Q2 2023 Webster Financial Corporation Earnings Call
Bye-bye. Thank you for your patience. Please stay on the line for the next available operator.
Subsequent slides things remained stable from an overall credit perspective, while we do not see any significant signs of broad credit weakness, we continue to act prudently and proactively with respect to managing our existing loan portfolio and Onboarding, new credit given the existing macro uncertainties.
I want to once again touch briefly on our office portfolio you can see that on slide five as that has continued I know to be an area of market focus we have proactively reduced the size of our non medical office portfolio, which is now down by almost $400 million over the last year or roughly 25%.
We have done so without incurring significant losses as our charge off rate on this relatively small portion of the office portfolio is under 2% on an annualized basis.
The overall credit characteristics in this portfolio have not changed materially as you can see in the figures we provided on Ltvs debt service coverage and other metrics, while our criticized and classified loans are up modestly from last quarter. They are down relative to fourth quarter and the year ago period, given the proactive actions we've taken.
Assistant with my comments above while we are pleased with performance to date, we fully appreciate the changing dynamics in commercial real estate and we continue to manage our portfolios and credit selection Accordingly, and prudently I'll now turn it over to Glenn to provide more details on the quarter.
Thanks, John and good morning, everyone I'll start on slide six with our GAAP and adjusted earnings we reported GAAP net income to common shareholders of 231 million earnings per share of $1 32 on an adjusted basis. We reported net income to common shareholders of 261 million and EPS of $1 50, excluding one time.
Merger related expense of $30 million merger expenses were primarily related to professional fees severance and technology costs.
Next I'll review, our balance sheet trends beginning on slide seven.
Total assets were <unk> $74 billion at period end down $800 million from the first quarter largely as a result of shifting from on balance sheet cash to off balance sheet liquidity sources at quarter end, we held $1 billion in cash on the balance sheet, which approximates the level of cash we anticipate holding going forward.
Loan growth was 700 billion, principally driven by commercial banking.
Our security balances were relatively flat in the quarter as we reinvested proceeds from maturities and sales.
<unk> grew $3 5 billion in the quarter and reduce our borrowings by more than $4 billion.
Deposit growth was achieved despite a 700 million seasonal decline in public funds quarter over quarter.
As a result of the loan and deposit growth our loan to deposit ratio was 88% at quarter end down from 92% the prior quarter.
Our capital levels remain strong common equity tier one ratio was 10, 66% and our tangible common equity ratio was seven 3% tangible book.
Value increased to $29 69, a share with retained earnings exceeding the impact of OCI and a small share repurchase unrealized.
Security losses included intangible book value increased to $645 million after tax for $560 million last quarter driven by higher rates.
And a steady interest rate environment, we anticipate roughly $100 million of this will accrete back into capital annually.
Loan trends are highlighted on slide eight total we grew loans by $700 million or one 4% on a linked quarter basis.
Loan growth was concentrated in the commercial bank, where we continue to see opportunities in strategic segments C&I grew $85 million with additional with an additional $125 million in sponsor <unk>.
Real estate was up $150 million mortgage warehouse grew $235 million consistent with seasonal trends and residential mortgage grew $140 million the yield on our portfolio increased 26 basis points, excluding accretion the loan yield increased 27 basis points.
Floating and periodic loans remained at 60% of total at quarter end.
We provide additional detail on deposits on slide nine total deposits of $3 5 billion from prior quarter or six 2% growth was primarily driven by inter linked in time deposits.
Time deposit growth was driven by $1 9 billion of brokered deposits and $900 million in consumer banking Cds.
Roughly half the consumer time deposit growth was from existing clients shifting into higher yielding products.
<unk> was from the balance increase of existing clients and a quarter of the growth came from new clients.
Commercial deposits grew 700 billion when excluding the seasonal decline in public funds. We have started to recapture funds that were diversified across financial institutions earlier. This year, we're seeing new opportunities for growth in transactional accounts.
Total deposit costs were up 61 basis points to 172 basis points for accumulative cycle to date total deposit beta of 34%.
On slide 10, we have updated the forward progression of our deposit beta assumptions, we anticipate a total cumulative deposit beta of 40% by the first quarter of 2024, which is up modestly from our prior projection due to client preferences for higher yielding deposit products.
Can see in the chart on the right. We expect the pace of our deposit cost increase to moderate over the next few quarters.
Moving to slide 11, we highlight our reported to adjusted income statement compared to our adjusted earnings for the prior period.
Net interest income was down $11 5 million, one 9% linked quarter, primarily reflecting increased funding costs.
Adjusted noninterest income was up $2 million, while expenses remained effectively flat. The net interest margin was 335% down 31 basis points from prior quarter with 12 basis points from temporary actions to increase our liquidity position.
And the efficiency ratio was 42%.
I'll discuss each major line item on subsequent slides.
On slide 12, we highlight net interest income, which declined $11 5 million linked quarter or one 9%.
Net interest margin, excluding accretion decreased 30 basis points from the prior quarter.
Our yield on earning assets, excluding accretion increased 24 basis points over prior quarter and the total cost of funds was up 58 basis points. The change in the cost of funds was driven by a mix change in deposits as well as additional liquidity we added early in the quarter.
A significant driver for the linked quarter decline in NIM with an increase in the average balance sheet liquidity of $2 6 billion. While this did not impact net interest income. It is 12 basis point impact on our NIM relative to the prior quarter.
Higher funding costs drove the remainder of the decline the deposit competition.
On slide 13, we highlight our noninterest income for the quarter on an adjusted basis noninterest income was up $2 million linked quarter. The primary driver was an increased valuation marks on the client hedging activity.
Transaction activity tied to commercial clients remained slow in the second quarter, but we're seeing some signs of modest improvement in the coming quarters. The.
The year over year decrease was primarily driven by $12 million and lower client hedging activity $7 million lower loan related fees $6 million and lower client deposit fees $4 million due to the outsourcing of our consumer investment services platform.
Noninterest expense is on slide 14, we reported adjusted expense of $303 million in line with the prior quarter a reduction in professional fees and technology expense.
Set by higher employee benefit expense and deposit insurance.
Slide 15 detailed components of our allowance for credit losses, which was up $15 million over prior quarter.
After recording $20 million and net charge offs, we incurred $35 million and provision expense to loan growth representing $8 million and the remainder due to changes in the macroeconomic forecast.
You see our allowance coverage to loans increased slightly to 122 basis points.
Slide 16 highlights our key asset quality metrics on the upper left nonperforming assets increased $35 million from prior quarter nonperforming loans represent 42 basis points of loans.
Forming assets remain within the range of the past year and are down $28 million from a year ago.
Commercial classified loans as a percent of commercial loans declined to $1 three 9%, 147%. Despite defied loans declined $25 million on an absolute basis.
Net charge offs in the upper right totaled $20 million or 16 basis points average loans on an annualized basis.
Notably, we divested $80 million in commercial real estate loans in the quarter vast majority of watch for secured by office properties. These divestitures generated $13 million charge offs.
On slide 17, we continue to maintain strong capital levels, all capital levels remain in excess of regulatory and internal targets are.
Our common equity tier one ratio was 10, 66% and our tangible common equity ratio was seven 3%.
Tangible book value increased to $29 69, a share.
Putting the best Mark on our securities portfolio common equity tier one ratio would be approximately nine 4% as of June 30.
We don't anticipate will be subject to explicit changes to the regulatory capital requirements, but are well prepared for any potential changes as evidenced by our capital ratios inclusive of OCI and our strong liquidity position.
I'll wrap up my comments on slide 18, with our full year outlook, we expect to grow loans in the range of 4% to 6% with growth focus and strategic segments, we expect to grow core deposits, 8% to 10% the year end loan to deposit ratio in the mid eighties we.
We expect net interest income of $2 $350 million $2.375 billion on a non FTE basis, excluding accretion.
$25 million of accretion would be added to net interest income outlook for those modeling net interest income on an FTE basis, I would add roughly $65 million to the outlook.
Our net interest income outlook includes the growth expectations above along with a 25 basis point fed hike next week, assuming the fed funds rate will remain flat for the remainder of 2023 at five 5%.
We currently expect NIM to improve by 10 to 15 basis points from the second quarter level to the remainder of the year non.
Noninterest income should be in the range of 355 365 level for.
Core expenses are expected to be in the $1 2 billion $1 $225 million range with an efficiency ratio in the $40 to 42% range, we expect our effective tax rate in the range of 22%.
We will continue to be prudent managers of capital capital actions will be dependent on the market environment. We continue to target common equity tier one ratio of 10, 5% with that I'll turn it back over to John for closing remarks.
Thanks, a lot Glenn I'll wrap up my remarks today with a short update on our integration and strategic path forward.
We're approaching an important integration milestones this weekend with the conversion of our core operating systems. As many of you are aware, we took a deliberate and thoughtful approach to the conversion of our core a tremendous amount of work has gone into this event as our teams have been working diligently to accomplish the smoother experience possible for our clients while at the same time, maintaining the level of service.
I've come to expect we completed three mock conversions over the first half of 2023 and have been proactively communicating with clients in recent weeks, we have already enabled our entire ATM network to access our consolidated core and our frontline colleagues have been trained on new systems and procedures several of our back office systems have already been.
<unk> and we're excited to complete this meaningful steps from an operational perspective post conversion, we will be able to accelerate our strategic technology plans and we'll be in a position to further realize additional synergies I want to thank all of our colleagues who are focused on the conversion whether in a dedicated role or through our continued focus on taking care of our clients.
Across our footprint.
We will continue to invest in and grow products and capabilities as we deliver a superior experience to our clients and we simplify business processes for colleagues and other business partners as investors and business partners Youll continue to see the full capability of this company Webster's, earning power is strong capital and funding profile differentiated.
<unk> businesses colleague talent and engagement are all attributes that enable webster to generate peer leading returns through a variety of operating environments will utilize our strong operating profile and flexible capital position to continue growing share in our key markets and business segments allocating our resources to the highest return opportunities to maximize.
Economic profit all within our disciplined risk management framework.
Thank you all for joining us today, operator with that Glenn and I will be happy to take questions.
At this time I would like to remind everyone in order to ask a question. Please press Star then the number one on your telephone keypad.
Your first question comes from Christopher Mcgratty with Keefe Bruyette <unk> Woods. Your line is open.
Hey, good morning.
Thanks for the updated guidance Glenn on the NII, maybe you could talk through that the ranges of NII the range of outcomes is.
Is it more about the fed is it more about competition.
What would it take at this point for you to take a different view.
NII.
Yes, so Chris I think it is probably primarily driven by <unk>.
Increased deposit cost increase funding cost as a whole and so thats.
That's why we adjusted that range down a little bit.
The second part of your question was.
Hello.
It's probably a combination yes, I'm sorry, Chris John its combination of our assumption of FX of one with one more rate hike and just general deposit competition as you see we see NIM expansion coming off this quarter because of the dynamics in our balance sheet, but also because of our floating rate loan book and the pace at which we think.
Posit costs will grow plus we have some some good guys coming in the third and fourth quarter with respect to kind of core commercial growth seasonal growth in lower cost government deposit. So that's kind of what factors into where we are with with obviously the governor being just overall higher deposit and funding.
Costs industrywide.
Got it. Thanks, Thanks for that in terms of just the regulation right Youre comfortably below 100, but.
Obviously I think the market will expect at some point youll be there can you just talk through.
The expense angle potentially that you're thinking about and also how your capital targets may evolve and capital return strategies may evolve.
Yes, Chris it's a great question and obviously, we're spending a lot of time thinking about it I think it's too early to even throw out kind of a wild guess on cost I think the reality is even if you are at 85 billion.
Trickle down effect that the way Youre regulated you certainly need to begin being prepared I actually think our infrastructure with respect to the stress testing and the way we measure liquidity, we've held ourselves to LCR.
Long time, even when we didn't have to meet and even pre merger. So I think we have the infrastructure to deal with whatever regulations come down so I think.
More than internal costs right I think the impact would be as exactly as you intimated at the end there would be higher capital levels higher liquidity requirements that would have an economic kind of impact on the bank. If we have to hold more liquidity in different types of liquidity in and have more capital, but it would be too.
Early to give you a kind of our expectations were just following it closely and as I said I think internally, we have the capabilities the systems and the people to be able to deal with whatever comes at us as its phased in over time.
Yes, the only thing I would add to that Chris is you saw my comments on our common equity tier one EBIT, even if we were to add in the FX.
Loss as we see it like a nine 4%.
Or 10, 10, 10, plus percent 10, 6% so.
That would probably be phased in over time.
Okay and is there any contemplation of a share repurchase given the strength of the balance sheet or is it too uncertain on the economy.
No I think as we go into it you may have seen we repurchased $50 million or so of shares to offset.
Grants to employees and colleagues throughout the organization.
We certainly have the capability to do it in the second half I think if we stick to our our normal view that I think we're good stewards of capital. So we look at internal opportunities to deploy capital first.
We contemplate things like balance sheet restructuring, we look at tuck in acquisitions for HSA and other things, but if that's not there and we continue to generate the kind of capital we are and it looks like the credit environment remains stable.
See us.
Absolutely looking at share repurchases, but I think it's a matter of time and our view of the.
How stable the ultimate credit environment is as we move through the third and fourth quarter.
Alright, great. Thanks, Sean.
Thanks, Chris.
Your next question comes from Casey Haire with Jefferies. Your line is open.
Yes, thanks, good morning, guys.
Okay.
Good morning question on the.
The NIM forecast in the back half of the year.
That list of 10 to 15 bps.
Is that immediate it feels like it could be given the borrowing whereas the borrowings.
We ended the quarter feels like it was back half weighted.
Just some color there and then the interest.
Got.
Deposit costs on interest bearing deposits.
So yes, let me hit that so yes, youre right I mean 12 basis points come back to us.
Function of the balance sheet liquidity, plus bringing down balances held at the fed which were <unk>.
Three plus billion.
So if you go back 12, there you've got another 12 five on loan impacts. So you have about two basis basis points of NIM coming from the variable variable book and then another three basis points.
Fixed books. So that's five right and then the investment portfolio same sort of thing could pick up about three basis points. They are.
And then that of course further deposit.
Repricing.
And I think I pointed out there is it's probably.
Negative 6% to seven basis points.
Not as severe as it was the first quarter second quarter, obviously, because we've built up some of the key the higher cost products like interlink and brokerage brokerage Cds.
But yes, you should begin to see that come back in <unk>.
Beginning in the third quarter.
Significantly on the second part of your question I think our exit cost on deposits and Thats like 184.
That's total or is that interest bearing.
That's total.
Okay.
And then the.
Beta assumption, 40%.
Yes.
First quarter 2004 so.
I guess, yes.
If the fed is on hold.
And we are higher for longer.
No.
Sure.
And that 40% Beta go higher and then what is the what is the beta forecast assume four.
For DDA mix.
19% of total deposits.
Yes, so a couple of things in there our forecast is that the bad debt. The fed increases next week and stays at $5 50 for the rest of the year, so that ties to that 40% that youre seeing on the slide.
So I think that's the first part of your question I think there is a lag there has been a lag on fed increases and how that has trickled down to the deposit base and it's been like a quarter or two for the most part and Thats again, why you see some of that acceleration in the second quarter.
The second part of your question was.
DDA deposits as a percent.
As a percent of total and for US if you look at it I think.
At fourth quarter of 2022.
Baidu organization, 25% rate.
One of the things Thats happened here as we've gone into Lincoln brokered and so that's increased the total deposit base.
So if you look at that.
For full year basis, you are probably in the range of 18, 5% to 19% by the fourth quarter. If you were to strip out things like interlink and broker youre, probably close to 2021%.
Casey This is John I think your last one of your questions. In there was what are your assumptions if if what happens debate. If the cycle is longer I think our view is could it tick up a little more I guess, but that most of if they stayed flat and higher for longer that most of the beta in most of the increase would be captured by <unk>.
You could have a little drift up over time, but we think that the behaviors moderate.
Yes, Okay got it that's fair on DDA mix too on the Interlink growth last one for me just on the capital management front.
Did you guys buy back any shares.
The share count was lower but I didn't see any mention of it and then just any updated thoughts on on.
Appetite for buyback activity going forward.
Yes, Casey I just mentioned.
Entering <unk> question that we did about $50 million of share repurchases in the quarter to offset grants to employees. So yes, we did and I mentioned that.
We'll have the same sort of disciplined approach, we are generating capital a good amount of capital obviously annually and were slightly above our CET one target. So to the extent, we don't have internal opportunities to deploy capital or a really compelling balance sheet.
Restructuring, we would look as long as there werent signs of significant credit deterioration, we would look to deploy some level of capital and share repurchases as we look to the second half of the year.
Great. Thank you.
Thank you.
Your next question comes from Matthew Breese with Stephens, Inc. Your line is open hey, good.
Morning.
Hey, Matt.
Maybe to start could you just give us some idea of what incremental loan yields are today and assuming they're higher.
How has that impacted originations and pipeline on on a month to month basis.
Yeah. It's a complex question, while we get the yields let me start with credit spreads could be an interesting way to start. So theres no question that I think us like most of the industry are being kind of more demanding and more disciplined in terms of where we're generating loans and how were generating loans, we have seen increases in credit.
Spreads. So if you think of obviously the reference rates and so far in prime continue to move up but we're also seeing a level of expansion I was talking to the team yesterday in kind of construction related Cree you or you can get to 75 basis points plus with respect to additional credit spread from from Cree.
Pre March.
On other sort of more traditional unpredictable Cree outside of office, which obviously people aren't doing its more like 50 basis points and then on C&I teams.
And kind of 25 to 50 basis point expansion in credit spreads so take those credit spreads over.
The expanding reference rates and Glenn can give you the yields yes, so that the yields on both a quarter to date and for the month of June were sort of in the mid sevens.
So obviously, it's going to be driven by mix and product mix, but generally we look at the quarter and you look three months, it's in the <unk>.
Seven.
Great. Thank you.
And then I was curious on the $80 million in office loans that you divested.
I'm just curious how that process went how liquid what's the market for office wound buyers what kind of comfort does that give you on potential loss content on the rest of the office book and is there any more you are looking to do there.
Yes, it's a great question again, and there is not a way to give you a kind of definitive quantitative answer I think we've clearly seen and as you've as you've seen I'm really proud of the team we've reduced office exposure by 25% over the last four quarters with really minimal hit to capital and minimal credit loss. There is no question that the amount of.
Liquidity and the eagerness of purchasers in the market for loans is it's more expensive now than it was four quarters ago, just given kind of People's view of the market. There still is a lot of liquidity a lot of private capital as you know out there and so that is encouraging to us.
In terms of our ability if we picked good pieces of property to finance at the end of the day. If there is alternative uses for those properties or even if there's been a valuation decline, but there is still clearly equity in the property, we have been able to find buyers.
Last quarter, we said that $80 million represented roughly 50% to 60% of our charge offs in the quarter.
But we think obviously with respect to non critical and strategic office properties. That's the right move now.
So it's getting more expensive I think will continue to be proactive we feel really good about the fact that we've we've paired the portfolio thoughtfully and.
It's now down to below 1 billion three non medical office.
But there are buyers of this real estate at a reasonable price still out there, although it's obviously getting.
More expensive to execute on on kind of balance sheet moves like that.
Great and then last one for me.
In late June there was some joint interagency guidance from the FDIC the fed the OCC on prudent commercial real estate loan accommodations and workouts.
And I would like your perspective on how this plays out practically what does it look like in terms of how you help customers or how you Ken.
Customers you know what do we expect to tools that can be used in <unk>.
How will these accommodations and workouts be disclosed if and when they occur.
Yes. Another loaded question that I don't know I can answer with specificity, but I'll give you my perspective.
<unk> obviously in.
I'm not going to go back to a history lesson, but in the early nineties, obviously, the regulators with respect to real estate really.
Killed the banking market and accelerated and we're very prescriptive with respect to the way they are.
Looked at restructuring during the great financial crisis.
Chief credit risk officer here I thought they were very constructive in terms of making sure that as long as you were realistic with respect to the return we're getting on the loans that they knew it was in everyone's best interest to modify and we're seeing that general tone and tenor I think from the regulators again, which will be constructive. So my view is in our view.
At least internally in the bank is you don't want to artificially kick the can forward if theres not a reasonable credit to be renewed and I think the regulators are still going to hold us accountable to making sure that we're taking appropriate losses were recognizing non accrual loans and that we're not able to modify things artificially that really arent good loans.
So far we're able to work with our sponsors and real estate owners in.
Either get a little bit of additional proceeds and in consideration, we underwrite it as slightly higher LTV at the cap rates have changed the value and so far.
Matt we've seen kind of a constructive stance and I think from our vantage point, that's really helpful. But it also doesn't give us the opportunity to sort of artificially forward alone that really shouldnt be kicked forward and I think that's the way the analysts and the investors will see it in that if you don't have enough cash flow to serve.
This year alone.
Youre going to have to take appropriate action and classify and risk rate alone appropriately if you've got cash flowing loans, but it's just going to take longer to repay or you've got a higher LTV I think we're going to have some flexibility in being able to work with the borrowers to a good outcome.
Great I appreciate it I'll leave it there thanks for taking my questions.
Okay.
Your next question comes from Brody Preston with UBS. Your line is open.
Hey, good morning, everyone. How are you.
Good morning.
Good morning, I did want to I did want to follow up maybe just on the office line of questioning so we saw another bank.
Just reported that sold their medical office portfolio and it was only like a two 5%.
Mark.
Maybe it was a bit noncore for them, but I guess could maybe could you maybe speak to.
The puts and takes between maybe keeping even medical office around is that a core kind of products are you do you have in deposits tied to those to those borrowers is that something where as you evaluate your overall office exposure, even if it's something like medical office, you might look to kind of exit it.
Now as opposed to waiting later down the road.
Okay.
Yes, specifically to medical office I don't think so it's such a different animal.
Right now there is it.
Really strong vacancies are low rates have held and so our portfolio is not particularly big and right now, it's a profitable business and oftentimes in most of the time, we have ancillary revenue either coming from deposit liquidity or fees or other other.
Management product so.
I don't think Thats in our strategic wheelhouse right now and I don't think we feel from a credit perspective.
It's something we need to do.
Yeah.
Got it okay.
Thank you for that I did wanted to just ask on the.
Available for sale portfolio and I'm, sorry, if I missed it in the deck, but do you happen to have what the effective duration of that portfolio is and then could you tell me what the assumed conditional prepayment rate youre using and the duration and the duration calculus.
Sure.
So the duration is three eight years and the.
CPR, we're using is in the high single digits.
Got it okay.
I just wanted to ask just.
The credit seems to be holding up really well, but it seems like last quarter across the industry. There was a couple of one offs this quarter across the administrative theres a couple more one offs and theres some kind of indication that maybe especially in middle market. You know, maybe you're starting to see some pressure on <unk>.
Our balance sheets, how are your conversations with borrowers, particularly in middle market.
Evolving today and how are they handling higher interest rates I wonder what are some of the key areas of pressure that.
They are identifying.
Yeah.
Again, I'll try and be brief but give you some insights.
I think youre right I think everybody is surprised that credits held on so so strongly and you look at our metrics, we're not seeing correlated risk across portfolios were being proactive in and obviously an office just given the secular dynamics there.
I think from a risk rating perspective, if you look across the industry.
There was kind of stable I think probably now the biases downside so.
Although although as you said, it's really only resulted as kind of one offs from a from a loss perspective I think.
Most folks in the industry expect there to be a little more bumpy as we go forward in the next several quarters and it's probably as to your point that the.
The cumulative impact of debt service higher interest rates higher input cost inflationary pressures on wage and other input costs into into businesses. So we here. It's funny, what we hear mostly from our clients at the same thing it's about they feel good about demand they feel good about there.
Customers' confidence they are still having trouble finding people to either working there in their plants or to work on their counter of their service company.
But no doubt that higher cost input costs and higher interest rates put more pressure on them, but we're not seeing much capitulation Brody and as I said, if you look across all of our different sectors in our geographies.
Which we do all the time to look for any sort of correlated performance behaviors of risk, we're not really seeing anything right now and our charge offs. This quarter at 16 basis points are actually three basis points below our five year average charge off rate pre pandemic.
60% of those were on proactive office sales. So it certainly hasnt shown yet through a lot of the statistics.
Got it okay. Thank you, Matt and then one last one for me and again I apologize I apologize if I missed that I was hopping from another call.
Just on the just on the fee income I know, it's not a huge driver of revenue at this point, but I guess Glen.
What would cause you to kind of be at the high end or the low end of the guidance and I think the last time, we talked we had spoken maybe about.
Commercial swap activity picking up a little bit in the back half of the year do you still feel like that's a possibility.
Yes, we do we do see some some modest increase in activity or are forecasting some modest increase in the second back half of the year, but that's all within our guidance range as well.
Okay, great. Thank you very much for taking my questions everyone I appreciate it.
Thank you.
Your next question comes from Mark Fitzgibbon with Piper Sandler Your line is open.
Guys good morning.
Mark.
John I heard your comments on credit and I know this is relatively small dollars, but you had about a $23 million uptick in commercial non mortgage non accruals this quarter and it looked like 30 to 89 day delinquencies in that bucket also went up is there anything unique to that bucket or any particular industry. That's.
Being challenged.
No. The delinquencies are mostly administrative I would say that the two one was a one was the non office Cree and one was a C&I loan we had a couple of credits that led to that they were really kind of one off I was talking with Jason Soto, our chief Credit Officer, who.
Is that you try and look for dynamics, there and it really was more idiosyncratic management missteps. So.
It happens inflows and outflows and we work at it proactively but.
Again.
I haven't seen anything there that leads that theres, a parade of issues behind either of those credits.
Okay.
Given what you see today on credit and for loan growth. How are you how should we be thinking about provisioning levels for the back half of the year.
Okay.
Yes.
Glenn clinical and can talk from a technical seasonal perspective, we I think we're pretty conservative we've got a good were top decile among our peer group coverage ratio right now seasonal coverage.
We're thoughtful about the uncertainties in the macro market a lot of it is driven by the inputs of risk rating dynamics and the more you proactively deal with troubled credits.
Obviously that helps you in terms of what you have to what you have to post going forward. My personal view is I'd like to keep a robust coverage ratio, but it's all going to be dependent upon.
How credit performs what the risk migration is like and how proactive we are on being able to resolve remedy get payoffs or sell criticized and classified assets Mark. So I would say it kind of its state of course looked at it looked at what we've been doing I would think about movements in the portfolio and it's probably similar similar.
Levels to what you've seen in the in the last few quarters.
Okay, and then lastly should we expect merger charges from Sterling to wrap up in the third quarter pull systems conversion will they be done and behind it that yes our.
Mark.
To wrap up in the fourth quarter, but <unk> seen a trending down yes.
Thank you.
Thank you Mark.
Your next question comes from Manan <unk> with Morgan Stanley . Your line is open.
Hey, good morning.
Again this question a lot and I wanted to see how you answer right.
What do you make of the argument that if rates stay higher for even longer.
The difference in peak deposit beta is between banks should narrow.
And banks that have lower beta as like yourselves, well see a larger increase in.
And deposit rates than some of your peers that already have higher betas.
I think it's I think it will depend on by bank depends on the composition.
And for US as you know, we have HSA, which basically has a through the cycle beta up 2%.
So that's that's a differentiator.
<unk> for Us if you looked at our other lines of businesses.
Between the commercial and the consumer business those fault that their competitors as well. So I think a lot of that a commercial data has I think 34% of our consumer base basis, 22%. So I think a lot of that will be will be will be driven by the mix shift.
And the funding profile from each institution yeah.
My view would be similar it's kind of an interesting question you asked because you could think about that as kind of everybody kind of reversion to the mean, but I do think as Glenn said it really ultimately is about your deposit mix and your ability you saw us drive growth in higher cost deposits in the quarter for a number of strategic reasons.
We have expected growth in the second half of the year in <unk>.
Our core commercial franchise in our consumer book in our business banking book in our government operating deposit book. So those will be things that should help us mitigate some of the impact of overall higher deposit costs around so I think you can't make the assumption that everybody ends up in the same place.
If we're in this.
The situation for a long period of time.
Very helpful and did you say, 2% through the cycle deposit beta on HSA deposits.
Yes, it did and similar if you looked at our I think for the quarter, we set our cycle to date beta was 34% on our deposits, but if you peel that back.
HSA cycle are based in 2%.
Consumers and 22% to 34% and the difference being the higher beta products that we added in the second quarter interlinked broker Cds and so that's how you that's how you ladder up to that number but.
There's differences within within the portfolios.
And Theres difference if it is whether the product sets.
And is there any environment in which competitive factors push up the beta on those HSA deposits.
Yeah.
It's interesting because customers that are really searching for yield in that product.
Become investors and they move their balances into investment options.
So when you think about that when you think about our 3 million HSA accounts, 75% of those are spenders. So they have relatively small balances at like $450 an account.
Not as meaningful for them.
Savers have a larger balance like six or $7000 and as soon as they get a little more scale then they become investors.
And so investors have a lower demand lower DDA savings balance and a higher investment balance, but those that are in that savings category insights and move to.
Investors still.
Well generally if you look at their balance is at 45 and $5000 are multiples of what the vendors are and like I said, 75% of our customers are spenders.
That's very helpful. Thank you.
Thank you Manav.
Your next question comes from Steven Alexopoulos with Jpmorgan. Your line is open.
Hey, good morning, everyone.
Hey, Steve.
I wanted to start so first to follow up on the comments around the positive trajectory for NII for the rest of this year. What are you guys assuming in terms of additional noninterest bearing outflows in that assumption.
So I.
I think on an absolute basis and now were in the quarter.
Noninterest bearing.
11, 11, three to 11 four.
It'll ebb and flow like John said, we have some municipal funds to commence additional transactional funds that come in so I think we'll probably end the year within that range given the puts and takes too.
Got it okay, so pretty flat from here.
I'm curious on the deposit competition side. It seems like most banks were building liquidity this quarter.
It's really played out right, we're not seeing that as much for <unk>. When you look at the competitive environment is it easing a bit here in the third quarter.
Yes, I don't.
I don't think the competition is easing it may be because the fed has paused and it's been such a big increase that people who are rate sensitive given and the banks.
The additional liquidity that it was a perfect storm in <unk>. So I do think that the pressure on deposit prices pricing eases, but I'm not sure Steve I don't I wouldn't characterize it as the competition for deposits easing so.
I think thats kind of why you are seeing most of the folks in the industry take a position that.
The increase in deposit costs kind of moderate but continue because obviously, we're all we all think that deposits are the most valuable thing and obviously, we're relying on to rely more on our relationships than just going out and chasing deposits for rate, but competition stays strong, but I think the pressure on pricing moderate.
Yes.
Got it okay.
And then finally on the regulatory front.
Your period end assets, almost 75 billion right. We're all waiting for the new regulations for banks above 100, billions and I know, we need to wait for the details, but what's your messaging internally at this point. So the team are you looking at this thing okay or close enough whatever comes out we're going to work to comply with it now or do you feel like you are counting.
To comply with what comes out like how are you viewing it at this stage.
Yes, it's great.
Good question I'll reiterate a bit of what I said before and maybe afterwards, so I'm really happy with our risk infrastructure, our regulatory relationships right. Now are remains strong it's always been a real focus of mine and of the team.
As I mentioned earlier in response to another question, we've already comply with LCR. We obviously, we stress test internally, even though we don't have obligations to disclose externally and so we feel like and with this merger that took us over $50 billion. We are on the path tightened standards.
Already so we've built the infrastructure I think to continue to comply and to continue to execute.
The regulatory framework is so when people ask you know how much additional cost would be and so on and so forth.
I feel really good about where we are from our people our process and our system.
Perspective.
The real.
It is going to be if there is one what are the actual capital and liquidity requirements. As we move forward I think your point is a good one as we move from $75 to $80 to 85 billion, we're clearly going to have to comply and be ready for whatever is out there will we will likely when these.
New regulations are implemented have an opportunity and a time to.
To adopt so we won't we won't rush, we'll make sure we're compliant, but we will get ourselves fully prepared so the way I look at it is I don't feel like we're gonna be blindsided, and it's going to slow us down significantly.
There'll be if there are additional capital and liquidity requirements those will be what they'll be but on a relative basis there'll be for all of our peers and our competition and I feel good that we will have time to make sure that we implement whatevers whatevers. There. So the message to the team as you said is key.
Keep doing what youre doing to make sure that we're meeting all the heightened standards as a as a above $50 billion bank and obviously get ready for whatever its going forward with respect to our internal systems, our risk management processes make sure we have the right people and I feel really good about that.
Okay. Thanks for all the color.
Thank you Steve.
Your next question comes from Daniel Tamayo with Raymond James Your line is open.
Hey, good morning, guys.
When you ask questions.
I have been asked and answered at this point.
Just had one more follow up.
On the fee income side and I apologize if I missed this.
For a second there, but just curious.
Whats your expectations are and obviously the guidance came down but.
But in terms of a rebound long term I mean, what does it takes it to get back to where you were and then you know how.
How does that impact the.
The expense side as well.
Yeah, Let me give you I'll give you the high level.
And then Glenn can fill in any of the charts.
We're a strong commercial bank with strong relationships and we cross sell lots of products and so we really grew our noninterest income on the backs of our commercial banking relationships and so what you saw driving higher levels of noninterest income last year, where things like swap fees syndication fees.
Loan fees equity tag investment realizations from our sponsor <unk> specialty group and a lot of that given the market dynamics have kind of stopped obviously with the higher interest rates, where none of the industry is selling as much swap business and then with respect to our business.
In particularly commercial real estate in sponsor and specialty where we have more capital markets fees when the kind of ride stop for a bit in March we've seen a slowdown so I'm, telling you that because I think those would be the dynamics that when we reach a more normalized.
Environment, which I think we expect to be in the fourth quarter first quarter of next year, but we've been a bit conservative.
In our in our forecast that you've seen in our guidance, we start to drive a lot of those ancillary treasury management fees FX fees swap fees capital markets fees.
Equity tag investment realizations, so that would be a driver immediately but as a management team you can imagine we're also focused on making sure that where we over time can can have a higher percentage of our revenue.
And fee generating businesses as well so that's a strategic emphasis for us.
Terrific and that's.
All I had thanks for the color.
Thank you.
Your next question comes from.
<unk> with Deutsche Bank. Your line is open.
Hi, good morning.
No question.
You discussed about $120 million in cost savings close to Sterling conversion, which is expected by this weekend as noted.
You also mentioned that several back office systems have already been consolidated and I think the acceleration of your tech plans will lead to further synergies can you just remind us do some of these cost savings come through this year or is the entire amount for full year 'twenty four and is the $120 million still the cost savings definitely.
Yeah, no. It's a great question. So let me give you a give you a little perspective, so when we announced the transaction we announced about a 10%.
Synergy in phosphates off of our combined run rate that was a combination of FTE reduction.
About having our office and corporate real estate space.
Getting rid of duplicative vendor contracts and then obviously as you mentioned completion of the conversion back office efficiencies synergies combination of the call centers.
Some branch consolidation all of that sort of post conversion. So obviously the conversion being pushed out 15 to 18 months from close.
Some of the realization of that in the interim we've also talked about the fact that when we made our announcement on cost synergies, we didn't have a 6% 7% wage inflation rate, we didn't contemplate at the announcement the acquisition of band at HSA, The acquisition of Interlink about $25 million higher than <unk>.
<unk> costs and other general inflationary pressures. So I think the way to look at it is we do have opportunities that probably will be realized in 'twenty four because we're doing the conversion now and then we're consolidating our call centers and were looking at back office synergies. Once we've retired some of the sub ledgers. So.
The remaining cost savings that we're talking about there probably won't impact 'twenty three materially but the reality is you saw us keep our core noninterest expense flat period over period, which is sort of bucking the trend in the industry and the general synergies between these two banks together have.
<unk> us to keep our efficiency ratio in the low 40% during a period of time, obviously when expenses are getting higher and higher so the way we looked at it as we benefited from realizing a good amount of the $120 million target about 75% some of that has been offset by additional.
And acquisitions, we do have opportunities in the back half of 'twenty three to get more efficient, which will benefit our run rate in 'twenty four but as we've said all along this is really a growth story and we're going to continue to invest in our differentiated businesses and if you look at what Jack and I said geez.
She is almost three years ago, when we announced the transaction that two years into the transaction, we would be posting a high teens, ROIC Tc and ROA above one four and an efficiency ratio in the 40% to 45% range. We posted that at year end 'twenty. Two we posted that this morning, and we expect to post that again on.
<unk> 31 for the full year, so we feel like we're delivering the financial results and certainly.
Being one of the most efficient banks in our peer group if not the most efficient is helping us do that.
Oh, great. Thanks for that color maybe just.
One question on deposits.
The interlink balances reached $4 3 billion.
Which is over two quarters.
I believe that's supposed to be a target.
$5 billion. So I'm just kind of curious if that's still your target can you pull a further into that.
On the call earlier, you mentioned seeing some new opportunities for growth in transactional accounts, maybe you could just give a little color on where you see the deposits.
Like you know what.
Growth will come maybe in the second half of the year, yes.
Yeah. It's a good question. So interlinked with was two eight end of period interlinked.
Just under $2 9 billion in the first quarter, obviously, we're at $4. Two I think you know that.
The growth and that will moderate over the next couple of quarters. So I'm, Tony probably in the range of 100, 200 $150 million somewhere around there, but it's certainly not the increase that you saw in the second quarter, so you'll see growth sort of moderate.
Uh huh.
We had a target of $5 to $6 billion. So I think it by quarter by the fourth quarter will probably be at or slightly under that sorry.
Okay, great. Thank you for taking my questions.
Thanks Bernard.
Your next question comes from.
<unk> with Wells Fargo Securities. Your line is open.
Yeah.
Hey, everybody good morning, Thanks for pay garrison.
Like most of the second floor is answered, but you know as.
You look at the loan yields you talked about better spreads do you think that that can still move higher as we go through the year, if the fed moves as expected.
Yes, we do obviously, we will get will get if we get another rate increase the reference rates will slide up a bit but from a credit spread perspective, I think my base case would be that we do.
The dynamics are interesting that people are choosing to play in different sectors in different asset classes.
And you know loan demand is sort of unpredictable, it's slower and a bunch of areas and there is some decent demand that we expect in the back half of the year. So I think us and the rest of the industry will continue to be thoughtful about deploying capital and making sure that we're getting paid for risk. So I expect.
That credit.
Credit spreads and structure from a bank perspective from a lender's perspective, we'll continue to continue to modestly improve as we go into the second half sure. Yeah. The only thing I would add to that Jared is 60% of our book is floating or periodic and so I think it is a quarter. We ended with 606 yield on the book and so as you look out and again, we are assuming 25 basis.
Once the fed next next week.
So you're probably adding a couple of basis points in the third quarter a couple in the fourth quarter on the Lucky.
For the total book Great. Thank you.
Okay.
Thanks sure.
There are no further questions at this time I will now turn the call back to John for Ya Lan.
Thank you very much for joining us today. We appreciate your continued coverage in and interest in our company. Thank you.
This concludes today's conference call you may now disconnect.
Hum.