Q2 2023 Truist Financial Corp Earnings Call
Yeah.
Greetings, ladies and gentlemen, and welcome to the Truest Financial Corporation second quarter earnings call.
Currently all participants are in a listen only mode. A brief question and answer session will follow the formal presentation.
As a reminder, this event is being recorded.
It is now my pleasure to introduce your host Mr. Brad Millsaps head of Investor Relations Truest Financial Corporation.
Yeah.
Thank you Sharon and good morning, everyone. Welcome to <unk> second quarter 2023 earnings call with US today are our chairman and CEO Bill Rogers and our CFO , Mike Mcguire. During this morning's call. They will discuss <unk> second quarter results share their perspectives on current business conditions and provide an updated outlook for 2023 Clarke Starnes, our vice chair.
Aaron Chief Risk Officer will come in as our Vice Chair and John Howard Truth Insurance Holdings', Chairman and CEO are also in attendance and available to participate in the Q&A portion of our call.
The accompanying presentation as well as our earnings release and supplemental financial financial information are available on the truest Investor Relations website IR.
<unk> dot truest dot com.
Our presentation today will include forward looking statements and certain non-GAAP financial measures. Please review the disclosures on slides two and three of the presentation regarding these statements in measures as well the appendix for appropriate reconciliations to GAAP with that I'll now turn it over to bill.
Thanks, Brad and welcome to the team.
Good morning, everybody and thank you for joining our call today.
I don't think that's a surprise to anybody on this call about the increasing levels of uncertainty in our economy.
Net of interest rates on funding cost.
And then there is sort of post March operating environment for our industry are impacting our results and plans.
It was specifically built to increase our flexibility to respond to any condition to fulfill our purpose our commitment to all stakeholders.
Couple of liquidity you have taken on an increased focused although trucost is currently well positioned we're also intentionally building future flexibility.
This environment also challenges us to move faster and with greater intensity to tighten our strategic focus and right size our expense Chelsea to reflect the new realities.
We also have flexibility and strengthening our balance sheet to support our focus on our unique core client base and market opportunity.
These decisions are less incremental at more time bound than the ones previously made.
Sure from integrating to operate it.
Mike will highlight some of these doses, you'll notice comments and I'll close with some of the underlying momentum.
While these changes will be manifested over time. This is not business as usual and reflects an important and significant pivot for us and for our leadership team.
We will provide more details about these topics on our second quarter results throughout the presentation.
But before I do that let me start where I always do on slide four on purpose mission and values.
Truth is a purpose driven company dedicated to inspiring and building better lives and communities I'd like to share some of the ways. We brought that purpose to life last quarter.
In May we announced the launch of true as long game, our mobile App that leverages behavioral economics to reward clients for building financial wellness at a high level user set goals save money.
And earn rewards that are deposited into a trust account as they make progress towards their savings goals.
Based on early data users tend to play four to five times, a week with strong retention and we've seen positive trends towards new client acquisition.
This is also the first product from our true as foundry, our very own startup tasked with creating digital solutions to help meet clients where they are.
<unk> is also highlighting small business owners through our small business community Heroes initiative.
It was all about focusing on the small business owners, who work tirelessly to serve our neighbour's create jobs and build our communities and helped drive our economy.
Our branch teammates are visiting and connecting with tens of thousands of small business clients to say, thank you and have a carrying conversation to assist with their unique needs. The response. So far has really been excellent and our outreach efforts has helped drive a 31% increase in net new small business checking accounts during the second quarter alone.
Lastly, I want to thank our teammates through dedicated more than 616000 hours during the second quarter to volunteer in their communities I'm really proud of the good work our company and our teammates are doing to live out our purpose and then make a difference in the lives of their clients teammates in communities. So, let's turn to the second quarter performance highlights.
On slide six.
Third quarter results were mixed overall net income available to common in the second quarter was $1 2 billion or 92 cents a share.
<unk> decreased 16% relative to the year ago quarter, primarily due to a higher loan loss provision and noninterest expense, partially offset by higher net interest income EPS decreased 12% sequentially as higher funding cost pressure net interest income.
Total revenue decreased two 9% sequentially consistent with our revised guidance and a six 1% decrease in net interest income was partially offset by a $2 six increase in fee income led by our record results at <unk> insurance Holdings.
Adjusted expenses were within our existing guidance range. Although we are actively working to manage cost even more intensely.
Loan balances were relatively stable and we're pleased with the initial progress we've made to reposition the balance sheet towards higher return core assets, especially in consumer. So there is always additional work today average deposits were down 2% largely due to client activity in March so overall deposit trends have stabilized significantly.
Since that time frame and our conversations with our clients and our pipelines have improved.
We're also prudently increasing our provision and allowance due to increased economic uncertainty at.
At the same time, our CET, one capital ratio increased 50 basis points, driven by organic capital generation and the sale of a 20% stake in our insurance business.
These same factors drove a 5% increase in tangible book value per share from March 31.
Our stress capital buffer increased from 250 basis points to 290 basis points higher than we think are steady state business model warrants, but still a good performance as true as has the fourth lowest loan loss rate among traditional banks that participated in the stress test.
Reflecting again, our conservative credit culture and diverse loan portfolio.
We also announced plans to maintain our strong quarterly common stock dividend of <unk> 52 cents a share subject to board approval.
Strategically we continue to optimize our franchise and focus our resources on our core clients and businesses, which is why we made the strategic decision to sell a $5 billion non core student loan portfolio at net carrying value, which has no upfront P&L impact.
We're also making solid progress towards shifting our loan mix towards higher return core assets as we adapt to the current environment. We're highly focused on doubling down on our core franchise, simplifying where it makes sense rationalizing our expenses and building capital all of which will address later in the presentation.
So moving to the digital and technology update on slide seven.
Digital engagement trends remained positive reinforcing the importance of continued investment in digital due to its close association with relationship primacy client experience and account growth.
As a proof point, we recently enhanced our digital Onboarding experience through a series of platform enhancements, resulting in higher conversion rates for new applications faster funding and higher average digital account balances.
Our growing mobile App user base is also driving increased transaction volumes.
Digital transactions grew 5% sequentially and now account for 61% of total bank transactions.
<unk> transactions increased 12% compared to the first quarter and now account for one third of all digital transactions are true us, which underscores the importance our clients place on our payments and money movement capabilities.
Retail digital client satisfaction scores have also returned to their pre merger highs or proud of our third place ranking in the javelin 2023 mobile banking scorecard.
From an overall client experience and technology perspective, we continued to enhance our capability set.
That includes recent improvements to our cloud based self service digital assistant truest assist since implementing these enhancements several months ago truest assessed associate over 500000 conversations with more than 380000 clients and is connected clients to live agents to support more than 100000 complex needs via live chat.
Over time increase utilization of tourist assist should lead to lower volumes in our call centers.
We're also delivering on our commitment to tier three through the launch of our truest insights to our small business heroes earlier this month.
<unk> inside some power small businesses by providing actionable insights about financial activities, including cash flows income and expense and proactive balance monitoring.
We first piloted through his insights in 2021, and this year alone have generated over $200 million financial insights for more than $4 5 million clients and we're now delivering best valuable tool to small business.
This is just one more way, we are bringing touch and technology together to build trust and to help our small business clients bank with confidence where and how they want.
Overall, I'm highly optimistic that our investments in innovation in digital and technology will enhance performance and further improve decline experience.
Let me turn to loans and leases on slide eight.
Loan growth continues to be correlated with the solid progress we've made to shift our loan mix towards more profitable portfolios and core clients, while intentionally pulling back from lower yielding and certain single product relationships.
Average loan balances were stable sequentially as growth in our commercial portfolio was largely offset by lower consumer balances.
Commercial loan growth was driven by seasonality in mortgage warehouse lending and continued growth in traditional C&I, which is a core area for us.
The decline in average consumer balances was primarily due to indirect auto where we've been essentially reduced production home equity residential mortgage and student loan balances also declined and I'll provide more details about the sale of the student loan portfolio. A few moments at the same time, we're seeing strong results from our search.
This financing Sheffield businesses, where second quarter production grew 34% and 21% respectively from the year ago quarter.
Service Finance continues to perform very well and take market share and consistent with our balance sheet optimal optimization will increase our loan sale opportunities to help support its growth.
As I mentioned, we made the strategic decision to sell our $5 billion noncore student loan portfolio, which had been running off at a pace of approximately $400 million per quarter.
We sold the student loan.
Look in late June a net carrying value with no upfront P&L impact.
Proceeds from the sale were used to reduce other wholesale funding the transaction will modestly hurt NII, but boosted NIM and balance sheet efficiency exactly what we should be doing in an environment, where cost of capital and funding has increased meaningfully.
Going forward, we'll continue to better focus our balance sheet on truth clients, who are broader relationships, while limiting our exposure to a single product and indirect clients as well as evaluate ways to increase the velocity over all of our balance sheet.
Now, let me provide some perspective on overall deposit trends on slide nine.
Average deposits decreased eight 7 billion or two 1%, primarily due to seasonal tax payments and outflows that occurred late in the first quarter and were consistent with industry impacts of quantitative tightening.
We continue to experience remixing within our deposit portfolio is noninterest bearing deposits decreased to 31% of total deposits from 32% in the first quarter and 34% in the fourth quarter of 2022.
Interest bearing deposit cost.
Increased 55 basis points sequentially, and our cumulative interest bearing deposit beta was 44% up from 36% in the first quarter due to the continued presence of higher rate alternatives and the ongoing shift from noninterest bearing accounts to higher yielding products.
We continue to main a balanced approach in the current environment being attentive to client needs and relationships, while also striving to maximize value outside of rate paid.
Our continued rollout of truth, one and ongoing investments in treasury and payments are the bull's eye of our sharpened our strategic focus and will remain critical as we look to acquire new relationships deepen existing ones and maximize high quality deposit growth.
Now, let me turn it over to Mike to discuss our financial results in a little more detail.
Great. Thank you Bill and good morning, everybody I'll begin with net interest income on slide 10 for the quarter taxable equivalent net interest income decreased six 1% sequentially as higher funding costs more than offset the benefits of higher rates on earning assets.
Reported net interest margin decreased 26 basis points to 291% due primarily to an acceleration of interest bearing deposit betas and mix shift out of DDA into other high cost alternatives.
The lower net interest margin also reflected our liquidity build late in the first quarter, while liquidity remained elevated throughout April and May It has normalized by June and we'll provide some modest boost the NIM going forward.
On a year over year basis net interest income is still up seven 1% and core net interest margin is up 13 basis points.
This reflects the cumulative benefit we've seen from the rising rates during the cycle, particularly throughout 2022. There now we are losing some of that benefit in 2023.
Moving to fee income on slide 11.
The income rebounded to 6% relative to the first quarter insurance income increased $122 million sequentially to a record $935 million demonstrating the strength of tourists insurance holdings year over year organic revenue grew by nine 1% the highest in four quarters driven by strong new business growth in <unk>.
Rude retention and a favorable pricing backdrop.
Other income increased $65 million, primarily due to higher income from our nonqualified plan and higher other investment income in contrast investment banking and trading income decreased $50 million, reflecting lower bond originations loan syndications and asset securitizations as well as lower core trading income from derivatives.
Credit trading.
Finally mortgage banking income increased pardon me decreased $43 million with most of the decrease related to prior quarter gain on sale of our servicing portfolio.
Turning to noninterest expense on slide 12.
Adjusted noninterest expense increased $67 million or one 9% sequentially. The increase in adjusted expenses reflected a $75 million increase in personnel costs due to higher variable compensation and nonqualified plan expense and a $38 million increase in professional fees associated with enterprise technology.
And other investments these increases were partially offset by a $41 million reduction in other expenses due to lower operational losses during the quarter.
<unk> that had an unattractive Roe.
We also identified various expense reduction activities that had already been underway, including realigning our light stream platform to our broader consumer business and ongoing capacity adjustments to market sensitive businesses, such as mortgage or.
We're actively working to identify and accelerate additional actions that can be implemented over the course of the next 12 to 18 months to generate cost reductions to reflect efficiency opportunities and changing conditions.
These actions include taking a much more aggressive approach towards FTE management, realigning and consolidating businesses to advance our long term strategy rationalizing our tech spend to drive more efficient and effective delivery and optimizing our operations and contact centers, which will help us transform trust into a more effective and efficient company.
Taken together, we believe these actions will increase our focus double down on our core simplify our business and the expense curve and enhanced returns for our shareholders.
Moving to slide 13.
Asset quality metrics reflected continued normalization during the second quarter.
Nonperforming loans rose 11 basis points, primarily due to increases in our CRE and C&I portfolios, though they remain manageable at 47 basis points, while the increase in CRE nonperforming loans include some office. These loans are generally paying as agreed or.
Our net charge off ratio was 54 basis points inclusive of a 12 basis point impact from the sale of the student loan portfolio. Excluding the student loan sale net charge offs were 42 basis points up five basis points sequentially.
We would also note that the student loan sale had no impact on our provision expense this quarter as the charge off taken in conjunction with the sale was essentially equal to the allowance on the portfolio.
During the quarter, we also increased our a triple L ratio six basis points to 143% due to greater economic uncertainty consistent.
Consistent with our commentary last quarter, we have tightened credit and reduced our risk appetite in select areas, though we maintain our through the cycle approach for high quality long term clients.
Next I will provide more details on our CRE portfolio, which takes us to slide 14.
On June 30th CRE, including commercial construction represented eight 9% of loans held for investment while the office segment comprised only one 6%.
We maintain a high quality CRE portfolio through disciplined risk management and prudent client selection, we typically work with developers and sponsors we know well and have observed their performance through multiple cycles are larger exposures tend to be associated with sponsors that have strong institutional ownership and we have actively managed less strategic exposures out of the PA.
Portfolio since the close of the merger.
Looking at office in particular the chart at the lower right provides a breakdown of our office portfolio by tenant and class our office exposure tends to be weighted towards multi tenant class a properties that are situated within our footprint. All factors that we believe will drive outperformance in.
In addition, we have a strong CRE team that is highly proactive in working with clients to get ahead of the problems. During the second quarter. We completed a thorough review of the majority of our CRE office exposure, we considered current conditions and client support and our risk rating approach as a result, a handful of loans were moved to nonaccrual, though the preponderance.
And to the clients and exposure are paying as agreed.
We believe our actions are prudent in light of current market dynamics and demonstrate our commitment to proactive and early identification and resolution of credit risk.
While problem loans have increased in recent months, we believe overall issues will be manageable in light of our ladder maturity profile Conservative Ltvs and reserves, which for office totaled six 2% of loans held for investment.
Turning to capital on Slide 15.
As you can see from the capital waterfall truth is well capitalized and has significant flexibility to respond to potential changes in the risk and regulatory environment.
Beginning on the left CET, one capital increased 50 basis points to nine 6% at June 30th this was driven by organic capital generation and the completion of the sale of the 20% stake in <unk> insurance Holdings I would also point out that at nine 6% well above our new regulatory minimum of seven four per.
<unk>, which takes effect on October one.
We expect to achieve an approximate 10% CET one ratio by year end through a combination of organic capital generation and disciplined management of <unk> growth. This view does contemplate the headwind from the pending FDIC assessment.
On top of this truth is more than 200 basis points of additional flexibility given the residual 80% ownership stake in tourists insurance holdings.
As we look beyond 'twenty three we do expect regulatory capital requirements become more stringent and potentially require us to deduct a OCI from our CET one ratio while the final form of any regulatory changes remains to be seen tourist is well positioned to respond due to our strong organic capital generation and the likely phasing periods of any potential new road.
<unk> specifically.
Specifically and as shown on the right hand side of the slide based on estimated cash flows and assuming today's forward curve, we would expect truest a OCI declined by 36% by the end of 2026, assuming our current rate of organic capital generation remains constant truth should generate sufficient capital to offset the <unk>.
<unk> remaining impact of OCI on CET, one over this time period, while maintaining the strategic capital flexibility with truth insurance Holdings.
And now I will review our updated guidance on slide 16.
Looking into the third quarter of 2023, we expect revenues to be down 4% due to seasonally lower insurance revenue and slightly lower loan balances, which will lead to continued pressure on net interest income, albeit at a slower pace relative to the decline we experienced in the second quarter.
Adjusted expenses are anticipated to decline zero to 1% as seasonally lower insurance commissions and our efforts to bend the expense curve will offset several seasonal headwinds like marketing and employee benefits that should change the tailwind in the fourth quarter.
For the full year 2023, we now expect revenues to increase 1% to 2% compared to 2022.
The decline from our previous outlook for 3% growth is primarily driven by lower net interest income due to higher deposit betas slower loan growth and lower investment banking revenue.
Adjusted expenses are expected to increase 7%, which is at the upper end of our previously guided range due to continued investments in enterprise technology and other areas. This excludes the anticipated FDIC surcharge. This is a number that is higher than where we've been targeting but as we've discussed we are pursuing a number of action.
To reduce costs.
In terms of asset quality, our expectation is for the net charge off ratio to be between 40, and 50 basis points, which includes the impact of the student loan sale.
Finally, we expect an effective tax rate of 19% or 21% on a taxable equivalent basis now bill I'll hand, it back to you for some final remarks, great. Thanks, Mike So let's conclude on slide 17.
We're on the right path.
Wiley optimistic about our ability to realize our significant post integration potential are summarized in our investment thesis.
Our goal financially is to provide strong growth and profitability and to do so with less volatility than our peers.
Our strategic pivot from integrating the operating is well under way.
All the financial benefits of our pivot have been masked by the rapid increase in funding costs from related revenue pressure, we've made significant strategic progress over the past year, and it's showing up in a number of operating metrics across our business.
Our wealth trust and brokerage business continued to build momentum as net organic asset flows, which exclude the impact of market value changes have been positive eight of the last nine quarters.
We've also steadily improved client satisfaction through the distinctive service provided by our branches and care agents as well as improvements to our digital processes and procedures that originated in our client journey rooms. As a result, our client satisfaction scores were stable to improving across most of our channels during the second quarter, but had been.
<unk> rising over the past year since the integration.
In corporate and commercial we continue to focus on less lead loan transactions and the synergies between our CIB and CCP businesses. During the first half of the year of 20, 25% of our fleet transactions close by true ups with our CCD clients. We're also making inroads with new CCP clients of 65.
Percent of the CCP left leads I, just mentioned were new relationships.
In equity capital markets transaction economics have improved approximately 300 basis points on average since the merger and in wholesale payments. Our pipeline is the highest it's been since the merger each of these data points reflects our increasing strategic relevance with our clients.
In addition, our <unk> program integrated relationship management is off to a great start this year as we have already delivered nearly 50% more <unk> solutions year to date, but during the same period a year ago.
Our strong progress demonstrates what is possible post integration, where our teammates can focus their undivided attention on caring for their clients and deepening those relationships power.
However, just as we're shifting our focus from integrate to operate <unk>.
Amit landscape shifted from favorable to more challenging.
As a result, we too must shift and make tough decisions to fit the realities of today's economic environment and Tomorrow's regulatory requirements.
This means being more disciplined about where we choose to compete and deploy our capital whether businesses clients or products and looking deeper and more at more structural cost opportunities that exist to tourists.
These opportunities exist for not the primary focus during the integration period, where the focus was on creating the best transition possible for clients and teammates.
Mike highlighted many of the specifics earlier, while the details are critically important what will ultimately matter to stakeholders is our absolute expense base and growth and our teams are aligned internally on change in that trajectory.
I'm really truly optimistic about the future of true restaurants are unwavering foundation of purpose.
Our talented teammates leadership in growth markets and diverse business model will continue to drive our momentum and fulfill our potential.
So Brad let me turn it back over to you for Q&A.
Thank you Bill.
At this time will you. Please explain how our listeners can participate in the Q&A session. As you do that I'd like to ask the participants to please limit yourselves to one primary question and one follow up in order that we may accommodate as many of you as possible today.
Ladies and gentlemen, if you would like to ask a question. Please press star one on your telephone keypad.
If you are using a speaker phone. Please make sure that your mute function is released to allow your signal to reach our equipment. Please limit yourself to one question and one follow up question.
As a reminder, it is star one to ask a question, we will pause for Joseph moment to allow everyone an opportunity to signal.
We will take our first question from Ken Houston with Jefferies. Please go ahead.
Thanks, Good morning, everyone.
So I just wanted to follow up of course, it makes sense that the funding costs and slower loan growth is part of the change in the revenue outlook I'm. Just wondering as you look forward and you think about that deposit mix and deposit cost trajectory as far as funding costs looking past.
The second quarter, how do you see that affecting the NII trajectory within that new revenue guide for third and fourth thanks guys.
Yeah, Hey, good morning candidates like I'd say as we think about the the rest of the year. The same factors that have been driving I'd say just average balance Qt primarily in the second quarter, we had a little bit more of an impact from tax payments will continue.
The mixing has been pretty consistent too from a noninterest bearing demand perspective into higher cost alternatives, we saw a little bit of an acceleration in the first quarter as you'll recall.
But this quarter that stabilized a bit we were down about five 5%.
On those balances and remix from I guess, 32% to 31%, we would expect that trend to.
To continue as well I think really the factor as we think about NII trajectory for the for the third and the fourth quarter has much more to do with sort of the fed policy track right.
We had about a net.
Call It close to 50 basis points average increase in the fed funds rate in the second quarter, which really did have an impact on our on our betas in our funding costs, we would expect that to be about half that in the third quarter and further moderating from there.
And just on the follow up what do you think that means for kind of a pet.
And our view of upward you think turmoil terminal interest bearing meda might land.
It's tough.
We're at 44% today, that's higher than where we expect it to be.
I think we as recently as a month or so ago expressed an expectation that maybe mid to high <unk> would be the case I think certainly piercing 50.
But really hard to pick a number at this point tend to be honest with you a lot of it I think has to do with.
How long were higher for longer.
Yes that makes sense okay. Thank you.
We will take our next question from Ebrahim <unk> with Bank of America. Please go ahead.
Good morning.
I guess first question, Mike just following up on what your response to Ken <unk>.
Just any change in deposit beat expectations, even relative to last month.
Like when we think about what you said on deposit beta outlook.
Any real signs that is suggesting that.
Deposit trends are in fact slowing down the likelihood.
The beta deposit beta update you provided today.
More likely to play out with us having to choose US again next month I'm. Just wondering are you seeing any tangible signs of the ground that suggest things are getting better.
We look at it on a on a weekly monthly basis, Ebrahim and so I think yes, I mean, I think history would say that as we approach and reach this terminal.
Policy rate, we should start to see some moderation in the beta creep.
We're starting to see that a little bit, but you know a month or a few weeks a trend does not make and so just being very cautious on the outlook there.
At $5 25 go into $5 50, the degree of rate awareness across our client set is very very high across the industry is very very high.
And so look I.
And I think that's probably as much as anything driven driven the miss on betas for the sector. So far.
Got it.
A separate question you've talked a lot.
You and bill towards the call around wanting to bend, the cost curve and the expense focus.
I know, you're not giving 2004 guidance today, but as we think about the opportunity there.
I'm just wondering if you can put some framework around what we should expect around.
What this entails setup with regards to quantifying it.
Yes, I'll take that and without without again trying to sort of provide specific guidance because.
You don't have a lot of things that we're working on if you think about sort of a.
The buildup. So the buildup was related to things that are investing to build a large financial institution.
We had some unique one time things to us that are things like pension accounting, then alright, and then we had acquisitions and part of that so so to say I'll say a couple of things I mean, we're clearly at an inflection point in the growth rate. So the growth rate has kind of changed materially and you can sort of see that by.
Our guidance for the year relative to where we are right now so that will give you.
And impression of where we think the third and fourth quarter will be from a from a growth perspective.
Similarly sort of on an absolute basis for the balance of this year.
We would expect.
To see some of that absolute level of expenses expenses coming down, but the real change comes in the structural opportunities that Mike talked about and the things that we're working on so we can bend the curve in lots of ways that.
Our incremental but I think the big opportunity for us is sort of a fundamental.
Components in terms of of how our company structure to how it runs what the chassis looks like what are the businesses that we're in.
And that's the work that we're doing and that's the big work of.
Post integration to running the company.
Way that that reflects the current environment. So what I would say maybe I'll use the word appreciably.
Expenses will be down appreciably.
And as we get into this latter part of this year will provide a lot more guidance or thought about 2024.
Thanks, a lot appreciate it.
Our next question will turn to Erika Najarian with UBS. Please go ahead.
Hi, good morning, and I apologize in advance.
Everyone's asking the same question, but I think it's important for you.
Investors have clarity.
Mike just on the net interest income.
Take battery I apologize for asking you to see us and for everybody.
Later.
Investors are really thinking about what the exit rate for the fourth quarter will be.
And potentially overlay your net interest income sensitivity, where you disclosed in your Q, which at 170 basis points. It implies pretty good stability from fourth quarter levels.
Outcomes that you expect for the fourth quarter.
Yes.
Do you agree with that notion that if the fed does cut.
Basis points, which a lot of investors are putting in our models.
And to be relative stability in terms of your barbell interest income power next year.
Well, yes, no Erika don't mind at all.
The follow up question here. So a couple of things, yes, I mean look we are according to our NII sensitivity disclosure.
Relatively neutral and I'd say based on where we are in the cycle and how in particular betas are performing we're probably even a little bit more liability sensitive to that.
Than that and you see that in our results.
We're not currently contemplating a cut this year and when we talked about our expectations.
In the Middle of June we were thinking about a cut as early as this year. We've updated our rate view two way up 25 at the next meeting and then holding until probably mid 24, so that probably is.
What's influencing our revenue guide for the rest of this year and especially the NII component, but yes, I mean, just to get to your question. If we saw a down 100.
That would absolutely be a stabilizing force in and would be a nice tailwind for our for our NII based on how we're positioned.
And women.
Go ahead go ahead bill.
Yes, let me just add a couple of things because we were really talking about Sarah.
Betas in NII and Wilson to ship Starbuck client and client activity, which is also an important part of that so you know the.
The tailwind that we're creating about you know net net deposit growth expansion earn primacy with relationships.
And then on the pricing side I mean, we're starting to see some of that pricing flexibility, particularly on the commercial side.
So you know.
Spread over so for probably 20, some plus basis points quarter to quarter. So the ability to be more relevant to our clients reposition our portfolio to reflect that b and b and higher returning quite frankly taken some market share.
Where others are backing off we're leaning into some opportunities that have a greater return for so in addition to all the betas and the other components Theres just a lot of really good underlying client activity that's tailwind.
Got it and just.
A follow up question and then I'll I'll step aside.
Mike.
I guess I'll ask this a different way within the down or up one to queue in terms of adjusted revenue.
What is the NII.
The outlook there.
And that is yes.
Yeah, no problem. So our expectation is that in the third quarter with.
With a single rate hike.
Our.
It will continue on a downward trajectory, but at a much more moderate pace call. It half of what we saw in the second quarter.
And I think you would expect the pressure to decline even further in the fourth quarter.
Okay. Thank you talking about NII, yes, you got it.
Our next question comes from Betsy <unk> with Morgan Stanley . Please go ahead.
Hi, Thanks, so much just one quick follow on to this discussion.
Regarding the non interest bearing component I know you mentioned earlier that you expect the noninterest bearing to remax.
Just to stabilize here and I'm just wondering in your NII outlook.
Were you expecting noninterest bearing to trend and where do you feel that that will stabilize.
It's Ben.
It's been Remixing at about 1% a quarter for us that was about $7 billion in average balance and five 5% in the quarter I would expect that trend to continue.
At that rate, we spent a lot of time last quarter talking about where that might ultimately land.
I think theres, a chance that that that rate of a percent or whatever 5% to 6% a quarter does begin to moderate some here bill.
Bill and I, both talked about sort of maybe it's a mid twenties.
Terminal mix of DTA, but even that I think is in many respects an estimate and trying to rely on pre pandemic and even pre back to the pre dfc proxy. So that's you know if that helps or not but we are we are assuming that DDA, we will continue to decline.
In the third and the fourth quarter again in the second quarter was a little tougher because of the tax payments.
And the likes.
Right got it okay. Thanks, and then just shifting the conversation a little bit towards the capital I think your slide 15 on a significant capital momentum and flexibility that you've got maybe you could just.
Frame for us how youre thinking about what the right level for you as we're thinking through what regulation could come through here next week that supposedly we're going to have some new proposals come out and then give us a sense as to buyback capacity and where you are thinking about that at this day.
<unk>. Thanks.
Yes, that's as well so.
Thanks.
Position right now as we.
Continue to build you know.
So the targets are developing more information is coming we'll know more over the next 90 days in terms of.
No different proposals and impact on us and really what the slide was meant to do rather than show sort of them.
Absolute level or a target was really to show the flexibility in the organic creation of capital that we have so we start from a you know a.
Good position of nine six will be.
Organically.
We're at 10.
This year without sort of doing anything dramatic related to risk weighted assets, you know sort of staying on the process that we're on and then we just have a lot of flexibility.
There's sort of runs off and then we have and we just have other flexibilities. So we'll know more as it develops but I think we're in the left lane of capital accretion and will stay in that mode until until we're not and that same thing applies to any buybacks or whatnot, we sort of have to understand where the <unk>.
<unk> point is before we make any comment about buybacks and today that would be.
Short term not on the table as were building.
Building capital.
Okay. Thanks, and appreciate that LCI burned down very helpful. Thanks.
Yes.
We will take our next question from Mike Mayo with Wells Fargo Securities. The floor is yours.
Hi, I want to recognize that accelerated capital past CET, 110% by year end.
So certainly progress with capital.
Otherwise bill I need help and understanding how you can say you're on the right path.
One you had a merger and end market merger and end market merger predicated on cost synergies and here. We are over three years later and your efficiency ratio in the second quarter has 63% worse than peer.
Your new Guy is 423.
Operating leverage negative operating leverage of 500 600 basis points and to boot.
The revenue guide was lowered by 500 basis points in your expense guide what is the high end of your prior range. Your personnel expenses are up 3% quarter over quarter and 7% year over year and then three you talked about bending the cost curve, but over the past three years, you mentioned when the HUD was out there and you said less invest more.
Then it was investing more for growth now I hear you say, you're investing more in enterprise Tech so.
The.
The merger is predicated on cost synergies the guidance for big negative operating leverage.
You're still spending more so I understand the employees should be happy they're being paid more the customers are happy you have strong relationships. The communities are happening you're immersed in them, but the shareholders. I think I can safely say are not happy I'm not happy about the expense growth and they're not happy about the negative operating leverage and you know.
It seems like I love you personally, but I just wonder if you can spend a little too soft and not taking the tougher actions like some of your peers have so correct my logic or thinking or my observations if you would.
Okay. Thanks, Thanks, Mike.
I appreciate the law.
Right back at you so.
I think so a couple of things one as maybe I challenged a little bit the merger was predicated on cost saves alone remember their merger was predicated on an opportunity as well and opportunity in our markets and we want to make sure that we're well positioned to take take advantage of those so when I talk about sort of being on track I don't want you to think that that satisfaction.
About where we are from an expense side.
Building the infrastructure for you know.
A large company in this environment was more expensive than we anticipated. So there's just there's just no doubt about that.
But to that point I think we're at a really good inflection point and that inflection point is a pivot.
The intensity I can assure you hear around expenses, but not just expenses, but just redesigning the chassis I mean, there are lots of easy things you can do you can do you know hiring freezes and those type things that were underway on all of that and you'll start to see some of that in the next couple of quarters, but.
Our commitment is to really under changed.
Fundamental structure in the business model that results of this so there are certain businesses, we talked about student loan would be an example that where we've been.
Supporting from an expense standpoint that just doesn't fit into our strategy.
It doesn't make sense. So we will evaluate other parts of our business in other parts of our support structure.
That are part of that you could argue we should have been doing that faster I think that's a legitimate push and I accept that.
But I don't want you think that it's not happening and the focus is it is an intense but it is about trying to create more permanent change then.
Structural.
Let's make the next quarter lower let's really change the fundamental structure of the company from a from an expense standpoint.
You know you've seen me do it before and you know we can do it again.
No.
My confidence comes from the fact that we've got a team that's committed to this.
And the plans that I see and the focus that we have this is a this is an inflection point from that standpoint in this quarter.
So you mentioned you will come back with some planned for 12 to 18 months.
And I know look I know you wanted to have pause rock leveraging the environment worked against you partly as you acknowledge there are some other things internally, but.
It looks like it can be tough to get positive rock deleverage in 2024.
That something youre going to shoot for and when do we hear about these new expense plans over the next 12 months to 18 months, you gave us a laundry list earlier, and what sort of magnitude might that be.
Yes, we will start talking about that in the next couple of quarters, Mike and how they fit into the overall into the overall structure.
As I've said to you before I mean, we have every business unit has a positive operating leverage play out and I mean, that's that's what we've asked them to do is to create.
Plans that are unique to their businesses, but what we need to do in addition, as have sort of the enterprise positive operating leverage focus.
2024, we'll just have to see how it plays out I mean, there's a lot of economic.
Economic factors that will determine that so I'd say you know not throwing in the towel so to speak but we just have to see where some of the some of the.
Economics lay out as it relates to that so if we're in a different rate environment. We're in a different investment banking environment, we're in a different.
Then I'll have a different view on that but as I sit here today, yes, that's a tough.
It's a tough climb.
But what we want to do is build that.
<unk> for the long term.
And then last short follow up I ask this that everybody. The NII guide much lower for you and for others do you think you've captured it all here I mean do you.
Lead.
The year at that kind of fourth quarter level, and Thats that say or do you see more downside after that.
As far as the year is concerned.
Look we flipped it is higher for longer.
The New guide reflects how betas are performing so I think we feel like we've got it for the year as far as trajectory in trough in 'twenty four.
It's just I think it really is going to be right path and policy dependent.
So long as we're at these rates and for longer betas are going to keep creeping now the good news is as we are seeing in Bill mentioned, there's some improvement on things like credit spreads and repricing assets et cetera, but I think so long as we stay at whatever five in a quarter five and a half or there's risk.
If there is a second hike for sure Mike to our outlook.
But no I think I think we've got Q3, and Q4 pretty well pegged.
Alright, thank you.
Our next question comes from John Mcdonald with Autonomous Research. Please go ahead.
Hi, Good morning wanted to ask a little bit about credit could you talk a little bit about the asset quality trends you saw this quarter and what drove the increase in non performers, particularly around C&I and CRE.
John I'll turn it over to Clark.
There is there is not a trend so a lot of idiosyncratic things, but let me turn it over to Clark.
A little more detail yeah, Thanks, Bill and thanks, John So I would just say we had a number of moving pieces. This quarter from a credit perspective, and a lot of that was intentionality around actively managing the portfolio. So the takeaways I would give you or burst we had really solid consumer performance overall with lower npls and losses.
Versus our forecast so the consumers holding up really well, so where we did see some impact to your point is in the C&I and CRE books from the C&I standpoint, we did see some uptick in npls and losses, but what I would tell you is more episodic theres, no particular trend or segment issue.
As Bill said and we're coming off really low historical numbers and so even where we are today would be lower than our long term numbers.
As far as the NPL.
The NPL increase most of that was driven by an intentional focus on CRE office. So what we did is we did an intense loan by loan review of our almost our entire book. So just give you some color on Q1 and.
In our community Bank, we looked at every we looked at all office loans greater than $2 million in Q2, we looked at everything over $25 million. So we've done a loan by loan review with the vast majority of all of our CRE office that included updated risk assessments and <unk>.
<unk>.
So we work really really hard to make sure we're not kicking the can down the road and we understand where we are so as a result of that we put a few loans on nonaccrual I would tell you that the.
The predominance of those loans are actually current they are swapped to maturity from a rate standpoint, and they've got good economic risk. We're trying to stay focused on your ability to exit at maturity and so we're looking and making sure we fully understand that so that drove the increase in Npls and then we did.
Recognize that with.
Winnie overall, so we feel really good about that so again I have to say to takeaway is worked really hard to make sure. We have good visibility in the portfolio and the good news is our overall guidance for losses really didn't change we included our student loan impact for Q2, but we maintained otherwise are.
Our loss guidance for the year.
Got it and maybe just as a follow up Clark.
Yeah again, we're very confident we'll be within the range of 40 to 50 for the entire year and I would just.
Remind you all that.
The second half of the year is always seasonally high in our consumer businesses, particularly in our subprime auto and so that that's why you see the.
The range stay in the 40 to 50 range, so it'll be higher than Q2, but within the guidance we've given you.
Okay. Thank you.
We'll move to our next question from John <unk> with Evercore ISI. Please go ahead.
Good morning.
On the.
Efficiency side of things I know I've heard you around the efficiency program that could work it on in.
Bend the cost curve, how should we think about.
Long term efficiency through the company as Youre looking at this program that you're looking at this quarter being the inflection.
And the.
Apparently you clearly look into the Cros.
Businesses, how should we think about what the prudent.
The appropriate efficiency ratio is in the long term perspective.
Hey, you are likely to target here. Thanks.
Hey, John This is bill I'll take that.
No. What I said was obviously is that the expense growth was going to is going to decrease materially. So that's that's what we're going to say and then the absolute expense base related to our businesses I think the way to think about it and this was very similar sort of how we came out of the merger as we should be sort of top quartile.
<unk> ratio so the efficiency ratio is kinda.
B a bit determined by a little bit of the market conditions, where rates are but.
Our business model, our construct things that we're engaged in I think rather than sort of honing in on a specific number because I think that's sort of.
Boxes, you in so to speak in terms of business mix and those type things I think really hone in on the expectation from from shareholders ought to be that we ought to be sort of top top quartile from an efficiency ratio given the opportunities that we have both on the revenue side and then the diversity and construct of our business mix.
Okay. Thanks, Bill that's helpful and then.
On the.
On the credit side.
The color you just gave around the non accruals can you give us your thoughts around additional reserve additions here or is it likely.
You still see some incremental build there and then what where does the commercial real estate reserves stand right now the ratio in the <unk>.
<unk> for the office commercial real estate reserve. Thanks.
Yeah, Jon Clark.
We're comfortable with our reserve levels right now based on what we know today you know, obviously cecil's life of loan given what you know today, obviously, if the economic outlook deteriorate any further or we.
We do see additional deterioration beyond what we believe we have seen in forecasted today around the portfolio performance or risk attributes you know you could see some additional incremental build but I would not expect to see any sort of large field or hockey stick tight. So I think it would be more incremental if we see some.
And then as far as.
Did you say the CRE office reserve is $6. Two overall I would remind you all we have about 40% of our portfolio with our small loans in our wealth and CCD segments, which carries higher reserves. So we've got I think a really strong reserves against where I think the fundamental risk is in the office side and then.
Our total CRE allocation right now is 240.
Okay, great. Thank you.
We will move to our next question from Gerard Cassidy with RBC. Please go ahead.
Thank you good morning, Bill Good morning, Mike.
Good morning Hugh.
You were talking about what's going on here in commercial real estate in can you give us some further color on when you look at the non accrual increasing commercial real estate is it because the owners of these properties are losing tenants is it more you know the.
The value of the properties have fallen and therefore, the loan to values are out of sync and then as part of the answer are you guys working to resolve working with your customers to resolve these issues.
Great question, Gerard I would say for us we take a very strict view of accrual status.
When we think about whether loan needs to be a non accrual or not and I would just remind you what I said.
The majority of the loans that we placed on non accrual this quarter in the CRE also segment E&C and Abbott in the CRE Office segment are actually currently current from a contractual basis right now because they still have good economic rents. They are hedged on the rate side and so they're performing on their payments.
But we're looking at what might happen at the end of term.
The rate impact fully hits after the swaps go off and whether theres any risk in leasing activity and then what it cost to for example, reposition the property from an operating standpoint are structurally to be sure the loan could be resized.
At maturity and so thats whats driving our view of accrual status. So a lot of it is the valuation side and less.
The sponsor of principal.
Can address these risks the good news is we're working with our sponsors we don't see our clients in any way just walking away from from the loans, we have long term relationships there and so we're looking at things like asking them to refit, bringing in more equity gives us an LC bring us some interest reserves, we may do so.
There may be no splits.
And as they attempt to sell the property. So we've got a lot of tools in the tool chest and we're working all of those are goals. The early on this and work with as many borrowers as we can and hopefully the market will improve and we'll have good success.
And then not to minimize the focus because of minutes.
Acute but just also remember you know 75% of this portfolio is sitting in our markets. So we're sort of a net in migration markets. So while they're dealing with current tenants people are consolidating their office space, all that's happening and we're experiencing that with.
All of our borrowers we also have markets in which there's a lot of in migration. So there's also you know more new tenants and more opportunities in <unk>.
Video Socratic, you've got to be in the right building in the class a you know the opportunities in our portfolio arcs to class a and end market migration market. So.
Again not to minimize it but we've got you know.
We have some better opportunities from that side.
And very good BRL, one more time.
Yes, just as a quick follow up Mike.
When you look at the OCI burned down.
I would accelerate that in terms from an interest rate standpoint. The forward curve is looking for some short term interest rate cuts early next year, what would bring that number down even faster from an interest rate environment standpoint, what would you have to see.
A couple of I think the the positive catalyst even away from rates would be I guess in connection with rates would be speeds increasing in terms of the actual.
The cash flow profile, but if youre looking at the rates, we would need to see the long end.
Rally and we'd actually need to see a parallel benefit from mortgage spreads as well so.
Some of that for example rate rally you saw even from the end of the quarter to this to where we are.
2030 basis points on the 10 year.
If mortgage spreads don't come with it it can it can lag a bit but that would be the and Gerard. Thanks for the question because what we tried to lay out on the right hand part of that slide frankly was a pretty conservative burn down analysis based on today's speeds, which are quite slow and with no benefit from.
From a yield curve normalization.
Thank you.
We have time for one more question from Matt O'connor with Deutsche Bank. Please go ahead.
Hi, Thanks for squeezing me in.
Just one more on costs here I guess, how are you thinking about organizing the effort in terms of.
Who's kind of taken responsibility for running it.
Or do you think about bringing in any outside consultants to get kind of a fresh perspective or talk about the organization of it. Thank you.
Maybe at its simplest form it's me [laughter] in terms of you.
You know sort of who's responsible, but our executive leadership team and we've got a really good focus on this we've got and by the way we have different third parties, helping us with different elements of it are not an uber approach because I actually think we need to own it needs to be part of the.
The work that we do as a leadership team, but we might we have a variety of consultants looking at specific areas. So they may be focused on off onshore or a consolidation of a specific technology or an outsourcing of a particular thing. So there exists a part of the process, but this is an overall leadership team sleeves rolled up.
Everybody is in it.
You know not only wider business up but most importantly enterprise across.
I think the real efficiencies are achieved and are more permanent as we think about the company.
And in terms of how.
How do you think about the timing is this going to be.
Yeah like a one year after several years of outs for a continuous improvement effort. How are you thinking about that so far.
Yeah, I mean, it's already it's already underway and it's a continuous improvement I think.
The mentality of structuring the company around our strategic focus on creating a chassis that attaches to it is not a one time thing I think that's something that we're constantly doing constantly looking at again back to that commitment to sort of be top quartile in terms of how we run the company from an efficiency standpoint. So that's.
Both the revenue and the expense part that comes what comes along with that so it's not a one time big Bang thing because I actually don't think those are permanent I don't think they stick.
<unk>.
And our philosophy of how we run the company and the.
<unk> that we take long term.
Okay. Thank you.
That concludes our question and answer session for today I'll turn the floor back over for any closing remarks.
Okay that completes our earnings call to date do you have any additional questions. Please feel free to reach out to the Investor Relations team. Thank you for your interest interest and we hope you have a great day you may now disconnect the call.
This concludes today's call. Thank you again for your participation you may now disconnect and have a great day.
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