Heritage Financial Corp

NASDAQ:HFWA

Earnings Call Transcript 2023-Q1

[Operator]

Hello everyone. Thank you for attending today's Heritage Financial Corporation Q1 2023 Earnings Call. My name is Sierra, and I will be your moderator today. [Operator Instructions]

I would now like to pass the conference over to our host Jeff Deuel, CEO of Heritage Financial Corporation. Please proceed.

[Jeffrey Deuel, CEO]

Thank you, Sierra. Welcome, and good morning to everyone who called in and those who may listen later. This is Jeff Deuel, CEO of Heritage Financial. Attending with me are Don Hinson, Chief Financial Officer; Bryan McDonald, President and Chief Operating Officer; and Tony Chalfant, Chief Credit Officer.

Our first quarter earnings release went out this morning pre-market, and hopefully you have had an opportunity to review it prior to the call. We have also posted an updated first quarter investor presentation on the Investor Relations portion of our corporate website which includes more detail on our deposits, liquidity and credit quality. We will reference this presentation during the call. Please refer to forward-looking statements in the press release.

We're very pleased to report another solid quarter. In spite of the unfortunate industry turmoil we all faced in March, we were happy to see the destabilizing factors around us calm down quickly with the majority of deposit movement in tied to normal deposit flows. As you know, deposit pricing started to get more competitive late in the third quarter of '22 and that theme continued through Q4 '22 and into Q1 '23.

We continue to focus on exception pricing for relationships with good success. The majority of deposit movement in Q1 was tied to normal flows, including capital purchases with a lesser portion tied to alternative investments and general FDIC insurance-related concerns, which, in most cases, resulted in retention of deposits, but at a higher cost.

We expect deposits to stabilize as the year progresses aided by our $150 million deposit pipeline. We reported solid organic loan growth of 7.7% annualized, and we're pleased with the positive trend we have seen in the number of new commitments and new loan closings from our existing production teams and the newer members of that team.

We continue to manage expenses carefully, although we also continue to experience the impacts of inflation. Notably, our long-standing focus on credit quality and actively managing our loan portfolio continues to play out well for us. Staying focused on our conservative risk profile has enabled us to continue to report improving credit trends and provides a good foundation facing into a potential recession.

We'll now move to Don Hinson, who will take a few minutes to cover our financial results.

[Donald Hinson, CFO]

Thank you, Jeff.

As Jeff mentioned, overall financial performance was positive in Q1 and I'll be reviewing some of the main drivers of our performance. As I walk through our financial results, unless otherwise noted, all of the prior period comparisons will be with the fourth quarter of 2022.

Starting with net interest income, we experienced a decrease of $3.3 million or 5.2% in Q1 due mostly to an increase in interest expense. This resulted from an increase in our cost of interest-bearing deposits as well as an increased use of short-term borrowings during the quarter. This was the main driver for the 7 basis point decrease in our net interest margin for Q1. We expect to continue to experience downward pressure on NIM in Q2.

As mentioned earlier, we started 2023 with solid loan growth in Q1 of $77 million or 7.7% annualized. In addition, yields on the loan portfolio were 5.07% in Q1, which was 21 basis points higher than Q4. Bryan McDonald will have an update on loan production and yields in a few minutes.

Our cost of interest-bearing deposits increased 24 basis points to 0.49% for Q1. We continue to experience market pressure related to deposit rates. However, we are strategically increasing our deposit rates by product and working individually with our customers to maintain relationships.

As a result of the current rate environment, we expect to continue to experience an increase in the cost of our core deposits. Overall, we experienced a decline in total deposit balances in Q1 of 2.3%. The decline occurred throughout the quarter. We closely monitored our deposit balances during the first quarter, including the days subsequent to the bank failures in mid-March. As Jeff mentioned, our large deposit outflows in Q1 were primarily due to either capital purchases or normal outflows. We did not see significant runoff the recent bank failures.

Historically, the first quarter is also a quarter of minimal to no deposit growth. Brian will also discuss our deposit pipeline later in the presentation. Our insured deposits were 65% of total deposits at the end of Q1. Also for customers seeking additional FVC insurance, we offer deposit products, which have full FDIC insurance coverage. On balance sheet deposit totals for these accounts were $162 million at the end of Q1.

In order to supplement core deposits in Q1, we added $52 million in broker deposits and $100 million in higher costing floating rate public funds this quarter, which contributed to the increased cost deposits. In addition, we added $383 million of overnight FHLB borrowings in Q1. The decision to add these noncore deposits and borrowings was made to enhance our liquidity position and when offset by the earnings on overnight Federal Reserve Bank balances did not significantly impact our net interest income.

We are also set up to participate in the bank term funding program offered by the Federal Reserve Bank. However, we have not yet utilized this facility. You can refer to Page 36 of the investor presentation for more specifics on our borrowings and liquidity position. All of our regulatory capital ratios remain well above well-capitalized thresholds. Our TCE ratio is at 8.3%, up from 8.2% at the end of Q4.

In addition, with a loan-to-deposit ratio of 71%, we have plenty of liquidity to continue to grow our loan portfolio. We saw improvement this quarter in the market value of our investments from the previous quarter. Our unrealized loss on available for sale securities declined by 17% and which also had a positive impact on equity through the change in AOCI.

The credit quality of our investment portfolio is strong with 89% of available for sale and all of held-to-maturity securities guaranteed by the U.S. government or government agencies. The duration of our investment portfolio is under five years and new purchases over the last two quarters were under three years. We have provided additional detail on our in our investment presentation regarding our investment portfolios on Pages 29 through 31.

Noninterest income increased $1.7 million primarily due to a onetime gain on sale of Class B Visa stock, which we have held since 2008. Noninterest expense increased $1.2 million to $41.6 million in Q1. This increase was due to an increase in benefit costs and higher payable taxes paid during the first quarter of each year. Looking ahead, due to April 1 offer increases and additional expenses related to our new Boise production office, we expect noninterest expense to be in the low $2 million range for Q2.

And finally, moving on to the allowance. Even though we continue to show strong credit quality metrics, we recognized a provision for credit losses of $1.8 million during Q1 due mostly to increases in loan balances and unfunded commitments as well as a change in mix of loans in the portfolio, which impacted the allowance calculation.

I will now pass the call to Tony, who will have an update on these credit quality metrics.

[Anthony Chalfant, Chief Credit Officer]

Thank you, Don.

I'm pleased to report that credit quality was stable in the first quarter when compared to the strong results that we reported at the end of 2022. As of March 31, nonaccrual loans totaled $4.8 million and we do not hold any OREO. This represents 0.12% of total loans and 0.07% of total assets. Nonaccrual loans declined by $1.1 million during the quarter and are now down by $11.7 million or 71% from the first quarter of 2022.

We moved three C&I relationships to nonaccrual in the first quarter in the aggregate amount of $468,000. This was more than offset by $1.6 million in loans that were either paid in full or maintenance that were applied to principal. Our delinquent loans, which we define as those over 30 days past due and still accruing is stable from year-end at $8.4 million or 0.20% of total loans.

Page 24 of the investor presentation highlights the positive trends in our level of nonperforming assets. Criticized loans, those risk-rated special mention in substandard totaled just under $146 million at the end of the quarter. This is a modest increase of $10.4 million or approximately 8% since year-end 2022. This still compares very favorably to the first quarter of 2022, where criticized loans totaled $174.6 million.

Notably, over the same 12-month period, loans risk-rated substandard have declined by $62 million or 56%. While criticized loans in the hotel portion of the portfolio are still high, at just under $30 million, we see continuing improvement. Two loans represent $24.6 million of this total and both are now rated special mention and show improving trends.

For comparative purposes, I'll highlight that criticized hotel loans totaled just over $67 million at the end of 2021. We continue to closely watch our portfolio of office loans. We have yet to see any material deterioration in the credit quality of this portfolio. At quarter end, criticized office loans totaled approximately $22 million or just under 4% of our total portfolio of owner and nonowner-occupied office loans. This is very close to the level that we reported at the end of 2022.

At $582 million, this is the largest category of CRE loans in the bank. Some key characteristics of this portfolio include 40% of the portfolio is owner-occupied properties. These have a lower risk profile as there's less tenant rollover risk, and we typically have the guarantees from the company occupying the space as well as the owners of that company. We have very little exposure in the core downtown markets within our footprint. Outstanding office loans in downtown Seattle, Portland and Tacoma totaled just over $50 million with 29 loans for an average loan size of $1.7 million.

On Page 23 of the investor presentation, we added a page showing our commercial real estate concentration levels. The bank has a long history of robust management of loan portfolio concentrations. You'll see that we maintain our CRE concentration levels well below the regulatory threshold and 259% of capital for total CRE and 44% for the subset of construction, land development and land loans.

During the first quarter, we experienced charge-offs of $314,000 split evenly between our commercial and consumer portfolios. They were partially offset by recoveries of $84,000 leading to net charge-offs of $230,000 for the quarter that represents 0.02% of our average total loans. This compares to a net recovery of $208,000 for the fourth quarter of 2022 and a net recovery of $494,000 in the first quarter of 2022. The loss for the quarter is relatively small and compares favorably to historical norms. By comparison, our average annual net charge-offs for the three-year period 2018 through 2020 was approximately $2.9 million or about $700,000 a quarter.

While we recognize that 2023 may represent a more challenging economic environments in 2022, we saw very little deterioration in our credit quality during the first quarter. With our disciplined underwriting and diversified loan portfolio, we remain well positioned to deal with the economic challenges we may encounter in the coming quarters.

I'll now turn the call over to Bryan for an update on production in Q1.

[Bryan McDonald, President and COO]

Thanks, Tony.

I'm going to provide detail on our first quarter projection results, starting with our commercial lending group. For the quarter, our commercial teams closed $228 million in new loan commitments, down from $329 million last quarter and roughly equivalent to the $222 million closed in the first quarter of 2022.

Please refer to Page 19 in the first quarter investor presentation for additional detail on new originated loans over the past five quarters. The commercial loan pipeline ended the first quarter at $587 million, up from $536 million last quarter and up from $527 million at the end of the first quarter of 2022. New commercial teams hired during 2022 have been adding to our loan pipeline and the Boise team is just starting to ramp up with the majority of the sales team not joining until later in the first quarter and into April.

We currently have a team of eight with two additional bankers scheduled to start before the end of the month. Our Boise office is fully staffed at this point, and we are moving into our permanent space on May 22.

As Jeff and Don mentioned, loan growth was $77 million for the quarter, or a 7.7% annualized rate. Although loan production and fundings on production during the quarter were both down versus 2022 averages we benefited from lower prepaid levels and increased balances on construction loans.

Please see Slides 20 and 21 of the investor deck for full detail on the change in loans during the quarter. Considering current economic conditions, market conditions, trends in our portfolio and customer base and the quarter end loan pipeline plus the fact our new Boise team is just ramping up its production. We anticipate a similar level of loan growth for the next couple of quarters.

Balances associated with new deposit accounts opened during the quarter totaled $114 million, and the deposit pipeline ended the quarter at over $150 million. New deposit teams hired during 2022 and our existing deposit officers have been producing strong results as reflected on Slide 10 of the investor presentation. Deposit balances in Oregon and the Portland MSA increased at a 28% annualized rate during the first quarter, which is particularly significant given we saw a deposit balance decline in other regions.

Moving to interest rates. Our average first quarter interest rate for new commercial loans was 5.97%, which is 25 basis points higher than the 5.72% average for last quarter. In addition, the average first quarter rate for all new loans was 6.01%, up 50 basis points from 5.51% last quarter. Although the marketplace continues to be competitive and the fixed rate indexes have been volatile, we're seeing loan spreads improve, which is translating into higher quarter interest rates on new loans.

The mortgage department closed $17 million of new loans in the first quarter of 2023 compared to $18 million closed in the fourth quarter of 2022 and $37 million in the first quarter of 2022. The mortgage pipeline ended the quarter at $25 million versus $8 million at year-end '22 and $27 million at the end of the first quarter of 2022. With mortgage rates remaining at higher levels, we anticipate volumes will continue at the relatively low levels we saw in the second half of '22.

I'll now turn the call back to Jeff.

[Jeffrey Deuel, CEO]

Thank you, Bryan.

As I mentioned earlier, we're pleased with our performance in the first quarter. While the general dialogue around the recent liquidity crisis is still a broader topic of discussion, we're confident our long-established granular deposit franchise will continue to be an area of strength for us, and we have ample liquidity sources should we need them. Our relatively low loan-to-deposit ratio positions us well to continue our -- to support our existing customers as well as pursuing new high-quality relationships.

We will continue to benefit from our historically conservative approach to credit and our strong capital position as we face the possibility of a recession, and we operate in a footprint that historically been economically vibrant. We will continue to focus on expense management, and we're making good progress with our in-house tech build with version 1 wrapping up in 2023, which will position us well to do more with the same people as we continue to grow.

Overall, we believe, we are positioned to navigate the challenging economic conditions and to take advantage of any potential dislocation in our markets that may occur.

That is the conclusion of our prepared comments, era. So we're ready to open up the call to the -- to any questions that callers may have for us.

[Operator]

[Operator Instructions] Our first question comes from Jeff Rulis with D.A. Davidson. Please proceed.

[Jeff Rulis, D.A. Davidson]

Thanks. Good morning. Just a question on -- just on the deposit side. Don and Jeff, you alluded to the ongoing sort of challenges there and expect rate pressure to continue but on a relative sense, I guess, it didn't sound like balances were all that impacted by the March news, more so just the seasonal trends in addition to rate pressure. But just trying to get a sense for if you think that those rate requests have slowed to at agree? Do you think you're kind of what you've seen so far in April? I mean, Don, you mentioned additional pressure expected. But do you feel like you're getting through any of that? And then maybe just comment on balances as well in terms of stabilization quarter-to-date.

[Jeffrey Deuel, CEO]

Yes. I can start, Don, and maybe you want to join in, Jeff. I think maybe we're making it sound completely benign. I'm not sure that, that's exactly what we experienced. I think like everybody else, mid-March, we were pretty anxious about the environment around us. And I think that what we did see was a lot of conversations going on between our bankers and our customers, helping them understand the circumstances around us and what was going on with the banks that weren't doing very well. And I think that dialogue that occurred was quite frankly, much more meaningful than I thought it would be given the circumstances. It reminded me how closely tied to our customer base, our bankers are and their trusted advisers, and I think that did us a lot of good during that period of time.

I think what did happen and maybe something that we benefited from in the fourth quarter, was it up until that point. I don't think everybody's attention was really focused on rates in general as they relate it to deposits. And I think the conversations went well in terms of Heritage is fine. But I think step two was -- and let's talk about rates.

So I think rates did move maybe faster in a shorter period of time than we had anticipated given the circumstances. We -- as the month of March went on, and as Don said, we watched daily, hourly for many days, if things started to calm down what we normally see in this time of year is deposit flows tend to trend down anyways because there's a lot of tax activity for other -- there's other reasons too, but that's a big one. That's I think we're seeing stabilization or we saw stabilization towards the end of March, and now we're starting to see a little bit of activity that we believe is tied to tax payments.

But none of it's outsized. And I think that, as we said in the script, we think that things will start to stabilize as we get further into the end of April, and we think we'll benefit from some of the activity that's going on in the footprint around new relationship development, which I think will help stabilize and also maybe help us grow the deposits through the end of the year, which would be one of our focuses. We have a lot of folks on our team now that are deposit focused. And I think all that energy is going to bear fruit as we get towards the end of the year.

Don, maybe you want to comment on rates going forward.

[Donald Hinson, CFO]

Sure. As far as the rates and sales, the cost of interest-bearing deposits for the quarter was 49 basis points. I just give you an update. For March, it was 64 basis points, and the spot rate is 70 basis points. Now 8 basis points on the 78 basis points is the $100 million of public deposits we brought in at kind of higher rates, which is basically paying Fed funds minus 15.

So it's a little cheaper than borrowings, but it's still kind of a floating rate, higher cost deposits. So just to give you kind of a flavor of kind of kind of what the cost and therefore, for next quarter, right, with a spot rate of 78 basis points, is just going to be higher than the 49 that we experienced.

As far as rate exceptions, I'm going to actually -- Steve Bryan Donald can speak to that real quickly. I think he's got a finger on the pulse a little bit more on that than I do.

[Bryan McDonald, President and COO]

Yes, sure, Don. We are -- I would say the volume has declined a -- a couple of weeks, as Jeff described, all those conversations with the customers did end up leading to a higher level of rate request. I think, I think this is going to be largely dependent on what happens with our competitors, although I would say that these are all excess nonoperating deposits where we're feeling the rate pressure and a lot of those dollars are going to alternative investments outside the banks similar to what we've seen reported by other companies, including our own wealth management area.

So that's the primary competition for short-term rates competing with the money market funds that are available out there where customers can get higher rates. So I still anticipate some pressure. We're seeing it moderate somewhat, but it's just a little bit early to say that we're not going to have some higher level of activity, at least through the second quarter.

As both Don and Jeff mentioned, we're following this really closely, and our teams are falling out really closely. And we want to maintain competitive pricing to keep as much of that on balance sheet as that reasonably makes sense to do.

[Jeff Rulis, D.A. Davidson]

Very helpful. And if I would just circle back then to the -- Don, your expectation on margin being down second quarter relative to Q1. There's a thread there that you've built up some broker deposits. You added FHLB. You're addressing some customer requests now. I guess, in your further out, I guess, the balance of '23, any expectations on margin as you digest things that carried forward from Q1 into Q2, but the back half of the year, perhaps you could update us on kind of your rate sensitivity and how you see the margin sort of navigate in the back half, if that's doable?

[Donald Hinson, CFO]

Well, as I just look at trends, and I think the decline is going to slow down. We didn't -- the overall margin did come down much in Q1. But again, our margin was 3.73 just to give you some color on that. And therefore, I'm expecting it to fall probably into the somewhere in the 3.60s somewhere in there probably next quarter. And depending on what happens, right, with rates, it could get down to the 3.50, though I don't really think it's going to get really -- I would be surprised, I guess, a couple of that. based off the current rate environment. So -- but it could fall a bit more throughout the year.

[Jeff Rulis, D.A. Davidson]

Okay. Don, just so I get you right there, you had not a single-digit margin compression, but if you're pointing to 3.70 or lower. So we could see sequentially higher margin compression in the second quarter relative to the first quarter.

[Donald Hinson, CFO]

I'm expecting that, yes.

[Jeff Rulis, D.A. Davidson]

Okay. Okay. I'll step back. I appreciate. Thank you.

[Jeffrey Deuel, CEO]

Thanks Jeff.

[Operator]

Thank you for your question. Our next question comes from Andrew Terrell with Stephens. Please proceed.

[Andrew Terrell, Stephens]

Hi, good morning.

[Jeffrey Deuel, CEO]

Good morning, Andrew.

[Andrew Terrell, Stephens]

I wanted to start on the deposit side. I heard your commentary around the deposit pipeline. I think you said it stands around $150 million or so. I'd be curious here how much of that is noninterest-bearing. And then how does the aggregate level of that pipeline in the $150 million compared to the deposit pipeline coming into the year? Just trying to get a sense of the -

[Jeffrey Deuel, CEO]

Bryan, you may be closer to the details. Can you take that one?

[Bryan McDonald, President and COO]

Yes, sure. It's up significantly over Q4, meaning kind of in that 30% to 40% range. And then in terms of the mix, these are predominantly operating accounts, although there is some somewhat excess balances in there, but that's what we're going after and where we're finding the most success is operating relationships. So I don't have a breakout by account in terms of the mix on that portfolio, although I have reviewed the names and some familiarity with the accounts and there is some excess balances associated with these -- with the new relationships, but their operating account base.

[Jeffrey Deuel, CEO]

Andrew, I could add to that, that we get a monthly production report, which we just got one for -- for March and Bryan and I both go through that in pretty good detail and remind you that we not only have a lot more deposit gatherers than we had at the beginning of last year because of the lift outs that we did. But for several years now, all of our loan production people have had deposit goals, and we can see in the March report that there's a lot of activity in spite of what's been going on for the last month. So it's going to come from two different directions. The deposit gatherers -- well, three actually, the branch folks and the folks on the loan side.

[Andrew Terrell, Stephens]

Okay. Very good. Thanks for lot of color there. And then maybe just trying to understand some of the puts and takes on just balance sheet size and some of the funding going into the second quarter. It looks like you built cash going into the end of the quarter here with some FHLBs, I know brokered was mentioned. But I guess just when I piece together the commentary on the loan growth, as well as it sounds like some level of optimism on deposit growth front moving forward. Does it feel like you will incrementally need to build FHLBs or brokered deposits as we go into the second quarter? Does some of that kind of, I guess, prefunding, if you will, in March, kind of keep that at bay?

[Jeffrey Deuel, CEO]

Well, and Don, you may want to add to this. But really, what we did do was bulk up given the circumstances to make sure we were prepared for anything that was coming at us. But if you look at our balance sheet, there's still a considerable amount of invested cash. that serves to offset some of the FHLB borrowings, which were mostly defensive.

And then you've got the other borrowings were done more to just bolster our position. And the brokered deposits run off over three, six, nine months, which is part of the design of what we did. So I think that we're feeling like -- and I think, Don, if I -- correct me if I'm wrong, but I think we've been lowering the FHLB borrowings since the end of the quarter because we think that things have settled down and that the deposits have started to be a little more stable in our minds.

You want to add to that?

[Donald Hinson, CFO]

Sure. Well, we did kind of increase our kind of cash position or overnight deposit balances as of quarter end just to be -- just to have a little bit more there because of what was going on in the last half of March. In the whole environment. But if you look at it, really, we've got almost $200 million of likely excess cash than we had the quarter before. We could -- if you look at it one way, we can fund that much in loans without having to take any more borrowings. So because I think as saying settle down will be fine with working that cash position down.

[Andrew Terrell, Stephens]

Yes. Okay. And then I guess last question for me, just with rates pulling back a little bit versus where they peaked out in kind of early March time frame, are there any areas within the bond book that you could look to trim up either for our positioning trade or for incremental liquidity purposes to also help fund loan growth?

[Donald Hinson, CFO]

Yes. We have an oversized investment portfolio right now. It's compared to our total assets. We've are certainly willing to do that when it makes sense. It didn't make sense last quarter, especially in March, we did a little bit. We saw we took a little bit of loss, but it wasn't a huge amount of dollars. But the prices, the market got kind of wonky as far as there was not a lot of people looking to buy par. They were more looking to sell, and we just didn't want to sell in that environment. So we held off. There's a there's a chance that if the prices stabilize or looking better than we might be doing some of that.

[Andrew Terrell, Stephens]

Okay.

[Jeffrey Deuel, CEO]

Quite frankly, Andrew, it would have been nice to offset some losses on repositioning with that Visa shares, but it just didn't make sense, as Don said.

[Andrew Terrell, Stephens]

Yes. No, makes total sense. Okay. I'll step back. Thank you for taking the questions.

[Jeffrey Deuel, CEO]

Thank you.

[Operator]

Thank you for your question. Our next question is from Adam Butler with Piper Sandler. Please proceed. Adam?

[Adam Butler, Piper Sandler]

Sorry, I was muted. Good morning, everybody. This is Adam for Matthew Clark. Sorry about that. Just to add on another question to the deposit commentary. I appreciate that Slide 10, separating the growth that you've seen in the Oregon and Portland area and Seattle. With your commentary about the $150 million deposit pipeline, I was just curious, is that all kind of in one of the MSAs? Or is it kind of spread out between both of them?

[Jeffrey Deuel, CEO]

Bryan, do you want to take that?

[Bryan McDonald, President and COO]

Yes. The deposit pipeline, that's bank-wide versus just reflective of what will flow in the slide -- so that's the bank pipeline versus the pipeline for just that region that's reflected on the bottom part of Slide 10.

[Adam Butler, Piper Sandler]

Okay. Understood. I was just trying to get an idea of what the recent team lift outs could possibly be doing? And maybe you will see an even larger deposit pipeline in the future quarters? Any comments on that?

[Bryan McDonald, President and COO]

Yes. We're obviously watching it really closely. The deposits are coming from a number of different sources is the first thing I would say, having the having a sales team without a customer base, they're out calling as well as Jeff mentioned, our existing deposit officers and fully kind of relationship bankers are all actively out calling. And so a lot of it is going to depend on just what sort of disruption we see in the market.

And we're viewing the loan opportunities the same way our bankers call for years and oftentimes, it's during a period of market disruption like this where they're maybe not able to get all their needs met at another institution, and that's our opportunity to convert them.

So this is the type of environment. We look at again, we're seeking those relationship clients, whether it be on the loan or deposit side. So that wasn't a direct answer, but we remain optimistic and hopeful that we'll be able to put up some good numbers in that market down there because of the staff that we've added.

[Adam Butler, Piper Sandler]

Okay. Great. I appreciate that color. And then just one question, switching over to the credit. I appreciate the commentary on the call of the office portfolio. I was just wondering if you could provide some further detail on the office portfolio, some of the loan to values you're seeing and occupancy rates in the downtown area? Anything would be appreciated. Thanks.

[Anthony Chalfant, Chief Credit Officer]

Sure, Adam, I'll go ahead and take that one. Yes, this is Tony. Yes, just a little bit more color on the portfolio -- at the end of the fourth quarter of last year, we wrapped up a pretty deep dive into our commercial real estate portfolio that we do on an annual basis. And that portfolio, we looked at about 60% of the office loans, for example. And that particular portfolio had a, I think, an average loan-to-value -- and this would be focused on the larger deals in our portfolio, probably to over $1.5 million. And our average loan to value was weighted average loan to value is about 59%, and our debt service coverage was about 2.3x.

So felt pretty good about those numbers. I mean clearly, the downtown core markets are experiencing some significant distress already, particularly Seattle and Portland. And again, I think we're very happy, as I mentioned in my comments, that we have very little exposure in those markets. And if you do look at the core market, I was looking at the top 10 we have in those core markets. And I think 9 of them are on our occupied properties, which, again, makes us feel pretty good about that mix.

One other, I guess, I'll point out about of our office portfolio in the $580 million range, about $95 million of that is medical office, which we look at as a much lower risk profile. And that market continues to perform pretty well, really across our footprint. So I'll stop there and see if you had anything more specific you might be looking for.

[Adam Butler, Piper Sandler]

That was great. I appreciate it. And pass that back. Thank you, guys, very much.

[Jeffrey Deuel, CEO]

Thank you, Adam.

[Operator]

Thank you for your question. Our next question comes from David Feaster with Raymond James. Please proceed.

[David Feaster, Raymond James]

Hi, good morning, everybody.

[Jeffrey Deuel, CEO]

Good morning, David.

[David Feaster, Raymond James]

I wanted to touch on the loan growth side. Just here in your prepared remarks, it sounds like growth you're expecting it to remain relatively stable. I'm just curious, how is demand trending across your footprint? Where are you seeing good opportunities for growth at this point? Are the new hires really allowing you to gain share and sustain a good pace of growth? And just to your commentary on spreads widening, I'm curious where new loan yields are at today.

[Jeffrey Deuel, CEO]

Bryan, do you want to take that?

[Bryan McDonald, President and COO]

Sure. Well, maybe I'll start with just a broad comment. It is those projects that were maybe rate sensitive. So we've seen some of those fall off really over the last year related to that construction cost increases over the last year. So that's continued. We've got a number of other customers that have been working on projects for the last few years, and those are the ones that we're seeing continuing ahead and the underlying business has a real strong backlog, and they still feel confident that they're moving ahead with those sort of projects.

And no specific geography. I will say our new teams and new bankers without a lot of portfolio, the ones that are out, obviously calling they're contributing to that overall pipeline. We have more salespeople now than we did a year ago at this time. So that's also a factor.

In terms of new loan yields, if you -- we quoted the numbers for the full quarter, I can give you the numbers for March will give you a sense of that on commercial business for March. The rate was $6.32 versus, I mentioned, $5.97 for the full quarter. And then for all new loans -- let's see if I have that number here. Yes, $6.25 for March versus $6.01 average for the full quarter.

So we have seen spreads widen. Our challenge, David, obviously, not prime-based loans because prime at a reasonable level, but the fixed rate index is, if you look at the 5-year FHLB, it's at $4.17 when I looked earlier this week. And so even with a couple of 100 basis point spread, that puts it in the low 6s, that spread is higher than what we were seeing a year ago.

Again, that was because everybody's deposit costs were so low. So it isn't -- we haven't seen spreads come back to what we think would be a reasonable -- a more reasonable level. But we have seen them come up from the really low spreads that we're seeing over the last few years. So we're hoping those spreads keep continuing up.

We're, again, looking at this if we've been particularly existing core relationships and new customer opportunities if they fit that relationship profile, maybe we've been calling on them for years. And their current bank is pricing much higher or not able or not as interested in doing lending. We see this as a great opportunity to pick up those core long-term relationship clients and want to stay in the market and support the markets and support our bankers and better our customer base through this volatility if those opportunities come about.

[Jeffrey Deuel, CEO]

David, this is Jeff. It might be a little anecdotal in terms of response to your question, but I see only the deals that hit a certain level based on relationship size, not necessarily loan size. And we've seen a steady flow of deals over the last several months. And interestingly enough, there's several of them that when I see the report out on what is being requested for approval, it's often saying you saw this deal in October when it first started going together and this is the deal actually happening. So it feels like from my vantage point, the deals are there, they're just moving a little bit slower.

[David Feaster, Raymond James]

Okay. That's encouraging. And then maybe just touching on -- we've talked several times about the recruiting that you guys have done, and there's obviously a lot of disruption around you. I'm just curious your appetite for more hires as these guys are starting to hit the ground running do you have an appetite for more? Are you seeing more opportunities? How are conversations going? And maybe what markets or geographies or segments would you be looking to potentially add to?

[Jeffrey Deuel, CEO]

I would start by saying that you know that we're always positioned to take advantage of opportunities on the M&A side. But obviously, that is probably on the sidelines for a while. But we've always had a bias for teams, and we've actually illustrated that in our deck. There's a slide in there that shows M&A versus teams.

I guess I would leave it with David and Bryan may want to add to this, that we're always interested in teams, particularly if they augment what we already have or enhance a team that already exists but would probably focus only on the three-state area that we're in now. And I think that a team right now would have to be really compelling for us to take action because while the team down south has been with us surprisingly almost a year now because they all came across in May. They're making good headway. Still, we're trying to give them as much support as we can due to their newness and their in Eugene, for example, newness in that market. and Boise is just getting their legs under them.

So we want to make sure we don't get spread out, then we can't support them to. So like I said, it would have to be pretty compelling, probably more so interested in one-offs and there's a couple of spots in the footprint that we would like to flesh out a little bit due to maybe some of the retirements that have been going on and repositioning of some people. So we're always looking, but to do a whole team would have to be pretty compelling. Bryan, anything you want to add to that?

[Bryan McDonald, President and COO]

No, I agree. Totally we've taken on a lot and it's going well. And we just filled the entire team in Boise here over the last few months. And so we have some as Jeff said, onesie, two-sies, we've got some retirements. So we're always out recruiting and then we're always willing to meet and listen and if it was a really compelling situation, we'd certainly take a hard look. But I agree with Jeff, we we've done a lot and we'd like to continue to support these groups well to have a really favorable onboarding experience for them and help them in any way we can. So...

[Jeffrey Deuel, CEO]

David, we also need to be cognizant of our expense base, too. That's why it has to be really compelling because we really need to keep an eye on that now that we've added the teams that we have.

[David Feaster, Raymond James]

Yes. Understood. And just maybe switching gears to capital. You already touched on the M&A side a bit. But just you guys manage your cash really well positioned. You don't have the same AOCI issues that a lot of other banks have very well-capitalized balance sheet. Just curious your thoughts on capital at this point and your willingness to return capital? Looking at the buybacks, I mean, you look back, I mean, the stocks, where it's trading out cheaper than where we bought stock back in the past several years. I'm just curious your appetite for that or given the uncertainty, are we kind of more in a capital preservation mode.

[Jeffrey Deuel, CEO]

Don, do you want to take that?

[Donald Hinson, CFO]

Yes, I'll take that. Yes, we have done buybacks before and right at even levels higher than this. I think that our regulatory capital ratios are strong. TCE ratio is a little low still because of the AOCI, although improving every quarter -- it's a little a little uncertain whether we could be heading into a recession. So we may get involved some. We also may wait depending on just the economic environment, but we are watching that carefully. I don't have really any guidance to give you in that area at this point, but we are considering it.

[David Feaster, Raymond James]

Do you have an authorization in place? And how much do you have left at I don't remember...

[Donald Hinson, CFO]

We have slightly over 500,000 left, shares -- 500,000 shares left in our current repurchase plan. And easily do -- and when we do new plans, it's usually about 1.5 million shares at a time.

[David Feaster, Raymond James]

Got it. Terrific. Thanks everybody.

[Jeffrey Deuel, CEO]

Thank you.

[Operator]

Thank you for your question. There are no questions waiting at this time. So I'll pass the conference back over to management team for any further remarks.

[Jeffrey Deuel, CEO]

Thank you, Sierra. If there's no more questions, we'll wrap up the call. We thank you all for your time and your support and your interest in our ongoing performance, and we look forward to seeing many of you in the coming weeks. Thank you, and goodbye.

[Operator]

That concludes the Heritage Financial Corporation's Q1 2023 earnings call. The replay for today's call will be available until Thursday, April 27. To access the replay, please dial 1-866-813-9403 and enter access code 862416, again dial 1-866-813-9403 and enter access code 862416.

Thank you all for your participation. You may now disconnect your lines.