Q2 2023 Ally Financial Inc Earnings Call
Good day and thank you for standing by welcome to the second quarter 2023 ally Financial earnings Conference call. At this time, all participants are in a listen only mode. After the speaker's presentation, there will be a.
<unk> and answer session.
Ask the question during the session you will need to press Star one one on your telephone you will then hear a message I see your hand. This race to withdraw your question. Please press star one again and be advised that today's conference is being recorded I would now like to hand, the conference over to your Speaker, Sean Liberty head of Investor Relations.
Please proceed.
Thank you Carmen good morning, and welcome to ally Financial's second quarter 2023 earnings call.
Morning, our CEO , Jeff Brown, and our corporate Treasurer, Brad Brown will review allies results before taking questions.
So Russ Hutchinson has also joined for today's call.
The presentation, we'll reference can be found on the Investor Relations section of our website <unk> Dot com.
Forward looking statements and risk factor language governing today's call on slide two.
GAAP and non-GAAP measures pertaining to our operating performance and capital results are on slide three.
As a reminder, non-GAAP or core metrics are supplemental to and not a substitute for U S. GAAP measures definitions and reconciliations can be found in the appendix and with that I'll turn the call over to J P.
Thank you Sean good morning, and thank you for joining the call before I start into the details on the quarter I'd like to take a moment to officially welcome our new CFO Russ Hutchinson to ally.
And Ross for nearly 15 years and he's been one of my most reliable and trusted advisers during my time as CEO .
A terrific addition to our team and a great partner to the investment community many of whom have relationships with Ross already Ross welcome and why don't I turn to you to see if theres any comments you'd like to add thanks J.
J P. S. J P mentioned I have firsthand knowledge of ally excellent culture from working with his leadership team over many years.
It could be joining the company now.
A particularly rich set of opportunities across its auto finance at ally Bank.
Thank you Ross and again, welcome and with that I'm going to begin on slide number four.
Adjusted EPS of <unk> 96.
Core <unk> of 14%.
Revenues of $2 1 billion demonstrate our ability to execute.
Operating environment.
Net interest margin of three 4% was generally in line with our expectations as we continue to absorb the impacts of rapidly rising short term interest rates.
Given the continued changes in market interest rates margin pressures are more severe from a few months ago will discuss that in detail as we navigate the presentation deck.
On the bank funding market has been relatively stable since the events of mid March we continue to hold a conservative liquidity posture anchored by our leading deposit franchise.
Retail deposits were up nearly a half a billion despite seasonal headwinds related to tax payments and a host of other factors pressuring deposit flows.
And sure balances increased $1 3 billion in the quarter and now represent 92% of the portfolio.
Total available liquidity of $42 5 billion was effectively flat quarter over quarter and is equivalent to three eight times, our uninsured deposit balances.
CET one ended the quarter at nine 3%.
These are regulatory minimum by $3 7 million.
Operational performance in the quarter was steady across the company.
Within auto finance $3 5 million applications powered us to generate $10 4 billion of originations at attractive risk adjusted returns.
We highlighted this last quarter, but I want to reiterate that we see around 100 billion of potential originations in any given quarter, allowing us to be selective in what we book to the balance sheet.
Net charge offs in the quarter were 132 basis points, which was down from prior quarter, but was slightly elevated relative to expectations.
Brad will talk more about the second quarter loss performance and our outlook for the rest of the year.
Within insurance, we continue to successfully grow and deepen dealer relationships is $299 million of written premiums were up 14% year over year.
Turning to ally Bank total deposits of 154 billion or up $13 9 billion year over year as we continue to grow our deposit customer base now approaching $3 million.
We have over 1 million active credit card holders and remain excited about long term opportunities for this business.
We've launched our one allied digital experience and expect to complete the full rebranding of Allied credit card later this year.
Corporate finance continues to deliver accretive disciplined growth is nearly 100% of the $10 1 billion portfolio is in a first lien position.
Turning to slide number five.
Remain incredibly proud of the culture, we've established and it's critical to our success as we navigate periods of uncertainty.
Culture has always been a top priority for me and we continue to see tangible impacts from our efforts are.
Our 11700 teammates provide diverse perspectives and contributions and our leadership team is focused on maintaining strong engagement across every level of the organization.
We recently completed another company engagement survey and our <unk>.
We remained in the top 10% of global companies and were eight points higher than the financial services benchmark.
We remain focused on being a source of strength for consumer commercial and dealer customers year to date customer obsession has resulted in satisfaction scores of nearly 90% and customer retention of 96%.
Stronger communities mean, a stronger ally and we were thrilled to recently announced nearly $1 billion in giving in lending and support for our affordable housing initiatives I'm proud of allies ability to make a difference and home affordability, which remains a key challenge in many communities.
Our culture is authentic unique and a key differentiator and delivering long term results.
On slide number six we wanted to directly address some of the critical items, we're navigating today.
This is a unique time in the industry and our company and I am confident in our leadership team and teammates who have successfully navigated numerous challenging environments before.
From an interest rate perspective, we've talked for multiple quarters about the near term challenges of a rapidly rising interest rate environment.
Operationally throughout the cycle the businesses have been disciplined in managing pricing on both sides of the balance sheet.
We have also utilized our strong alco processes, including an active hedging program to protect the company from higher for longer rate scenarios.
Beyond the near term pressure the momentum we have on the asset side of the balance sheet positions us well for margin expansion when rates stabilize inflation data. We saw last week shows that policy may be working just low pressures and obviously that will be a significant positive for us going forward.
Managing credit risk continues to remain a top priority, we've refined our buybacks to eliminate underperforming segments and add significant price, particularly in riskier segments to compensate for potential volatility.
Based on where we see things today, we'd expect retail auto Ncos of one 8% for the full year, which is in line with the range we provided in January .
This is a unique environment, where unemployment remains historically low however, persistent inflation is a challenge for many consumers.
Delinquencies remain a watch item and remained elevated entering the second half of the year.
And consistent with prior guidance, we assume a meaningful step down in used vehicle values for the remainder of the year.
The team, we've built and the investments we've made in collections and servicing will drive solid performance, even in a challenging environment.
On the regulatory front with.
We're preparing for increased capital and liquidity across the industry and expect category for banks are likely to see requirements more like those of the G. Sibs at some point in the future I wont advocate, whether or not that is appropriate as I firmly believe tailoring works, but I think we're being realistic and our thoughts for the future.
We're well positioned from a liquidity standpoint, and we're building capital to prepare for these expected changes, we maintain constructive working relationships with the regulatory community and look forward to clarity on potential changes in the right regulatory framework.
Understandably, there's a lot of focus on near term pressures and potential for increased regulation.
Overall I feel strongly that the company is well positioned to deliver earnings growth over the next several years and as rates turn we are more uniquely positioned to benefit the most in the industry.
Let's turn to slide number seven where we highlighted the strength of our market leading consumer deposit franchise.
Allied Thanks inception in 2009, we've continued to provide customers not just another bank offering, but rather a better approach to banking our seamless digital customer experience has resonated as we're now approaching 3 million retail deposit customers millennials and younger demographic.
X represent most of our growth, which highlights the opportunity ahead.
Given the construct of our consumer deposit portfolio, 92% of deposits are FDIC insured among the highest levels in the industry.
And customer retention of 96% continues to demonstrate the loyalty of our customers. Once they've opened an ally account and experience our customer centric digital approach with.
We recently received recognition from the Wall Street Journal for being their favorite online bank again, another positive recognition to our approach to banking.
Moving to slide number eight we provided a snapshot of our current funding stack and available liquidity, where core funded with deposits as they comprise 87% of our funding, but importantly, we have multiple sources of liquidity beyond deposits in fact over the past three months we have access.
Every one of our non deposit funding sources, including public secured and unsecured debt transactions. We were the first category for bank to issue unsecured debt since the events of March and the transaction, which was T. Lack eligible was very well received demonstrating confidence in our financial profile.
On the right side, we show total available liquidity of $42 5 billion, representing three eight times uninsured deposit balances and for context cash on hand at quarter end represented over 80% of our uninsured deposit balances while markets have been mostly calm in recent months.
We know that can change quickly and we felt it was appropriate to highlight the strength and resilience of the liquidity footprint again this quarter.
And with that I'll turn it over to Brad to cover our detailed financial results.
Thank you Jamie good morning, everyone I'll begin on slide nine.
Net financing revenue, excluding OID of $1 6 billion was down year over year, driven by higher funding costs, given the rapid increase in short term rates.
Savings products comprise the majority of our consumer deposits portfolio, partially offset by higher earning asset yields given strengthened auto pricing.
Increased floating rate assets.
Our hedging program and growth across unsecured products.
Adjusted other revenue of $481 million increased year over year and quarter over quarter, reflecting momentum across our inherent.
Smart auction businesses.
We see a path for expanding other revenue across the back half of 2023, moving towards a $500 million quarterly run rate.
Perfect can expense of $427 million was down quarter over quarter, reflecting seasonal trends and a modest reserve build.
I'll provide more granular commentary on charge off trends shortly.
Noninterest expense of $1 2 billion reflect the highest second quarter weather losses realized 2020.
In addition to disciplined investments across technology, and variable servicing and collection costs.
Despite elevated weather losses year over year growth in total expenses declined relative to the first quarter.
We expect favorable year over year expense trends as we progress through the second half of 2023.
GAAP and adjusted EPS for the quarter were 90 996, respectively.
Moving to slide 10, net interest margin excluding OID of.
Three.
101% was generally in line with expectations down 13 basis points quarter over quarter.
We see momentum with an earning asset yields but the increase in short term rates will continue to pressure cost to funds as we've discussed previously.
We continue to maintain a conservative liquidity position, including elevated cash balances.
All of it's pressured margin by a few basis points in the quarter. We believe this is a prudent trade off in the current environment.
Our longer term view of known trajectory is largely unchanged, but given the rate environment. We currently see full year 2023, NIM around three 4%.
I'll share more detail on NIM dynamics and outlook shortly.
Our approach to underwriting and focus on risk adjusted returns slightly lowered our retail originated yield this quarter.
As we continue to originate loans in the mid 10% range, we see significant tailwind in future periods as more recent originations comprise a growing share of the overall portfolio.
Total average loans and leases of 148 billion or up $11 billion year over year, driven by growth within our retail auto and a gradual normalization of commercial auto balances.
Quarter over quarter growth of less than 1 billion reflects our focus on disciplined capital deployment.
Earning asset yield of 699% increased 28 basis points quarter over quarter, and nearly 200 basis points year over year, given the cumulative impact of trends as discussed previously, including retail auto portfolio yield expansion.
The increasing contribution from higher yielding assets.
Andover 60 billion of floating rate exposure across our commercial loan and hedging portfolios.
Partially offset by our maintenance of elevated cash levels mentioned previously.
Retail portfolio yield expanded 32 basis points from the prior quarter as recent vintages comprised a larger portion of the portfolio.
At quarter end, nearly 60% of the portfolio consisted of loans originated since 2022, when the tightening cycle commenced.
Concurrently we've added 460 basis points of price, which will provide significant tailwind in future periods.
And our hedging program continues to provide incremental benefit to the retail auto portfolio yield.
Commercial portfolio yields expanded alongside benchmark rates given their floating rate nature.
Turning to liabilities cost of funds increased 45 basis points quarter over quarter, and 273 basis points year over year.
The increase in deposit cost reflects continued increases in short term rates and a highly competitive market for deposits.
On slide 11, we provide an updated view of our expectations for retail auto and deposit pricing. The two largest drivers of our margin trajectory.
Our current expectation for full year NIM of around three 4% is based on that forward curve, which now assumes peak fed funds at five 5% and no rate cuts until 2024.
Despite this pressure we remain confident in the underlying momentum, which will lead to NIM expansion in future periods.
Retail auto portfolio yield expanded again this quarter as we continue to originate well above the overall portfolio yield.
Originated yield declined in the quarter as we've increased the super Prime proportion of our volume.
Disruption in the market has enabled us to capture Super Prime share with minimal change in price.
Returning this segment are significantly higher than normal and we've taken the opportunity to optimize risk adjusted returns.
This shift demonstrates the benefit of our scale and ability to adapt to market conditions.
Current originations are still well above portfolio yields, which will drive portfolio yield two 9% by year end.
Deposit pricing to reflect the dynamic environment, where banks competing with each other and investment alternatives to capture deposits.
We expect the retail portfolio yield to continue migrating toward current liquid savings rates.
Clearly there are a range of possible outcomes given the current backdrop, but we remain confident in our balance sheet positioning and corresponding them trajectory.
And while we've seen pressure to our full year NIM outlook.
We see a steady migration of up to 4% overtime, even without the benefit of rate cuts.
Moving to slide 12, our CET, one ratio increased quarter over quarter to nine 3% given our disciplined approach to capital allocation.
Now another quarterly common dividend of <unk> 30 for the third quarter and.
And loan growth will be modest and focused on attractive risk adjusted returns.
At current levels, we exceed our 7% regulatory minimum for CET, one by three 7 billion.
While I was not subject to this year's DFAST exercise, our stress capital buffer remains unchanged at the minimum two 5%.
The bottom right provides our current TCE ratio and a pro forma view of CET, one in the unlikely scenario, where the OCI filter is fully removed.
Even without the expected benefit of a gradual phase in pro forma CET. One at six 9% is in line with our 7% regulatory minimum and is expected to increase naturally.
As a reminder, nearly all of our securities portfolio as housing assets.
We don't have a large unrealized loss sitting in held to maturity.
And we have continued to allow the securities portfolio to roll down with minimal reinvestment over the past 12 months.
Let's turn to slide 13 to review asset quality trends Consol.
Consolidated net charge offs of 116 basis points were down quarter over quarter as we saw a typical seasonal trends, partially offset by a specific charge off within corporate finance.
The charge off within corporate finance added 16 basis points to the consolidated rate.
This exposure was fully reserved for previously and did not impact provision expense in the quarter.
Retail auto net charge offs 132 basis points were down versus the prior quarter, but slightly higher than prior guidance.
We continue to see mostly offsetting impacts of elevated loss frequency and favorable severity benefiting from higher used values.
I'll cover our retail auto charge offs in more detail shortly.
In the bottom right 30 day delinquencies increased 36 basis points quarter over quarter more specifically the 30 day delinquency rate rose less than we typically see in a normalized environment.
Delinquencies will increase seasonally through out the second half of 2023, and we continue to assess the impact of inflation.
But the investments we've made will support our ability to communicate with consumers and mitigate losses.
Slide 14 shows that consolidated coverage declined two basis points to 2.72% given the release of specific reserves related to the corporate finance charge offs mentioned previously.
The total reserve balance of $3 8 billion was flat quarter over quarter and is $1 2 billion higher than seasonal day one.
Our macro assumptions assume worsening employment conditions with unemployment, reaching four 6% next year before increasing to approximately six 2% under a reversion to historical mean methodology.
Retail auto coverage increased two basis points to 362% and remains well above the 334% until day one.
The remaining weighted average life of our retail auto portfolio remains under two years demonstrating the coverage we have for expected lifetime losses of this portfolio.
On slide 15, we share credit trends, we've seen so far through June and our outlook for the year.
As noted previously we ended the quarter with Npls of one, 3%, which were slightly elevated versus expectations.
The drivers of this increase are consistent with the themes, we've talked about today and on our prior earnings call.
Delinquencies entering the quarter were elevated as we did not see the typical seasonal decline coming out of tax refund season earlier this year.
Flow to loss rates remained stable and favorable to pre pandemic levels, but we did see elevated loss frequency late in the quarter.
Those losses occurred at the same time the industry several weeks of declining wholesale vehicle values, which further added to the pressure to the ended the quarter.
While delinquencies remain a watch item we saw the smallest second quarter increase in 30 day delinquencies since the pandemic and year over year increases continue to decline.
Used vehicle values are a driver of loss severity and we feel our assumed decline in the second half of the year is appropriately conservative.
On the bottom left we've again provided quarterly loss expectations, which result in a full year loss rate of around one 8%.
On the right side, we have included a summary of some of the key underwriting decisions. We've made as we leverage detailed segmentation and analytics to optimize risk adjusted returns.
Slide 16 provides our latest view for used vehicle values given performance year to date Whatsapp values increased 5%.
We are currently forecasting a 12% decline in values across the back half of 2023, which would result in a full year decline of 8% roughly in line with what we shared last quarter.
Beyond 2023, we expect elevated values relative to pre pandemic levels, given the constraint on used vehicle supply.
Turning to slide 17, retail deposits 139 billion increased $486 million quarter over quarter, and seven 8 billion year over year, demonstrating the strength and resilience of our leading franchise.
Accordingly, insured balances were up $1 3 billion this quarter and represent 92% of total balances.
Total deposits of 154 billion or up $14 billion year over year.
Following record customer growth in the first quarter, we added another 86000, new customers, our 57th consecutive quarter of growth.
More than 10% of deposit customers now have a relationship with ally invest home or credit card.
And we see opportunities across ally is growing customer base as we expand and deepen relationships as consumer preferences continue to migrate toward digital offerings.
Moving to slide 18, our digital bank platforms provide diversification and deepen consumer relationships.
Ally invest complement the deposit franchise as well as 85% of new accounts were from existing customers as they leverage the ease of money movement between accounts with an ally.
Our credit card added 49000, new cardholders in the quarter now $1 1 million strong.
Balances increased a modest $100 million, reflecting our discipline given the current backdrop.
Going forward, we will continue to look for opportunities to prudently market to the existing ally customer base.
Ally lending, it's focused on deepening merchant relationships within home improvement and health care verticals.
By credit card, our disciplined approach to underwriting and capital allocation resulted in a modest growth quarter over quarter.
Let's move to slide 19 to cover auto segment results.
Pre tax income of $501 million reflected pricing momentum along with that higher provision expense.
On the bottom left we highlight the intentional shift we made in our origination profile over the past several months.
Uncertainty in the market has caused a number of lenders to reduce or exit their position in the marketplace, creating an opportunity for ally to win incremental business.
Our strategy to drive overall application volume and increase the top of the funnel enables us to see the entire market and focus on risk adjusted returns.
The bottom right chart summarizes lease termination trends.
While used values decline from March to June average auction proceeds were slightly favorable quarter over quarter.
A higher number of lease terminations in the period also led to an increase in remarketing gains versus the prior quarter.
Slide 20 highlights a few ways in which the auto business continues to evolve and develop in order to serve our dealer customers, even better while driving attractive economics for ally.
Smart auction as our web based auction platform that enable a dealer to dealer transactions generating fee revenue per ally, while providing real time data on market pricing and trends.
Despite a meaningful reduction in industry volume.
<unk> revenue is projected to be up more than 60% versus 2019 and unit volume up more than 50% since just last year.
We see tremendous opportunity to leverage our platform for additional white label relationships, providing efficient incremental revenue.
On the right side of the slide we highlight pass through program revenue.
Given our strategy to drive increased application volume mentioned above we now see more than 1 million applications per month, allowing us to be selective and maximize risk adjusted returns.
For certain loans that do not meet our underwriting criteria reroute those application to relationship partners.
Ally received a fee for the origination and services alone, allowing us to generate efficient revenue, while leveraging the scale of our servicing platform.
Both initiatives represent opportunity to further expand allies other revenue and demonstrate the strength and breadth of the auto finance franchise.
Turning to slide 21, our unique scale and deep dealer relationships allow ally to engage in and support EV adoption as the market develops.
Nations of 347 million are up 42% year over year and represent our single highest quarter IBP originations demonstrating our reach in the marketplace.
Consumer EV portfolio balance of $1 5 billion diversified across lease in retail and Oems and consists of plug in hybrid and battery electric vehicles.
As we've highlighted previously the synergies between auto and insurance are a competitive advantage for ally and benefit our dealer and consumer customers.
In October of last year, we introduced a new insurance product designed specifically to cover plug in hybrids and battery electric vehicles.
Our approach to Evs is consistent with our overall auto strategy to adapt to changing environments focus on our core strengths and drive accretive returns.
Our history of financing Evs goes back more than 20 years, and we remain well positioned to support dealers and customers as consumer preferences evolve and EV adoption grows.
Turning to slide 22, we remain focused on leveraging our differentiated go to market approach coupling high Tech and high touch which has generated significant scale and a competitive advantage.
<unk> application volume of $3 5 million and 29% approval rate reflects a selective way in which we deploy capital.
Ending assets in the top right were up slightly quarter over quarter as commercial balances gradually increase alongside modest growth in retail auto.
Originations of $10 $4 billion on the bottom of the page display the scale of our franchise and the compelling volume, we're able to generate despite tighter underwriting criteria.
Year to date, nearly $20 billion of origination volume puts us on track to originate around $40 billion. This year.
Additionally, used comprised 64% of originations, which was flat quarter over quarter as we progress through the typical used vehicles selling season and down five percentage points year over year, given the underwriting actions we've taken in recent quarters.
Non prime represented just under 10% of retail originations in the quarter.
Turning to insurance on slide 23, a core pre tax loss of $16 million was the result of seasonally higher weather losses, along with normalization of GAAP losses, given decline in used car values.
Keep in mind, we do have reinsurance in place for weather losses to limit our total exposure, but following several years of favorability, we saw weather activity more in line with historical averages.
Written premiums of $299 million increased 14% year over year as we remain focused on increasing dealer relationships and benefit from normalizing inventory levels.
As a result of the momentum in written premiums earned premiums were up $27 million year over year with further expansion ahead.
Our focus remains on leveraging the scale, we've established within auto finance and highlighting our full spectrum products weaker dealers driving further integration of insurance across our auto dealer base.
Corporate financial results on slide 24.
Core pretax income of $71 million reflect a disciplined portfolio growth and the benefit of higher interest rates given the entire portfolio is floating rate.
The charge offs referenced earlier resulted from a vertical we no longer originate and didn't impact second quarter results given specific reserves posted in prior periods.
The portfolio remains high quality with roughly 60% asset base and effectively 100% of loans are in a first lien position.
<unk> portfolio balance of $10 1 billion has remained relatively flat year to date with modest growth expected to the rest of the year, reflecting the team's discipline and focus on maximizing risk adjusted returns.
525 includes details for mortgage.
Mortgage generated pretax income of $21 million and $267 million of DTC originations.
We're not tied to any specific origination target and instead remained focused on a great experience for customers and have considerably reduced the expense load of the business in light of market conditions.
Yeah.
Slide 26 contains our financial outlook for 2023.
The operating environment remains dynamic and despite the difficulty in providing granular guidance. We've continued the transplant approach we've taken over the past several quarters.
As we've highlighted previously our guidance is based on expectations for interest rates, specifically fed funds, which continues to change rapidly.
At the end of the first quarter the market was expecting a peak fed funds of five 5% followed quickly by rate cuts with fed funds ending the year at four 5%.
At the end of the second quarter the market expected fed funds of five 5% through year end, a full 100 basis points higher than previously expected.
Given the nationally library sensitive nature of our balance sheet that will put incremental pressure on NIM and see full year NIM of around three 4% or 10 basis points lower than our previous expectations.
Our expectation for full year 2023, other revenue is closer to $1 9 billion, mainly due to some of the onetime items. We recorded earlier this year, but.
But we remain confident in our ability to get to that $2 billion annual figure.
As we've covered previously retail auto portfolio yield is still projected around 9% while funding costs have moved up given the changes in benchmark rates and the intense competition for deposits.
Retail Ncos are expected to be at one 8% for the full year.
No change to operating expense as we limit spend to non discretionary costs or essential investments.
We keep the tax rate closer to 18% for the year as we have had solid momentum generating EV tax credits and expect that trend to continue.
While elevated and increase in interest rates are a headwind we expect most of the tightening cycle is behind us and have positioned the balance sheet for margin and earnings growth over the medium term and remain confident in our ability to continue to execute and drive long term profitability.
I'll turn it back to JB. Thank.
Brad the strategic priorities, which guide everything we do our unwavering and essential for long term success.
First and foremost is ensuring we maintain strong alignment between our culture and our stakeholders.
We're focused on highlighting the differentiated offerings across our businesses for both consumer and commercial customers will continue finding ways to disrupt the industry and remove friction for customers by delivering leading digital experiences.
And even more important in this dynamic environment is our disciplined approach to risk management and capital allocation.
I remain incredibly proud to lead our company and over time I'm confident that these priorities will help us deliver value for all stakeholders.
Before I close I want to take a minute to thank Brad for the exceptional job. He has done serving as both the interim CFO and corporate treasurer over the past nine months that would have been a huge task in a normal operating environment in the last nine months have been anything but that Bryan seamlessly expanded his responsibilities to <unk>.
Lead the entire finance organization and the team continued to excel in everything they do.
Thank you on behalf of the entire company.
And with that Sean I'll turn it back to you and head into Q&A. Thank you Jamie as we head into Q&A, we do ask that participants limit yourself to one question and one follow up Carmen. Please begin the Q&A.
And as a reminder to get in the queue simply press star one one to get in the queue.
One moment, while we compile the Q&A roster.
Our first question comes from Sanjay <unk> with <unk> BW. Please proceed.
Thanks, Good morning.
Appreciate all the commentary.
Maybe we could just dive into the NIM migration next year I think Brad you mentioned do you see a path to the 4% could you just talk about timing of how we get there obviously it sounds like you guys are able to go up market.
And I assume that that has an impact on the yield but it also should have a better impact on provisions. So maybe you can just talk about those moving dynamics, there and maybe risk adjusted margins as well.
Sure, Yes, good morning, Sanjay So a couple of things.
As we called out the two biggest drivers of that trajectory.
Being the retail auto portfolio yield, which you highlighted as well as really cost of funds pressure that we've experienced given the continued volatility and certainly increase we've seen in short term rates all of that to say.
You know that.
Those dynamics has really led us to get down to that sort of three 4% for full year 2023, and then a couple of things I would mention just around you highlighted it as well around what we've been able to really pass through from our retail auto yield perspective, they're balancing risk adjusted returns, which again are.
Historical highs in terms of what we continue to see there and the balanced approach we've taken.
Around maintaining those risk adjusted yields.
Certainly lost content or expected loss content as well.
Then the cost of funds side.
Again, just continued volatility in short term rates.
From an overall deposit pricing perspective, which is the biggest driver there.
We feel like when you look at the performance that we've had over the first half of the year, we're very pleased with overall.
When you consider a number of things one short term rates of course.
We highlighted the intense competition for deposits, both among banks banks, but with alternative investments as well as being attractive dynamic there and banks I mean, one of our premise has always been that direct banks will have a competitive advantage given the rate that we pay.
We've seen a pretty big pivot in terms of aggression really across the industry on rates paid on deposits. So that certainly has put pressure.
On those rates. So when you think about ally more specifically when you look at the first half we've grown record customers in the first quarter. We grew another 86000 this quarter if thats not a record for first half. It's certainly a second best ever at the same time, we've grown balances and retention and engagement remains very high.
All of this and not being a really lagging at least certainly the top five payers on liquid products. So all of that to say once we get past the peak in fed funds and they pause.
We will expand margins from there may be a quarter or two later when you go into the <unk>.
Full year 2024, that's when we really expect to see that margin expansion, which will be a primary driver of that long term trajectory of profitability.
Okay, Great and then.
Maybe you could just help us think about like reserve coverage on a go forward basis, because you do have the higher losses, but the delinquency rate seems to be trending in a positive direction and then you might have a more favorable mix shift maybe you can just help us think about the reserve coverage going forward sure yes.
You saw us take that up a little bit in retail auto by a couple of basis points this quarter.
And I think Thats really directionally, when we think about.
The activity in the actuals that we saw in the second quarter, we entered the second quarter as we've talked about with elevated delinquencies the seasonal decline that we expected in the first quarter, we didn't see as much but we did see an increase less than expected here in the second quarter and so we're also really navigating that with this backdrop.
Persistent inflation, and just higher demands and financial obligations for for our customers and couple that with potential higher loss frequency, we talk severity aspect that in our assumptions there all of those dynamics together kind of lead us toward that one 8% for full year 2023.
So when you when you think about that we don't see a significant coverage.
Anticipated coverage.
For retail auto certainly is the biggest driver given those dynamics and then again.
That is supported through the 12 month reasonable and supportable forecast that we have.
And then a reversion to the historical mean from there.
Okay, great. Thank you.
Thank you one moment for our next question. Please.
One moment please.
Alright, and he comes from the line of Betsy <unk> with Morgan Stanley . Please proceed.
Yes, Hi, this is Jeff adelson on for Betsy and good morning.
Hey, Jeff Good morning.
Yes, so just wanted to dig into the NIM trajectory a little bit more it seems like youre looking for the back half of the year NIM to kind of hold steady to maybe a little bit lower from here just wanted to maybe dig into the components a little bit more and how we should be thinking about the trajectory of your deposit funding I know you have the OSA at about 4%.
Today, we're one year Cds at about $4 85, and I realize you're guiding to in OSA of about four 1%, but just given that the competition is already above that today one of your competitors just range today, just wondering how youre thinking about offsetting.
Funding costs, and maybe how we should be thinking about higher for longer rate environment into 2024.
Yes sure Jeff.
I'll take a stab so I guess from a deposit deposit pricing perspective, I know assay, where we are at 4%. If you kind of look at how we've kind of price through the journey here in the tightening cycle right. We expect that the market does another hike next week. So when you think about.
What I would tell you is we anticipate that fed hike in our guidance that we provided right.
That certainly is factored in.
As well and then all the other elements that I talked about as well in terms of intense competition.
Just continued pressure on rates all of those are embedded in that balance as well and then importantly, we expect the portfolio portfolio yield will migrate toward as I said.
The liquid rates that we're paying as well so that's the deposit pricing side, which is a huge driver now to your point. We have also been highlighting the fact that this near term pressure.
We've been doing is really positioning the balance sheet, where we can by converting our swapping fixed assets to floating that really is a.
A significant benefit to us, particularly as the bridge to help mitigate some of this pressure near term for example.
It's probably $200 million or so just in NII this quarter, which also translate to translate to significant benefit to <unk>.
The sculpting of that no still it really does help here until sort of early 2024 or so so to me that also is embedded in the guidance of us.
In terms of the long term.
Longer term NIM NIM views as well.
Jeff Thank you.
<unk> got it ballpark right I mean, we see sort of drop in NIM.
Approaching some point later this year and I think as Brad mentioned in his.
Response to Sanjay I think a quarter or two after that.
That is done.
And we can all gas when that's going to be youll start to see pretty rapid margin expansion and then to the extent you get eases that really starts to accelerate but I think your timing around.
You are getting closer to a sort of a bottom is spot on.
Got it that's helpful and.
We think about the credit outlook from here.
The updated color on the trajectory from here.
Do you have an update on how you're maybe thinking about 2024 as we're sitting here almost six months away and I know before you talked about getting that back down to a retail auto loss rate of one 6%.
How are you thinking about that and maybe relative to the prior update you'd given us on the second half 'twenty two early 'twenty three vintage performing better than me.
Prior year vintage are you still seeing that or is there an update there.
Sure.
I'll start so I guess really.
Rates to the 24, our expectations around auto NCO. So you did see us kind of guide after the one a higher end of the range here for this year I think a number of things obviously are dependent there right in terms of this obviously the macros and certainly where were they go I think that one of the things that we highlighted in the earnings presentation.
Was this sort of slowing in both quarter over quarter and year over year increase in delinquencies and net charge off trajectory as well I think some of that's factored in as we continue to migrate through 'twenty three here and into 2024.
And then to your point those sort of earlier, let's say more front book type of vintages have been.
More of that.
Impact in terms of what we're seeing both on those elevated delinquencies as well as ultimate charge offs.
And so those also.
Our driver and we kind of spelled out where we see those vintages vintages.
Each in their peak loss periods all of Axa SA 2024.
Given the guide that we have.
Given for 'twenty, three we would see some of that most likely bleed into 2024 as well.
Given those dynamics and then we can't lose sight of the fact that risk adjusted returns are again higher than ever and when you think about the underwriting actions that we've taken tied to Titan.
And all the dynamics there coupled with the investments we continue to make in servicing and collections, we feel pretty balanced about how we're teed up to net.
Navigate the rest of this year and certainly 24 again continued upon the macro backdrop shifting and I think on that pricing Powerpoint the other thing as.
Look.
Imperative environment right now for us is pretty sweet.
<unk> seen a number of players decide that they want to exit auto lending and so that makes for a pretty rich set for us I think obviously with respect to chase I'm sure you've looked at their originations last week I think quarter over quarter. They were up in the neighborhood of 30%. So there still for people that are in.
And committed like chase like cap one like ourselves.
<unk>, a very attractive market opportunity at very aggressive returns right now so we recognized a credit maybe a little bumpier than expected, but the rois that we're putting on are pretty much at lifetime highs for the company and so we like the business you've got to have scale and I think for the players left that are consistently there it's a really attract.
That market for us.
Great. Thanks for taking my questions.
Thank you one moment for our next question. Please.
Alright, and it comes from the line of Ryan Nash with Goldman Sachs. Please go ahead.
Hey, good morning, guys.
Hey, good morning, Brad.
Maybe I'll switch gears, a little bit so.
The expense guide appears to be a little bit of a step down in the back half of the year and I think you guys mentioned, a little bit more of a hard to look at cost can you. Maybe just talk about some of the drivers of the step down ex the weather related insurance costs.
Given the potential for slower, earning asset growth could we see expense growth start to flatten out in the coming quarters.
Yes, Brian I think youre spot on so first.
The trajectory on the first half of the year is definitely richer than what we see on the back half of the year and I think the <unk>.
<unk> three months the entire leadership team is really.
Appropriately responded to a message of clamping down on all fronts.
<unk> largely outside of kind of new hires and new interns and one offs here and there we've effectively pause hiring as a corporation. There is not a hard mandate per se, but I think gives a very.
High hurdle rate to bring on new talent into the company right now and so we see.
The back half trajectory this year being much different than what we experienced for the first six months of this year and so that starts to get you back in line with the overall expense guide that Brad gave and then I think the <unk>.
Message into 2024, which clearly on on the analyst communities mines is going to be a.
A much different trajectory I mean, we've supported a lot of growth they've been it's smart areas like technology and brand and continued hiring in the company I think just recognizing the environment, we're in and it's going to be a much different story entering 2024, and yes. They are uncontrollable things like you alluded to FDIC fees and things like that but I think the <unk>.
<unk> the things that are within our power expects a very different expense trajectory out of the company going forward.
Got it and maybe as a follow up I think Brad highlighted.
<unk> capital ratio being around 7% JP or Brad can you maybe just talk about how you expect to manage capital over the medium term just given the need to get back to this let's call it 9% plus level and maybe if there are any optimization strategies across the balance sheet that you could potentially pursue to get capital back towards your targeted levels. Thanks.
Yeah, Ryan So I'll start Brad feel theory, or Russ feel free to die then.
I think one we showed that kind of fully phased in as just the draconian view I think the reality is.
We're hearing anywhere from two years to five years as an appropriate phase and so.
We're waiting to see but I think our point was look even if you jam this down or threats on day, one we're already basically at the regulatory minimums. So there is not a problem per se, there's not a need to go do anything out of line and I think that an important reminder, that Brad gave in his prepared remarks.
<unk> HTM.
The company has chosen <unk> for a reason and guests at present, some more volatility in some more pressure, but I think it affords us a lot more flexibility.
I think you see that when you look at our TCE ratio relative to others that are out there and so for us managing capital is going to be very appropriate, but I think we're waiting to some degree on regulatory clarity as to how this all times out I think for now.
Dividends well intact, we announce that and that's full speed ahead with buybacks I think we continue to be in no buyback mode for the moment right now.
We have had conversation around optimizing certain assets on balance sheet. We don't think that's necessarily a push to do but these are things. We constantly look at and we will continue to look at and so for now Ryan we feel really good about the state of capital level of capital obviously, 9% is.
Our baseline internal target and we think you will gradually get up there, but some of this just depends on the time and pace in which we get.
Our message out of DC sat on how these things pan out.
Thanks Niccolo Jamie.
Got it thanks, Brian .
One moment for our next question please.
And it comes from the line of Erin <unk> with Citi. Please proceed.
Thanks, I was wondering if you could talk a little bit about the health of the auto market.
We're seeing commercial loans start to rise a bit but still below pre pandemic levels.
The mix of new users could change over the next couple of years.
Yes, Aaron Thanks, Thanks for the question I'll start again feel free to dive in.
Overall health of the market.
It's pretty solid right now I mean, a couple of things I'd point out.
We're still very much supply constrained and while <unk> seen some gradual uptick in inventories and you've seen commercial balances migrate slightly higher we're still in a relatively constrained market.
And particularly that it differs by OEM by OEM, but I think overall, we still see things being very constrained and obviously that provides support for the used car market and you see where we continue to be a big player. There I think on the dealer health front, you've probably noticed there were.
A couple of charge offs in the dealer space today I mean these were dealers that we had on watch and I think that's just got to be a trend that we evaluate we think overall dealer health is still really good but.
Is that kind of a newer development, we had a net recovery last year and we've had effectively no charge offs. There. So this is just sort of a new dynamic that's out there, but I think generally speaking the big dealers, let we tend to do business with that are our largest relationships are still seeing really strong profitability really strong results really strong.
Consumer demand so things are really supported there the online players obviously carvana was out this morning with some announcements on their restructuring and demonstrating good earnings trends there so net net.
We see the industry overall still being very healthy and I think very supportive for where we play.
And maybe just add a couple of comments on balance sheet.
And overall, earning asset perspective auto assets of $115 billion or so we've done a little bit of trade as commercial balances have been down a little more retail auto.
So from a capital connection perspective, we really don't have aspirations to see that change and I think we have opportunity between both of those into JV points. We've seen commercial balances normalized slowly we don't expect them to get back to where they were anytime soon pre pandemic and so again feel good about our ability to support our customers while also being disciplined on.
<unk> allocation.
Thanks.
On credit cards, you are growing at a nice pace.
Obviously really small relative to your balance sheet that we.
Can you remind us what kind of credit quality customer youre, putting into that book as you grow that.
Sure.
Thank you.
It's really not that different when you think about sort of overall average FICO retail auto being around 700 ish today.
Credit card it is most likely in that range as well.
Then for US credit card is.
Significant opportunity to really expand and deepen relationships as we've talked about and certainly white space right, which is one of the reasons. We entered that market back in December of 2021. So at JV highlighted in his remarks. The journey continues there theres a lot of opportunity right for us to really expand.
Cross allies totaled 11 million customers and so I think.
If that opportunity is great at the same time, we are very mindful of the unsecured risk and the nature of that book, but also our continued allocation of capital, particularly in this uncertain backdrop, so very careful and disciplined in that approach as well.
Thank you.
Thanks, Erin Thank you one moment for our last question. Please.
And it comes from the line of Rick Shane with J.
J P. Morgan. Please proceed.
Thanks, everybody for taking my questions and Russ welcome and Brad. Thank you for all the help over the last year.
Just wanted to talk a little bit last quarter. There was commentary that the flow to loss ratios were pretty good.
I'm curious in the context of what Youre seeing with loss severities potentially picking up in the second half given your outlook for used car prices.
If you think that there will be a rational expectations.
Behavior of higher loss frequency as used car prices decline and consumers potentially increasingly strategically default.
Yes.
Good morning America I. Appreciate your comments there are a couple of quick things I know.
At a time here.
The flood of loss perspective, two things I would say.
Stable and still favorable versus pre pandemic levels. So thats certainly a positive.
We talked and highlighted.
Loss severity as well and given the youth.
Vehicle dynamic we also highlighted given the year we have seen.
Dynamics in value is different than we initially expected, but we're now for the second half of this year assuming no further.
10, or 12, it would have to be a 12% decline so all of that and sort of factored into our guidance and expectations and we look at the NCO rate of full year one 8%.
Got it yes look the math for the second half by quarter is very very helpful. As we think about things.
Okay great.
Thanks, Scott Thanks, Brad.
Thanks for your comments. Thank you everyone showing we're a little past the hour. That's all the time, we have for today. If you have any additional questions as always please feel free to reach out to Investor relations. Thank you for joining US. This morning that concludes today's call.
Okay.
Thank you and this concludes today's conference you may now disconnect.
Okay.
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