've heard to say, is to protect ourselves better, protect ourselves from a drop in rate. So that's what we've been working on and we're largely successful to this point and we plan on being, you know, done with the overall program by the end of the year.
Speaker 44: Sure and I'm sure, if I missed this did you mentioned Jim, what's the bed deposit beta you're assuming by the end of the year?
Speaker 24: Well we typically think about a 30% standard beta. I do think that we will, through the third quarter, be approaching that with hikes and probably go a little past it for individual hikes by end of the year. I don't know that the accumulated standard beta will be fully reflected in the fourth quarter results just because of a lag and the full quarter effect. I mean it could be, but at this point I think it's more likely to be early, the first quarter of 23. but we'll see how market forces react and respond and how we work with our customers.
Speaker 44: Got it. And if I could, one on the lending side. I think you mentioned deal of IL end close to 8, four million versus four billion P pandemic. I means one I'm assuming inventory build for cars will help that, but do you think that business may have structurally changed where we never get to that four billion? Would love to hear your thoughts Toms, what you're here from your plients. And second, I think the thing that you mentioned I think cururt was you're not seeing a high degree of CapEx span driving demand. This give us a sense of what's holding back. Customers are around CapEx. These what some of your peers about actually CapEx contributing to growth would of any perspective on both those.
Speaker 47: Pm it's a, it's Peter, So on dealer. The question you asked was about whether or not we'll ever get back to the $4 billion levels, and that that's a question the industry in general is dealing with. You know what? What do days days, inventory look like on the other side of of this, of this cycle that we're in, and I don't know that there's a clear answer to it as of right now, we still see really low inventory levels on deal lots. Our four plan usage is still really really low compared to historical levels, and whether it gets back to the four billion is to be determined. We believe, and I think when you talk to a lot of customers, that it's probably somewhere in the middle. Don't think you're going to 90 daysofinventory, but I don't think you're going to see 10 days either. It's probably 50 to 60. So you know, but at the same time, different OEMs are communicating different things to the dealers, and so we'll just kind of see what that looks like on a go forward basis. As far as the CapEx, I you know I don't want to suggest to you that there's no CapEx going on. I think that most of our customer base though, is being, as we, as we have said, you know, recession watch, making sure that they don't do something that stretches themselves too much ISO. We are seeing a little bit of CapEx, but it's not probably the main driver of the borrowings that we have mentioned. So, and you do see some of it, I think that it's all been very prudent, and we make sure to talk to our customers about what sort of investments they're wanting to make and understand those, and so far, we're seeing really good decisions.
Speaker 44: But periirited, don't take for ment.
Speaker 48: Yeah.
Speaker 15: Thank you. Our next question comes from the line of Ken ozden with: Jeffrey, Please go ahead.
Speaker 19: Morning Hey thanks, good morning guys. Hey, just on the on the cost side, I know you're recalibrating in the second half versus the first and that the third comp is a part of it. But I just wondering, you know, with the inflationary environment, just can you talk through the types of pressures you're seeing there built into that and then how you think about that translates as you look further ahead, relative to all the points that have been made about you know, the NI strength in terms of operating leverage and how much of that incremental NI fall to thebottom line as we look you further out?
Speaker 27: Hey good morning Ken. Thanks for the question. Yes, we are seeing some inflationary pressures. We're seeing it certainly on the salary side in terms of aattraction and retention of talent. We think it's been a really good job of calibrating that and hitting the right balance. We're seeing it a little bit as contracts renew. There's a bit of a leg effect there. So I think that will probably stick with us. You know, over the next year, since you contracts obviously don't renew on a frequent basis TE, we're seeing it as I mentioned, I think anyone that's even personally travelable to seeing that insurance, the insurance markets's been hit a little bit hard. That's probably for factors in addition to inflation but it is going to put some pressure. You know I mentioned earlier this year that I thought overall, in a full year basis, it would perhaps add 1% to the overall expense basase and I think we're probably looking, at least probably about 1% for the second half of the year alone in terms of pressure and we'll probably see that continue a little bit next year. In terms of operating leverage, that's always our goal to achieve positive operating leverage. We obviously did it this quarter, the goal to do it going forward now that we're stabilizing that interest income. Ha T said that. You know we're not prepared off for guidance and 23 yet, but that is always the goal: to generate positive operating leverage.
Speaker 21: J might just add from a bigger pict sure perspective. I mean we are managing the business for the long term and we're taking advantage of the current rate environment to make sure that we're appropriately balancing expenses versus revenue growth and and find to find ways to to be relevant from a revenue perspective on to go forward basis that we've had 8, eight consecutive quarters of double digit roe- 17% this quarter, or fifty, 8% efficiency ratio and so you know, continueing to invest in technology and digital, be relevant there to our customers and into our colleagues. We've made some geographic expansions into the Southeast and as well as into the Denver for the Mountain Central region. We've been adding some capacity in terms of R and and advisers in our commercial and wealth management business. We talked about the new renewable energy group. So there's some things we're doing to continue to add capacity as we sort of go forward and sort of take advantage of this higher rate environment. But we've done a good job historically of managing expenses. Certainly if the environment changes, we know how to manage expenses appropriately. It's sort of balancing. The two is really important for us, taking the longer term, longer term view.
Speaker 49: gotd appreciate that. And just one file question on the loan side. You know almost all of the specialty businesses showed good direction and I think that might have been a little surprising, especially what's going on in deal or mortgage equiffund services. Can you kind of flush out, you know, as you expect the loan growth to continue how, how some of those, how do you expectsomeof those to act, and if you're seeing better underlying trends in some of the supplies constrained related areas?
Speaker 47: Yes can it was. It was a great quarter with all of our businesses kind of moving in the right direction. The only one that we didn't really see was commercial real estate but, as we've mentioned, we booked a ton of business and we expect that to continue. So the outlook for all of them continues to be pretty positive. As I think we've said, maybe not in the second half of the year what we've seen in the first half, but it does. It does feel positive. I think mortgage bankers probably going to be flat to maybe down into the fourth quarter. We're just we haven't seen the type of activity, as everybody knows, with interest rates, housing inventory affordability, I think that business will price stay a little flat. But the rest of the businesses have got really good pipelines, really good outlooks and we we feel good about it. So it was nice for it to all be moving in the same direction this quarter and- and we're encouraged that you know we would see that again this next quarter.
Speaker 2: Thank you can.
Speaker 16: Thank you. Our next question will come from the line of Christopher mcgrady with KBW. Please go ahead. Look, grerick morning.
Speaker 50: I want to start with with just the earning asset aspect of the equation. A lot, lot of discussion on deposits. Can you help us with kind of targeted or minimum cash levels, given the liquidity is being removed from the system? And also I think you touched upon in your prepared remarks back in-office securities purchas. I was trying to see.
Speaker 51: Trying to gauge what the only asset levels will be for the thirin support.
Speaker 29: Chris, good morning. Yes, historically we have always maintained probably a little larger cash buffer than perhaps other regional banks, just because of our commercial banking model. So typically we like to hold at least two to $3 billion in cash and we have a little more than that. It doesn't necessarily bother us. Obviously we're starting to approach those levels.
Speaker 24: We certainly have very strong and efficient borrowing channels, whether it be broker deposits or if HL B lineines. So to the extent we start getting down to those minimum cash levels and need to borrow, that's not necessarily worry some for us whatsoever. It's been contemplated and joreallyly, what we've been preparing for. So we feel really good about how we're managing that. We're earning assets go overall. That's obviously going to be dependent on loan growth and wewhere deposits goes there's a lot of ends and outs there. We're not necessarily forecasting earning asset levels themselves, but we feel really comfortable with what we're mapping out over the next couple of years in terms of managing cash and being able to fund loan growth.
Speaker 52: Great and then, if I could's, a follow-up to Steve's question about.
Speaker 51: The D? D a reversion I guess mean reversions. If I'm looking at the, the mix of deposits, you know you said a couple of years ago mid. You know low, high forty's. Now it's mid 50. if you look at the dollar difference, you know it's pretty, it's pretty meaningful. So'm I'm just a little interested and more interested in how do you get to your target? You know, call it 50% mix. Is it growing, others and shrinking, or is it purely shrinking D D a by, you know, multiples billionsthank.
Speaker 25: It's going to be a combination. We will see overall deposits of course go down and you'll see some of that from both DA and interest bearing. But at the same time you will see even for balances that stay on the balance sheet you will see for rate sensitive customers and where we're price competitive you will FIF some of those Das moved for bearing. So I feel like it's a little bit of a 50: 50 mix in terms of how that mix changes. It will be a combination of both overall DA leaving the balance sheet but also D moving into interest bearing.
Speaker 21: Great Thank you.
Speaker 53: Thank you.
Speaker 2: Thank you. Our next question comes from the line of John PEN carery with ever corps. Please go ahead. Morning John , morningmorning.
Speaker 54: Just don't want to follow up on the loan books, right.
Speaker 55: All of the Ken's question. I know you gave your expectation on the components specifically around the.
Speaker 55: The mortgage warehouse of.
Speaker 56: S stable to downie can you may give us your thoughts on the other on the other buckets. Specifically I believe you had modest growth. You expected commercial real estate but want to confirm that and then maybe if you can talk about equity fund service outlooklow corporate banking and.
Speaker 57: Middle market thanks.
Speaker 58: yessure John , it's Peter, So I guess I'll try to take those one of the time. The equity fund services outlook is still pretty good. You know there's been a lot about private private equity funding, fund formation and so forth. Our utilization was actually down and's this quarter but our- our commitments grew, our outstandings grew despite that and so you know we're encouraged by what we're seeing. We feel like we're a leader in that business and and feel really good about the opportunities, knowing that you know there is some challenges in the fund raising space, but overall we've got a really good pipeline there. Our corporate business, So U's banking- has had really good success. That is probably on our customer sentiment, I think larger companies with you more geographic or international national exposure. That's where our sentiment probably did drop a little bit more than the rest of our portfolio. That said, you know we did have a really good quarter and our activity level there continues to be really good. Within U's banking. We've got some great specialty businesses around our gaming business, around our sports franchise lending business, and so activity level there continues to be really, really solid.
Speaker 20: And then middle market in generally asked about, is really encouraging in all of our geographies. We've got a great activity level in Texas. Michigan continues to be really strong. California has come back from kind of where it was last year- a little bit behind, although you know we did see a little bit of drop in sentiment in California versus the other two markets, but our activity level is still really really strong. And then we're starting to see really good opportunities out of the Southeast. We have told you all that we've invested down there, we're hiring relationship managers and we feel really good about the opportunities that we're starting to see there. And then on commercial real estate John , what I said there is: we didn't see maybe as much outstanding loan growth in the second quarter but we did see a tremendous amount of commitment production. You know we bank a lot of really great developers were. Most of the business we're doing there is with existing customers. So you know it's not like we're reaching with new customers and the opportunities for those customers have been really really good. And so we expect to see outstandings increase from here with commercial real estate, just with the amount of activity that we have have closed so far. soi hope that gives you a little bit more John , on each of the businesses that you're asking about.
Speaker 59: No that does that helpful. Thank you, and then my follow-up is just around.
Speaker 60: youknow the real loan growth overall? I know you're looking at.
Speaker 55: To 7% growth xpvp. For 2022 which is.
Speaker 55: Which is pretty solid, and I know you're not formally out there with 2023 expectations, but one of to see if you can maybe help us think about the trajectory of that growth rate as you look at 2023, particularly with the expectation of potential economic slowing. It's prepared to assume a growth rate somewhere below that level or could you see it hold in that mid the high single digit range?
Speaker 21: John , it's Peter, I'll comment first and not know what Jim wants to add. But you know we're going to continue to do everything we can to keep that, that growth rate, as we have said, above G DP you know're our. We're striving to do that in all of our markets and and if you look at the outlook for Texas, in California and Michigan, those G D P outlooks are better than national averages. So we're going to continue to try to achieve that. Whether or not that looks like six cent to 7% in 23 versus the overall economy, I don't know, but we do believe that our company can perform at a level better than what you might see on national G DP levels. As I would answer your question, I think that's good, I think we would be optimistic, but a lot of it's going to depend on the economy and how we move through 23.
Speaker 2: Got it very helpful, Thank you.
Speaker 16: Thank you. Our next question comes from the line of Jennifer debo, with Truest securities. Please go ahead. morningin, Jennifer.
Speaker 61: Good morning. With the deposit growth slowed down significantly for the industry, just wondering.
Speaker 62: What America is doing in terms of.
Speaker 63: Tweaking at strategy there, whether it be employee incentives related to deposit gathering or adding more small business bankers. Can you just give us some details on how you thinking about that?
Speaker 40: Might make a Jeff cur. I might makea couple comments and turn. First of all. I mean, perspective is really important here. Where it's 68% loan the deposit ratio and we do not chase sort of transactional Ho deposits, everything we do is from a relationship based focus and so, whether it's in our commercial bank, in our retail bank, in our wealth management organization, we've got the ability to flex up on pricing if we need to, to do that, to Re sort of watching, do the right things from our customer perspective. And then we've got access to plenty of other funding sources, leveraging our security portfolio F H L, B et C, and so you know- and it on the list of things that I'm concerned about as see, this is a way down that list- and you know, you look at sort of where we were post pandemic. We were in the N? ety percent plus range or allo the deposit perspective, and so we still got plenty of funding to take care of our customers and appropriately grow the balance sheet. And so we're just trying to make sure we we're staying focused on the relationship side of this. Leveraging treasury management services and a want to talk about that. Yeah Jennifer, this Peter, I was just going to add to Kurt comments that we are. We are investing a lot and looking at our digital experience on the commercial side and making sure that we're a leader in that space and making it as easy as we possibly can for our customers to interact with us digitally and providing all those products and services. So you know, that's where we're leaning in this issue. When it comes to gathering deposits into the future particularly, as you mentioned, I think you'll see more, more talk from us about the small business space, which is a great deposit business, you know. But we're focused on that investment. As a relates to products and services. I think the digital customer experience for commercial customers is one that we can lean into heavily and that we can lead in, you know.
Speaker 25: Yes and I would just say, along with digital deposits, I'd love the emphasis we're putting on treasury management, investment and I love treasury management. We love treasury management not just for the noninterest income but the deposits to come with it, So I would certainly lean on that as part of the mix also.
Speaker 2: Thanks so much.
Speaker 27: yp. Good thanks, Jennifer.
Speaker 15: Thank you. Our next question comes from the line of Gary tenor with DA Davidson. Please go ahead.
Speaker 25: Area ICE morning.
Speaker 64: My question is we largely answered. So thought I'd ask in terms of capital. I don't believe you're outtive in the buyback. This quarter with your CT one under under 10% as you think about kind of building that back up over 10% late this year or say early in 2023 I if that comes to pass given the kind of uncertainty in terms of the economy and growth you anticipate maybe being more constrained on the buyback even in that scenario where you're back over 10% over the next several quarters. Let's say.
Speaker 35: Yes thanks, Gary know we do think we will, at least in our baseline forecast, likely get back to 10% by the end of the year. I think we can accreate capital 10 to 15 fifps for quarter, maybe closer to to 15, I think. Once we get there we'll do an assessment of where we stand where the economy is. On one hand, I am really excited by the fact that we will have stabilize net interest income, stabilize a lot of earnings. That makes it a little easier to activate things like the share buyback. On the other hand, we are very aware of the volatility of ceccl. Well, that can do to capital ratios and we would certainly give that a fair amount of consideration. As we start reaching 10%, going above, we would look at the credit environment and that would certainly weigh on how quickly we weigh back into a share repurchase program.
Speaker 21: Firmly coupled with welling demand, yet loan demand and all the other variables, of course also.
Speaker 43: Sure Thank you.
Speaker 19: Thank you.
Speaker 15: Thank your next question comes from line of Steve Moss with the reley securities. Please go ahead.
Speaker 23: We safe.
Speaker 65: Morning just followed up on your asset sensitivity. Here you guys TAL about next year. Wanted to be in the. I guess the single-digit range for downside to NI in the event of break cut just one confirm. I see on the deck that it looks like no more swaps are needed for the loan book, or or maybe how much more do you I need to add to get to that?
Speaker 66: Love it.
Speaker 35: Yes I think, Steve. Yes, I think we have on the slide that we will likely need up to $1 billion of hedges to get to the low single-digit percent.
Speaker 24: That is likely to be more of A. the swap strategy is opposed to a security strategy at this point, given our cash levels. But I will emphasize, up to it is going to be dependent upon how the balance sheet shifts. Deposit levels will probably be the most important variable there, So it could end up being more, less than 10, but I would just say up to 10 billion and it could be far less than 10 depending on how the balance sheet shapes up.
Speaker 48: ok great, Thank you very much.
Speaker 19: Thank you.
Speaker 2: Thank you, that was our last question in the queue. I will now turn the call back over to President, Chairman and Chief Executive Officer, Kirt Farmer, for closing remarks.
Speaker 23: I just were say again, it was a very good quarter. Thank you to all my colleagues for all that they do every day to take care of our customers and help us grow the company. I thank you was always for your interest in America and I hope you have a very good day.
Speaker 2: This concludes today's conference callthank you all for participating. You may now disconnect.
Speaker 2: We're sorry. Your conference is ending now. Please hang up.