Capital One Financial Corp

NYSE:COF

Earnings Call Transcript 2018-Q2

[Operator]

Welcome to the Capital One Second 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 period. [Operator Instructions] Thank you.

I would now like to turn the call over to Mr. Jeff Norris, Senior Vice President of Finance. Sir, you may begin.

[Jeff Norris, Senior Vice President of Global Finance]

Thanks very much, Leanne, and welcome, everybody to Capital One's second quarter 2018 earnings conference call. As usual, we are webcasting live over the Internet. To access the call on the Internet, please log on to Capital One's website at capitalone.com, and follow the links from there. In addition to the press release and financials, we've included a presentation summarizing our second quarter 2018 results.

With me this evening are Mr. Richard Fairbank, Capital One's Chairman and Chief Executive Officer; and Mr. Scott Blackley, Capital One's Chief Financial Officer. Rich and Scott are going to walk you through this presentation. To access a copy of the presentation and press release, please go to Capital One's website, click on Investors and click on Quarterly Earnings Release.

Please note that this presentation may contain forward-looking statements. Information regarding Capital One's financial performance and any forward-looking statements contained in today's discussion in the materials speak only as of the particular date or dates indicated in the materials.

Capital One does not undertake any obligation to update or revise any of this information, whether as a result of new information, future events or otherwise. Numerous factors could cause our actual results to differ materially from those described in forward-looking statements. And for more information on these factors, please see the section titled Forward-looking Information in the earnings release presentation and the Risk Factors section in our Annual and Quarterly Reports accessible at the Capital One website and filed with the SEC.

And with that I'll turn the call over to Mr. Blackley. Scott?

[Scott Blackley, Chief Financial Officer]

Thanks, Jeff. I'll begin tonight with Slide 3. Capital One earned $1.9 billion or $3.71 per share in the second quarter. We had three adjusting items in the quarter, which are outlined on page 13 of tonight’s slide deck.

We had a $400 million gain from the previously announced sale of our mortgage portfolio which was recorded in our other category. There was a $49 million build in our UK payment protection insurance customer refund reserve and we had a $15 million charge for restructuring events related to our previously announced business divestitures.

Net of these adjusting items, earnings per share were $3.22. In addition to the adjusting items, we had a non-recurring adjustment to a vendor agreement which reduced operating expenses in our card segment by around $75 million in the quarter.

Pre-provision GAAP earnings increased 13% on a linked quarter basis and 15% on a year-over-year basis to $3.8 billion. Provision for credit losses decreased 24% on a linked quarter basis and 29% on a year-over-year basis, primarily driven by allowance releases in our Domestic Card and Auto businesses.

Let me take a moment to explain the movements in allowance across our businesses, which are detailed in Table 8 of our earnings supplement. Improving delinquencies and lower charge offs resulted in a $72 million allowance release in our Domestic Card business and a $77 million release in our Auto business. Also the impact of the home loan sale and the transfer of the remaining portfolio to held for sale resulted in allowance decrease of $54 million.

We increased our commercial reserves by $41 million in the quarter as we increased our allowance coverage ratio. Our effective tax rate in the quarter was 23.1%. Excluding discreet items and the impact of the UK PPI reserve build, the quarterly rate would have been 21.2%. We continue to expect our 2018 corporate annual effective tax rate to be around 20% before discreet items.

Turning to Slide 4, you can see that reported net interest margin decreased 27 basis points on a linked quarter basis. About half this decrease is seasonality as card customers typically increased payments after tax season, which is only partially offset by having one more day in the quarter.

The other half of the linked quarter decrease was largely driven by three factors, the contra revenue portion of the UK PPI reserve build, a temporary increase in our cash balance due to the mortgage portfolio sale and finally the accelerating cost of deposits, which we believe will be a continuing headwind going forward.

Turning to Slide 5, our common equity Tier 1 capital ratio on a Basel III standardized basis was 11.1%. We completed our full 2017 CCAR authorization purchasing 800 million or 8.4 million shares of common stock in the quarter. As previously announced, following the Federal Reserve’s non-objection to our 2018 CCAR plan, our Board has authorized repurchase of up to $1.2 billion of common stock through the end of the second quarter of 2019. And we expect to maintain our quarterly dividend of $0.40 per share, which is subject to board approval.

Our current view of our capital need remains at around 11% of CET 1. We believe that we have sufficient earnings power to support growth and capital distribution. As I mentioned last quarter, how the capital frameworks ultimately incorporate the effects of CECL may impact our longer term view of capital.

With that I’ll turn it over to Rich. Rich?

[Richard Fairbank, Chairman and Chief Executive Officer]

Thanks, Scott. I'll begin on Slide 8 with our Credit Card business. We posted strong year-over-year growth in pretax income driven by revenue growth and significant improvements in provision for credit loss. Credit Card segment results and trends are largely driven by the performance of our Domestic Card business, which is shown on Slide 9.

In the second quarter Domestic Card ending loan balances were up $7.8 billion or about 8% compared to the second quarter of last year. Average loans also grew about 8%. Second quarter purchase volume increased 17% from the prior year quarter.

Revenue for the quarter increased 3% from the prior year. Growth in average loans was partially offset by a decline in revenue margin. Revenue margin for the quarter was 15.9%, down 74 basis points from the second quarter of 2017, largely driven by the expected margin pressure from adding the Cabela’s portfolio.

Non-interest expense for the quarter was down about 3% compared to the prior year quarter. Operating expense in the quarter benefited from about $75 million in non-recurring items that Scott discussed. Improving credit trends were a significant driver of second quarter Domestic Card results. The charge off rate for the quarter was 4.72%, down 39 basis points year-over-year.

The 30 plus delinquency rate at quarter end was 3.32%, down 31 basis points from the prior year. We’re now on the good side of growth math. Credit performance on the loans booked during our growth surge in 2014, 2015 and 2016 has now turned and is improving year-over-year. This improvement is a good guy for overall Domestic Card credit.

Pulling up the competitive marketplace remains intense, but generally rational. Supply of card credit is on the high side, although it continues to settle out a bit and our growth initiatives are gaining traction. We see increasing opportunity to grow card loans.

Slide 10 summarizes second quarter results for our Consumer Banking business. In the quarter we completed the sale of substantially all of our Home Loans portfolio and we summarized selected impacts to segment results in the commentary section on Slide 10. As you can see on Slide 10, ending loans decreased about 22% compared to the prior year. Growth in auto loans was more than offset by the Home Loans portfolio sale.

The Auto business continues to grow with ending loans up 8% year-over-year. Competitive intensity in auto is increasing, but we still see attractive opportunities to grow. Ending deposits were up 4% versus the prior year with a 29 basis point increase in average deposit interest rate compared to the second quarter of 2017.

We expect further increases in average deposit interest rate driven by higher market rates and increasing competition for deposits as well as changing product mix as our national banking strategy continues to gain traction. Consumer banking revenue for the quarter increased about 1% from the second quarter of last year with growth in auto loans and deposit offset by the Home Loans portfolio sale.

Non-interest expense for the quarter decreased 9% compared to the prior year quarter driven by the exit of the mortgage business, the benefits of prior branch rationalization and our ongoing efforts to tightly manage cost.

Provision for credit losses was down from the second quarter of 2017, primarily as a result of strong credit performance in our Auto business. The Auto charge off rate improved compared to the prior year quarter. Recall that second quarter charge-off rate last year was elevated by changes in how we recognize bankruptcy related charge-offs.

Adjusting for these impact, the auto charge-off rate still improved modestly year-over-year in the second quarter. And as Scott discussed favorable credit trends drove an allowance release. Over the longer term we continue to expect that the auto charge-off rate will increase gradually as the cycle plays out.

Moving to Slide 11, I'll discuss our commercial banking business. Second quarter ending loan balances were flat year-over-year and average loans decreased 2%. Both trends were driven by our choice to pull back in several less attractive business segments in the second half of 2017. With many of these choices behind us, ending loan balances increased about 3% from the sequential quarter. Ending deposits were down 6% from the prior year driven by increasing price competition.

Second quarter revenue was up 1% year-over-year as strong non-interest income in capital markets and agency offset the decline in average loans and the effect of the lower tax rate on tax equivalent yields. Non-interest expense was up 7% primarily as a result of technology investments and other business initiatives.

Provision for credit losses was $34 million in the quarter down 76% from the second quarter of 2017 driven by lower charge-offs. The charge-off rate for the quarter was essentially zero. The commercial bank criticized performing loan rate for the quarter was 3.1%. The criticized non-performing loan rate was 0.3%.

In the second quarter Capital One delivered year-over-year growth in loans, deposits, revenues and pre-provision earnings. We tightly managed costs even as we continued to invest to grow and drive and to drive our digital transformation. We saw credit improvement across our businesses and growth math established itself as a good guy for overall Domestic Card credit trends.

We continue to see opportunities to book attractive and resilient loans in our card, auto and commercial banking businesses and to grow deposits in our consumer banking business. We continue to expect marketing in 2018 will be higher than 2017 with essentially all of the increase coming in the second half of the year.

And we continue to work hard to drive operating efficiency as we transform our technology infrastructure and change the way we work. After two years of significant improvement, we expect 2018 operating efficiency ratio net of adjustments, will be roughly flat compared to 2017.

While efficiency ratio can vary in any given year, over the long-term, we continue to believe we will be able to achieve gradual efficiency improvement driven by growth and digital productivity gain. We expect long-term improvements in efficiency ratio will mostly come from improving operating efficiency ratio.

Pulling up, we continue to build an enduringly great franchise with the scale, brand, capabilities, and infrastructure to succeed as the digital revolution transforms our industry and our society. Our digital and technology transformation is accelerating and we’re strengthening our position to succeed in a rapidly changing marketplace and create long-term shareholder value.

Now Scott and I will be happy to answer your questions.

[Jeff Norris, Senior Vice President of Global Finance]

Thank you, Rich. We'll now start the Q&A session. As a courtesy to other investors and analysts who may wish to ask a question, please limit yourself to one question plus a single follow-up. If you have any follow-up questions after the Q&A session, the Investor Relations team will be available after the call.

Leanne, please start the Q&A session.

[Operator]

Thank you. [Operator Instructions] And we'll take our first question from Ken Bruce with Bank of America Merrill Lynch.

[Ken Bruce, Bank of America Merrill Lynch]

Thank you, good evening. My question really relates to the growth that you see in the US credit card business. You kind of suggested that you’re seeing opportunities to grow again. I’m wondering if that’s in the sense in the prime area and the subprime area, could you give us any sense as to what that product mix will look like going forward obviously you had a shift in the quarter.

[Scott Blackley, Chief Financial Officer]

Right, Ken, first of all let me just comment on the mix shift in the quarter. So our asset mix percent subprime is 32% down 4 percentage points year-over-year. And that’s basically close to our historical portfolio mix of about a third plus or minus. An important part of that reduction is the addition of the Cabela’s portfolio which is kind of a heavily prime oriented portfolio. Also our credit lines have been a little bit lower the last couple of years. So but that is - our strategy remains the same.

And so and that’s also as I turn now to your question about where is the growth opportunity, we see the growth opportunity across the spectrum of where we play. So I don’t think there’s any important strategic change here we just I think as you know we always talk about the marketplace and we try to give a calibration of where we see opportunity. And we see the growth picture looking a little bit more positive now that’s partly in the context that Capital One’s growth has been pretty modest over the last year and even the last quarter or two we’ve said as we look out actually we see a more positive picture and I would again say that.

So we like what we see in the performance of recent vintages, we see promise in our innovation pipeline and we’ve already said we expect marketing levels to be higher, so I think we see an enhanced growth opportunity over time.

[Ken Bruce, Bank of America Merrill Lynch]

Thanks. And just there’s been some speculation about Capital One’s involvement with the Wal-Mart private label card and the co-brand. Can you and I understand you’re not going to comment specifically on any particular transaction but can you lay out for us what would be one of the, what would be a classic retail partnership for Capital One? What makes it work specifically for Capital One?

[Richard Fairbank, Chairman and Chief Executive Officer]

So as you know the card partnerships business Ken is an [auction] [ph] based business. So in that way that we believe and we said for a long time. We’re not out to go just be the very biggest of course we love to get growth opportunities when they emerge but it’s certainly all about fit and discipline frankly in the context of the auction process. So to your question what do we look for we look for a strong partner fit in a world where a lot of companies out there certainly a lot of retailers and overall companies in America are struggling in the context of the rapidly changing environment we look for a strong partner with strong brands and a cultural alignment and a commitment to the card program, as an avenue for growth.

We look for a partner that’s motivated for the right reasons. If you look at the spectrum of card partnerships out there and it’s essentially the partners behind those card partnerships. On one end of a continuum are the partners who view the card program as the central element for building a franchise and deepening customer relationships, the other end of the continuum is partners who sort of view the card program as a profit center, and we have consistently kind of tried to focus on the former side of the spectrum because not only is that where we think the better opportunity lies also the value that we have to add to what we can bring to the table in the context of a lot of our digital capabilities and underwriting and marketing would be consistent with those players who really are looking to card partnerships as a means to grow and really build a franchise.

And however important card partnerships were in the past I think we should all understand they’re more important in the emerging digital world just because of the centrality of how payments play and in the digital e-commerce environment relative to in the physical environment. The final thing that we look for is an economic deal that’s attractive and especially in light of the good growth opportunities that we see. So that’s what we’ve been saying for years about the partnership opportunity I think the key thing is that we have felt and expressed so many times is it really needs to be a story of selectivity and discipline and that’s a window into how we view those things.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And our next question comes from Moshe Orenbuch with Credit Suisse.

[Moshe Orenbuch, Credit Suisse]

Great, thanks. I saw that you put the impact of what the home loan business did for the - it was in the consumer bank for Q2 but can you talk a little bit about any balance sheet restructuring that you might be doing and things that might as you go through the second half of the year and things that could continue to help improve net interest income or net interest margin as a result of that or other actions that you can take?

[Scott Blackley, Chief Financial Officer]

Hey Moshe, thanks for the question. With the sale so we sold around $16.8 billion of mortgages in the quarter. We’ve reinvested a significant portion of that, around $9 billion went right into our investment portfolio and so that that was to really preserve liquidity associated with that. We used the rest of that to reduce our overall funding requirements. So we more or less already worked through all of the balance sheet dynamics of that and if you think about what that might mean to net interest margin on the one hand we’ve gotten those home loans out of the book but we added the AFS securities actually we put them in to help maturity so we’ve added those into the portfolio. So we do see a little bit of a pickup overall in terms of the margin but it’s going to be pretty modest given the fact that we reinvested a substantial portion.

[Moshe Orenbuch, Credit Suisse]

Great, thanks. The follow-up is talking - Rich you talked a lot about kind of you continue technological investments and the importance of payments. Could you talk a little bit about how any tools that you think you might have with respect to that could be brought to bear in the partnership area with respect to that the technology investments that you’ve made payments?

[Richard Fairbank, Chairman and Chief Executive Officer]

Well there are I think are - so there’s kind of two approaches to a partnership business. One can build a lot of custom technology associated with any particular partner or on the other hand one can build general capabilities that would be very compatible with partners who are really looking to build a franchise. And the way our tech transformation has happened by design which is really about building foundational technology and sort of working up the technology stack to create a lot of digital capabilities and flexibility within our card business that is a very natural thing to bring into the partnership business. So our philosophy is more create a way that we can help our partners ride on our technology path as opposed to go create a new technology path and one partner at a time. And that’s really just about and what I’m struck by I think at the end of the day, many companies, most companies in businesses in and around what we do have a set of capabilities that they need that are on a shared path of the very kind of thing that we’re building. So as we’ve said over the years that one of the benefits of our tech investment should be our ability to be a better partner out there.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

We will take our next question from Ryan Nash with Goldman Sachs.

[Ryan Nash, Goldman Sachs]

Hey, good evening, guys. Maybe I’ll start with credit so which we’ve clearly seen growth math transition from a headwind to a tailwind. If I look you provision $6 billion annualized run rate year-to-date, if I look at the next year consensus assuming something in the $7 billion plus $7.5 billion plus range. I was just wondering given that growth math has transitioned to as you referred to the good guy. Can you just tough but the puts and takes on credit and given the backdrop how should we think about provisioning given that losses in almost every business are now down on the year-over-year business?

[Scott Blackley, Chief Financial Officer]

So I think the way to think about it. At times I kind of have a joke in the past say over the last year that we’re almost ready to retire growth math and then I kind of said actually that that’s kind of all that misses an important nuance about how growth math works. And our earnings power is created in a business with high upfront costs and course the way growth math works is that when there’s a surge of growth losses accelerate early on in the cost of those and then things finally settle out and then all other things being equal.

There is a very gradual if not dramatic but a very gradual kind of good guy out there in terms of a gradual decline in charges for as long as that vintage is around all other things being equal. And so this is why we kind of adopted the language here that credit for that growth surge of 2014 through 2016 has turned to be a gradual good guy. So I think the way to think about credit and the credit outlook for Capital One is to think of you’ve got the growth math which is kind of turned to be a good guy and then of course credits going to be impacted by the competitive cycle and other industry effects and by the economy.

And with respect to that, the card industry as enjoyed a pretty long period of benign performance and we’ve seen losses kind of gradually pickup as people’s growth rates have gone up et cetera. But I think given where we are in the economic and the competitive cycle, I think it’s very reasonable to expect that card industry losses probably have an upward tilt over time. And so you got the card industry effect and then in and to whatever one’s assumption about the card industry in fact I would just overlay the sort of good guy of growth math with Capital One and that how to think about that’s basically how we think about our current outlook.

[Ryan Nash, Goldman Sachs]

Got it and if I could ask one follow-up, if you just talk strategically about what you’re doing in the deposit business and you talked about the potential for a changing product mix. Can you expand on that and what you think it will mean for the deposit business overtime?

[Scott Blackley, Chief Financial Officer]

So we have talked for really for years about building a national banking strategy. Let me just comment on that for a moment and then talk just a little bit about mix. So as you know in a Capital One is really quite an anomalous institution relative to institutions that are anywhere near our size in the sense that we are not really even though they were the size of the biggest regional banks Capital One is national and just about everything that we do and especially our consumer business is where scale really matters the most.

Information scale, brand scale operating scale, customers scale I think digital really increases the importance of scale in frankly, in different ways. But so in banking, we’re we have a local bank in about 20% of the nation and a national direct bank in the other 80%. So while I think the history of banking is to the history of the quest of banks to build national banks is through buying other banks. We are more organically building our national bank and basically trying to go do it by not building how banking works today but in a sense trying to go where banking is going within physical distribution in key metropolitan areas and for us a full suite of products at the forefront of digital capabilities and a brand with a digital lean to it.

So I think this is a natural for Capital One because we can leverage our national customer base investments in technology and transformation and digital transformation and our national brand. So this is been a strategy that been playing out gradually over time for Capital One. Let me now turn to the mix point, that the we launched our what we call 360, Capital One 360 money market account a couple of years ago and that competitive with the large national direct banks and we have seen solid growth in this product and also and we expect to continue to lean into our national banking strategy and so I think the mix of in a sense the National Bank component relative to the local banking component.

I think the mix will you already see it happening inside Capital One. I think the mix change will continue that’s more of a capital one point but then along the way of course we also have just what’s happening in general with the competitive environment with the rates. So a combination of the natural thing that’s going on with the rates and the fact that we or our organically growing a National Bank these are factors that will lead to both the gradual mix change but what it will sum up to is say increasing cost of deposits is a very natural byproduct of the marketplace and our strategy.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And we’ll take our next question from Sanjay Sakhrani with KBW.

[Sanjay Sakhrani, KBW]

Thanks. Had a question on CCAR and obviously with a lot more onerous this time around and it’s going to get onerous more onerous all as equal. With all the discussions of the portfolio deals out there, was anything else but capital return asked in this past a mission and I guess Scott as you’re looking ahead and talk it through CECL. Had there been any progress made on discussions with regulators?

[Scott Blackley, Chief Financial Officer]

Yeah. Sanjay, thanks for the question. So when I look at what happened in CCAR really the decrease in the netter [ph] year-over-year in CCAR was really driven by three primary things. The first thing is that and this was an overwhelming driver. We really saw that the impact of tax reform was a significant component of the increase in losses that we had in CCAR and that that caused the decline in our netter. And we think that was primarily driven by the Federal Reserve’s modeling of deferred tax assets and that with the Tax Act there was a lots of an NOLs and it looks like that in the pulling corporate it out into their modeling of deferred tax asset so that was a significant component of the decrease. And then yes we had a more severe scenario and as you know and as we’ve talked about there were some adjustments to model that impacted us card and some prime auto which had an effect as well but the biggest of those things being the effect of the change in deferred tax assets.

I would also just mentioned that in our modeling we did not include the noted that include the impact of our mortgage sale that was done after the submission and we were not able to incorporate that because you can only incorporate itself that have concluded in your CCAR model so that kind of gives you a sense of the puts and takes what happened in CCAR.

[Sanjay Sakhrani, KBW]

Okay, just a follow-up question on the credit quality, Rich, obviously being on the good side of growth math. When we think about how it manifests itself to the charge-off rate going forward over like the short to intermediate term. Is it fair to assume that that small tail that you had of growth math is now completely out of the charge-off rate and then as you alluded to the mix get an improving towards prime and super prime. Will that be an additional tailwind to the credit metrics? Thanks.

[Richard Fairbank, Chairman and Chief Executive Officer]

Okay. With respect to the small tail of growth math, yes I’m actually glad you asked that question because definitionally what the small tail of growth math meant was as the surge – as the impact of the growth surge settles out and starts to turn the small tail math a slight up a modest uptick in charge-offs related to the surge in growth. That is actually now a good guy so it’s got the other sign it’s modest on the other side but thank you for that clarification opportunity there.

With respect to mix, the mix the subprime mix which dropped several hundred basis points in the quarter. That was I really would not view that is any important change that’s going to play out and in the future in the sense I mean the Cabela’s effect is an enduring one so that we should all internalize that. But as I said earlier, we are our strategies pretty much the same across the credit spectrum that we have had we think the growth opportunities will be that we see opportunities across the spectrum and we our bullishness about being able to improve growth there be it off a fairly low level at the moment but the optimism that we have is really one that kind of spans the spectrum of what we do and so I think you should look more for consistency there.

So I just to come back here CECL question we’ve submitted a response to the Fed NPR on the CECL. I know there’s been a variety of an industry discussion going around about how CECL might impact capital and how the capital regime might be adjusted will this happen see how the Fed takes all that feedback and what they may do from here.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And our next question comes from Eric Wasserstrom with UBS.

[Eric Wasserstrom, UBS]

Thanks very much. Rich, just one question on the auto space, it seemed over the past few quarters the competitive intensity may have decreased a little bit with the exit of one significant new and used bank player but recently that players indicated that they’re coming back to the market. Are you seeing any change in competitive conditions in that lending math?

[Richard Fairbank, Chairman and Chief Executive Officer]

Eric, we are seeing a change if there is let me try to just kind of in formally just kind of across the last several years. Try to calibrate this thing because the auto business I’ve said many times, the auto business is hypersensitive to competition even more so than the card business because there’s a dealer standing in the middle of every transaction and the dealer when the dealers see a particular lender who is more aggressive or has a loser underwriting or whatever there is a big movement that way and they try to drive others there as well. So this is an important question that you’re asking.

Years ago, so in the wake of the great recession with the retreat of a whole bunch of players we had kind of once in a life time competitive situation. And then we said, look it’s only going to get more competitive for there and things gradually became more competitive over the years still there was significant opportunity there. It’s sometime of around 2015 as I recall 14, 15 time period we started flagging, we were concerned about competitive practices it was competitive things partly a supply issue and a practices thing. But we saw supply increasing but we saw some competitive practices and we raised some alarm bells about that and Scott maybe help me with the timing here but I think sometime near that last quarter of 2015, we actually had a pretty significant decrease in origination volume around there related to this competitive intensity and the practices.

A couple of quarters after that so I think now we’re into sort of the middle of 2016 we saw that some of that, the competitive practices started I think competitors were pulling back a little bit from that and then we saw another player start pulling back significantly so from let’s call it a good part of 2016 and pretty much all of 2017 there was again this is sort of in the middle of the competitive cycle or even competitive that the economic cycle is moving well along this anomaly that the card business had less than you would expect competition either to be the auto business excuse me, thank you, Jeff.

What we are seeing in the context of that is more competition returning a little bit more frequency with respect to practices that were not fans of but I the way I would describe it is this is returning more to the way things were a couple of years before this. We still see good growth opportunities but it is very clear that the usual window that we enjoyed for about a year and a half, we should not expect that to be there and we what is our expectation is things will return to a more normal competitive environment and it will move along in the cycle as things do. But we still see good growth opportunities but we know which direction this thing is moving.

[Eric Wasserstrom, UBS]

Thank you. And if I may just one quick follow-up on NIM, Scott do I understand that it seems that this current level of card 6.7 is sort of the run rate level from here, but it seems like given the mix of asset growth and the deposit or just funding beta phenomenon that biased continues to be to the downside. Is that a fair characterization?

[Scott Blackley, Chief Financial Officer]

I think that you’ve got to kind of unpack all the things that are running through now. First of all, with respect to rates we’ve been talking about this for a while but we’re effectively neutral to rates and so I wouldn’t expect that if rates follow implied forwards, you shouldn’t see a lot of movement for us against that type of a change. And then I thought I said in my talking points about half the decline looking back on the prior quarter was a seasonal pattern and you historically seen NIM kind of drop down in Q2 and then climb back from there and that is really associated with the timing of some tax, seasonal payments that come in and that’s offset a little bit by some day count.

And then in the quarter, the other half of kind of what was going on there were really three factors, one was the contour of a new Porsche in the UK PPR reserve, obviously that’s a quarter only impact we had the additional cash that we carried because of the sale of the mortgage that’s also a quarterly impact that wouldn’t continue and then we talked about the accelerating cost of deposits which we do think will continue to be a headwind.

So when you kind they work your way through that there’s really the one factor thing that we think is going to be a continuing headwind in is going to be the cost to deposits but we’ll also see kind of puts and takes mix on the business and what the balance sheet ultimately looks like so that’s kind of the recipe that I would describe in terms of where you should think about him going from here.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And we’ll take our next question from Donald Fandetti with Wells Fargo.

[Donald Fandetti, Wells Fargo]

Hi, Rich. Two part private label question. One, have you made any executive changes in that area and then number two a little bit more complex. If you could talk about sort of how you weigh let’s say doing a large private label deal with alternatively just doing more general purpose cards and other parts of your business because you look at private label they do tend to skew lower on credit the pricing obviously is pretty competitive you have CECL a tougher fact on cards and lastly they do tend to be very high touch where you can sometimes need a hundred people site at the retailer and so there’s arguably execution risk et cetera and how do you look at that over the return so good or is it more of a longer term scale type thing that you’d be considering as well?

[Richard Fairbank, Chairman and Chief Executive Officer]

So I think in the so we talked often about the partnership business and the card partnership business and it’s a very natural sibling to having a branded business. We have tended to lean harder into going out to win general purpose programs generally than private label just only because there is just one whole not just synergy more with our own credit card business and we really like the opportunities to build customer relationships where they’re we’re doing everything we can to increase sales with the partner but also leveraging the opportunities to get out of store or out of partner sales which in a number of partners can be a very significant thing as well.

So general purpose cards I think have some structural advantages over the private label. But it’s all part of the sibling businesses that exist right next to what we do that’s why we’re in both of them and we evaluate one opportunity at a time.

[Donald Fandetti, Wells Fargo]

Okay. And I don’t know if they were able to come. Okay. If you were able to comment on any staffing changes or maybe you can’t really talk about that?

[Richard Fairbank, Chairman and Chief Executive Officer]

We don’t talk about staffing issues on call.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And our next question comes from Richard Shane with JP Morgan.

[Richard Shane, JP Morgan]

Hey, guys. Thanks for taking my question. And I want to follow-up on something that Scott mentioned. Scott, you talked about essentially $75 million expense true up related to a vendor obviously I really can’t mean that vendor. But if you could give us a sense of the nature of that relationship in any implications in terms of the business going forward?

[Scott Blackley, Chief Financial Officer]

Yeah, Rick. Thanks for the question. You can imagine that for a company of our size we have a number of large vendor relationships and so during the quarter we concluded the negotiation that resulted in some adjustments to the outer arrangement and we had some release of a accruals. And so that’s a onetime thing that they came and went and as we mentioned that hit our card segment so you know where to put that.

[Richard Shane, JP Morgan]

Got it. I’m curious if it’s perhaps related to credit reporting or storing in particular?

[Scott Blackley, Chief Financial Officer]

Well. I’m going to have to let you continue to gas because I’m obviously not going to comment on specific vendors or areas that – that’s not something that I think makes sense for us.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And we’ll take our next question from Robert Napoli with William Blair.

[Robert Napoli, William Blair]

Thank you. I appreciate it. Rich, it is to be muttered with your views or on the health of the consumer from a spending perspective is that a slight deceleration in your spend growth I think across the industry slightly deceleration. Are you seeing the any more conservative consumer at all and just your views on where we are in the economic cycle would be interesting?

[Richard Fairbank, Chairman and Chief Executive Officer]

Yeah. I think pulling way up the economy certainly looks strong over the short term and I think consumers are benefiting from job growth, wage increases and tax cuts. And tax cuts have both had some benefit on take home pay for taxpayers but of course through the large corporate and business tax cuts I think will increasingly make their way through hiring and investment by companies.

Now, so all of that is just all sort of things that stimulate. I think beyond that we’ve been watching most closely things like debt growth and competitive intensity which impact consumer credit over time and we've seen some pullback in that growth recently although it’s still the growth of revolving debt growing at 5.3%, the growth of non-mortgage debt so that’s been lending [ph], auto lending and installment lending is down a bit that growth is down a bit also but it’s at 4.6%. So what is clear is that the total indebtedness of consumers is growing.

So I think just as we look at it over the near term you’ve got a number of planets sort of aligning in a good way that sort of pulling up on the economy beyond that beyond the near term there longer term issues like in addition to the consumer indebtedness growing government deficits, trade issues and sort of the big sort of gradual demographic shifts that are that are going on.

So we operate with a view that this benign economy which by the way is heading toward record levels for how long it’s been since the last recession. We should understand and embrace it for what it is but not mistake that for things that are structural because I think a number of the structural elements probably operate in the other direction.

[Robert Napoli, William Blair]

And then I guess on the spend trends I mean a slight are you seeing, there seem to be a slight the deceleration I mean it’s like hard but I mean are you seeing any change in spend? Is there any that have to do with the shift of Easter maybe?

[Richard Fairbank, Chairman and Chief Executive Officer]

We had quite a bit of growth going on and our consumer spending and I think that probably more result of Capital One specific things that are going on I would there is no near term sort of development on the spending side that we would note but I think we should all be cautious consumers of the consumers behavior lately as we make our business decision.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And we’ll take our next question from Steven Wharton with JP Morgan.

[Steven Wharton, JP Morgan]

Good evening. I just wanted to follow-up one more time on the NIM. So you said that you expect that that happened, the decline sequentially would do the seasonality which I understand. But then you also mentioned that the impact of the contra revenue portion of the UK PPI reserve also impacted the NIM. Does that go away in 3Q and how much for that?

[Scott Blackley, Chief Financial Officer]

Yeah. So the way that UK PPI works you book some of it has a return of revenue and so it actually comes in as a reduction of revenue or contra revenue which will impact just the quarter and that was roughly sized in the 3 basis point range.

[Steven Wharton, JP Morgan]

And then you also mentioned the sale of the mortgages themselves but then you said you’d reinvested the proceeds of securities. So is that to imply then that the impacted to the NIM sequentially from the whole mortgage and security thing that that’s pretty much in the run rate. Is there’s not going to be a change sequentially from here?

[Scott Blackley, Chief Financial Officer]

That’s correct. And so we did hold some higher cash during the quarter as we work through putting that to work which was again another drag to NIM and it was roughly about the same size as the UK PPI either.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And we’ll take our next question from Betsy Graseck with Morgan Stanley.

[Betsy Graseck, Morgan Stanley]

Hi, good evening. First question on capital you indicated that for your CCAR submission that was before the mortgage sale had been finalized so now that you’re at 11% where you need to be and you’re creating capital obviously with earnings. Would you consider going in for either de minims or a top up request for a capital return later this year?

[Scott Blackley, Chief Financial Officer]

Well Betsy we those are certainly options that are available to us and what I would just say is as we’ve done in the past. We’re going to look at all of our options all the levers that we have to deploy capital whether that’s capitalizing growth distributed to shareholders and we definitely recognize that that’s a really important way for us to drive value for our shareholders so we’ll be we’ll be looking at all of our options going forward.

[Betsy Graseck, Morgan Stanley]

Okay. Thanks and then Rich you mentioned earlier the subprime obviously having fallen in the quarter. How much of that was your own actions verses your customers that try to increasing given the improvement in the economy obviously we get a positive cycle drift in a strong economy and that that the other part of the question here is does it give you room to then we invest in that customer’s side going forward or are your new loans that you are originating more likely to be above 660. Can you just some color there? Thanks.

[Richard Fairbank, Chairman and Chief Executive Officer]

Yeah that I would doubt that if I could drift over any short period of time would be a very big factor I haven’t specifically looked at that but I wouldn’t I wouldn’t place too much on that. That we don’t operate with a precise the subprime mix target, it is striking for how many years we have been around one third. So whether this number was that 32% or 35%, I don’t think would have much impact on our pursuit of opportunities to us much I mean if it’s the mix get way different than normal.

Obviously we always watch it but I think the main thing is what is the nature of the competitive environment the nature of the consumer and probably most importantly the results of all the tests that we’ve done and the vintages and we put it all together to just to calibrate what is the opportunity that we see and in my point is been Capital One is spend posting some pretty modest numbers on the lower end of the league tables for a number of quarters.

For a variety of reasons but part of it probably was as we’ve talked about term pulling in around the edges on some of the choices and things like that. I just think if we look at the opportunity we see some increased opportunity off of that lower base and that opportunity is across from is really across the spectrum all the way to the very top of the market.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And our next question comes from Christopher Donat with Sandler O’Neil.

[Christopher Donat, Sandler O’Neil]

Hi, thanks for taking my question. Just wanted to ask one of your auto lending side of the business and about the mix of it because with the prospect of tariffs on imported new vehicles I’m just wondering what percentage of your business is used at this point?

[Richard Fairbank, Chairman and Chief Executive Officer]

Chris, we have not we don’t give out that that number. However, certainly relative to a number of auto lenders, our mix is more toward the use side because we do not have a big partnership with a captive, a captive auto finance partnership that for some of the banks out there can lead to very significant volumes of new loans.

So we’re really more taking the mix of business that exists in the non-sub vented big part of the marketplace, but relative to the overall US marketplace that is shifted more toward the used car side. So with respect to your particular point, we probably have less exposure than some others might.

[Christopher Donat, Sandler O’Neil]

Okay. That’s helpful for me. Helped me understand the risk.

[Richard Fairbank, Chairman and Chief Executive Officer]

Yeah.

[Jeff Norris, Senior Vice President of Global Finance]

Next question please.

[Operator]

And our final question tonight comes from Chris Brendler with Buckingham Research.

[Chris Brendler, Buckingham Research]

Hi. Thanks, good evening. Thanks, Rich excuse me and I just wanted to ask on the US consumer credit card business interchange growth lagged spending growth by a little bit, but still pretty solid low double digits. Can you comment at all about the rewards environment and how it’s affecting your numbers and how you feel about the competitive intensity of the US card business especially among trends actors and your success there? Thanks.

[Richard Fairbank, Chairman and Chief Executive Officer]

Yeah, Chris. The rewards let’s talk of this call it the heavy spender business is a very competitive business. And it’s been very competitive for really for a long time. But marketing levels are intense the competition in reward the I think the most notable thing over let’s say the last say five years was the step up in rewards competition products and that kind of thing in the sort of 18 months to two years ago time period. And also not just for the banks but also at the same time Co-brand offerings. I think all of that continues to be intense I would describe it more as stable recently at an intense level. Upfront bonuses continue to be aggressive although they have also seemed to stabilize and are down of the real high they went to over a year ago.

So I think this is a business where in order to succeed one has to there’s a lot more than throwing products out there this is really I think a company needs to and there are a small number of players who would fit this description I think committed to what it takes to be in this business and build the sustain levels of brand equities over time to committed to the same levels of marketing that is required there and the investments from digital to high level servicing and everything else.

So for many years we have been kind of all in on this business. We believe that it continues to be a good opportunity you’ve seen capital one really for many years posting quite good growth numbers and I think into the teeth of a very competitive but fairly stable marketplace we see continuing positive opportunities to grow this business and to build a franchise which can be very profitable over the longer term and very resilient and be the cornerstone of a brand franchise that we are building.

[Chris Brendler, Buckingham Research]

You think that brand is actually helping you gain market share without be as aggressive rewards or even investing in this brand for decades now and I would think that you’re actually getting some benefit, some market share gains from the power of your brand.

[Richard Fairbank, Chairman and Chief Executive Officer]

I think brands a very important part of this thing. I don’t think a company I don’t think a bank can just win this game by just product offerings, it’s too easy for people to match product offerings this there’s so much more and there’s great product offerings now all over the place. So I think it’s really about a comprehensive all in strategy it’s all about franchise and it’s all about brand and customer experience and the key point I would leave with you is we have literally leaned into this business with a tremendous amount of priority and investment and focus for a whole bunch of years and I think through all the kinds of up and down in the competitive marketplace I think you’ve seen some pretty consistency in the growth numbers that we’ve been the organic growth numbers we’ve been able to post in this business and we’re optimistic for our prospects overtime.

[Jeff Norris, Senior Vice President of Global Finance]

Thank you for joining us on the conference call today and thank you for your continuing interest in Capital One. The Investor relations team will be here this evening to answer any further questions you may have. Thanks for joining us. Have a great evening.

[Operator]

And that does conclude today's conference. Thank you for your participation. You may now disconnect.