BOK Financial Corp
NASDAQ:BOKF
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BOK Financial Corp
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Greetings. And welcome to the BOK Financial Corporation Second Quarter 2020 Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instruction] As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host, Mr. Steven Nell, Chief Financial Officer for BOK Financial Corporation. Thank you. You may begin.
Good morning and thanks for joining us. Today our CEO, Steve Bradshaw, will provide opening comments and Stacy Kymes, Executive Vice President of Corporate Banking will cover our loan portfolio, including detail around our energy, healthcare and commercial real estate portfolios.
Marc Maun, our Chief Credit Officer will cover credit metrics; and Scott Grauer, our Executive Vice President of Wealth Management will cover the outstanding results from his team this quarter.
Lastly, I will provide second quarter details regarding net interest income, net interest margin, additional fee revenues, expenses and our overall balance sheet position from a liquidity and capital standpoint. In addition, I will provide a few thoughts regarding expectations for future quarters.
PDFs of the slide presentation and second quarter press release are available on our website at bokf.com. We refer you to the disclaimers on slide two as it pertains to any forward-looking statements we make during the call.
I will now turn the call over to Steve Bradshaw.
Good morning. Thanks for joining us to discuss the second quarter of 2020 financial results. We are pleased to report a record quarter for BOK Financial in terms of pre-provision net revenue, despite the many economic challenges due to COVID-19.
Shown on slide four, second quarter net income was $64.7 million or $0.92 per diluted share. That’s up 4% from last quarter, despite another quarter of elevated provision for credit losses. Earnings this quarter were bolstered dramatically by $214 million in revenues from our fee businesses, as our Wealth Management and Mortgage teams have continued their momentum to post simultaneous record quarters for the company.
Focusing on pre-provision net revenue, it’s clear to see the significant benefit we drive for our company with our long-term commitment to balanced revenue and breadth of business capabilities. Pre-provision net revenue was $216 million this quarter, the highest level in the history of our company. Considering the environment we find ourselves in today, this is truly a remarkable outcome that all of our high performing and talented employees should be proud of.
Fees and commissions revenue was up nearly 11% from the previous quarter and an incredible 21% quarterly year-over-year on continued strong Wealth Management and Mortgage revenues. Fee revenue now represents 43% of total revenue. That’s up from 38% in the same quarter a year ago. This once again demonstrates an important differentiating characteristic of BOK Financial. We have long had a diverse revenue mix that provides an earnings buffer and economic downturns because of the counter cyclical nature of some of these fee revenue streams.
Expense management remains prudent with an efficiency ratio below 60% for the quarter, even with the shift in the mix of revenue towards fee income. It should also be noted that we added $3 million in unplanned contribution to our foundation, including an incremental $1 million in the second quarter to aid those in our communities with food and security, while providing much needed jobs for displace restaurant workers.
Our loan loss provision was $135 million this quarter, due to a combination of changes in our reasonable and supportable forecasts of macroeconomic variables, along with some credit migration that Marc will cover in more detail momentarily. While we continue to build a reserve again this quarter, we believe the material reserve build should be largely complete, assuming our economic forecast is in line going forward.
Net interest revenue was up $16.7 million to $278 million this quarter. Despite the ongoing impact of the 150 basis points of emergency rate cuts in March, our ability to decrease deposit costs and the relatively elevated nature of LIBOR early in the quarter helps preserve a large portion of our margin. Steven will cover the underlying components in more detail later in the call.
Turning to slide five, average loans increased $2.2 billion to eclipse $24 billion this quarter. While this was positive for the company overall, $1.7 billion of this was due to the Small Business Administration’s PPP Program.
Average deposits were up nearly 16% linked quarter and up nearly 30% from the same quarter a year ago. We attribute this strong growth to continued momentum and deposit gathering activities, along with PPP loan deposits and government stimulus payments. Even with the significant growth in deposits, we were able to bring overall interest bearing cost down from 98 basis points last quarter to 34 basis points this quarter as we were able to adjust rates paid on interest bearing deposits due to our proactive management in the face of an unprecedented fed movement in the first quarter.
Assets under management or in custody were up nearly 5% this quarter on strong sales efforts and increases in the equity markets during the quarter. We believe asset growth is in part attributable to the volatility in the markets, which is really underscore the value that a professional advisor brings to individual and corporate investors during times of extreme uncertainty.
I will provide additional perspective on the results at the conclusion of the prepared remarks, but now Stacy Kymes will review the loan portfolio in more detail. I will turn the call over to Stacy.
Thanks, Steve. As you can see on slide seven, period end loans were $24.2 billion, up $1.7 billion for the quarter. PPP loans added $2.1 billion to the portfolio, so that we did see growth in some of our specialty areas net of PPP broad pay downs across our core commercial and industrial loan book actually contracted the portfolio this quarter. Some of this was repayment of more defensive draws in the first quarter and some of this was through the organic decline in economic activity.
Energy loans contracted 3.3% for the quarter, as commodity prices made new deals difficult to source in the current environment. Energy borrowers are paying down debt to reduce leverage at this point in the cycle. Energy commitments were down $360 million from the first quarter of 2020 and $630 million since the end of the year.
These commitment declines are a direct result that redetermination of borrowing basis that occurred during the second quarter. Despite these factors, we remain open for business and continue to support our customers in the energy industry.
Energy lending is core to our DNA and our experience in previous commodity cycles prove that this is a profitable business when approached in a consistent and disciplined manner. This business is more than just lending activities as evidenced by the record quarter we had a $5.4 million in energy derivatives revenue this quarter as customers continue to aggressively manage their commodity risk.
This long-term view has served as well and today we remain well-positioned in the industry with a complete service offering, world class interview bankers and enviable customer base. We continue to see great opportunity for our energy franchise over the next several years, as other banks have retrieved from this space entirely or in part. Marc will cover the credit specifics of the energy portfolio momentarily. But as we said in the past, we believe the duration of the oil price decline is a more significant factor affecting performance than the level of prices.
Our healthcare sector loan balances increased $124 million to $3.3 billion or nearly 4% for the quarter, primarily due to growth in balances from the hospital system clients who demonstrate a strong credit profile. This client segment has been impacted due to deferrals of elective procedures, as well as the need to increase the inventory of supplies and protective equipment.
That said, the CARES Act has multiple revenue enhancement measures for both hospitals and skilled nursing facilities as they manage through the risk of the virus. This has benefited multiple clients and is expected to help mitigate the credit risk in the healthcare portfolio. While it is still early, thus far, we have not realized any material credit migration or deterioration in this portfolio.
Commercial real estate loan balances were up 2.3% from the previous quarter, largely due to the lowest level of pay downs we have seen in many years as a result of friction in the permanent financing market. While PPP loans did help stimulate overall loan growth in the second quarter, our outlook for loan growth for the rest of the year will largely be determined by the speed and shape of the broader economic recovery.
I will turn the call over to Marc Maun to discuss our credit metrics. Mark?
Thanks, Stacy. Turning to slide nine, we have again compiled a list of loan segments we consider more exposed to the economic impact of the pandemic. As you can see, the exposure to the entertainment and recreation, which includes gaming in our Native American Specialty portfolio that boasts a strong credit profile, retail, hotels, churches, airline travel and higher education that are dependent on large social gatherings to remain profitable today is less than 7% of our total portfolio. This group of loans is highly diversified with over 550 loans for an average loan size of less than $3 million.
Some of these clients have participated in the Paycheck Protection Program, which has provided some measure of relief. We will obviously continue monitoring these exposures closely in the coming months.
Credit quality has remained manageable and -- but there has been some migration of non-accrual and potential problem loans, given the current economic environment, primarily in our energy portfolio that led to a larger provision for credit losses in the second quarter.
Slide 10 details our provision actions this quarter. The total provision was $135.3 million with $138.8 million related to lending activities. Changes in our reasonable and supportable forecasts macroeconomic variables, primarily due to the anticipated impact of the ongoing COVID-19 pandemic, another assumption required a provision of $54.6 million.
All other changes totaled $84.2 million, which included $14.4 million primarily due to increase specific impairment of energy loans and portfolio changes of $55.7 million, primarily due to changes in risk grades related to energy loans. The $84.2 million was partially offset by the impact of a decrease in loan balances and net charge offs of $14.1 million, bringing net portfolio change adjustments to $70.1 million for the quarter. The provision related to lending activities was partially offset by a $3.6 million decrease in the accrual for expected credit losses for Mortgage Banking activities.
Our base case reasonable and supportable forecast includes an 18% increase in GDP and an 8.4% civilian unemployment rate in the third quarter of 2020, as adjusted for the impact of government stimulus programs. Our forward 12-month forecast through the second quarter of 2021 assumes a 5% increase in GDP and an 8.5% civilian unemployment rate.
WTI oil prices are projected to generally follow the NYMEX forward curve that existed at the end of June 2020, $38.99 per barrel for delivery in the third quarter of 2020 and increasing to $40.13 per barrel in the second quarter of 2021.
Our downside reasonable and supportable forecast reflects a more severe and prolonged disruption in economic activity than the base case and includes a 6% increase in GDP and a 9.7% adjusted civilian unemployment rate in the third quarter of 2020.
Our forward 12-month forecast through the second quarter ‘21 assumes a 6% increase in GDP and a 10% adjusted civilian unemployment rate. WTI oil prices are projected to range from $33.99 per barrel for delivery in the third quarter of 2020 to $34.63 per barrel for delivery in the second quarter of 2021.
Turning to slide 11, non-accruing loans increased $92 million this quarter, primarily due to a $67 million increase in non-accruing energy loans and a $13 million increase in non-accruing services loan. As we have said before, we believe the risk of migration to potential problem in non-accruing status outweighs the risk of loss in the energy portfolio.
Potential problem loans totaled $626 million at quarter end, up from $293 million at March 31st. This increase largely comes from the energy portfolio as the recent oil price decline, coupled with the capital markets, environment requiring certain customers to work through their liquidity needs weighed on some energy borrowers.
Commodity prices, particularly oil prices remain depressed throughout most of the second quarter, but recovered somewhat in June. As we noted last quarter, if prices remain depressed as we went through the spring borrowing base redetermination process, we would expect continued credit quality issues in this portfolio. We realized this migration as we completed most of our redeterminations in April and May. Prices have improved since, but do remain fragile and closely tied to the continued economic recovery. Should current price levels hold into the fall, we would anticipate positive credit quality migration in this portfolio.
The allowance for loan losses totaled $436 million or 1.8% of outstanding loans at June 30, 2020. Excluding PPP loans, the allowance for loan losses was 1.97% of outstanding loan and the combined allowance for loan losses and accrual for off balance sheet credit risk from unfunded loan commitments was 2.12%.
Fiscal stimulus has had a positive effect on credit quality through PPP loans, SBA support and other CARES Act programs. That said, we received a number of deferral or forbearance requests early in the quarter but very few new ones after April.
All requests were evaluated on a case by case basis and we have granted $1.2 billion in forbearance requests from customers as of June 30th, including $704 million or about 5% of commercial loans, primarily in the small business and healthcare portfolios, $398 million or roughly 9% of the commercial real estate loans and $143 million or roughly 4% of loans to individuals.
We are just starting to reach the expiration of the first 90 days and today over 60% of the deferred loans are going back to regular payments. While retail commercial real estate does account for over 40% of our commercial real estate deferrals, we have not experienced any material credit issues to-date, primarily due to stimulus programs. Clearly, the retail portion of this portfolio is the most vulnerable to sustain stay-at-home and shelter-in-place directed.
As with oil, the loss content and retail will closely correlate with the duration of the various governmental orders and adjustments in consumer behavior after these orders are lifted. Our office and multifamily, we will see impacts here, we believe our geographic footprint will help us in these segments in long-term, because of the strong in migration over time. Short-term quality migration in commercial real estate will be dependent on economic recovery and the impact of fiscal stimulus.
I will turn the call over to Scott Grauer to cover the Wealth Management fee revenue contribution this quarter. Scott?
Thanks, Marc. On slide 13 you will see the highlights of the Wealth Management division second quarter financial results. As our investors know, Wealth Management is a business that we have been committed to for over a century at BOK Financial, with a broad cross section of products and services including institutional and personal wealth management, trust services for individuals and corporations, and institutions, private banking services, retail and institutional brokerage, investment banking and financial risk management, as well as a few others.
Wealth Management revenue was up 14% to $134 million from the previous quarter and up 18% quarterly year-over-year. This is inclusive of the fee income lines that investors see in our corporate income statement, brokerage and trading and fiduciary asset management, but it also includes net interest income from loans and deposits, and our private wealth group in our trading portfolio.
BOKF’s continued its growth in hedging pipeline risk and providing liquidity to mortgage originators, strengthening its position as a market leader and a market maker in that space. Overall, mortgage issuance increases driven by lower rates as the fed stepped in to provide market stability and GSE policy changes around forbearance created an opportunity for BOKF to provide greater liquidity to the housing market during a period of record volume, increasing the trading portfolio by 27% and driving a record quarter in our trading and derivatives business.
Total brokerage and trading revenues generated in the Wealth Management division were up 61% from the same quarter a year ago, eclipsing $54 million. The majority of this was derived for mortgage related trading activity with second quarter total MBS, TBA trading related revenue of $48 million. That’s a 21% increase over linked quarter and a 220% increase from the same quarter a year ago.
Net direct contribution which is operating income before corporate allocations was up a robust 37% for the quarter. This was a result of careful expense management as total operating expenses for the division before corporate allocations were up only 3% compared to last quarter and up 16% from the same quarter a year ago, despite the outsized revenue growth. This translated into significant and meaningful earnings leverage for the division.
On the net interest revenue side, Wealth Management loans were up slightly and deposits were up 10% respectively this quarter, a testament to our ability to be additive in a multitude of ways to the company. In fact, Wealth Management deposits now represent 26% of the total company deposits, as our efforts there have expanded relative to the rest of the company.
Perhaps most importantly, the stage is set for continued growth in the Wealth Management division. In the short-term, lower interest rates and the resulting stimulation of the mortgage industry bodes well for continued performance in our brokerage and trading segment.
Longer term, the retirement of the baby boomers and the transfer of nearly 6 trillion of wealth to their heirs is one of the most powerful demographic trends facing the Wealth Management industry. We believe we are well-positioned to benefit with a diverse set of products and services to meet the needs of the next-generation.
I will now turn the call over to Steven Nell. Steven?
Thanks, Scott. As noted on slide 15, net interest income for the quarter was $278 million, up nearly $17 million from the first quarter, though $13.6 million of that was attributable to PPP loan activity.
Net interest margin was 2.83%, compared to 2.80% in the previous quarter. The extreme reduction in deposit costs of 64 basis points all the way down to 34 basis points, LIBOR spread remaining elevated early in the second quarter and the strategic positioning of our balance sheet have combined to reduce the pressure on margin this quarter. Excluding the impact of PPP loans, net interest margin was 2.82%, compared to 2.80$ in the previous quarter, a testament to the steps we have taken.
Average earning assets increased $1.9 billion over the last quarter and average loan balances increased $2.2 billion, largely due to the influx of PPP loans in the second quarter. Available for sale securities increased $816 million as we have adjusted our balance sheet for the current rate environment.
Fair value ops and securities held as an economic hedge of the changes in fair value of mortgage servicing rights decreased $1 billion. In addition, receivables from unsettled security sales primarily related to our mortgage-backed trading operations increased $1.6 billion.
Growth in average earning assets and non-interest-bearing receivables was largely funded by $2.2 billion increase in interest-bearing deposits. More than $2 billion of PPP loans outstanding at quarter end were funded through the federal reserve PPP liquidity facility.
On slide 16, fees and commission were $213.7 million, an increase of nearly 11% from last quarter and an increase of 21% quarterly year-over-year. This was fueled largely by strength in our brokerage and trading business as Scott just covered, but also a record quarter from our Mortgage Banking activities.
Mortgage Banking saw a significant surge in production revenue this quarter, growing $17.6 million or more than 81% relative to last quarter and almost 230% from the same quarter a year ago. While volumes were up, it was the increase in gain on sale margins of 159 basis points compared to last quarter that drove the strength. Today the industry is against capacity constraints, which is easing pricing competition and growing margins.
Refinances represented 71% of total originations as low rates drove much of the demand. While we see the second quarter as peak seasonality in the space, we fully expect to be able to capture our share of the purchase and refinance activity as long as the opportunities persist.
Service charges decreased $4.1 million largely due to the shelter-in-place impacts coupled with proactive waivers of fees that were extended as a courtesy to our customers during the pandemic.
Another success story of the quarter relates to the hedging of our mortgage servicing rights. This quarter the net MSR activity results in a $9.3 million benefit due to the combination of positive net hedging results, modest assumption updates and an economic benefit from the sale of approximately $1.6 billion in unpaid principal balance of our out-of-footprint Ginnie Mae servicing rights, an impressive outcome as the rate environment remains volatile. Many of our fee businesses are clearly driving the overall success story of the company, once again highlighting the significance of the revenue diversity that we have.
Turning to slide 17, total operating expenses increased $26.8 million to $295.4 million. Personnel expense increased $20 million for the quarter, largely due to a $22.3 million increase in incentive-based compensation split between cash based and deferred compensation. The cash-based portion of $11 million resulted from increased trading in mortgage activity and $11.6 million of deferred compensation largely related to the overall equity market recovery. This recognition of deferred compensation expense is offset by an $11.7 million gain on related deferred compensation assets, resulting in no earnings impact for the quarter.
Other components included an increase in regular compensation of $1.5 million and a seasonal payroll tax decrease and employee benefits of $2.1 million.
Non-personnel expense was up $6.7 million for the quarter. Mortgage Banking costs increased $5.1 million, with $1.7 million due to MSR amortization expense and $2.8 million due to changes in our portfolio and loan counts, delinquency levels and additional accrual relating to losses on loans in forbearance. Occupancy and equipment expense increased $4.6 million, due to the impairment of two leases.
We also made a charitable contribution of $3 million to the BOKF Foundation in the second quarter. These increases were partially offset by a decrease of $4.3 million in business promotion cost, largely related to reduced travel and entertainment expenses as a result of the pandemic.
Our liquidity position remains very strong, given the exceptional inflow of deposit balances. Our loan to deposit ratio is now 71%, compared to 77% at March 31st, providing significant on-balance sheet liquidity to meet future customer needs. Additionally we have $14.6 billion of secured borrowing capacity and over $6.5 billion of unsecured and contingent liquidity capacities to support liquidity needs of the company.
Our capital levels remained strong with a common equity Tier 1 ratio of 11.4%, an improvement from 10.98% last quarter and well ahead of our internal operating range minimums and a full 440 basis points above regulatory minimums.
Our internal stress test had given us confidence to support our customer base and to maintain our current level of dividends. Although, we have no set plans or commitments to buy back stock in the near-term, our capital levels would allow for that opportunity. Currently, we don’t feel the need to supplement the holding company or bank level capital with any capital raising actions.
Due to the continued uncertainty around the severity and duration of the pandemic and its impact on the broader economy, it’s difficult to provide specific guidance that we have done in more normal times, but I will give you a few comments on slide 19 that might be helpful.
Our loan growth is expected to be soft for the foreseeable future, most energy deals will likely not be done at current prices, many health care opportunities will remain on hold due to the pandemic and little activity will be present in our CRE and C&I portfolios. We will continue to originate mortgage loans very limited amount ending up in our permanent portfolio.
Our available for sale securities portfolio, which is largely agency mortgage-backed securities yielded 2.29% during the second quarter. Given the sustained low rate environment, prepayments could reach over $700 million per quarter. We expect to reinvest those cash flows at current rates around 90 basis points to 100 basis points.
As we noted, we had success during the second quarter driving deposit costs down significantly. We feel there’s a bit more room to reduce deposit costs but likely will not drift much below 30 basis points, which is comparable to our deposit cost low watermark during the last near zero rate environment. The combination of pressure of asset yields and little room to lower deposit costs will put some pressure on net interest margin in the next quarter.
Our diverse portfolio of fee revenue stream should continue to provide some mitigating impact to overall earnings pressure being felt in our spread businesses. We expect our brokerage and trading activity to continue at elevated levels, given our products and capabilities in the mortgage-backed trading space.
Our mortgage origination and servicing business should remain solid, but will likely slow some as refinance opportunities abate and seasonality trends slow as the year progresses. Our disciplined approach to controlling personnel and non-personnel costs will continue. We have no plans to reduce staffing or cut existing capabilities or product.
As you have seen with BOKF and most other banks, significant loan loss reserve building has taken place during the first quarter and second quarter. Although, there remains much uncertainty in the economic environment, we believe loan loss reserve building is largely behind us. As I mentioned a moment ago, we feel good about our capital strength, we will maintain our current level of quarterly cash dividends and we will evaluate share buyback as the year continues.
I will now turn the call back over to Steve Bradshaw for closing commentary.
Thanks, Steven. Our success this quarter is a result of a long-term strategy to serve clients in a holistic way, with a benefit to shareholders of less earnings volatility and enhanced risk mitigation as we do not feel any temptation to reach for growth by extending risk in any of our lending businesses.
Those who have been with us for a while can think back to the last interest rate cycle where most financial institutions saw their earnings opportunities compressed with business revenue. At that time as it does today, BOK Financial outperform with a unique heavily fee-based business model that benefited our shareholders through that challenging environment. While no two downturns are the same, there are clearly several bright spots proven out of BOKF today namely in our Wealth Management and our Mortgage businesses.
That said, the most significant uptake going forward will be the return of full economic activity in a safe manner across the nation. Ultimately, we thrive when our clients and our communities do, so our expectations remain tempered as the path to a healthier macro environment comes into focus. Until that time, we will continue to do everything we can to assist our customers regardless of the speed and shape of the economic recovery.
Achieving more together is a phrase you will often hear at BOKF and that couldn’t be more true today. When COVID-19 began to threaten our communities, we stood together taking difficult steps to reduce the risk of infection from clients and each other. Being together apart does have its own set of challenges, but we continue to learn from our virtual experience and we are laying in shape how we will manage aspects of our business going forward.
I am just as proud of the resiliency I see in the individuals across our organization as I am of the financial outcomes it is generating. Our strategy and our people at BOK Financial are clearly different than most similar sized peers and I think that our ability to compete effectively with the national banks and investment firms is a significant factor in the results we have produced this quarter.
With that, we are pleased to take your questions. Operator?
Thank you. [Operator Instructions] Our first question is coming from Ken Zerbe of Morgan Stanley. Please go ahead.
Great. Thanks. Good morning.
Good morning, Ken.
Good morning.
I guess, just sort of a broad question about energy. I know when the whole pandemic started, you guys served me some cautious commentary just about, obviously, the duration and the magnitude of the pandemic could lead to some pretty serious losses, I think, or continue -- to continue. How is that -- it’s been three months since your last earnings release, like how has the trends in the energy industry performed versus kind of your expectations at the beginning of the cycle? Thanks.
Sure. Ken, this is Stacy. I think from our perspective, the recovery has been swifter than we would have anticipated when it began. I think the market, and I think, including us, didn’t forecast the level of shut-in production and things that would happen to curtail supply in this environment.
We saw a very strong response from the industry when prices declined so precipitously and so the industry has always been self-healing and we talk about that. It usually takes six months to 18 months to kind of find a new equilibrium price.
But, certainly, the price recovery that we have seen in the last 30 days or so, particularly in oil, has been very encouraging, and certainly, we feel much, much better about future loss potential at these price levels than what we were where.
On the strip average, not on the spot, but only on the strip average, we are $12 or so per barrel higher today than we were when we had our earnings call last quarter and that makes a big difference in terms of our outlook and what we see as a potential loss content there.
I think Marc alluded in his comments to the fact that if prices stay here, we would expect to see positive credit outcomes from a credit migration perspective as we move into the third quarter and the fourth quarter.
Recall that we don’t downgrade the whole portfolio when prices move. We do that as we touch them through the semiannual redetermination process and those prices were not great prices when we were going through the redetermination.
But much in the same way, we don’t upgrade the entire portfolio when there is a price recovery. So as we touch those credits in the late third quarter and into the fourth quarter, if prices hold at these levels, we would expect to see a very positive migration in that book.
All right. Great. Perfect. And then just a second question, you added a line in your press release that it looks like you -- of your deposit growth, well, it says $2.7 billion was related to CARES Act funding. I think you had $2.1 billion of PPP loans. Could you just clarify that, did you accessed the federal government’s facility to fund the PPP loans? Is that a part of the deposit growth?
Ken, this is Steven. No. That was just an inflow both from PPP, as well as all other kind of CARES Act initiatives that generated that deposit growth. So it was not just PPP but it was other CARES Act stimulus that flowed into our customer’s accounts.
So we went through and tried to find out how much of our $4.5 billion of deposit growth was related to either CARES or other stimulus programs and came up with roughly $2.7 billion of that growth was from those areas. The rest of it was just regular kind of growth from our core customer base.
I see. Okay. So, if the PPP loans payoff and -- or let’s just say, PPP plus loans payoff, then maybe $2.7 billion of those -- that funding might go away or that deposits go away. But then you are saying the other call roughly $2 billion of deposits is just core deposits that might be more sustainable over time.
That’s correct.
All right. Perfect. Thank you very much for the questions.
Thank you. Our next question is coming from Gary Tenner of D.A. Davidson. Please go ahead.
Thanks. Good morning, everybody.
Good morning.
Marc, I appreciate the color on the economic outlook. I think in the slide deck, you have noted kind of build was based on three scenarios that you highlighted two. Could you -- I assume the third is that a further on adverse scenario or is that a kind of upward scenario and maybe could you tell us the weightings between the three scenarios that you used?
Sure. The base case scenarios when we highlighted there that we weighted at 50%. We also run an upside case and a downside case that weighted each of those at 25%. That’s similar weighting to what we had in the first quarter.
Again, the economy is moving so quickly and changing so rapidly that we felt that kind of that base even weighting across those scenarios of 50%-25%-25% help reflect kind of that potential volatility.
Okay. Thank you. And then as you are thinking about recognizing the fee side of the PPP loans and what you have got embedded in the net interest revenue this quarter from that. Was that just based on a 24 month average life where or have you made any other adjustments in terms of assuming a shorter average life for revenue recognition purposes?
So, yeah, this is Steven. You are correct. We felt -- there was about $13.6 million I believe benefit in our net interest income from PPP split. Well, not split, but roughly $10 million or a little bit more was the fee recognition side and another $3 million or so just in net interest income from PPP loans.
We have it weighted as those loans begin to get forgiven out more in the fourth quarter than any other period. So you will see additional in the third quarter, but then more in the fourth quarter as we think a lot of those will begin to get into forgiveness status and then there will be a tail of it as those loans stay on the books out for 24 months. So we have got it states out that way.
All right. Thank you.
Thank you. Our next question is coming from Brady Gailey of KBW. Please go ahead.
Hey. Thanks. Good morning, guys.
Good morning.
Good morning.
I wanted to start with fee income, I mean, you have another new record this quarter after another record last quarter, but it sounds like -- I mean, from your commentary, it sounds like brokerage and trading could remain at this level, mortgage could come down some, but it sounds like fee income will remain at close to this elevated level for the rest of the year. Is that the right way to think about the strength in fee income?
Scott, why don’t you take the brokerage and trading piece, then I can make some comments about mortgage.
Okay. So -- sure. So this is Scott Grauer. In terms of Wealth Management, a couple of reasons we feel confident about the momentum and really beyond even the mortgage-backed securities volume and activity, which was obviously very strong in both the first quarter and second quarter, and we look to maintain robust levels there both on our TBA hedging activity, as well as just the overall volumes inside of the mortgage-backed securities product mix. But we have got good momentum and have had solid results in our Financial Institutions Group, which offers both taxable and tax exempt securities across the spectrum to downstream banks as banks look to position their securities portfolios with a little bit of a waning loan demand. So that activity has been very strong.
In terms of our corporate trust business and our retirement plans business we have seen very good activity and pretty good pipelines. In fact in our defaulted debt space and our corporate trust piece where we typically have handled one or two recognizable names, we today have eight defaulted debt assignments so that presents good opportunities for us.
Our investment banking activity in the second quarter was very strong both on the municipal piece, financial advisory and underwriting, as well as our corporate deals where we had a surprisingly high number of capital market transactions for energy names.
So when you look at just the overall trust fees, we really went from a period of decline if you looked at from end of ‘19 to the end of March and then on into April trust fee revenue rate had declined about 17% from peak to the bottom and we have now recaptured that and are back on year-end trust fees overall beginning in June. So we feel like we have got pretty good activity and a reason to be confident about sustaining the momentum.
So Brady on the mortgage side, we have had two quarters in a row now with mortgage production volumes over a $1 billion. I think the difference this quarter was the margin. The gain on sale margin improved from 2.06% in the first quarter to 3.65% in the second quarter. So that’s what drove the majority of that increase in mortgage revenue.
And I -- we are going to be strong there I think on out to the year, but I do think there’s some seasonality there. When you look the second quarter also being 71% refi and those refi are not going to last forever, I mean, I think that abate some over time. So even though I think mortgage is going to stay strong, I am cautious to say it, it hits the same level that it hit in the second quarter because of the outsized margins.
The rest of the fee businesses look pretty good. I mean if you look at the TransFund network and their activity. They are softest in the consumer service charges. You see that across the industry with the pandemic and we will see if that recovers over time. But it -- our fee businesses are going to be a pretty significant contributor, I think, for the next several quarters relative to the -- our other businesses in the bank.
All right. That’s helpful. And then lastly for me, if you look at potential problem loans, they are up a pretty notable amount, I think, they went from roughly $300 million to about $600 million. I think you guys call out energy as one big driver. But any other color on the increase and potential problem loans in the quarter?
Well, this is Marc. To-date, it really has been energy driven. The borrowing base redetermination season was in the primarily in April and May, which was at the low point for oil prices and so that was what caused the migration in those potential problem loans, which we hope as we -- Stacy mentioned earlier, prices stay where they are that that will migrate positively as we go into the fall.
To-date, we have not seen any significant migration in other portfolios. We have had nothing that I would call outsized relative to what you would see in a normal cycle. We are monitoring our portfolios across the Board, have done a lot more deep dives into areas that where we consider higher risk and we are focused on those. And so we are monitoring closely and evaluate them as they go forward, but we haven’t seen any significant migration yet.
And I would expect…
Okay. Thanks.
I would expect to see that improve much like the commodity price improvement that we have seen. That’s also that potential problem loans bucket is where we put those revolving credits in energy that have gone through bankruptcy. But the revolver is generally okay, but the sub-debt or the capital markets unsecured debt that is being kind of cleansed and equitized.
We have used that potential problem loan bucket to kind of park those as they go through that process. So as those begin to emerge, there could be some positive credit migration that would come out of there from that perspective as well.
Got it. Thanks, guys.
Thank you. Our next question is coming from Jennifer Demba of SunTrust Robinson Humphrey. Please go ahead.
Hey. This is Brandon King on for Jennifer.
Hey, Brandon.
And I -- hey. Hey. I noticed that your impact areas table that churches and colleges are mentioned and I wanted to know if you had any color on what was going on as far as trends in these portfolios?
As far as to-date on those portfolios, we haven’t seen any significant issues on the colleges and universities side of it. Of course, we are in the summer. We are waiting to see how they -- the plans that the various universities make with regards to reopening and bringing students back. But we are -- in visiting with those we are -- we feel like we are in good shape on those loans today, but we are closely monitoring them.
On the churches, it is a broad-based portfolio of a lot of smaller loans. So we -- we have had two or three loans that we have had some issues with, but overall, we haven’t seen any migration yet. But that’s a much broader base. There’s not a substantial large loans in that portfolio. They tend to be pretty small. So we feel pretty comfortable that we can manage that risk associated with that portfolio.
Okay. Thanks. And just additionally, of the impacted areas, which of the areas are you seeing the most stress and what areas are you seeing the least stress?
Well, if I’d just be selective on that, I think, the least stress is probably in the casino piece of that. Those are with almost -- they are all exclusively Native American and tribal casinos. I think 70% of our outstandings are covered by cash that’s available at either of the casinos itself or the tribes.
So while they have shutdown completely for a couple of months they are starting to reopen. We feel pretty comfortable based on the liquidity of the tribes and so forth. There was a very few PPP loan requests associated with the casinos or loan deferrals associated with the casinos.
So that has probably performed in a positive manner. We have a small hotel portfolio that we acquired as a result of our CoBiz acquisition because that’s not an area that we pursue or had ever pursued actively. That portfolio is pretty small, but it is probably going to be the most challenged portfolio of the loans that are identified on that slide.
All right. Thank you very much.
Thank you. [Operator Instructions] Our next question is coming from Jon Arfstrom of RBC Capital Markets. Please go ahead.
Hey. Thanks. Good morning.
Good morning.
Good morning.
A couple of cleanup follow-up questions I guess. This on the energy NPLs, Stacy or Marc, can you just talk about the characteristics of the increase that maybe obvious, but give us an idea of what’s in there?
Well, there what happens, I guess, I will put it this way. The increase in the non-performings were done primarily from the borrowing base redetermination process we went through in April and May when in our price deck, as Stacy noted, was $10 to $12 less.
So based on that when we are discounting back the cash flow the level of collateral support was below in some cases what the loan level was and would need to be a deficiency that would need to be addressed.
The overall quality of the collateral base was strong enough that we were covered and don’t expect -- didn’t expect significant amounts of loss, but it did create a stress situation for those borrowers and so that resulted in an increase in nonperforming loans.
Now, if we -- as we go forward, the great thing about the energy lending portfolio is we get to resize our loans. We get to reassess the loans every six months based on the current price deck. So if we were looking at these loans in the fall, we anticipate that they will migrate more positively because we have a significant increase in the price availability. I mean, it’s important to note that we are not relying on drilling to get repaid. We are reliant on the production of the existing borrowing base for the existing collaterals at the given price levels.
And I will add one more thing to this, I think, it’s important to get this out is that we have a significant amount of hedging in our portfolio. It continues to be very strong, 77% of our oil commitments are hedged at greater than 50% at $52 for the rest of 2020 and 41% are hedged more than 50% at $52.20 in the -- throughout 2021. So the hedging profile of both our oil and gas portfolios is going to help sustain them through this process as the economy reopens and the price deck improves.
Okay. That’s great.
And you also see…
Yeah.
You have got an allowance there for energy that’s 4.4%-plus, that’s well above what it was during the last cycle at peak and our view is that we are trying to address this now through CECL proactively so you kind of get this all reserve for.
We evaluate every one of those NPLs for any impairment as we look at those. So I think the perspective is, we reserve for that, we will continue to evaluate circumstances, but we think that we are well reserved and adequately reserved for that portfolio as we move forward.
Okay. Good. That’s all helpful. And I -- it kind of falls to the next question, I have two more. But I put -- tried to put abate into my loan loss provision line in my model and it didn’t work, so I need a little bit of help defining what abate means in terms of reserve building. Are you saying -- it was meant to be funny, by the way, but are you saying that you do expect to build reserves somewhat you are not expecting very much loss content. And obviously, you have sent a pretty clear message on loan balance. So, is the message expect a pretty heavy retreat in the provision from here?
I wouldn’t…
Go ahead, Marc.
Yeah. I won’t say that we will have a heavy retreat. What I would suggest is that, if we have -- CECL designed to bring reserve build earlier in the cycle. The economic forecasts that have been put out and plus the way we have looked at our own portfolio has resulted in a pretty strong reserve build to this point in time.
If our base case forecast would play out, we would not need additional reserve built. That doesn’t mean that we would start to reduce that unless we saw improving credit quality or not see the increase in credit deterioration that might a company should depending on how things play out in the economy.
We feel very good about the energy portfolio. We still -- stimulus packages had helped support retail in some of the COVID-impacted industries and we need to see how those play out over the next several quarters. But I would say, if it does play out in the -- in -- maybe into ‘21, you might see us have the opportunity to relook at that reserve level.
Jon, we define reserve bill as provision greater than charge-offs and it’s certainly dependent on what we see from a credit migration as this virus unfolds. What we are trying to foreshadow there is, we do think the significant provision in reserve building that we experienced in the first quarter and second quarter is largely behind us. And as we move forward, we would be more responsive to actual charge-off levels then continuing to try to build the reserve if our economic forecast holds.
Okay. Okay. I may follow-up on that but it just did -- it feels to me like with your potential problems potentially coming down, you are really not signaling a lot of stress in credit from here as the way I am reading it, but I can follow up on that. But last one is on the buyback, what would you guys need to have the -- maybe courage is too strong of a word, but the comfort or courage to think about restarting the repurchase program? That’s all I have. Thanks.
Well, this is Steven. I think, what I would say is that, we think that the price is attractive and we will have to see what the environment looks like. We have substantial capital. I am really happy with our capital position it actually grew this quarter.
So, I am not making any specific commitment to buyback or not buyback, but I do think it’s something that we discuss opportunistically here at the bank and we will make a decision. But it’s not necessarily off the table.
Like you have seen a lot of banks announce, no more buybacks for the year. I just -- we are not going to be in that position. We will evaluate it as time goes across the year and could very well buyback some shares.
Yeah.
Just no firm commitment.
All right. Good. Thank you.
Thank you. Our next question is coming from Jared Shaw of Wells Fargo. Please go ahead.
Hi. Good morning. This is actually Timur Braziler for Jared.
Hi.
I’d like to just follow-up on the credit question from the prior caller. It looked like the allowance build this quarter was quite sensitive to credit migration. And from all the commentary that you are saying, it seems like a combination of the improved pricing along with other things, if there’s going to be some potentially meaningful positive credit migration in as early as the third quarter. I guess, what would prevent that same level of sensitivity of allowance coming off as migration improves in the coming quarters versus allowing to build when migration worsened in the second quarter?
Well, I mean, I think that’s the nature of CECL and that the -- our models build in a factor for risk grade migration, which we had. And as Marc and Stacy pointed out, when we did our borrowing base determinations, that’s when we determined the risk grade of those energy customers and we saw a migration negative and that feeds into our probability of loss or our probability of default calculations in our CECL model.
So to your point, if we get improvement in those grades in the third quarter or fourth quarter when we redo the barring basis at that time, hopefully at these prices that have come back substantially in, I think, June, then we would expect that risk grade migration back the other direction, which would clearly have a very positive impact on our CECL calculation.
And the nature of that calculation is if we feel there’s reserves that need to come off then we will pull those -- we will pull the reserves off. We just have to see where that lands in the third quarter and fourth quarter, but that’s the way we understand it works.
Okay. That’s helpful. And then just last one for me, there is a statement in the release talking about repurchasing loans from Ginnie Mae when certain delinquency criteria is met. Is that mandatory when certain criteria is met, you have to repurchase them back from those pools or is that at your discretion and I guess any kind of color you could provide around that would be helpful?
Yeah. It’s not mandatory. It’s our discretion. But you lose both sales. You basically have controls since you can purchase them back. So you bring them back on your balance sheet. But it just grosses up the balance sheet.
So you don’t actually purchase them but you bring the loans back and then you have an offsetting liability on the other side. So it’s not mandatory. But we have in the past purchased some of those for real and had gain some advantage of that over time, but that’s the way the accounting works there.
Got it. Thank you.
Thank you. Our next question is coming from Gary Tenner of D.A. Davidson. Please proceed with your follow-up.
Thanks. I just had one quick follow-up. In terms of the $1.6 billion of the COVID-19 impact area loans on slide nine, what amount of those have been under forbearance or modification since this pandemic started?
Yeah. This is Marc. What amount has been under deferral? We have actually had our deferral amount is about 5.6% of our total loans, but 70% of the loans that are in that slide actually received PPP as opposed to asking for deferrals.
So we haven’t had any significant increase in deferrals on that particular slide relative to any other part of the portfolio, because they were primary beneficiary from PPP and that caused a number of them not to take deferrals.
Okay. The slide says, PPP loans to those categories are $240 million versus the…
Correct.
...$1.6 billion, so that’s about 15%.
Right. 15% of those loans receive PPP, but 70% of the customers got the PPP loans.
I see.
Have been put…
Thank you.
…more account, yeah, in the dollars.
Okay. Perfect. Thank you.
At this time, I would like to turn the floor back over to Mr. Nell for closing comments.
Okay. If that’s all the questions we have then we really appreciate everyone joining us today. If you have any further questions feel free to call me at 918-595-3030 or you can email us at ir@bokf.com. Everyone have a great day. Thank you.
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