Comerica Inc
NYSE:CMA
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Comerica Inc
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Good morning, my name is Regina and I will be your conference operator today. At this time, I would like to welcome everyone to the Comerica Fourth Quarter 2018 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions].
I would now like to turn the call over to Darlene Persons, Director of Investor Relations. Ma'am, you may begin.
Thank you, Regina. Good morning and welcome to Comerica's fourth quarter 2018 earnings conference call. Participating on this call will be our Chairman, Ralph Babb; President, Curt Farmer; Chief Financial Officer, Muneera Carr; and Chief Credit Officer, Pete Guilfoile.
During this presentation, we will be referring to slides that provide additional detail. The presentation slides and our press release are available on the SEC's website as well as in the Investor Relations section of our website comerica.com.
This conference call contains forward-looking statements and in that regard you should be mindful of the risks and uncertainties that can cause actual results to vary materially from expectations. Forward-looking statements speak only as of the date of this presentation and we undertake no obligation to update any forward-looking statements. I refer you to the Safe Harbor statement in today's release and slide two which I incorporate into this call as well as our SEC filings for factors that could cause actual results to differ.
Also, this conference call will reference non-GAAP measures and in that regard I direct you to the reconciliation of these measures within this presentation.
Now I'll turn the call over to Ralph who will begin on slide three.
Good morning and thank you for joining our call. Today we reported fourth quarter earnings of $310 million or $1.88 per share. Excluding restructuring charges, earnings per share was $1.95. Our results reflected continued, careful management of loan and deposit pricing as well as expense control.
In addition, our credit metrics remained strong and we repurchased 6.3 million shares. Altogether, this drove an ROE of over 16% and an ROA of 1.74% for the quarter.
As far as full-year 2018 earnings per share, increased 74% to $7.20. A major contributor was our ability to drive revenue growth as we skillfully navigated the rising rate environment. In addition, we produced strong credit quality, successfully executed our GEAR Up initiatives and meaningfully reduced excess capital. We also benefited from a lower tax rate due to tax reform.
On slide four, we have provided details on the adjustments related to certain items. This includes restructuring charges related to our GEAR Up initiatives. Of note, there will be no further restructuring charges pertaining to this program.
Also, as you may recall, in the third quarter we realized $23 million in discrete tax benefits primarily related to the 2017 tax reform law. The bulk of the proceeds were used to reposition a portion of our securities portfolio which was shown as a loss on the securities sold.
Turning to slide five and our full-year 2018 results, growth in net interest income of 14% helped drive revenue to an all-time high. This growth combined with the execution of our GEAR Up initiatives resulted in an efficiency ratio of under 54%. Our provision benefited from strong credit quality with 11 basis points of net charge-offs and the continued decline in criticized and non-accrual loans.
Our pretax net income grew to $1.5 billion, a 24% increase over 2017. In addition, earnings per share benefited from our active capital management and a lower tax rate. In summary, we achieved strong net income and earnings per share as well as substantially higher returns with an ROE of nearly 16% and an ROA of 1.75%.
Slide six provides an overview of our fourth quarter results. Fourth quarter average loans increased $248 million from the third quarter, a seasonal increase in National Dealer Services was mostly offset by the typical fourth quarter decline in Mortgage Banker. Overall, recent trends are positive with loan growth in December particularly strong and total loan commitments at period end of nearly $1.3 billion.
Average deposits were relatively stable. With rates rising, deposit costs remained in line with our expectations as we continued to focus on our relationship approach to manage deposit pricing to attract and retain customers.
Net interest income increased with a net benefit from higher interest rates. Our net interest margin increased 10 basis points to 3.70%. We continued to have strong credit quality as evidenced by 9 basis points in net charge-offs. Excluding the loss on securities in the third quarter and a decline in returns on deferred compensation assets in the fourth quarter, non-interest income increased $6 million. The largest contributor was a $3 million increase in card fees.
Expenses benefited from lower deferred comp and FDIC surcharge. Also, we have maintained our expense discipline and our efficiency ratio continued to improve to just under 52%. We purchased 6.3 million shares and our estimated CET1 capital ratio decreased 56 basis points to 11.12%.
And now I will turn the call over to Muneera who will go over the quarter in more detail.
Thanks, Ralph. Good morning, everyone. Turning to slide seven, fourth quarter average loans increased $248 million compared to the third quarter with growth trending positive through the quarter. Our auto dealer portfolio increased $363 million as dealers took delivery of the 2019 models and we added and expanded customer relationships.
Average energy balances grew $220 million due to reduced capital market activity as well as higher loan demand due to expanded borrowing basis and increased CapEx. We continued to support our energy customers who are generally well-positioned to withstand recent price volatility as they have reduced leveraged annual cost base since the last downturn.
In addition, they are appropriately hedged. Average energy loans remained just below $2 billion or about 4% of our total loans.
We also drove loan growth in environmental services, entertainment and private banking. Partly offsetting this growth was a decline in Mortgage Banker following that summer home buying season. Also declining were corporate real estate, commercial real estate as well as technology and life sciences, particularly equity fund services which rebounded in December.
Total period-end loans were over $50 billion, an increase of $1.2 billion over the third quarter with growth in most business lines led by seasonal increase in dealer services. Loan commitments increased $1.3 billion to over $53 billion at period end with growth coming from almost all our business lines.
Utilization increased 100 basis points to 51.4%. Our loan yield increased 16 basis points. Higher short-term rates added 21 basis points. This was partly offset by a decrease in loan fees from an elevated third quarter level, which reduced the yield by 3 basis points.
In addition, other portfolio dynamics had a two basis points impact. This included growth in dealer loans which carry lower spreads as well as lower average yields on energy loans due to continued credit quality improvements.
As you can see on slide eight, average deposits were relatively stable in the fourth quarter with decreases in large corporate, retail banking, and technology and life sciences, mostly offset by the growth in general middle market and wealth management.
This modest decline is a departure from our typical fourth quarter increase in deposit. As rates drive and economic expansion continues, we are seeing customers funding growth, acquisitions and capital expenditures from their cash balances and somewhat choosing off-balance sheet offerings. Through our relationship banking model, we stay close to our customers and aim to provide the best solution to meet their financial goals.
As we expected, in conjunction with rising short-term rates, our deposits in rates increased 11 basis points as we remain focused on our relationship approach to manage deposit pricing. Slide nine provides detail on our securities portfolio.
The yield on the portfolio increased 18 basis points, which primarily reflects the repositioning of $1.3 billion of securities as we executed at the end of the third quarter. In addition, we were able to reinvest the $415 million in paydowns that we received in the quarter at an average yield of 3.67%.
Turning to slide 10, net interest income increased $15 million, which drove a 10 basis points increase in the net interest margin. Our loan book portfolio added $23 million and 12 basis points to the margin. Increased interest rates provided the largest benefit along with loan growth to a lesser degree. This was partly offset by a decline in loan fees and other portfolio dynamics that I previously discussed.
Deposits of the Fed added $1 million and 3 basis points, reflecting the benefit from the higher Fed funds rate on the moderately lower balance. Higher yield on our securities book added $5 million, including a $4 million from the portfolio repositioning. The total benefit to the margin was three basis points.
On the funding side, deposit costs rose with increased pay rate as well as a minor mix shift in balances, which together had an impact of $8 million or four basis points. The increase in short-term rates as well as the full quarter impact of the $850 million in senior debt we issued at the end of July added $6 million in wholesale funding costs which had a 4 basis points impact to the margin.
In summary, the net benefit from increased rates was $18 million or 11 basis points to the margin. Credit quality remained strong as shown on slide 11. Our net charge-off ratio was 9 basis points, gross charge-offs remained low at $21 million. Total criticized loans declined $122 million and now represents 3.1% of our total loans at quarter end. This included a decrease in non-accrual loans which comprised only 44 basis points of our total loans.
Energy criticized and non-accrual loans continued to decrease. Loan growth, partly offset by positive credit titration resulted in a small increase in the reserves and a reserve ratio of 1.34%. We remain vigilant, closely monitoring our portfolio for signs of strength. However, at this point we are not seeing any concerning trends.
Turning to slide 12, excluding the impact from the $20 million loss from securities incurred in the third quarter as well as a decline of $10 million in deferred comp which is offset in non-interest expenses, non-interest income increased $6 million.
Employer's customer activity, card fees increased $3 million and commercial lending fees, specifically syndication fees increased $2 million. Service charges on deposit accounts increased [ph] $2 million, which was impacted by one net business day in the third quarter. Expenses remained well controlled and our efficiency ratio dropped below 52% as shown on slide 13.
Excluding the $10 million decrease in deferred comp, salaries and benefits increased $6 million, mostly due to higher contract labor associated with technology project. FDIC expenses decreased $5 million with a discontinuation of the surcharge.
This was partly offset by minor increases in several line items such as equipment, other professional fees and occupancy expense. This is the final quarter for GEAR Up restructuring charges which were $14 million, an increase of $2 million from the third quarter. The benefits derived from our GEAR Up initiatives will continue into 2019 and thereafter.
We have achieved and in many respect surpassed the expectations for revenue enhancements and efficiency opportunities that we laid out for our GEAR Up initiatives when we first launched in mid-2016. This success is clearly evident in our efficiency and return metrics.
Turning to slide 14, in the fourth quarter we repurchased a record 6.3 million shares under our equity repurchase program, which equates to nearly 4% of our total shares. Together with dividends, we returned $599 million to shareholders.
Our estimated CET1 ratio declined to 11.12%. We are focused on reducing our robust capital ratios to a level that is reflective of our business strategy. Our goal is to move forward at a measured pace to reach a CET1 ratio of 9.5% to 10% by the end of 2019.
We will continue to give careful consideration to earnings generation, capital needs and market conditions as we determine the pace of the share buyback. Turning to slide 15, our balance sheet is well positioned to benefit from increases in rates.
Approximately 90% of our loans are floating rate with the bulk tied to 30-day LIBOR. Also, we have a favorable deposit mix with the majority being non-interest bearing. Combine this with careful management of pricing and we have been able to drive cumulative loan beta of 89% and a cumulative deposit beta of 25% since the beginning of this rate cycle.
In conjunction with the December Fed action, we increased our standard deposit rates on select products. We believe average deposit costs will increase approximately 12 basis points to 15 basis points in the first quarter. We are closely monitoring our deposits as well as the market. In total, we estimate that the full year benefit of the 2018 rate increases alone will add approximately $130 million to $150 million to net interest income in 2019.
Of course, the outcome depends on a variety of factors such as LIBOR movement, deposit betas and balance sheet dynamics. Based on the Fed's dot plot, rates are expected to continue to increase, albeit at a slower pace. With recent market volatility, we continue to evaluate the appropriate time to begin moderating some of our asset sensitivity by adding hedges.
Our asset liability committee regularly assess acquisitions and determines the appropriate half given our balance sheet movement, our outlook for rates and the market prices for hedges. We don't believe a decline in short-term rates is imminent and expect to gradually layer in hedges over time.
Now I'll turn the call back to Ralph to provide an update on our outlook for 2019.
Thank you, Muneera. Assuming continuation of the current economic environment, we expect average loans to grow approximately 2% to 4% in 2019 relative to 2018. We anticipate growth in most business lines, which is supported by positive trends in December and the increasing commitments we have seen over the past three quarters.
We will maintain our relationship focus as well as loan pricing and credit discipline. Economic conditions are good, yet customers remain somewhat cautious given economic uncertainty, market volatility and lingering trade talks. As far as deposits, we expect the current trend to continue with average deposits declining about 1% to 2% as customers use cash in their businesses and more efficiently manage their cash position in this higher rate environment. We believe we will have some seasonality through the year. Our goal is to offer superior products and services, along with the appropriate pricing to attract and retain long-term customer relationships.
We expect our net interest income to increase 4% to 5%. As Muneera indicated, the full year net benefit of the higher short-term rates is estimated to be about $130 million to $150 million. Also adding to interest income is the contribution from the securities portfolio repositioning that we completed at the end of the third quarter as well as expected loan growth. We anticipate headwinds in the form of higher wholesale debt to help fund our share repurchase program. In addition, nonaccrual interest recoveries are expected to decrease about $10 million to $12 million from the elevated level we saw in 2018.
And while we are well positioned for any rate increases, we have not included this in our outlook. We believe our portfolio will continue to perform well and begin to migrate towards a normal credit environment in the back half of 2019. Therefore, we expect a provision between 15 and 25 basis points, and net charge-offs to remain low.
As far as non-interest income, we expect growth of about 2% to 3%. We believe we will continue to drive growth in card and fiduciary fees. This is expected to be somewhat offset by lower derivative income and deposit service charges, as increases in underlying services may be more than offset by higher earnings credit allowance.
Keep in mind that the fourth quarter included elevated syndication fees and derivative income which are dependent on market conditions and difficult to predict and therefore may not continue at these levels.
Expenses are expected to decrease approximately 3%, which will help continue to drive our efficiency ratio lower. Excluding restructuring costs incurred in 2018, expenses should be stable. We expect total compensation to decline with lower incentives as we reset the annual targets and a $10 million pension expense benefit resulting from a higher discount rate.
Also with no more surcharge, FDIC expense should be about $16 million lower. We expect to see a rise in outside processing tied to revenue and increasing technology investments as we execute on our Tech Vision 2020 initiatives. In addition, we expect inflationary pressures on items such as occupancy, staff insurance and annual merit and marketing.
Recall the first quarter includes elevated salaries and benefits expense due to annual share compensation and associated higher payroll taxes. Our effective tax rate is expected to be approximately 23%, excluding any discrete tax benefits, which totaled $48 million in 2018. As far as capital, we expect to reach our target of 9.5% to 10% CET1 by year-end as Muneera indicated. Altogether, we believe our bottom line will continue to grow despite credit cost rising from very low levels as we continue to drive revenue higher and achieve positive operating leverage as well as actively manage our capital.
In closing, our 2018 results demonstrate our ability to drive substantial revenue growth while maintaining favorable credit metrics and well controlled expenses. Through a significant increase in our share repurchases and dividend, we were able to achieve an all-time high for capital return to our shareholders.
Going forward, we expect to maintain our return of capital while properly managing our capital base to support growth and investment in our businesses. Our return on assets, return on equity and efficiency ratios clearly demonstrate our commitment to enhancing shareholder value.
Now we'll be happy to take any of your questions.
[Operator Instructions] Our first question will come from the line of Ken Usdin with Jefferies. Please go ahead.
Good morning, Ken.
Hey, good morning, Ralph. Just a question on your loan growth outlook, 2% to 3% on an annual average basis. Certainly last years or last couple of years has been tough to get that growth overall and obviously we've seen some improvements in the recent industry data and as well as your period end.
I know you talked a little bit about this, but can you talk about your level of confidence about the direction of the pipelines and where you expect the incremental growth to be coming from this year? Thanks.
Curt, do you want to take that?
Yes, Ralph. Thank you. Ken, we did see some encouraging trends in the quarter, both in average balances, but more importantly where our period-end loans finished up about $1.2 billion with growth really across most of our lines of business. And as we said in the script, we also had growth in loan commitments of about $1.3 billion as well as an increase in utilization rate.
So if we look at the outlook we have for 2019, the 2% to 4% growth, again, I'll get back to some of those encouraging trends and we are expecting growth really across most of the business lines that we're in today, with the normal seasonality that we would see in Mortgage Banker, Finance and dealer, which is somewhat cyclical in nature in particular in the first quarter, Mortgage Banker finance is usually down.
So our pipeline is pretty strong across most business lines, across most of the markets. We've been very focused on new client acquisition, which was up about 40% for us for the year in terms of new production. So we think many of things that we've been working on our positioning us well for growth.
Having said that, I would say that we've got the same caution that we would have had on prior calls around the overall economic and political backdrop that's going on right now and that customer sentiment still remains somewhat mixed around near tariffs, government shutdown, labor constraints et cetera.
So we've got to sort of factor that into the equation overall, but I do think we feel good about the trends we saw really kind of building in the second half of the year and how we finished the year and the fourth quarter. So we feel overall, I think positive about the prospects.
Got it. And then one follow-up just on the mix of the balance sheet noise, as loans grow and deposits shrink, obviously loan-to-deposit ratio will be moving up, you still have plenty of room in the upper 80s getting towards 90, what's your comfort zone with where you're willing to kind of let the loan-to-deposit ratio settle out?
Muneera?
Ken, we're comfortable if the ratio will be less than 100, we're comfortable but letting it go up to that point. Just as a reminder, that's the bank level we are talking about. And so we do have a lot of very efficient attractive sources of funding we can tap market index deposits, FHLB etcetera. So we're pretty comfortable with the loan-to-deposit ratio at this point.
Understood. Okay, thank you.
Thank you.
Your next question comes from the line of Ken Zerbe with Morgan Stanley. Please go ahead.
Good morning, Ken.
Thanks. Good morning. I guess in terms of the share buybacks, is there any -- obviously I'm glad you guys don't have to comply with the whole CCAR process for getting approval there. But is there any other regulatory factors or any other external factors that go into your planning about the buyback schedule or is that completely your discretion.
I'm asking just in terms of, is there anything that's stopping you from getting little more aggressive earlier on in the year with buybacks, given how much the stocks have come down? Thanks.
I think we are very much in line with what our thoughts are and what our plans are as far as the buyback and we do regularly meet with our Federal Reserve and discuss that buyback and get their approval. But I think it will depend on where we're headed from a overall balance sheet standpoint. Muneera, you want to add anything to that?
We will maintain flexibility as we to go through the year. We have all year to get to that 9.5% to 10% target. We've not trying to time the market and front-load our share buyback. We have to see how the year goes for us as I said.
We look at loan growth and that clearly will be the biggest demand on capital that we have to evaluate and we will triangulate as the year progresses. You should expect us to make a steady measured progress through the year.
Got it. Understood. And do you have to or do you -- are you planning on issuing any say Tier 2 debt or any preferred stock to help fund the buybacks and if so, is that already included in your guidance for the next year? Thanks.
We will first try to get to that target that we've established for ourselves and then look out other options.
Other options to -- sorry, the options to fund the buybacks themselves?
So, just to clarify, as we get to the 9.5% to 10%, we will be issuing debt as necessary to our buyback and then beyond that, once we get to our 10% target, we will evaluate where we are from an economic standpoint et cetera and then decide any actions.
Got it, understood, okay and then -- but the debt issuance, that interest cost is included in your net interest income guidance for the year, correct?
Yes, it is. Yes.
Perfect, okay. Thank you very much.
Thank you.
Your next question comes from the line of Dave Rochester with Deutsche Bank. Please go ahead.
Hey, good morning guys. On your deposit growth guide, it's maybe a little bit better than what you saw in terms of average growth this past year and it sounds like some customers may be using deposit funds for CapEx and other things. Is there just a risk that we end up seeing maybe a little bit more run off in this if activity picks up this year, just wanted to get your thoughts on that?
Muneera?
So overall, I think we've done a really great job of retaining our deposit at the light of 8 rate rises in the last two years, especially when you look out at given our low deposit beta of 25% cumulatively and our high proportion of non-interest bearing deposits.
This past year we did see a run off in municipal deposits and I want you to sort of keep that in mind. Overall, we see the economy as being healthy. Our customers are continuing to make investments. They are likely to continue using their cash that they have with us.
You'll probably see some residual impact of the December rate rise and you have to look out the absolute level of rates in the mid-twos and all of that will clearly continue to influence customer behavior. And so we've looked at all of that and come up with our projections for the 1% to 2% decline that they are giving. If it happens to be more than that, I've mentioned before, we do have a lot of efficient sources of funding.
Okay. And just back on the capital front, how much cash do you guys have at the holding company right now that you can allocate to buybacks at this point?
There is lot of different variables that go in. We have a fair amount of cash, but we also have liquidity policies and what we need to maintain. So, it's a bit more complicated than simply giving you the overall cash level.
Right. I think you'd like to allocate a certain amount to cover buyback or buybacks or dividends for the next year or two, right, 6 to 8 quarters, something like that.
Yeah. Our policy is 6 to 8 quarters. We also need to look at debt service at the holding company. So there are a variety of different factors.
Yeah. Just trying to back into when you might need to actually do that debt issuance, you're looking sometime in the first half of the year, is that what you're baking into your NII guidance at this point?
We are going to be flexible on that. We have to look at market conditions and determine what's the best time frame for us. Like I said, we've tried to include that in that net interest income guidance that we provided to you.
Yeah. Okay. And then just in terms of the cash on the balance sheet right now, I saw that was down a bit this quarter. I was just wondering if we'll see more of that this year as deposits run off and loans continue to grow, if you are going to shift more of that into funding loans and what -- what level that you'd actually be comfortable with moving that down to over time, what's a good minimum level for that?
Yeah. So given our outlook, where we're staying in multiple loans and that we expect the cost to run off 1% to 2%, clearly both those will bring our overall excess liquidity down. It will definitely be accretive to margin.
I've just talked about the fact that the loan-to-deposit ratio, you know, we are comfortable with it being below 100 and the fact that we can if necessary fund it through a lot of sources, including our securities portfolio by the way and that will overall increase the efficiency of our earning assets.
How comfortable are we, I mean, we like to maintain good levels of liquidity. So, yeah, I'd say $2 billion, $3 billion odd is something you just expect from us, from an overall liquidity stand point.
Okay . Great, thank you very much.
Thank you.
Your next question comes from the line of John Pancari with Evercore. Please go ahead.
Good morning, John.
Good morning. On the -- back to the NIM, Muneera you had indicated previously that you could see the NIM achieving a four handle in 2019, assuming -- and that I know assumed two rate hikes initially in 2019. Now that you're looking for less than that, one hike in September. What type of -- what is that new expectation. Where do you think the NIM can get to in 2019 just purely on that? Thanks.
So, I do expect that our margin will continue to improve in 2019, even if we don't get any additional rate rises. Clearly we'd love to see one to two additional rate hikes in 2019. I think we have a really good starting point at 370 basis points.
The December rate rise will be a benefit to us as we start out in the first quarter. We are estimating that that will be about $15 million a quarter and just as a reminder, we did pick up $2 million to $3 million in the fourth quarter, in the month of December.
And then when I think about the other puts and takes on margin, interest recoveries were really strong for us in 2018 and so that's something that we think we will see some headwind.
And then we've talked about the funding for the buyback being another factor. But overall I expect our margin to continue to improve and at some point we will go ahead and hedge it and lock that benefit in.
Okay. All right. And then the CET1 target of 9.5% to 10%, it's still a relatively robust level, even at that 9.5% to 10% and how do you view the potential that that target could actually move lower and is it something that if it does move lower that that can happen as we look -- as we move through '19 or would it be something that happens after 2019?
That's one of those things that we'll be looking at as we move along, and there's a lot of moving pieces to it whether it be the economy and the growth that's out there and the environment that we're in when we approach that level and we will be looking at that as to whether we are comfortable with it and -- or not. And we could very well be comfortable with it at that level for the time being.
Okay, all right. I mean, if I could just ask one more on the credit side, I know you said that you expect the credit to again normalize in the second half, any -- can you give a little bit more color behind that comment in terms of -- are you seeing anything specific, where do you expect that normalization to materialize first? Thanks.
Pete?
Sure. So we're giving an outlook, 15 to 25 basis points provision, that's coming from a standpoint of really zero this year with charge-offs of only 11 basis points, that for us is even a low level. So we would expect even in a good credit environment for our charge-offs to be a little bit higher than that. And so that was baking that in.
We also this year had a pretty good sized reserve release. We come into 2019 with our criticized actually at a record low level. So the opportunity for a reserve release in 2019 is certainly less. And then we would also in a normal credit environment expect some good healthy loan growth and we have that in our plan.
So when you factor those three factors in, net charge-offs moderating a bit, less of a reserve release and then some loan growth. That's where we get the 15 to 25. I'd say that's still in the low end of what we would consider a normal environment.
Okay, great. Thank you.
Thank you.
Your next question comes from the line of Steven Alexopoulos with JPMorgan. Please go ahead.
Hey, good morning everyone. Just to start on the deposit side. So we saw another sharp drop in non-interest-bearing even though normally it's stronger because of window dressing. Do you guys now have a clear sense as to the non-operational deposits sitting in non-interest-bearing which could migrate out?
Muneera?
So on the non-interest-bearing side, I mean in my prepared remarks, we did talk about the fact that customers are being more efficient with their cash. They are managing it in different ways. We do see that specifically in our corporate banking business line, that activity is quite obvious.
In some instances, we do have our non-interest-bearing deposits, remixing on interest-bearing side, some customers by taking advantage of the off-balance sheet product offerings. And then separately on the interest-bearing side, we do have new money coming in given the pay rates that that we're willing to offer.
So there is some independent movement and a little bit of remixing transpiring which is not really unexpected given that we are in the rate cycle.
Muneera, the way you model it, could we see another -- like your own model, could we see another $3 billion of outflows of non-interest-bearing this year?
Given that rate, you know, this whole specifications phenomenon that we have going on and that we might be pausing a little bit. All of that also has an influence, how the economy performs has an influence, on how people choose to use their money.
So I would say that in times past that deposits are really difficult to predict. Now I was after that, but in our standard models we do include some pretty aggressive function of run-off. So that's one indicator if you wanted to get a sense for what could transpire.
Okay. And then on the loan side, the period-end loan growth was very strong and you guys were calling out December. Can you give more color what drove such strong growth in December and is that sustainable?
Curt, do you want to take that?
Yeah. Steve, we started the quarter -- the fourth quarter with a pretty strong pipeline. So we were anticipating kind of as the quarter built that we would see growth across a number of our businesses. We always have growth in dealer in the fourth quarter and that was strong as we anticipated and we have kind of working against Mortgage Banker, Finance to that sort of seasonal phenomenon.
But we also had growth in a number of the key businesses for us, environmental services, entertainment, lending business, private banking and the energy business and we were anticipating most of that as sort of based on our pipeline and sometimes it takes a while for to work its way through the quarter and it just happens that a lot of it hit during the month of December.
But we still have a good solid pipeline kind of going in to the first year and when you look at some of the other dynamics, increase in commitments, some increase in utilization, etcetera, we feel good about the prospects that said earlier.
Okay, that's helpful. If I could squeeze one more in for Muneera, I may have missed this. In your outlook for 2019, do you assume any rate hikes in that outlook or is it flat on the Fed funds rate?
It's flat.
Flat. Okay. Thanks for taking my questions.
Thank you.
Your next question comes from the line of Peter Winter with Wedbush Securities. Please go ahead.
Good morning. Peter.
Good morning. Muneera, just on the net interest income forecast for rate hikes, you tempered it a little bit from the mid-quarter update in December. I'm just wondering if you could talk about that?
Yes, so the estimate that we gave in early December was an initial estimate. We wanted to know how LIBOR would be moving in the first quarter. And given all the Fed's speak sorry, in December, the pace of LIBOR movement had been slow.
And then in my remarks I mentioned that we did make a standard pricing adjustment in early January and we did that based on what we saw in the competitive environment. So when you combine those two things, the slightly higher deposit costs along with slower moving LIBOR, that was the reason why we sort of brought our range back a little bit to the 130 to 150.
Okay. And then just one more question. You also mentioned on the call a little bit about the Fed dot plot and you're still not ready to put on swaps. I'm just wondering if you can give a little bit more color about some of the mechanics behind when you would put some interest rate swaps on the balance sheet?
So I mentioned a lot of things including the fact that this is obviously item that is discussed very frequently. And we all know that in the fourth quarter there was a lot of market volatility, which again gives us pause and you know, causes us to evaluate what the right time is for us to begin moderating our asset sensitivity.
When we look at the US economy, I do think that the economic metrics looks still positive, the labor data is good, the IFS indices are positive. And while the Fed commentary has shifted towards patient, it is with the backdrop of an improving economy.
I said in my comments that there is no an imminent danger of short-term rates dropping. And so we do think that we'll have enough time to be able to execute our hedging program and gradually layer on hedges. We are just being patient and disciplined.
So it's basically you need to see where rates drop, is when you -- is really the thinking of the timing?
No, not really. We're not looking really for that, no, not at all. We're not waiting to see that. We're just waiting for market conditions to settle down a little bit.
Got it. Okay, thanks very much.
Thank you.
Your next question comes from the line of Brett Rabatin with Piper Jaffray. Please go ahead.
Good morning, Brett.
Hey, good morning. I wanted to first ask on, just still going back to the loan growth and energy and the mortgage warehouse in particular. You've been talking about keeping energy around 4% and it actually ended up being a little higher than that at the end of the year.
Did a lot of the pipeline just kind of book in 4Q in energy and would the mindset beta restrain that going forward, maybe a little color around what's going on with your energy book?
Curt?
Yeah. Brett, we have said consistently that we're going to take care of our existing clients in our energy portfolio. We have some great long-term relationships. And as you know, for us that's primarily an E&P book-of-business.
And so I think the growth you saw in the fourth quarter was really the kind of accumulation of a lot of things that we've been saying along the way that eventually energy would be less of a headwind that a lot of our clients are in a much healthier position as they've reduced costs, deployed hedging and have started to increase rig count in drilling and so we saw some increased CapEx.
The expansion in borrowing base led to that increase in borrowing as well, as well as the fact that the capital markets dried up some in the fourth quarter. And so we felt some demand related to that.
We're not necessarily expecting that level of growth to replicate itself every quarter going forward, but we believe just with normal pay-downs in the portfolio, some new production that will continue to be sort of in a relative range of 4%. But again, it would be less of a headwind than it's been for us in the past.
Okay.
I was going to add, in my comment little bit on the E&P portfolio in the credit through the downturn is now well in --
You want me to take that?
Yeah.
Yeah. So when we take a look at the last downturn, the E&P portion of our portfolio and the midstream portion of our portfolio performed actually really well. Going into the downturn, we had 15% of a much larger portfolio with energy services that's now shrunk to less than 5%.
So now our portfolio is over 95% E&P and midstream, and we have really good results with that portion of the portfolio in the last downturn. I would also say though that the E&P portion of our portfolio today is even stronger than it was going into the last downturn.
Our borrowers are less levered and they have a lower cost structure, so that we would expect them to perform even better in a lower price environment next time around.
Okay, that's great color. And then I wanted to ask just around the syndicated book, what would you have in there that would look like leverage lending or can you give any color around, you know, there's some concern as we go through earnings so far about syndicated credits. Just maybe what you're seeing in syndications. And then just what you have -- might have that might look like leverage type loan portfolio.
Yeah, so we specifically avoid leverage deals and share national credit market. We view leverage lending is the middle market based relationship focused activity and we would avoid the large syndicated covenant like deals.
We like to stick with deals, the people we know, the management we know, the sponsors we know, the typical is one and/or two, maybe three bank deals, but we specifically avoid the large syndicated market and we would expect that our leverage portfolio will perform better than the broader syndicated leverage market well in a downturn.
Okay. And how much would that total be?
Our total leverage using the FDIC definition of high risk borrowers is about 5% of our portfolio.
Okay, great. Appreciate all the color.
Thank you.
Your next question comes from the line of Scott Siefers with Sandler O'Neill. Please go ahead.
Good morning, Scott.
Good morning, thanks for taking the question. Muneera, when you talk about the margin continuing to improve in '19, I was hoping you could put a little more context around that.
In other words, are you talking full-year '19 versus full-year '18 or are you suggesting that the margin would continue -- would or could continue to improve after we get the favorable benefit of the December rate hike fully baked into like the first quarter margin.
In other words, I'm just trying to understand exactly what happened to the margin and why after we've gotten all the rate benefit is baked in.
Yeah. So from the 370 point, the margins have improved for the December rate rise as well as for the loan growth that we are signalling in our outlook. So, both those growth will be contributors.
Yeah, okay. So there is, I guess a little more flexibility for the margin continue to go after we get to a steady state with the rate environment, the short-term rate environment.
That's right.
Okay. And then separately, just as you look at the complexion of the overall base of earning assets, I mean the loan growth outlook is very good and substantial from your fourth quarter performance, but I'm thinking just to get into your full year net interest income guide that would be very little growth in the total base of average earning assets.
Can you talk just a little bit about that complexion of non-loan earning assets and what would happen. I mean, I imagine a portion of it at least to with deposits coming down, you know, that base comes down a bit as well, but just curious to hear your thoughts.
Yeah, you are right in the way of thinking about it, that generally given that we're saying our deposits will come down that earning assets will more or less remain stable. But overall, we will have a better mix in the earning assets because loans will be higher and then depending on how the loan growth is funded either through our liquidity or through our potentially reducing the securities book, either way, overall the mix will be higher from an earnings standpoint.
Okay, that's perfect. I appreciate that.
Your next question comes from the line of Erika Najarian with Bank of America. Please go ahead.
Hi, good morning.
Good morning.
Thank you for answering all the questions. I wanted to follow-up on Ken's line of questioning about the pace of buybacks. I mean, you've been pretty consistent over the past two quarters and here you are loud and clear that we're looking for average loan growth in 2019.
But I'm wondering, given that the stock price is below the average quarterly price of both third quarter and fourth quarter, if you would be open to perhaps more accelerated pace, given that your stock price doesn't seem to be reflecting your ROE potential for the year.
Muneera?
Yeah. So generally when you are thinking about the size of the buyback, we will -- you should think about a) the strong earnings we have each quarter, and then beyond that, the fact that we will be marching from a CET1 ratio of 11.12% and 9.5% to 10% that we've mentioned.
Now, as we march towards that target we have to think about the uses of capital, clearly loan growth would be the best use of it. We do have some impact coming from accounting standards that we will be adopting, there will be some employee activity. So we will have to triangulate between all of those variables and we've talked about the fact that we want to go with a measured pace.
In the past we have done some front-loading and ASRs and those types of things. So that was more about execution for us. So we are keeping our options open. We want to maintain flexibility and we have all year to get to the target. So all of that is baked in into how we think about our progression there.
Got it. Thanks for taking my question.
You're welcome.
Thank you.
Your next question comes from the line of Geoffrey Elliott with Autonomous Research. Please go ahead.
Good morning and thanks for taking the question. I wanted to ask about the Direct Express government card program. I know the contract is up for renewal and there's been a little bit of press about it recently and a little bit of political attention.
Maybe first, can you help us understand the contribution of Direct Express to both non-interest-bearing deposits and card fees?
Curt?
Yeah. Geoffrey, thank you for your question. I might start by saying that beyond the Direct Express program, we are in the government card program more broadly. We have 49 distinct state programs that are separate from the US Treasury Director Express program and we've been in this -- working in this area for a long time.
We've had a relationship on Direct Express line since 2008. It is primarily a -- from our revenue driver standpoint, it is primarily a depository revenue source for us, non-interest-bearing deposits. There is some fee income, but all the fee income is offset by our third-party processing arrangements that we have in place. And so in terms of sort of revenue source, it is primarily a deposit in nature.
I think a couple of things I would point out to you, we are in the middle of the rebidding process, so we really can't share more details with you at this point around the specifics of the relationship. But if we -- for whatever reason if we're not successful in the rebidding process, we would retain our current cardholder relationships, which is about 4.5 million dollar card.
So even in a worst-case scenario, if not successful in rebidding we believe that we would still have a similar deposit base and revenue source, but it may -- could -- maybe [indiscernible] over time. It would not necessarily -- it wound't be one sale sweep scenario.
Thank you. And then in light of some of those issues that have come up over the last year, is there anything that you've changed operationally around the card program either to try to reduce some of the fraud risk or to make sure that the customer service is at the level you need it to be at?
Well, I would tell you that we pride ourselves on how we serve that customer base and the service that we deliver and the protection that we afford those clients. We do some annual surveying of the clients and we continue through a third-party to receive very high satisfaction results from those customers. And then we are very focused on the fraud protection and, detection and protection side of it and worked very hard to remediate any fraud issues that might be out.
There has been some press around fairly limited set of issues that we had around one component of the program that has to do with when a card is lost and getting immediate access to clients -- for clients who otherwise may not have a permanent address and for whom that funding is critical.
And so we've worked to remediate that and have really made sure that all those that have been impacted by that have had funds remediated and restored to them. And so we did not see this as a broader issue, but fairly limited in scope. But as you said, got some press along the way, but we continue to feel like we are delivering very high level of service and with a lot of work around security and fraud associated with that.
Thanks.
Thank you.
Your next question comes from the line of Steve Moss with B. Riley FBR. Please go ahead.
Good morning, Steve.
Good morning. I was wondering if you could talk about just the competitive environment for loans in particular, if you're seeing greater pricing competition for a mortgage banker loans?
Curt, you want to take that?
Just from a competitive side, it's always a competitive market. I don't believe that it’s necessarily on the pricing side any more competitive today than normally it has been. We work really hard to keep our focus around relationship banking to make sure that we're keeping our underwriting standards up and leveraging sort of our long-tenured colleagues that we have in the field and the deep expertise that we believe we bring to many of our lines of business and we have pricing models that we deploy that really are built sort of one customer at a time looking at lots of different factors including the overall risk profile, profitability of the relationship.
In the mortgage banker, finance side, I would say it increasingly has been a more competitive environment. Coming out of the financial crisis, there was only a handful of lenders that were in that space. We were one of them. Today that number is probably close to 100 different institutions that provide some level of mortgage banker, finance services.
Having said that, we've got a great reputation in that field. And we've been in that business for over 50 years and we continue to expand relationships and acquire new relationships as well. So we think we're able to remain fairly competitive in that space.
Okay. And then turning to credit, I hear you on credit cost been higher, given how low charge-offs and a benefit from recoveries. Just wondering, are you increasing your unallocated reserves these days to just kind of keep the loan loss reserve ratio closer to 1.34/1.35?
Pete?
We do look our qualitative reserves every quarter and there are certain aspects of the economy that obviously we have concerns about that we will address qualitatively if we don't think that the impact of those is fully reflected in our risk ratings.
And we do that from time to time and we do look at it, particularly now where our risk ratings are really at, you know, really, really low levels, yet we see some signs in the economy that would concern us trade for one will be one where we would address qualitatively.
All right, thank you very much.
Thank you.
Your next question comes from the line of Marty Mosby with Vining Sparks. Please go ahead.
Good morning.
Good morning. I wanted to talk a little bit more about the hedging in the sense of not the timing of it, but use of inter-affiliate swaps, have you thought about floors that kind of look at the convexity of your deposit pricing with the gammas as you get lower, you have less flexibility to push rates lower, just was trying to think of the duration of the swaps and the types of things that you might use to hedge the balance sheet?
Muneera, why don't you talk about the different products we're looking at, as well as the --
We keep our options open, so to speak. So we do look at collars and floors and caps and swaps and we look at different durations, three years, four years. This is all part of a dashboard that we evaluate on a regular basis. I would say that keeping our flexibility there and we'll do whatever we think gets us to the best profile for our balance sheet.
And what do you think kind of fits that profile, given what's your profile looks like right now, what is the type of insurance that you'd like to try to buy?
To be honest with you, even in the last few months, I would say our choices have evolved. It just depends on how the market is pricing some of these instruments. And so, I would say that this is something that changes.
If you'd asked me the same question few months ago, I'd have given you one answer, today is the different answer. And so providing something specific does not make a lot of sense because ultimately we might execute differently depending on how the market is evolving.
And then in your securities portfolio, you had the gain, which you know, the benefit that you then offset with a lot of the restructuring costs. Would you look at just in your extra capital that you have, getting down to your target levels, being able to look at using a little bit of that capital to restructure any more capacity in your securities portfolio?
Well, I would say at this point we are generally happy with both the profile, the duration that we have in our securities book. To the extent we needed for loan growth we can use some of that capacity in that regard.
We are not actively thinking about any type of additional repositioning. It doesn't mean that we won't be opportunistic, but if long-term rates looks like they're moving up, then we might potentially look into it again, but not at the present time.
Thanks.
Thank you.
Your next question comes from the line of Gary Tenner with D.A. Davidson. Please go ahead.
Good morning, Gary.
Good morning. Just had the question regarding, I thought your initial comments suggested that VC lending was a little weaker in the fourth quarter. Hopefully, I heard that correctly. But if so, anything beyond kind of seasonal slowdown there or are you seeing anything in that market that raises any eyebrows?
Curt?
Yes, the average loans decreased in our broader technology life sciences space about $80 million for the quarter. And that was some decline in our core TLS business as well as equity fund services and some of that was just timing related. I don't think there was anything thematic going on in the portfolio.
We had a couple of larger DC funds that we're closing out one fund and then launching another fund, and so we were just sort of between a number of facilities and reinforcing that we actually saw a strong December and pipeline grow at the end of the quarter.
So we're expecting continued growth in that segment, specifically the equity fund services component. And again, I would think the month of December was a little bit of an anomaly. I mean, the fourth quarter is a little bit of an anomaly.
Got it. Thank you. And then just a credit question. I think you addressed this to some degree. Given your outlook for provisioning. it doesn't certainly suggest any meaningful reserve release of anything you're -- you've talked about some qualitative factors that give you -- that you are increasing because of some concern. I'm just wondering as you're looking out through '19 into 2020 and CECL, kind of any early indications that you have from what you -- you know, from the study and research you've done internally.
Pete?
Yeah, Gary, we're not ready to release anything on CECL just yet. We want to have -- we are looking at internally and we want to have discussions with our auditors and our regulators before we say any specific about the impact of CECL, but I would say this that all things being equal, given the fact that our portfolio has a much shorter duration than most of our peers, we would expect the impact of CECL on us would be significantly less as well.
All right. Thank you.
Thank you.
Your next question comes from the line of Brock Vandervliet with UBS. Please go ahead.
Thanks for the question. Prior question on CECL covered it. Thanks very much.
Thank you.
I will now turn the call back over to Ralph Babb, Chairman and Chief Executive Officer for any further remarks.
Thanks everyone for your interest in Comerica. We appreciate it and I hope you all have a good day. Thank you.
Ladies and gentlemen, this concludes today's call. Thank you all for joining and you may now disconnect.