Q2 2019 Earnings Call
Good day, ladies and gentlemen, and welcome to the because he CAE second quarter 2019 earnings conference call. At this time all participants are in listen only mode. Later, we will conduct a question and answer session and instructions will follow at that time. If you require operator assistance. During the program. Please press Star then zero on your Touchtone telephone as a reminder, today's conference is being recorded I would now like to do swaps because conference call Mr. topics you may begin sir.
Good morning, Tim Hicks, Chief administrative officer, and executive director of Investor Relations for Bank goes okay.
Thank you for joining our call this morning, and participating in our question and answer session and todays Q in a discussion we may make forward looking statements about our expectations estimates and outlook for the future.
Please refer to our earnings release management comments and other public filings for more information on the various factors and risks that may cause actual results or outcomes to vary from those projected in or implied by such forward looking statements.
Joining me on the call to take your questions or George Gleason, Chairman, and CEO , and Greg Mckinney, Chief Financial Officer, and Chief Accounting Officer.
We will now open up the lines for your questions. Let me ask our operator, Kevin to remind our listeners how to queue and questions.
Ladies and gentlemen, if you have a question or comment at this time. Please press. The Star then the one key on your Touchtone telephone. If your question has been answered he was to move yourself from the queue. Please press the pound key.
Our first question comes from Ken Zerbe with Morgan Stanley .
Great. Thanks, good morning.
Good morning, Ken.
I was hoping we could start off with expenses it looks like expenses ticked up a little bit.
Versus what I thought was a seasonally higher quarter back in first quarter.
Can you just talk about what drove the higher expenses this quarter and more specifically or more importantly, what is the outlook for expenses on a go forward basis.
I can't it's Greg Let me, let me start by the added in Jordan, Tim can chime in too but.
You know.
Yeah, we're continuing to build our infrastructure as we've been doing now for a number of quarters. We are in the late innings on that I think we're getting close to having that built out.
We are hiring.
Individuals.
To really come in and take the place of third party consultants that we've been using to help us get some of these programs up and stood up.
There's a little bit of a transition in some of that as you bring individually and.
And then begin to exit consultants appetite.
That process is ongoing we expect that to continue over the next quarter or two.
I think I think you'll probably see.
A little bit of continued increase in overhead in the next couple of quarters as we continue to make that transition get the remaining infrastructure in place.
Although we think that.
You can get beyond.
Kevin the seasonally challenging Q1 of 2020, I think there's a pretty good opportunity to keep.
The overhead I'm going to say a little more in check thats not to say, it's not going to continue to have some increase but I think you'll see the rate of increase.
As we get to that point in time, much more likely to be a.
Uh huh.
Muted at least relative to what you've seen in the last two or three quarters.
You, it's that's really the biggest driver.
In overhead as we think about over here the last.
456 quarters and that continues to be a probably one of the biggest.
Drivers as we think about over here for the next two or three quarters.
Okay that does help.
Switching gears in terms of the North Carolina credit.
I understand you're trying to sell the South Carolina credit, but with the North Carolina credit it almost sounds like you're taking on the responsibility of finishing the project or the build can you just.
Expand on that a little bit more like what exactly is happening and what's the timeframe with that thanks.
Yeah.
Good question, Ken as you are aware from previous calls you know the sponsor there.
Developed a lot of houses and there was ongoing development of lot.
Some of those houses so we're not fully completed.
There is a a custom home glare that's being built.
For a custom buyer.
So we're completing those sort of.
Construction elements and lot development area.
Activities and expect to sale.
Those homes and lots as develop there is some remaining work to be done on that project and then.
The question will.
Come at some point in time, how you continue development the just sent a lot.
Do we need to develop some more inventory so we're going to try to.
Operate that and way to maximize our proceeds and hopefully recover some money.
That we have right now, we're not going to get into I.
Massive.
Development project, but there is work to be completed and it is an ongoing.
Operating a project with a.
Amenities that operate and so for us we're going to operate it and work our way out of it in an orderly manner.
The hearing.
Go ahead.
Got the South Carolina properties, obviously, a much simpler projects the sale because it is right or.
Someone to acquire reposition or redevelop in a major way.
I will comment a couple of the analyst I noted in there.
Right.
I commented that we have closed on these properties, we actually did not foreclose on either one of them we.
Acquired title in Dayton mode transactions and that took a little while because we had to do all of our.
Reducing re check all of our environmental due diligence and insurance and get certain permits and operating licenses transferred and so forth. So.
Both both transactions were.
Transferred to us and I co-operative very to bomb.
Transaction with the cooperation of the sponsor.
I see and went to North Carolina project is there any risk of additional write downs in terms of your exposure. If you don't complete the projects and you sell just the loss.
Or or any other basically any other risks to you guys.
Well you know there's always a risk of additional write downs I think that's extremely low.
And both transactions given the.
Conservative nature of the appraisals that.
We have received and the fact that we wrote the assets them when we receive those appraisals.
In the third quarter of last year.
To 80% of the price value and of course Weve.
Previously mentioned on the.
South Carolina project that in the couple of quarters. After we put it on non accrual we've captured a half million dollars or so of cash flow that went to reduce the.
The balance on that so I think write downs are unlikely, but our practice is to reappraise Oreo properties on an annual basis.
So as long as there and foreclosed assets that are subject to where your appraisal and if those appraisals came in.
More adverse than we would have a write down from that the the reality is I think it's very unlikely.
Okay, and then just one more question if I could.
I understand how hard it is to forecast repayments on the on the loan portfolio or is she portfolio.
But is there a way of kind of quantifying the lower bound of potential loan growth because I did notice that you did reduce your loan growth guidance for the year due to the even more elevated pay offs.
I'm, just wondering how bad could it be within sort of a reasonable expectation like if you go through like loan by loan of your portfolio to try to examine what could pay off like where is the lower bound of loan growth. This year.
Well, we do go we we based our projections based on a loan by loan analysis as you know in our industry portfolio, we average about 14 loans for asset manager.
So our asset managers are very close to those transactions.
These tend to be a larger complicated transactions. So sometimes I sponsor says we expect pay this off and.
And.
Okay and.
For some reason or another.
Negotiation, most with their partners negotiations with the lender on the other side that moves forward to or moves back to August or.
October for some reason and then as we've experienced a quite a bit recently.
Projects.
We've had a few projects that were pretty sizeable that had been pulled forward on the spectrum and.
We had at least one pretty sizeable project in Q2, and we've got a couple of more coming in the second half of the year.
That we've been notified or repay down.
That.
We have not even reached a CIO status. It's historically been very rare for us to get paid off in refinance mid construction or before project is.
At least has a temporary certificate of occupancy, but we've got several of those examples but if.
Accelerated repayments this year so.
We're giving the best guidance, we can give on that but there are things that cause those.
Payoffs repayments to be sometimes delayed sometimes accelerate it and.
You you.
You can do your very best too.
Predicts that you're usually right within a quarter or two but.
You know, sometimes you get surprised.
All right. Thank you very much thank you.
Our next question comes from.
Tim or Burger with Wells Fargo Securities.
Hi, good morning.
Maybe looking at the deposit side and some of the commentary around cost of interest bearing deposits, what's being done that that gives you guys optimism that you can lower.
The potential cost of interest bearing deposits X a rate cut.
In the third quarter.
Yes, Tim here, Hey, this is Tim good morning.
Yeah, I think you know we are actively managing that deposit.
Deposit book, we really started on July one.
With a lot of our institutional public fund customers talking about.
Right right, we pay on those.
Obviously, LIBOR went down 10 basis points and in Q.
Q2, so rates, even though fed move rates have decreased and we've had those conversations with some of our larger.
Deposit customers and so we really started that really early in the quarter. So trying to stay ahead of.
What the feds doing and even though the fed hasn't moved yet some of those rates have already come down.
And even our promotional CD rates, we brought down.
In early July as well you've seen many in the industry also bringing down their deposit rate. So.
I think between that.
And the moderated loan growth guidance that we've outlined here allows us some flexibility too.
Hello.
Replace some of our higher deposit customers with some lower deposit customers and.
Yeah, and we're working hard to do that and feel like we've got the ability to be slightly as we said in our management comments to be slightly down.
Cost of interest bearing deposits, even in a flat rate environment for this quarter.
Okay, and then maybe just looking at broader deposit growth.
You guys historically.
Looked out at loan growth projections and then.
Backfill that kind of with deposit gathering.
Objectives is the linked quarter decline in deposits and indication of.
Kind of lending outlook or I guess, what's the.
What's the goal for growing deposits in an environment, where the loan growth is going to be pressured.
Yeah, we feel like we have the ability to grow deposits to match our.
Match, our loan earning asset growth so we do.
Model that in and project that on a monthly basis, and so we're really comfortable in that mid 90%.
Loan to deposit ratio I mean, sometimes there are timing differences that move a percentage point at the end of the quarter, one way or the other so we're real very comfortable in mid 90% loan deposit ratio wouldnt feel like.
We've done that for the last several quarters been in that range and would expect to continue to be in that range.
As we just project out what our deposit growth needs are based on what our earning asset needs are.
Okay understood and then just one last one for me looking at the in indirect RV and marine portfolio the.
Number of dealer relationships as seem to kind of find level here between 13 and 1400.
And the growth continues to accelerate I know there is some seasonality into Q, but I guess, just looking at the existing dealer footprint, what's the remaining potential out of that footprint.
Meaning should we is there opportunity to continue seeing accelerated growth from that existing footprint or do you need to actually grow dealer network in order to.
Further accelerate that growth.
Well, that's that's a good question.
If you're following the marine and RV manufacturers stocks and and their reports.
You'll notice that marine and RV manufacturers are shipping less selling less.
To dealers than they were a year ago. So there's a bit of a slowdown in the manufacturing side.
And that it would imply that your average daily rate is selling less as well. So we've been able to maintain good volume this year and that's in part due to the fact that we have had some.
Modest growth in our dealer network over the last year, that's not been a time.
The capability to grow that dealer network is.
His desire and.
You know as as we.
Continue to.
Monitor this portfolio and the performance of this portfolio and get.
More and more history with the data on that we would expect to.
Expand that dealer network that dealer network could probably go to 17 or 1800 dealers and a more mature state for that unit.
The over the last several quarters, we've been adding dealers every quarter and.
You remove dealers every quarter.
Our program is.
Very focused on monitoring the performance of our dealers and the quality of pipe for we're getting from our dealers said.
And various other dealer performance metrics were monitoring so we routinely.
Terminate relationships with retailers from routinely add dealers, but the capability is there as we.
Get more seasoning on this portfolio too.
Add another significant tranche of growth in the in the future.
Thanks for the questions.
Thank you.
Our next question comes from Jennifer Demba with Suntrust.
Hey, guys, it's actually Steve on for Jennifer.
Theres been a lot of talk about condo sales in New York and Miami, how are your projects, they're filling up and are you guys, becoming more cautious on future projects in these areas.
Steve I would tell you, we're not changing our underwriting standards at all.
And our projects or are doing very well.
Nine quarters ago, we probably had 13 or 14 active condo construction projects in the greater Miami area.
That's probably seven or six now so we've had.
I think at least six or seven of those projects that.
See owed and very quickly paid off.
We think that number.
Projects based on sales that are in place and construction progress probably by.
End of the year is too damn.
Two to three.
So.
Our Miami condo exposure is paying down.
Ton through selling of condos and.
We've got a lot of sales.
And a lot of sales activity on the project so were feeling extremely good.
About the credit profile of those.
Projects were deeply regretting that weve been unable to replace it with new volume, which we would love to have 14 more projects of the same credit profile pre sale deposit profile of that yet.
Ones that we had.
You know.
At September 30 of last year that half of them more or less of that paid off in the interim.
Our New York.
Our portfolio continues to perform without any.
Issues, we have gotten paid down on several projects buyer and paid off on several projects there in the last quarter, our new originations in New York are not as large as they were a year ago, there's there's less new product being created.
Interestingly, if you look at the.
Two q. originations for our our SG unit Washington.
The CMS say was number one Boston MSC was number two Philadelphia was number three and.
New York was number four right in line with Orlando.
Florida Fms site so.
In San Diego, So New York, Orlando, and San Diego were four five and six but just separated by couple of million dollars. So.
We are we feel very good about our new York portfolio and the way, it's holding up but you're not seeing as much new product production. There. So our new York growth is.
It is slowing a bit.
Has that been kind of the limiting factor than on portfolio growth.
Just not enough product or projects out there is that competition other things structure pricing.
It's a combination of.
Of all of that we've commented for a number of quarters now that.
We've seen a lot of competition and there there are lenders that are willing to.
Be more aggressive on credit and leverage them, we're willing to be in and.
Their lenders in certain markets on certain product types that are being very aggressive on price.
And.
I think we've been just.
Clear without exception.
That we are not going to sacrifice our credit standards. We've got credit standards that are high we expect to continue to be very disciplined and only do transactions that meet our credit standards.
We're not going to do transactions that get so cheap that we don't.
Generate an appropriate risk adjusted returns. So we are negotiable to some extent on price, but but not beyond the limit and the result is that growth is the tertiary consideration and the variable but.
Just so because we're being disciplined without exception on credit and we're being reasonably disciplined on our return standards.
We've seen less growth than.
But as a result of two things as you say one is competition and two is the fact that there are just fewer deals that meet our credit standards today than there were a year or two or three years ago.
When there was a lot more room to build product and.
In most markets.
Thanks.
Okay.
Thank you our next.
Our next question comes from Stephen Scouten with Sandler O'neill.
Hi, guys good morning.
Hi, Steven.
So thanks again for all the color you guys given the and the management comments very helpful. I'm kind of curious how you guys are thinking about average earning asset trends.
Through nine and into 20, given the lower lower loan growth outlook in some of the details that you gave like configurate around Rory SG potential repayments over over the next couple of years and wondering if it's possible that average earning assets are relatively flat on it on a net basis or if thats too punitive of you and you All's minds.
Great question studies, and what I would.
So are you in that regard is that.
The.
Accelerating trend.
Repayments.
Of loans and are already SG portfolio as well as community banking and portfolio, we're having a lot of repayments refinances and community banking portfolio to Sperry.
Competitive environment in that world as well.
So that coupled with the just the ongoing paydowns in our purchase loan portfolio.
Certainly provides a headwind to growth and and total loans and.
Yes, it's a headwind to growth and average earning asset.
We have a strategy.
That we articulated in the management comments documents to address that and the impact of that on net interest income and.
One is we're working very hard in our real estate specialties group with.
Without sacrificing credit quality or pricing standards to just work really hard to generate.
Hi, good volume of.
New originations and through the first half of this year, we generated about $3 billion in round numbers of originations.
So we're running a little bit ahead of the average price for last year, we would hope that that origination trend would continue.
For the back half of the year and.
Hopefully even accelerate a bit into next year.
Uh huh.
Second like.
We are getting good volume out of our indirect marine and RV business, we hope to continue to get good volume and growth out of that.
As I responded to.
To to Moore's question.
There that is a business that.
Perhaps we can scale up even a little.
More by adding another.
Meaningful.
Addition of dealers to our relationships there.
Thirdly, we hope to get some significant increases in volume.
From our different verticals.
Specialty lending verticals in our community banking right.
And then you know we hope to also reduce our cost of funds to I'm sort of address that by more.
Effectively managing our mix and pricing of deposits.
So it's a it's a battle to grow earning assets when you got as many repayments as we do but we've got a strategy to attack that hopefully that strategy will be successful. We also hope that.
We can get some lift to our net interest income up from good from both growing earning assets and.
Mitigating that cost of deposits, but but it's I guess, it's a work we've got to do and you know, it's not going to be easy, but our team is very.
Committed and I think if we can be if market conditions will allow us to be successful I think we will because our teams are working hard to do that.
Yes, yes, that's very helpful and maybe on that funding side on the deposit side, obviously I have heard Tim <unk> comments earlier, but I'm curious how you think your deposit betas may react on the way down if we get two or three or four for rate cuts here. If you think in the first couple of cuts would have a minimal kind of beta and then it would ramp as we saw in the reverse or kind of how we can think about that potential improvement on funding cost with each theoretical rate cut amongst our netbacks down [laughter], Hey stated no I think it will act fairly similar to how it did on the rate the way up and we had a high deposit beta on the way up I think we're going to have a high deposit beta on the way down we are actively managing it so.
As I said earlier, we we started out this quarter trying to actively manage it ahead of any move so hopefully that will get US ahead of of it but you know deposits will lag a little bit from or why the war, specifically, a LIBOR moves pretty quickly and and but I think over a several quarter period, it'll catch up and we have a little bit of lag to it but we're working hard really early on in this quarter I'm to offsetting that and and feel good about the efforts we're making in.
I think you pointed out in your note is where our reduced or moderate loan growth.
And I said it earlier.
Should allow us some flexibility in in in running away some of our higher higher cost deposit customers.
Perfect Yeah. It all makes sense and then maybe one last kind of clarifying question I noticed the.
Loan to cost for the Argus II portfolio as a whole went up maybe couple.
51% for 49, and a half or something like that is that possibly due to that $300 million credit that appears to have gone away. It was that a really low loan to cost loan and that leaving pulled the average up or can you give any commentary as to what pulled that number up slightly.
Well you know Jerry I'll give you know, it's it's a change in a constant change in the mix of that portfolio. One one comment I would tell you probably the lowest loan to cost.
Pieces of our portfolio, where our Miami condo suppose if I recall average about a 37% loan to cost so when those get paid off but it tends to calls the average to go up.
So.
You know.
It's a it's a change in mix and and.
There's probably I I slot.
Tendency I would say for that.
Loan to cost number to go up I don't think it goes up a lot, but it wouldn't surprise me if in a quarter two we saw that at 52 or 53%.
I think you know one of the keys is to look at the loan to value number in the loan to value number move very.
Little.
And a pretty flat down there around 43% so.
We continue to feel very good about that and.
You know the reality is though.
Most of the guys are a lot of the guys that we compete with or 15 points, plus or minus higher or leverage or 20 points higher leverage than we are.
So we we continue to think we're probably the most.
Conservatively leveraged the guys in the space.
Yeah for sure well. Thank you guys for all the all the color and the transparency as always.
Thank you.
Our next question comes from Brock Vandervliet with EUV, yes.
Thank you George I wanted to circle back to that comment you made which I think could be really telling in terms of the competitive environment, you're seeing some refinancings from pre CEO .
Credits I mean that just seems.
Easing to me because I would think as a developer at that point of view.
Now you're on the final approach to a C O. The last thing you're thinking of is.
His rifai because you want to get over the line. So you can lock in the permanent financing or are these are these borrowers that are able to just bring that forward and get permanent financing even ahead of a CEO .
We have seen some.
A few competitors being very aggressive in.
Acquiring some assets and the.
You know usually want to sponsors in the middle of construction. They are focused on completing projects and selling or leasing and refinancing it.
Our.
Typical working premises Ben is the earliest we would get paid off from on an asset would be at.
T C O temporary certificate of occupancy are finally, I mean that would be the earliest in most cases it would be somewhat after that.
But.
What is encouraging our sponsors to.
Pay us off is a combination of lower rights and higher leverage so we have seen a.
Competitors come in and basically a refinance out all or a large part of the equity.
Or mass that plus size and do it at a.
Compellingly lower.
Cost of capital.
To the sponsor so I don't think that's a trend that is going to affect a lot of deals but it.
It's affecting enough deals that it's moving our prepayment numbers faster than we expected.
You know the reality is and and Tim put a really nice little chart in there on page.
Eight of our management comments document itself.
The figure number eight.
In the management comments documents that just shows on an annual basis each year, what the repayments have banned from the loans, we originated and what still outstanding for those and you know we we've talked for a long time that our Oreo portfolio is construction and development portfolio.
And these loans are going to pay off three years more or less after they originate so if it's a really.
Simple small non complex project by myself and 24 months, if it's an average deal they might buy off in three years or if it's a.
Project, that's really big complicated mixed use hard to construct the project it might be a four year timeline and the reality is you know our three biggest years of Ariyoshi originations ever were 15, 16 and 17.
So you jump forward from that 18, 19 and 20.
It's kind of the natural.
Cadence for those loans to pay out more or less.
A year or so and.
Scene that natural cadence unfold and get accelerated just a touch by the fact that you're getting loans that are paying off.
Even before T. CEO and CEO is creating some headwinds to our growth we worked through that big chunk of payoffs and hopefully successfully.
Diversify our portfolio and get more earning asset engines and get.
You know.
Reasonable up trend toward our U.S.G. originations as compared to the.
4.8 million or <unk> billion or so from last year.
We ought to be able to get back into a decent positive growth story, but we've got to work our way through this.
This season of payoffs.
And in terms of the competition you are seeing.
Yes, among among the banks it seems like if they haven't backed out of the business years ago, there tapering down construction. So it can't be coming from there are these credit funds that have always been in the space or is it new players.
What do you what do you see from.
The deals you're losing or their refinancing early.
Uh huh.
Rockets I you know, it's a combination of.
Big banks foreign banks debt funds.
You know there are a lot of players in the space and.
Those players who have been in the space, but last year plus in large numbers and.
You know you go back to 16 17, you saw a lot of banks pull out of this buys.
That created a.
The formation in the raising of a lot of money and a lot of debt funds credit funds that are targeting the space and then.
A lot of banks have come back into the space. So it.
It's a crowded space right now.
Got it okay. Thanks for the color. Thank you.
Our next question comes from Matt Olney with Stephens.
Yeah. Thanks, good morning, and just to piggyback off that last point about the early payoffs and Rds Gi.
I believe you now have the early prepayments fees in most if not all of your all your sheep projects that don't allow the bank to capture.
At least a portion of the interest income the bank whatever received.
So given the heavy pay downs into Q are we seeing more fees out into Q and should we continue to expect.
Higher fees the next few quarters.
Well of course those those.
Prepayment fees, you're alluding to Matt come through the interest line item.
As minimum interest on those loans. So so they show up as interest you know we commented the last a couple of quarters and in that not this management common stock from the last two.
That we have had some positive lift a basis point or two or three or four I don't remember the numbers to our NIM in those quarters from.
Higher levels of loan fees related to prepayments.
We didn't specifically comment on that and this management comments document we did have.
Several loans that had minimum interest in them when they paid now we would expect.
That to continue.
Some of our sponsors are very attentive to that minimum interest number and don't want to pay it. So they will wrap the loan to the day the minimum interest is around that.
Didn't pay it out very shortly after that.
Some sponsors take a broader view of.
Interest savings they might get it from a lower right refinance or.
Savings that they might get from cashing out a much larger.
Loan with another sponsor that would let them cash out missed it or or higher cost equity and factor that in so.
Sometimes we get minimum interest.
Paid sometimes the sponsors white us out on the transaction.
My My guess is that the.
Experience, we've had the last couple of quarters is probably.
Reasonably likely to be consistent with the experience. We would expect the next several quarters, which is why we made no comment about it and the management comments documents, but those are.
Chunky.
Prepayment minimum interest numbers and they're hard to predict but we think there's not a big delta between what we've experienced the last several quarters in that regard and what we would experience the next several quarters.
Okay. That's that's helpful. George and then also want to shift over to get your updated thoughts running stock repurchase plan.
I think its not something you've done.
Obviously in the company history bed with the updated loan growth guidance, a little bit softer I guess cash capital. We'll just continue to build so when would you reconsider the stance around stock repurchase activity.
Hey, Matt This is Tim it it's an active dialogue with our board at each each quarterly meeting.
We've got.
Obviously, given the updated guidance on loan growth.
But to your point earlier, we have never done a stock buyback on R. 22 year history as a public company, we would prefer to utilize that and leverage that capital to grow our bank and whether that's.
In short term medium term or long term, we feel really good over the long term about being able to utilize that capital and I think our board would prefer us over the long term to utilize and leverage that capital they'll continue to discuss it.
I would guess they're next major discussion regarding it would be early next year.
When they add an updated.
Financial projection in budget and strategic planning process that we do typically in early.
Early part of it I would not anticipate much more of a change in their stance between now and then and even then they're going to have to evaluate what they think are a long term prospects are for for buyback. So.
That's basically it.
Where we are today.
Okay, great. Thanks, Yaron, thanks for the color.
Thanks.
Our next question comes from capacity Mealor with KBW.
Thanks, Good morning.
Hi, good morning morning.
I can you mentioned that you've already lower than your promotional CD rates can you give us any I mean can you quantify maybe where professional rates has peak and maybe where you are.
Currently.
Katherine let me address that.
I don't think for competitive reasons, we're going to want to quantify that you know we made a comment in the management comments document but.
Competition in regard to deposits in our ability to moderate that pricing.
Just was really not evident in the first quarter and a half of the year.
As the second quarter wore on and particularly as a.
Expectations regarding the direction of fed action.
Really finally began to settle in on the deposit guys and I guess I guess some of that.
Ceos, probably looked at what was happening with their loan yields with LIBOR and so forth and we began to see some moderation in deposit pricing in the second quarter and particularly the back half of the second quarter. So we tried to get right in very actively and aggressively in that.
And continue that into the start of the fourth quarter. So we're we're optimistic we're going to be able to get cost funds down but for competitive reasons I don't want to discuss details of that.
Yes, that's fair that's fair.
And then just.
Looking back on the Ari as key gross I mean, you talked a lot in the past about.
Where we are the cycle and that while we may be at peak commercial real estate values.
Which may squeeze your sponsors a little different return perspective from a first lien perspective, you're still in a great spot in terms of credit quality and credit risk.
But is there any is there any thing that you can point to.
With the higher prepayments with the lower origination volume that.
He is kind of the decade, driven efforts and take the foot off the gas a little bit to avoid certain credits or certain markets.
Or.
You know is it really are you seeing kind of just.
What is it was it more just you're seeing less deal flow and it really is kind of just the competitive.
Dynamics that are really driving for growth I guess I'm trying to figure out how much of it is.
Is there any part that says he came driven versus always just really kind of responding to the background.
Yeah.
I would tell you I don't think any of it is obviously K driven.
We have always had very conservative.
Credit policy standards and practices those continue.
We've not tighten them up we have not liberalize those in place of increased competition.
I think all of the.
Volume impacts that you see are a result of the fact.
Two things as we said earlier and as you articulated one is it's more competitive environment with more players in the space.
And number two we're at a point in the cycle, where they're just last transaction.
That make sense to sponsors from an equity point of view to pursue so there are less opportunities to to do business and the opportunities that are getting done or.
Our percolating longer before they get to closing sponsors are very cautious and.
Transactions that three or four years ago might have gotten closed.
In 60 days after you first saw it sometimes might take.
A year and a half now or a year.
Or three quarters to get done sponsors or.
Our.
Taking their time and being cautious appropriately so and the economic environment. We're in so it's just a.
It's had any impact on our volume and you know we you don't want to force the volume.
A lot of our competitors are doing that they might get white with it and be richly rewarded for.
Jumping in there and being more aggressive on credit, but that's just not our style of doing business, we keep our discipline all the time.
Todd.
And.
Yes.
And then one final question just on loan yields so thinking about the margin how much of the change in loan yields would you say is driven just by the impact of libel or versus the mix shifts from going from our yes. She had to you the other verticals inject marine and RV I'm in your other verticals.
Well I like you're pretty much gauge the level, where impact just like lie bore at.
630 versus 331 and look at that difference in one month LIBOR floor and multiply that times the.
Percent of our variable rate loans tied to LIBOR and you can.
You can derive a pretty reasonable tied estimate of the impact of blackboard lab or being down.
During the quarter and we put a lot more charter in their own.
Fit your 16 I think it is in our management comments document.
But that shows that downturn in one month and three month LIBOR.
During the quarter and and that weighed on our margins there is a.
Also some impact from the changing mix of our port folio.
You know as we mentioned in the management comments document our U.S.G. portfolio being all variable rate loans says.
He has become our best yielding portfolio where is our.
Community Bank and.
Indirect marine and RV portfolio, and our marine and RV is all fixed right. The community bank, it's a mixture of fixed and variable right.
Those portfolios that have like behind in their yield as fed fund.
Right has gone up because of fixed rate component of those portfolios you go back.
To the time right before the fed started rising rates are our community bank portfolio the.
Marine portfolio the.
Our U.S.G. portfolios all had very similar yields, but obviously like perform differently because of the changing mix of variable fixed rate loans in this portfolio.
And one more if I may just very quickly on.
Substandard loans were down this quarter can you know what the direction of what watch list credits just this quarter bye bye.
Right could you repeat that you broke up a little bit.
So substandard loans look like they were down linked quarter, but you have the direction of what watch list credits get this quarter versus last.
I don't know how to I don't know I mean, I don't own vision. It changing much obviously, we had a one watch credit at ARIA. She that still watch credit Thats. There obviously are among our largest watch credit battle I don't know the direction of of.
Of the watch category, either I would not expect it to have a material difference from what it was at 331, obviously, our substandard went down because we moved to substandard loans that are U.S.G. to.
The Oreo.
During the quarter.
Great Kids to fair to say no large rds Gi watch credits they did this quarter.
Yeah, sorry history had and no new watch credits the Ariyoshi still only has that one watch credit that we've talked about extensively for the last several quarters.
Got it okay. That's great. Thank you.
Our next question comes from Matthew Breese with Piper Jaffrey.
Hey, good morning.
Good morning.
Just thinking about the variable nature of your loan portfolio juxtaposed with some of the early actions you've taken on the deposit side.
You know what the fed seemingly likely to cut you know at the end of the month or leased by the end of the year.
I was hoping for some color or expectations around the margin as we as we potentially go into effect cutting environment. How do you expect it to behave.
Well I think Tim included language in the management comments document that suggested that.
You know over.
Multiple quarters, we expect a roughly parallel move and and are.
Core spread there.
From.
Decline in Reits and points to the fact that in our nine quarters.
A fed increases I think our cost of interest bearing deposits were up four basis points more than our yield on.
Non purchase loans.
So we had quarters in there were.
The loans gain in core spread improved.
Quarters, and there were deposit cost increased more core spread decrease but over that.
Shifting for a period of time nine fed increases.
It was about a four basis point difference.
So we would expect a similar sort of movement going down but in the long term over multiple quarters like probably move pretty close to a tandem.
In the short run you'll say a quarter both directions, we would expect and.
Certainly we included in the management comments this time in bigger team is at 14.
Oh, all the floor rates and our.
Loans stratification of full rice and our loans.
And we commented that the.
In the paragraph below that that is a.
We have months.
Where.
You know older.
Variable rate loans with floors that were set at the time those loans were originated as those pay off with their lower floors, and we replaced those with new Lee.
Originated loans that are have floors at or near the the current right.
You know.
We.
Get rebuilt more protection into the variable rate loan portfolios. So.
I suspect the fed will got rights at the based on recent commentary at the end of this month, we would prefer that I quite you know another few months to do that because the.
Evolving.
Defensive nature of our loan portfolio to protect us from down rights improves every month as we roll off older loans and add on newer loans with floors closer to current right.
Understood. Yeah, I was just trying to think in stepping back and thinking about the slower loan growth outlook in the margin.
Combined with the efforts to really increase net interest income growth just trying to gauge or get an idea of when we could see that that inflection point higher on net interest income growth and if you have an idea of.
Over the next 12 months or 18 months, when we can start to see that.
Well I think that the.
Is going to depend really on on two things average, earning assets, which.
We'll.
Depend on on the effectiveness of our programs to.
Increase our U.S.G. origination without sacrificing credit quality to continue to scale up marine and RV without sacrificing credit quality or pricing and community bank.
Vertical scaling up and then.
The other important component as we set the management comments is our ability to better manage our cost of funds and get that down.
So I think though I think those are the variables but.
Hopefully we've got to solve to get to a positive net interest income number sooner.
Rather than lighter if were very effective at solving those variables that we can generate more average, earning assets and get our cost of funds down.
I think that will help us get to a positive net interest income scenario much sooner if we.
Languish in our efforts to achieve those goals and that's kind of push that out farther.
Okay, and then just to get a better idea of how competitive things are.
When you do lose a deal or something is refinanced away from you. When you look at the terms of the competitor.
Do you look at those and say you know that individual or that.
Funding source is really taking it on the profitability perspective, where do you see a real real building risk from a credit perspective on behalf of the new borrower.
Well I will let me I don't want to speak for my competitors I'll just tell you we look at.
We look at a lot of transactions that we lose and a lot of transactions that get refinanced away from us and.
We make the comment that we would never do that loan at that leverage around those credit terms and often times. We also made the comment we would never do that loan at that pricing for that.
That duration so.
We scratch our heads a lot it how aggressive some of our competitors are on both.
Credit and pricing terms that at times.
Yet despite the very competitive environment.
Our our lenders are doing a very good job of generating positive loan growth in a in a crazy competitive environment.
Understood. Okay. Just last one for me thinking about the New York City construction portfolio.
On the exposure there across the different asset classes, just wanted to get a sense for that given the new multifamily rent laws and whether or not that would or would not have a real impact on you.
We don't think that has any real impact on us at all you know we've never been a an active lender in that.
Bye.
Rent regulated rent stabilized properties now Tim mentioned in the management comments document that.
A lot of our multi family loans I think it's about a half dozen of them in the New York area.
Tap for 21, eight tax abatement provision so.
The way that works as a sponsor.
Can enter into a contractual agreement.
The city or housing authority I'm, not sure who the counterparty does that agreement is but the.
You know a sponsor may be doing I.
200 unit apartment project and they may agree to make 15% of those units 60% of them available at below market right.
To.
Individuals that are making some percentage of the median income maybe 85% of the median income.
So in exchange for a contractual agreement to Mike.
Those units that part of the project available at below market rates for 25 years site as sponsor might get a 25 year a bite my reduction in taxes on the project. So its simply a mathematical calculation.
On the sponsors point of view, how much of a saving and taxes versus how much was like given up in rental income to my portion of the project.
Available to.
People, who made a certain percentage of the median income threshold.
Our sense is and it's not absolutely clear, but our sense is that the you.
Legislation that was passed for the.
For the state would limit those.
Increases rental increases on those.
Below market right units, which again is 10 to 20 per se on or.
Project.
Typically would limit that to the 2% annual increase that has no effect on us.
Because.
We didn't underwrite any increases in rents.
Either.
The below market right are the market right rents in our economic analysis of the project, we assume flat rents with no.
No in prices so.
We're not really affected by that and of course, the a one of the more pernicious provisions of the new law is the fact that.
A landlord cannot recover capital expenditures.
More than 2% per annum.
And which makes it in feasible for people who need to renovate these properties to renovate them in an ever recover the renovation costs that doesn't come into play at all on our 421 <unk> projects because that's all new construction there is no renovation at all.
And then we had a tiny handful and I'm going to ask Tim to give the numbers 2020 3 million, we have $23 million of loans left over from our Interfast acquisition 25, maybe about $25 million of loans I'm, sorry, not 23 to 25 left over from our Intervest acquisition and these are small multifamily.
Projects that I have one or more.
Rent stabilized units in them and typically they have more market rate units been rent stabilized where they are if one or more rent stabilized or rent subsidize units in each of the.
But we think that's a very I'll say some portfolio very low leverage the leverage and 29% loan to value today, yeah, 29% loan to value and the debt service coverage on them as two plus I think so.
You know the impact of the long that relatively a tiny bit of our portfolio is negligible and we don't think really theres any impact there given the.
Low leverage and debt service coverage and seasoned nature of that portfolio.
Understood very helpful. I appreciate it thank you.
Thank you.
Our next question comes from Brian Martin with Janney Montgomery.
Hey, good morning.
Good morning, Brian .
Hey, just a couple of things for me and keep it short the.
Maybe I don't know, if it's Tim or George said that on the deposit side, what what per se what percentage of the deposits that kind of rate sensitive that move without you guys doing anything versus where the opportunity is to take action like Tim mentioned, where you've kind of been active already this quarter, thus far but what's what's the rate sensitive deposits to a day one change.
Well.
Brian They you know the deposit book falls into two categories. One is the days that have a fixed rate for the duration of the cdeight contract.
Those will move and will move based on rights that we set when bike tour.
And then the others are administered right products that.
The.
We made a conscious decision to change the rate on it such as the savings account or money market account or whatever and.
And.
Might that make the right change on those administered right products. So.
They're they're all none of them are very few I guess, we have a couple of deposit relationships that actually flow with the small number more than a couple, but a small number that actually flow with.
Fed funds target rate or fed funds effective rate or something like that but the vast majority of our deposits are either administer fixed CD maturity deposits and.
You know that.
The.
Equation wire paradigm, there is how much can you adjust rates and.
Not meaningfully impair your relationship with the boss.
Got you Okay. That's helpful and just on the on the on the loan side.
Just in kind of the community banking verticals I mean, I know the outside of the boat in our indirect portfolio, where is the biggest opportunity to scale up in some of the other areas to help.
Maybe offset some of the payoffs scenario, which which areas are you seeing more traction and today are more optimistic about.
We've got several areas there that where we're getting some traction then and some will be more meaningful than others. We.
We would really like to expand our government guaranteed SP, a lending business organically in our local markets through our local branches using our GL team.
We think we can do that.
One of the.
Increases in overhead as we've been trying to staff up and that unit.
To.
Get more volume out of that we think that helps us serve our communities in a very proactive way and provides a.
Good quality, good yielding loans for us at the same time, our business Aviation group. We've added a couple of more origination people buyer and we we think we've got some good opportunities. There in fact that group is coming to say may right. After this call to discuss.
Transaction, they are working on but like maybe look at.
Where we're trying to get more traction in affordable housing and charter schools articles are.
Subscription financing kind of special they see an eye business, we've got a really good transaction.
That we're excited about they are that would be a almost 100 million dollar transaction that we're working on have been working on for a number of months couple of quarters now that.
Seems to be coming to Parisian I've got a couple of other things to close there. So you know none of these is going to be an R.U.S.G. or indirect marine RV type of volume business.
But collectively we're hoping that we can get just every quarter, a little bit more scale and volume out of the phase and that you know over the course of 2020.
They'll become a much more significant contributors to our growth and the diversification of our portfolio.
Okay. That's that's helpful and just the last items the yet I, maybe I missed it I joined a little bit late I know.
Sounds like they are talking about the expenses, but just is it fair to assume from the comments I heard in the tail end that the expense growth in the next several quarters, particularly through one Q is kind of a similar type of pace give or take and then it maybe moderates a little bit thereafter is that.
Kind of what I heard on that.
Brian that's consistent what we said earlier, yes, we do think that it will still have some growth in that expense line out over the next two or three quarters, but we are hopeful that as we get into 2020, but we can get our build out of some of these areas we've been focused on.
It will allow us to.
See you less less increased quarter over quarter basis.
In the last two or three quarters.
Okay. Thanks, Craig and then just the and the last one was just on the on the margin and kind of course spread I guess is your outlook I guess, George just for Tim on the on the core margin.
Yes, I guess, just the margin versus the core spread I guess that those will kind of follow one another meeting I guess, maybe or there's not a lot of risk to where the margins at today over time.
Similar to what you're saying on the core spread I mean those are.
I guess pretty connected is that how you guys are thinking about and how we should be thinking about it.
Yeah, I mean, they're they're going to be a mostly connected I mean, obviously purchase loans is another big component of our of our margin.
Yep and securities is too so how those move will impact margin, obviously today the loan yield on non purchased and purchase.
Our fairly similar yes, so that that that's an <unk> those are the other two variables in the margin.
Okay. All right. That's all I had guys I appreciate it.
Thanks.
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