Q3 2022 PNC Financial Services Group Inc Earnings Call
Thanks for watching!
Good morning. Welcome to today's conference call for the P&T Financial Services Group.
Participating on this call are PNC's Chairman, President and CEO Bill Demchak and Rob Riley, Executive Vice President and CFO . Today's presentation contains forward-looking information. Cautionary statements about this information as well as reconciliations of non-GAAP measures are included in today's earnings release materials as well as our SEC filings and other investor materials. These are all available on our corporate Web site, pnc.com under investor relations. These statements speak only as of October 14, 2022.
and PMC undertakes no obligation to update them. Now I'd like to turn the call over to Bill. Thanks, Brian , and good morning, everybody. As you've seen, we delivered another strong quarter, generating $1.6 billion of net income, or $3.78 per share. A combination of continued growth in our commercial and consumer loan books and higher rates drove net interest income 14% higher, and our net interest margin increased 32 basis points. By the way, that's the largest sequential increase in NIM in more than a decade.
Non-interest income was also up modestly, reflecting strong private equity performance and a record quarter in loan syndications, partially offset by weaker M&A activity. We remain disciplined on the expense front, resulting in seven percentage points of positive operating leverage.
Our credit quality was largely unchanged in a quarter. While we have not seen a meaningful deterioration in credit quality taking place, our provision of $241 million reflects our slightly weaker economic expectations. Our capital levels remain solid and we returned $1.7 billion of capital to shareholders during the quarter through share repurchases and dividends. We continue to make good progress on our strategic priorities. Our new and acquired markets perform particularly well across all lines of business.
and we see significant untapped opportunities across these markets. We also continue to invest in our payments capabilities to provide differentiated value. We recently acquired Linga, enhancing our capabilities to better serve restaurant and retail clients, particularly in the small business space. And during the quarter, we made enhancements across our retail platform to drive customer convenience and retention. For example, we recently announced a partnership with Allpoint to give our customers surcharge-free access to 41,000 additional ATMs.
and we are in a position of strength as we look to the future. As always, I want to thank our employees for their hard work in the third quarter and for everything they do to deliver for our customers, communities, and our shareholders. And with that, I'll turn it over to Rob to provide more detail about our financial results. Thanks, Bill, and good morning, everyone. Our balance sheet is on slide three and it's presented on an average basis.
During the quarter, loan balances were $313 billion, an increase of $8 billion, or 3%.
Investment securities grew approximately $2 billion, or 2%. Cash balances at the Federal Reserve decreased $8 billion.
And our deposit balances averaged $439 billion, a decline of $7 billion or 2%.
However, spot deposits were down $2.6 billion, or less than 1%, as lower consumer deposits were partially offset by growth in commercial deposits.
At the end of the third quarter, our loan-to-deposit ratio was 72 percent and remains well below our pre-pandemic levels.
Average borrowed funds increased $8.6 billion as we bolstered our liquidity through federal home loan bank borrowings.
During the quarter, we increase our borrowings with the home loan bank by $20 billion on a spot basis.
We continue to be well positioned with significant capital flexibility. During the quarter, we returned $1.7 billion of capital to shareholders through approximately $600 million of common dividends.
and $1.1 billion of share repurchases for 6.7 billion shares.
And as of September 30, 2022, our CET1 ratio was estimated to be 9.3%. Slide 4 shows our loans in more detail. In the third quarter, we delivered solid loan growth across our expanded franchise.
Loan balances averaged $313 billion, an increase of $8 billion, or 3%, compared to the second quarter, reflecting growth in both commercial and consumer loans.
On a spot basis, loans grew $4.6 billion, or 1%.
Commercial loans grew $3.1 billion. A strong new production more than offset the syndication of the $5 billion of high-quality short-term loans that were expected to mature in the second half of the year.
Consumer loans increase $1.5 billion, driven by higher residential mortgage and home equity balances.
partially offset by lower auto loans.
And loan yields increased 69 basis points compared to the second quarter, driven by higher interest rates.
Slide five covers our deposits in more detail.
Although average deposits declined $7 billion or 2% compared to the second quarter, spot deposits were $438 billion and declined less than 1% compared to June 30th.
Commercial deposits grew $1.7 billion, or 1%, on a spot basis.
consumer deposits declined $4.3 billion, or 2%, reflecting inflationary pressures and seasonally higher spending.
Given the rising interest rate environment, we've begun to see a mixed shift from non-interest bearing into interest bearing, particularly within our commercial deposits, and expect this to continue over time.
However, to date, our consolidated deposit portfolio mix has remained relatively stable, with two-thirds interest bearing and one-third non-interest bearing.
Overall, our rate paid on interest-bearing deposits increased 33 basis points linked quarter to 45 basis points.
As of September 30th, our cumulative beta was 22%, and we estimate it will increase to approximately 30% by year-end.
Slide 6 details our securities portfolio. On an average basis our securities grew two billion dollars or two percent during the quarter as we replaced maturities with higher yielding securities.
The yield on our securities portfolio increased 21 basis points to 2.1%, driven by higher reinvestment yields as well as lower premium amortization.
and during the quarter new purchase yields exceeded 4%.
Throughout the course of the year, we've repositioned our securities portfolio, and as of September 30th, we have 66% of our securities classified as held to maturity.
While interest rates have continued to increase, this repositioning has reduced the rate of change in our AOCI.
At the end of the third quarter, our accumulated other comprehensive loss was $10.5 billion, and as you know is not included in our regulatory capital.
And importantly, we expect this amount to fully accrete back over the remaining lives of the securities and swaps.
As of September 30th, we estimate that approximately 5% of AOCI will accrete back per quarter going forward.
Turning to the income statement on slide 7, as you can see, third quarter 2022 reported net income was $1.6 billion or $3.78 per share.
Revenue was up $433 million or 8% compared with the second quarter.
Expenses increased $36 million, or 1%, resulting in 7% positive operating leverage linked quarter. Provision was $241 million in the third quarter, reflecting a slightly weaker economic outlook, which impacted our macroeconomic scenarios and weightings.
And our effective tax rate was 19.1%.
Turning to slide 8, we highlight our revenue trends.
As you can see, total revenue for the third quarter was $5.5 billion, an increase of 8%, or $433 million linked quarter.
Net interest income of $3.5 billion was up $424 million, or 14%.
The benefit of higher yields on interest-earning assets and increased loan balances was partially offset by higher funding costs.
And as a result, net interest margin increased 32 basis points to 2.82%.
Third quarter non-interest income of $2.1 billion increased $9 million as lower fee income was offset by an increase in other non-interest income.
The decline in fee revenue was driven by lower activity in our capital markets, mortgage, and asset management businesses.
which was somewhat offset by continued strong performance in our lending and deposit services.
as well as our card and cash management fees.
Growth and other non-interest income reflected higher private equity revenue as well as a $13 million positive visa derivative fair value adjustment in the third quarter compared to a negative adjustment of $16 million in the second quarter.
Turning to slide 9, our third quarter expenses continued to be well managed and were up 1% linked quarter. The growth reflected increased personnel expense to support business growth as well as one additional day in the quarter.
As we previously stated, we have a goal to reduce costs by $300 million in 2022 through our Continuous Improvement Program.
We're now nine months into the year, and we've completed actions related to capturing more than 80% of our annual goal. And as a result, we remain confident we will achieve our full year objective.
As you know, this program funds a significant portion of our ongoing business and technology investments.
Our credit metrics are presented on slide 10.
Non-performing loans of $2.1 billion increased $22 million, or 1%, compared to June 30th, and continue to represent less than 1% of total loans.
Total delinquencies were $1.6 billion on September 30th.
at $115 million or 8% increase swing quarter.
The increase was driven by elevated levels of administrative delinquencies.
the majority of which have already been or are in the process of being resolved.
Net charge-offs for loans and leases were $119 million, an increase of $36 million linked quarter, primarily driven by higher commercial loan net charge-offs.
Our annualized net charge off-the-average loans continues to be historically low at 15 basis points.
Provision for the third quarter was $241 million compared to $36 million in the second quarter.
The increase reflected slightly weaker economic expectations, which impacted our macroeconomic scenarios and weightings.
And during the third quarter, our allowance for credit losses remained essentially stable. Our reserves now total $5.3 billion and continue to be 1.7% of total loans.
In summary, PNC reported a strong third quarter.
In regard to our view of the overall economy, we expect moderate growth in the fourth quarter, resulting in 1.8% GDP growth for the full year 2022.
We also expect the Fed to raise rates by an additional 125 basis points in the fourth quarter, with a 75 basis point increase in November and a 50 basis point increase in December .
Looking at the fourth quarter of 2022 compared to the third quarter of 2022.
We expect average loan balances to increase approximately 1%.
Net interest income to be up 6 to 8 percent.
fee income to be stable to down 1%.
other non-interest income to be between $200 and $250 million, excluding net securities and visa activity.
Taking our guidance for all components of revenue into consideration, we expect total revenue to increase approximately 2%.
We expect total non-interest expense to be stable to up 1%.
Fourth quarter net charge-offs to be between $125 and $175 million.
And we expect our effective tax rate to be approximately 18.5%.
And with that, Bill and I are ready to take your questions.
Thank you. If you would like to register a question, please press the 1 followed by the 4 on your telephone. You will hear a 3-to-1 prompt technology request. If your question has been answered and you would like to withdraw your registration, please press 1-3. And our first question comes from the line of John Pankari with Abracore. Please go ahead.
Good morning.
On the funding side, I know you saw your deposit balances pull back again on a link quarter basis in both average and EOP. I wonder if you can give us a little bit of color on your thoughts there on deposit growth in coming quarters as rates continue to rise and you see some mix in your funding. Thanks.
Hey John , good morning, it's Rob. Yeah, so on deposits, we saw a decline in the quarter, less so on a spot basis. Actually commercial deposits grew there at the end of the quarter. But down quarter over quarter, when we look forward to the next quarter, we sort of see stable to down. On the consumer side, we do expect some downward trends just reflecting what we've seen lately, which is largely spend related.
Okay, that's helpful. And related to that, Rob, can you just maybe update us on how you're thinking about deposit betas in terms of your unenriched income expectations and how you're thinking about the margin? Thanks. Yes, sure, sure. So as I mentioned in my prepared remarks, you know, our betas are running right now at around 22. We expect it to go to 30 by year-end. So as I mentioned earlier, our minimum betas increase for the person who spend their day knitting means an additional455 to orche arose Young & Electro
Okay. Right. Okay. Then, in terms of the margin trajectory, just see if you can get up close with how we should think about that as well. Okay.
Well, you know, I think in terms of the margin, we saw a nice increase obviously in the third quarter. We won't see that equivalent jump necessarily in the fourth quarter, but as the Fed continues to raise rates, we will continue to see some margin expansion.
Okay, and then if I could just ask one more. On the buybacks, $1.1 billion for the quarter came in above your.
Maybe if you could just talk about expectations, the likelihood of it being 750 the next quarter, could you surpass that again if you have the opportunity given the share price? Thanks. Yeah, so we have been active repurchasers of our shares. We've been operating under the stress capital buffer framework which allows us a lot of flexibility. We've pointed to 700 or 750 as sort of our average.
Once again please press 1, 4 to queue up for a question.
Our next question from the line of Scott Cyphers by Prisantler, please go ahead.
Thanks for taking the question.
I was just curious if you could talk sort of broadly or at a top level about your ability to sustain positive NII momentum once the Fed stops raising rates. And I think some of the factors or puts and takes would be sort of self-evident, but I would just be curious to hear in your words what you think the big movers are each way.
Well, I mean, I think you said it. I think it's somewhat self-evident. You know, as the Fed continues to raise rates, we will see increases in NII. Obviously, we'll see some higher expenses on the funding part, which gets to the margin. But I don't know if that locks up.
You know, it'll continue to go up as the Fed continues to raise rates, at which point they stop doing that, then things will slow down, but that's probably in the 23 as we take a look at our forecast. It's going to be a bit of a mechanical exercise, so if you assume the Fed's done, if you look at past cycles, you'll see banks continue to increase rates as deposits get scarce, so there's a little bit of beta creep. But that's probably in the 23 as we take a look at our forecast.
offsetting that, more than offsetting that in our case because the short-dated nature of our securities book is a roll down of the securities that mature and then get redeployed at the then higher yields.
So it'll be that fight against, you know, where the deposit prices go once the Fed stops versus the roll down of the book and the reprice of the yields on the book.
Which is self-evident.
Yep.
Okay, perfect. Thank you. Now if I can go back to, Rob, your comments for the last question on repurchase. So, I guess I'm just sort of curious, when you think of sort of the conditions and why you wouldn't keep up the third quarter's more elevated level. It looks like you guys are among the very few that still has very good capacity to repurchase. What are you thinking? Was it just like the stock price in the third quarter or?
Are you sort of just there's enough uncertainty in the macro or you know does like TCE begin to Enter into the equation in addition to regulatory capital levels, you know, what are those conditions that you guys are weighing? Yeah, sure Yes, I say I say all of the above other than maybe the TCE that's not as much of a driver Because it's not part of our regulatory capital.
Okay.
Okay. All right. Perfect. Thank you guys very much. Appreciate it.
Next question, please.
Our next question is from the line after our Cassidy with RBC. Please go ahead.
Good morning guys, how are you? Hey Jordan.
Can you guys share with us, we're hearing some commentary in the commercial real estate markets that loan availability is becoming tighter, particularly to equity REITs. And you guys obviously are players in the commercial real estate market. Can you tell us what you're seeing and the risks you're assessing and what the outlook is for your commercial real estate loan book?
Just a general comment. Sharp exposure to REITs has grown as some of the capital markets opportunities for them have declined.
Some REITs are risky and some aren't, depending on what their underlying property types are. We price for risk and decline risk when it's the right thing to do.
Very good. Recognizing credit is still very strong and your non-performing asset ratios are strong. I was curious, I saw in your detail that you give, which is some of the best out there, about the increases in C&I non-performing loans, and then also I think there was an increase in the 30 to 89 day category. I know in your press release you talked about some processing issues, can you expand?
As you know, we're coming up off of such low, low levels that some increase is inevitable and doesn't necessarily reflect a broader move. It also jumps around. Yeah, that's right. There's no trend in there. There's no trend in there.
you know, one shows up, one goes away, and it's off such a small number. It's hard to look at, you know, percentage increases.... changes quarter to quarter...
Very good. I missed your opening comments, Rob, but thank you. Yeah, sure.
Our next question comes from the line of Ken Ozen with Jeffries. Please go
Hey, guys, good morning. One follow-up on the NII side. I know last quarter, Bill, you had said that you continued to see the rates trajectory continue to move up. We know you had an existing, pre-existing book of swaps that you put on. You said you were going to hold off for now. I'm just wondering if you can help us understand just the philosophy from here as we get potentially towards the high end of the rate cycle and how the existing book works against the national at.
at our overall exposure to rates we're basically we're flat to even even more acid-sensitive to where we were six months ago.
purposefully not wanting to invest into this market so we've let stuff roll down and kind of replaced what's rolled off but not added.
Our book today, I guess our bond book has a duration of 4.6 years, swap books 2.5 or 6, 2.3. So it all rolls down really fast. And it's rolling down, you know, off of yields that have one handles on them that get replaced today at 4.5 plus, assuming everything stops right here. So there's a big opportunity set in the re-pricing of that book and then there's an opportunity set in simply adding duration when it's...
Yeah, I mean the duration on the swap books, 2.3 years, Rob's saying, so yeah. It's all bullet maturity, so I'm guessing you're going to see a third a year.
Okay, got it. And at this point, you're not at the point where you're out to protect further out down the road. Your point, Bill, is just that you'll see how that develops at that point, which time you decide, okay, we now have to think about the downside risk.
So we are today much more exposed to down rates than we are to up rates. We make lots of money when rates go up or even if they stay just you know where they are here. We're under-invested, we're asset sensitive. The pieces of that you shouldn't get too hung up on. The exposure we have has fairly short maturities both on the swap side and on the bond side and so simply staying where we are gives us the opportunity to reinvest what matures at higher yields whether that's
swaps rolling off or bonds rolling off and we're going to do that. We will also at some point add
to get rid of some of the acid sensitivity. We're just not doing that yet.
I understand. Thanks. Okay. I'll leave it there. Thanks, guys.
Our next question from the line of Mike may you with Wells Fargo Securities, please go ahead
Hi. Does Rob get a raise because he became more asset sensitive in the last six months?
We will take that as an offline item. No good deed goes unpunished. Your rate of growth for NII is slower in the fourth quarter than in the third quarter, quarter over quarter. Just to follow up on that last question, do you think your fourth quarter NII will be a peak or do you think it should go higher from there? It could go lower because the catch up, the lag of deposit pricing, maybe QT deposits run off.
and arguments with our economics team.
that you know it was going to take a lot higher rates and inflation was going to be exactly what played out. So assuming that what was playing out is what we thought six months ago you don't buy anything. Wasn't any harder than that.
Okay, and then why are deposit betas for you and really the industry outperforming? What have people gotten wrong in their modeling? When you look at your model, what hasn't taken place or is it just yet to take place?
I don't know the answer to that Mike. I mean the consumer money is stickier than everybody. That's the answer. Relative to our expectations, consumers moved more slowly than we would have thought. Consumers are kind of doing what you would otherwise expect depending on their size.
Money market yields are doing what you'd otherwise expect. So you have a set of boundaries on competition for money funds, and you have a set of boundaries on competition for high rate deposit accounts, the online deposit accounts. So it's really just the re-pricing of the core consumer. It just occurs slower than I think the industry assumed.
Alright, thank you.
Our next question comes from the line of Bill Caracci with...
Well, if research, please go ahead.
Thank you. Good morning Bill and Rob. Bill, you said that you don't think it's time to add duration yet. Can you give some color on the trigger you're looking for?
I would tell you that we're probably getting close, but I continue to think, and we've seen a lot of this play out, that the back end of the curve is going to sell off here. I mean, my base expectation is that it's going to be tough to get inflation down to even have a two-handle on it, but I do think the Fed's going to pause at some point. When they do that, inflation is still sticky. I think you're going to see the curve flatten. So I just…
it's tough to want to lock in term rates at the moment and essentially eat negative carry three months from now.
or longer. Yeah, well no you'd go negative in three months based on foresight. Right. It's you know we need to see some semblance of.
when and how the Fed's going to stop and whether or not inflation is really...
move towards two or just kind of gotten down to the low threes and sticks there, which is what I'm afraid might happen.
Understood, that's really helpful. Separately, many banks talked about deposit growth that they were generating under QE as their expectation that it would be sticky. Some others were less certain. Can you speak to that dynamic broadly at the industry level and then maybe specifically whether you expect P&C's interest-bearing versus non-interest-bearing deposits to ultimately remix back to pre-COVID levels?
Well, for the industry, it's all pretty straightforward. You see it there. I would say following at the altitude you're asking the question, following the flood of liquidity and deposits in the system, we're going to see those recede. And then in regard to the mix between net interest bearing or non-interest bearing and interest bearing, we'll see that shift. We're already starting to see it on the corporate side. But the bulk of our deposits in terms of the core deposits is...
the same ratio, 33% non-interest bearing, and a few thirds interest bearing.
Got it. And on your debt as a percentage of your overall funding that ticked up a little bit this quarter, but it's still below 4Q19. Is it reasonable to expect that's going to be mixed back to pre-COVID levels?
You have to, at some point in time you would expect that to occur. It's a function of where you think liquidity is going to go from the deposit side.
But I don't know what timeline that would otherwise follow.
Okay, that helps. And finally, when the tailoring rules were coming together, you guys did a good job of articulating why Main Street banks like yourselves don't pose systemic risk to the financial system. Can you speak to some of what's happening now and how you're positioned for the risk that regulatory scrutiny could intensify somewhat for the super regionals?
So on the TLAC and SPOE issue.
Yeah.
Well.
Bill, you want to open up and I can add color? Well, just a couple of thoughts. I mean, one is obviously there's a lot of conversation about it, but at this point there's no formal proposals or anything to look at. So, you know, from our view, it's just observations and speculation. If we observe what's in place with the GSIBs, you know, our conclusion is it's not necessary for large regional banks, to your point, that we thought that came through in the tailoring. Ninety-five percent plus of what we do is within the bank.
99% with 95 that's 95 plus. So again, you know, a simple structure and it's unclear to us why an SPOE would need to be on top of what's already in place with the FDIC and the deposit insurance fund. So that has us a bit perplexed.
Thank you for taking my questions.
Our next question from the line of Michael Rose with Raymond James, please go ahead.
Hey, good morning. I was hoping to get some color on the health of your borrowers at this point and maybe if there's any unwillingness to lend to certain asset classes at this point. I'm hearing more and more on the construction side that banks are pulling back. We just love any updates that you have on the commercial and the consumer side. Thanks.
I'm not sure what you're referring to about construction, but broadly, we haven't seen any change in our credit book.
I mean, you know, we're seeing balances increase in credit card, which is a good thing. So people are finally drawing down on credit. But we really haven't seen deterioration in the performance of the book across anything. In terms of what we lend to, you know, we just don't change our credit box. We have a set of criteria that we lend to. We'll change price and in certain S-classes, prices are going up or in certain classes, you know, as an example where spreads are just too tight.
relative to where we want to land.
I can't think of any other examples where... No, no. And we operate, as you know, mostly in the higher point of the spectrum in terms of credit quality. So, investment grade and prime space and consumer.
Yeah. No, our approach is the same. You know, if it's real estate construction...
You know, we've been active in the multifamily side. You know, if you're looking at sort of smaller.
You know, real estate. Higher risk. Yeah, we were never there. We were never in that business to begin with. Yeah. That's kind of a smaller bank activity.
All right, maybe just one follow-up. I appreciate the fourth quarter guide. I think as it relates to the PP&R for the full year, it seems like even with the fourth quarter guide maybe being a little bit softer than the work consensus was, you guys are squarely within the ranges for full year revenue and non-interest expense. Is that the way we should be reading it? Thanks. Yes. Thank you.
Perfect, thanks for taking my questions. Once again, to queue up for a question, please press 1, 4 on your telephone keypad.
And our next question comes from the line of Matt O'Connor, Go to Bank. Please go ahead.
Hey, everyone. This is Nathan Stein on behalf of Matt O'Connor. So, 3Q capital markets fees came down versus the really strong 2Q levels, but I think that makes sense just given the macro backdrop. Can you talk about the capital markets outlook from here? Thanks.
Sure, well the decline in the third quarter was more than just the macroeconomic backdrop. It was off of elevated levels of our Harris-Williams unit in the second quarter, which were in effect. We did most of our activity in the first half in the second quarter with Harris-Williams. So we knew that, we called that, and we put that into our guidance.
And then just going forward in terms of our capital markets view, you know, Harris Williams is the biggest component. Their pipeline is very big. The degree to which they do more or less deals remains to be seen. You know, our view for the broader category is, you know, flattish to down and recognizing there could be some upside or downside depending on the macroeconomic factors you're talking about.
You know, inside of that space, we actually had a record quarter in loans indications and we had a record quarter in middle market loan originations, which, you know, is related to this. So there's actually a lot of activity, particularly as the bond markets are drying up, that benefits us. Harris Williams just was a big number in the second quarter. So when you're going off of that base, it's not as if the core underlying business, ex-Harris Williams is struggling. It's actually doing quite well. Yeah, that's right. Yeah, that's right. You know, the M&A market.
ratio is in that business. And then separately, I just want to see if you can maybe walk through a bit of the outlook for the other larger line items in non-interest income, including the asset management and cash management and others. Thanks.
Yes, so I mean your question is just around in terms of the fees. In the Harris-Williams line item, the efficiency ratio is probably in the mid-70s, just roughly plus or minus.
in regard to the outlook in terms of the fees.
You know, we'll see, I'll just go through the categories. Asset management is probably going to see some headwinds. You can see what's going on in the equity markets, although any given day, who knows. But we'll be under some pressure. We'll see what's going on in the equity markets.
So, you know, card and cash management will continue to be strong. We have solid fundamentals there and that's a steady eddy which will continue to expand.
And then capital markets I just spoke about, you know, we sort of see it stable. We could outperform if, you know, people want to do deals. The pipeline's there, but it's just, you know, it's a question of whether the next 90 days it occurs.
Thanks, Rob.
Sure.
And we appear to have no further questions on the phone line.
Well, thank you for joining the call today and if you have any further follow-up questions, please feel free to reach out to the IR team. Thank you and have a good day.
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