Capital One Financial Corp

NYSE:COF

Earnings Call Transcript 2022-Q2

[Operator]

Good day, everyone, and welcome to the Capital One Second Quarter 2022 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] Thank you.

I would now like to turn the call over to Ms. Danielle Dietz, Managing Vice President of Global Finance. Please go ahead, ma’am.

[Danielle Dietz, Managing Vice President, Global Finance]

Thank you very much, Melinda, and welcome, everyone, to Capital One's second quarter 2022 earnings conference call. As usual, we are webcasting live tonight over the Internet. To access the call, 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 have included a presentation summarizing our second quarter 2022 results.

With me today are Mr. Richard Fairbank, Capital One's Chairman and Chief Executive Officer; and Mr. Andrew Young, Capital One's Chief Financial Officer. Rich and Andrew will 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, then 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 and 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. 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, both accessible at the Capital One website and filed with the SEC.

Now I'll turn the call over to Andrew.

[Andrew Young, Chief Financial Officer]

Thanks, Danielle, and good afternoon, everyone. I'll start on slide 3 of tonight's presentation. In the second quarter, Capital One earned $2 billion or $4.96 per diluted common share. On a linked quarter basis, period-end loans held for investment grew 6% and average loans grew 4%, driven by growth across all of our segments. Revenue in the linked quarter increased 1% or 3% after accounting for the $192 million gain on sale recognized in the prior quarter. Non-interest expense grew 1% in the quarter, driven by an increase in marketing, which was partially offset by lower operating expenses. Provision expense in the quarter was $1.1 billion driven mostly by net charge-offs of $845 million and a $200 million allowance build.

Turning to slide 4. I will cover the changes in our allowance in greater detail. The total company's $200 million billed in the quarter brings our allowance balance up 2% to $11.5 billion as of June 30th. Our total company coverage ratio decreased 15 basis points to 3.88%. The changes in allowance and coverage ratio varied by segment, which I'll cover on slide five.

Across all our businesses, loan growth and a worsening economic outlook drove upward pressure on allowance. In our Consumer Banking segment, the allowance balance increased by $145 million. The coverage in Consumer Banking increased 14 basis points to 2.51%.

In our Commercial Banking business, the allowance increased by $152 million. The coverage in Commercial Banking increased five basis points and now stands at 1.36%. In addition to the allowance build, there was also $39 million of provision related to unfunded lending commitments.

In our Domestic Card business, we released $128 million of allowance despite the effects of the growth and worsening economic outlook I previously mentioned. We have seen some signs of gradual normalization in our card credit metrics. But so far, the pace of that normalization has been slower than what we assumed when we set last quarter's allowance.

The impact of this slower-than-assumed normalization more than offset the growth and worsening economic outlook, leading to the allowance release. We continue to carry elevated levels of qualitative reserves for downside risks related to economic uncertainty. The coverage ratio for Domestic Card now stands at 6.82%.

Turning to page six. I'll discuss liquidity. You can see our preliminary average liquidity coverage ratio during the second quarter was 144%, well above the 100% regulatory requirement. Total liquidity reserves declined $17 billion in the quarter as our liquidity normalizes towards pre-pandemic levels.

Cash and cash equivalents declined about $5 billion and now stands at $22 billion. We also had a $6 billion decline in our securities portfolio driven by the combination of the mark from rising interest rates and the continued runoff of the outsized portfolio built during the pandemic.

Turning to page seven, I'll cover our net interest margin. Net interest income in the quarter was $6.5 billion, up 13% from the year ago quarter and up 2% from the sequential quarter.

Our second quarter net interest margin was 6.54%, 65 basis points higher than the year ago quarter and five basis points higher than the prior quarter. Relative to a year ago, the increase in NIM is largely driven by a balance sheet shift as we deploy excess cash and securities into loan growth.

The linked quarter increase in NIM was driven by an additional day to recognize revenue. Higher yields on assets in the quarter were offset by higher wholesale funding and deposit costs.

Outside of quarterly day count, our NIM from here will largely be a function of the changes in our balance sheet mix, the impacts of interest rates beyond forwards, wholesale funding costs, and the impacts of competition on loan yields and deposit betas.

Turning to slide eight, I will end by discussing our capital position. Our Common Equity Tier 1 capital ratio was 12.1% at the end of the second quarter, down about 60 basis points from the prior quarter.

Net income in the quarter was more than offset by share repurchases and growth in risk-weighted assets. We continue to estimate that our long-term CET1 capital need is around 11%.

In the quarter, the pace of our repurchases slowed to about $2 billion. The pace of any future repurchases will be driven by a number of factors, including our actual and forecasted capital earnings, growth, economic conditions and market dynamics.

With that, I will turn the call over to Rich. Rich?

[Richard Fairbank, Chairman & Chief Executive Officer]

Thank you, Andrew, and good evening, everyone. I'll begin on slide 10 with second quarter results in our Credit Card business. Year-over-year growth in purchase volume and loans, coupled with strong revenue margin, drove an increase in revenue compared to the second quarter of 2021.

Credit Card segment results are largely a function of our Domestic shown on slide 11. Our Domestic Card business posted another quarter of strong year-over-year growth in every top line metrics. Purchase volume for the second quarter was up 18% year-over-year and up 48% compared to the second quarter of 2019.

Ending loan balances increased $19.7 billion or about 21% year-over-year. Ending loans grew 6% from the sequential quarter, and revenue was up 21% year-over-year, driven by the growth in purchase volume and loans, as well as strong revenue margin.

Strong credit results continued in the quarter. Both the charge-off rate and the delinquency rate continued to gradually normalize, but remain well below pre-pandemic levels. The Domestic Card charge-off rate for the quarter was 2.26%, a 2 basis point improvement year-over-year. The 30-plus delinquency rate at quarter end was 2.35%, 67 basis points above the prior year.

On a linked quarter basis, the charge-off rate was up 14 basis points, roughly in line with normal seasonal patterns. The delinquency rate was up 3 basis points from the linked quarter, which we -- when we typically see modest seasonal improvement.

Non-interest expense was up 28% from the second quarter of 2021, driven by an increase in marketing. Total company marketing expense was about $1 billion in the quarter. Our choices in Domestic Card marketing are the biggest, but not the only driver of total company marketing trends. The primary non-card driver of increased marketing is in our Consumer Banking business, where we're marketing to drive deposit growth and build customer franchise in our digital-first national banking strategy.

In our Domestic Card business, we continue to see opportunities to book accounts and loans that can generate resilient and attractive returns. And we continue to lean into marketing to drive growth and build a franchise across our Domestic Card businesses. We're keeping a close eye on competitor actions and potential marketplace risk.

And as always, we underwrite to a worsening scenario, even as we lean into marketing. We're seeing the success of our marketing and strong growth in purchase volume, new accounts and loans across our Domestic Card business. And we continue to gain traction in our decade-long focus on heavy spenders. In the second quarter, heavy spender marketing includes increased early spend bonuses driven by strong first quarter account growth and spending as well as investments in franchise enhancements like our travel portal and airport lounges.

As a result of our marketing, we posted strong growth in heavy spender accounts and strong engagement and spend behaviors with new and existing customers. We're gaining share and building a long-term franchise with heavy spenders at the top of the market. Pulling up, our heavy spender franchise has a different economic mix than some of our other card businesses. It has significantly higher upfront costs of brand building, marketing and promotions and investments in high-end experiences. However, the long-term economics are compelling. And as our heavy spender franchise has grown significantly in recent years, its impact has quietly and gradually changed several Domestic Card metrics and financial results.

Heavy spender credit losses are low, which lowers overall Domestic Card loss rates, all other things being equal. Naturally high heavy spender payment behaviors are a key driver of our long-term trend of increasing domestic card payment rates, and high payment rates go hand-in-hand with strong credit performance.

Heavy spender attrition is very low, and that's been a factor in our strong Domestic Card loan growth. Heavy spenders have a particularly large impact on increasing purchase volume and have been a major driver of strong Domestic Card purchase volume growth that has generally exceeded loan growth over time. This spend velocity has driven increases in net interchange revenue in absolute terms and as a percentage of total revenue. And these interchange fee revenues -- revenue annuities are strong and sustained over very long-term customer relationships.

Our heavy spender franchise generates financial results that are attractive, less volatile and very resilient. As a result, the heavy spender business requires less capital and delivers strong long-term returns on capital.

Pulling way up, our 10-year quest to build our heavy spender franchise has brought with it significantly increased levels of marketing, but the sustained revenue, credit resilience and capital benefits of this enduring franchise are compelling, and they're growing.

Slide 12 shows second quarter results for our Consumer Banking business. In the second quarter, choices we made in our auto business impacted several Consumer Banking trends. We pulled back on growth in auto in response to competitive pricing dynamics. As you'd expect, many auto lenders have raised pricing as rising interest rates drove higher marginal funding costs, but some others have kept pricing relatively flat. These competitors have gained market share and pressured industry margins. We chose to pull back on auto originations, which declined 20% year-over-year and 12% from the linked quarter.

As we pulled back on originations, the year-over-year growth of ending loans in the Consumer Banking business decelerated to 9% in the second quarter. On a linked quarter basis, ending loans were up 1%.

Second quarter ending deposits in the Consumer Bank were up 2% year-over-year, aided in part by the transfer of a small portfolio of deposits from our commercial bank. Consumer Banking deposits declined 1% from the sequential quarter. Consumer Banking revenue was essentially flat compared to the prior year quarter as growth in auto loans was offset by the effects of our decision to completely eliminate overdraft fees and the year-over-year decline in auto margins.

Auto margin compression was primarily driven by the increase in our marginal funding costs, resulting from rapid interest rate increases and the aggressive competitor pricing that, I just discussed. Noninterest expense was up 15% compared to the second quarter of 2021, driven by the increased marketing for our digital national bank and continuing investments in the digital capabilities of our auto and retail banking businesses.

Second quarter provision for credit losses swung from a net benefit of $306 million in the second quarter of 2021 to a net expense of $281 million. We added to the allowance for credit losses in our auto business in the quarter compared to an allowance release in the year ago quarter. The auto charge-off rate and delinquency rate continue to gradually normalize, but we remain well below pre-pandemic levels.

The charge-off rate for the second quarter was 0.61%, up 73 basis points from the unsustainably low, in fact, negative quarterly charge-off rate a year ago. The 30-plus delinquency rate was 4.47%, up 121 basis points year-over-year. On a linked quarter basis, the charge-off rate was down 5 basis points, and the 30-plus delinquency rate was up 62 basis points.

Slide 13 shows second quarter results for our Commercial Banking business, which delivered strong growth in loans and revenue in the quarter. Second quarter ending loan balances were up 9% from the sequential quarter. Average loans increased 5%. Growth in selected industry specialties drove our growth.

Ending deposits were down 14% from the first quarter and down 10% year-over-year, driven in part by the transfer of a small portfolio of deposits to our retail bank that I mentioned a few moments ago, as well as rate-driven runoff as some customers withdrew deposits in search of higher returns. In the second quarter, deposit balances were also impacted by seasonal outflows.

Second quarter revenue was up 3% from the linked quarter and 26% from the prior year quarter. Non-interest expense was down modestly from the linked quarter and up 16% year-over-year. Provision for credit losses increased $214 million from the first quarter, largely driven by a build in the allowance for credit losses. Commercial Banking credit remained strong in the second quarter.

The Commercial Banking annualized charge-off rate was 14 basis points. The criticized performing loan rate was 5.3%, and the criticized non-performing loan rate was 0.7%. In closing, we continued to drive good growth in card revenue, purchase volume and loans in the second quarter. Consumer Banking loan growth continued, albeit at a slower pace. And our Commercial Banking business posted strong growth in loans and revenue.

Credit results remain across our businesses, with charge-off rates and delinquency rates well below pre-pandemic levels even as credit continues to gradually normalize. And we continued to return capital to our shareholders.

For more than three decades, we have hardwired resilience into every underwriting and growth choice we make in good times and bad. And we've steadfastly focused on building an enduring franchise. Sticking to these core tenets, we've demonstrated resilience through several cycles. We've been in a strong position to seize opportunities as markets evolve and as cycles played out. And we've delivered significant value over the long-term.

And we're living by these same core tenets today. We continue to see opportunities to lean into marketing and resilient asset growth that can deliver sustained revenue annuities long after the normalization trends and cyclical credit pressures play out.

We're confident in the choices we're making. As we continue to closely monitor and assess competitive dynamics and increasing economic uncertainty, our credit results remain strong. We're staying focused on the most resilient businesses and sub-segments. And we're continuing to hone the proprietary underwriting and product structures that have driven our resilience through prior cycles. All of these growth in credit risk management choices are enhanced by our technology transformation.

We're managing costs tightly even as we continue to invest in transforming our technology and digital capabilities that are the engine of future growth and efficiency. While the imperatives and marketplace opportunities and risks impact the timing, we remain focused on delivering operating leverage over the long-term powered by growth and digital productivity gains. And we're managing capital prudently to put ourselves in a strong position to weather a broad range of possible economic scenarios and to emerge in a strong position to capitalize on opportunities that are often generated as cycles play out.

Pulling way up, we believe that our long-standing core tenets and the choices they drive today are putting us in a strong position to continue to deliver resilience and compelling long-term shareholder value as the sweeping digital transformation of banking continues.

And now we'll be happy to answer your questions. Danielle?

[Danielle Dietz, Managing Vice President, Global Finance]

Thanks, Rich. We will 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 question. If you have any follow-up questions after the Q&A session, the Investor Relations team will be available after the call. Melinda, please start the Q&A session.

[Operator]

Thank you. [Operator Instructions] And we'll go first to Ryan Nash of Goldman Sachs.

[Ryan Nash, Goldman Sachs]

Hey good evening everyone.

[Richard Fairbank, Chairman & Chief Executive Officer]

Good evening Ryan.

[Ryan Nash, Goldman Sachs]

Rich, maybe just to start off on marketing, which was up again sequentially. Have we seen the peak impacts of the early bonuses? And maybe just more broadly, are you guys still leaning in? And maybe you could just talk about the decision in the context of where we are in the economy with inflation? And maybe are you pulling back in any pockets just given what's going on across the customer base?

[Richard Fairbank, Chairman & Chief Executive Officer]

Ryan, we -- on the early bonuses, I mean, that's really tied to how hard we lean into Venture X, for example. I mean we have early spend bonuses pretty much across our rewards business. So, let me separate a little bit. So, we have the launch of Venture X, and some companies launches are sort of a quarter long kind of thing. We continue to lean into that. You've seen our national advertising continue on that. So, the early spend bonuses continue as part of that and then also their early spend bonuses at a stable rate for the -- some of our other rewards products as well.

With respect to the economy, we -- it's not lost on us that there's a lot of noise out there in the economy. And we -- every day, we talk about this and there's always uncertainty. There's probably, I think, more uncertainty at the moment and probably on average, and that's not lost on us.

We -- so we don't make a top-of-the-house decision that says we're going to spend this much on marketing because these decisions are very -- decisions at the margin based on models and estimated loss rates and putting resilience factors in there and response rates and a lot of things.

There has been some trimming around the edges in card quite a bit more so in auto, by the way, as I talked about just a few minutes ago. But staying with card for a minute, there has been some trimming around the edges. But generally, the kind of core target segments that we've been going after, we are continuing to feel good about and lean into.

So, I think your net impression should be that while we have a very watchful eye on the economy and obsess about it every day, our underwriting decisions underwrite systematically. At Capital One, we underwrite to a worsening scenario. And so we feel good about our originations.

And -- but one thing about our tech transformation that has really been good also is it allows us to move and adapt much more quickly. In most -- in companies and frankly, in some of our past years, when we decided to turn, it sometimes took quite a bit of time to move the whole machine.

We've been able to create a much more adaptive and responsive infrastructure at Capital One. And so that's also helpful in a time of uncertainty. But net-net, we feel good about the opportunities, and we're leaning into them.

[Danielle Dietz, Managing Vice President, Global Finance]

Next question please.

[Operator]

Thank you. Next, we'll hear from Kevin Barker of Piper Sandler.

[Kevin Barker, Piper Sandler]

Thank you very much. Could you further discuss some of the things that you're seeing on the auto sector just given where it's been throughout 2021 where we saw really good performance? And then now it just seems like the combination of rising delinquency rates, unresponsive yields and just some softening in used car prices are really impacted. Can you just give us an outlook on what your expectations are and how Capital One going to react through this year and potentially in a recessionary environment in 2023? Thank you.

[Danielle Dietz, Managing Vice President, Global Finance]

Rich, I think you need to unmute yourself.

[Richard Fairbank, Chairman & Chief Executive Officer]

Sorry, sorry. Kevin, thank you. The auto business is one that -- I mean, we're still -- we still see significant opportunity in the auto business. But, of course, what we always share with investors is how we're feeling at the moment and at the margin.

So the biggest at the moment thing that we wanted to share with you is how the competitive environment feels. And we've been saying for some time that the low charge-offs, we worry that too long of a period of low charge-offs and too long of a period of, in many ways, unsustainably high used car prices can dull the senses of players in the auto industry and caused a weakening in underwriting.

We haven't really seen -- that's not the primary story that we see. We certainly are on the lookout for that. The story has really been more hijacked, if you will, by what's happened with inflation and the significant increase in -- for companies and in cost of funds. And most auto players, and certainly, the money center, in particular, have moved up their pricing very consistently and responsibly to the increases in the underlying cost of funds in the economy.

And what is striking is that, some competition has not. There are a few large players whose movement is -- in pricing is well behind that. And then you have the credit unions who have, I think, a very different kind of business model and a different way to calculate what their funding cost is. The credit unions have really not moved at all in terms of their pricing, and they've had actually a very significant increase in market share.

So we are -- we continue to be very dedicated to the auto business. We have relationships with dealers. We're not -- this is not like a huge pullback, but what we're doing at the margin is, with the tighter margins that now at least temporarily exist in the business, for us, that has led us to trim around the edges. That's, I think, the biggest story that we would say in auto.

The other thing is used car pricing. Let's talk just a little bit about that, Kevin. Vehicle values remain strikingly high and obviously well above pre-pandemic levels. And supply constraints remain the biggest factors supporting high vehicle values. And everything that we see suggests vehicle production will remain constrained in the near-term. And even when production normalizes, I think it will take time for dealers to rebuild their inventories. So probably the near-term outlook is pretty good with respect to used car values.

But if I pull up a concern that I've often voiced is that from an underwriting point of view, what really matters is not the absolute level of collateral values, but the relative value of collateral values versus the underwriting assumptions that a lender made. And so we assume significant declines in collateral values in our underwriting, but we have a watchful eye on an industry that for quite some time now has been hopefully not getting used to the used car prices that are at relatively -- are at record levels versus anything we've seen in the past.

So I think the auto opportunity continues to be a significant one for Capital One, but particularly driven by pricing, which may, by the way, ameliorate for certainly everyone except the credit unions in a relatively short period of time. But until then, we will continue to be pretty tight around the edges, and we wanted to share that with you.

[Operator]

Next, we'll hear from Bill Carcache of Wolfe Research.

[Bill Carcache, Wolfe Research]

Thank you. Good evening, Rich, Capital One has long been known for its rich information-based analytics. How are you thinking about the risk that the strength we're seeing in the consumer and labor markets is in and of itself inflationary and could lead the Fed to have to do more? And since the impact of Fed hikes tends to be lagged, unemployment tends to continue to increase well after peak Fed funds, maybe can you talk a little bit about how this dynamic feeds into costs, underwriting and reserving models?

[Richard Fairbank, Chairman & Chief Executive Officer]

Okay. So -- well, thanks. Let's just kind of pull up and talk about inflation. We haven't seen sustained inflation in the US in many decades, but it's been running above 5% for over a year now, and it reached, I think, 9.1% in June. And producer prices are increasing even faster. And of course, the Fed has started raising rates in response, and the market expects further increases.

So what I want to do is maybe list some of the potential impacts to our business of sustained inflation, and it's mostly negative. So if the economy suffers as a result of efforts to slow inflation, we will certainly feel that. And the biggest way that we would feel that would be in consumer credit losses.

Consumers also were already starting to feel the impact of price inflation outpacing wage growth. Also in our lending business, higher cost of funds could put pressure on our margins, especially if lenders don't adjust pricing in response.

And we're already seeing that in the auto business. By the way, in the card business, just as a comparison, I've been struck by generally the responsiveness of the pricing in the card business to be responsively adaptive to interest rates. I mean it's a variable rate product, but also just in terms of offered rate by competitors, that seems to have moved much more dynamically than what we've seen selectively in auto.

Then other things about the impact of interest rate increases, let me think. We've got – you can sometimes see lower demand for credit products just because headline pricing seems higher even if real pricing isn't. And in our underwriting – well, let me just say one thing, and you put your finger on it. Well, a striking thing right now is, how low the unemployment rate is. And we have certainly seen in our modeling of credit over all the decades, we've been doing this at Capital One.

From a macroeconomic point of view, the biggest direct driver of credit losses is unemployment. And so, we start in a very strong position now. But to your point, there's irony in the strength of this position, and it could contribute to some of the affects you identified.

I do want to also just -- while we're on the subject of inflation, though, just highlight a few favorable effects of inflation as well. Existing debt levels will decrease in real terms in a period of sustained inflation. High vehicle values, which support auto credit, may be more sustainable in a high inflation environment. But in total, I think the effects tilt definitely in the negative direction.

So, it's a tough thing to model collectively all these things, but what we do is we start with sort of a general theory of how this stuff works. We try to incorporate it into the decision-making that we do. And then like a hawk, we look for these various effects to happen and are prepared to be responsive.

And in fact, just the one last thing I want to say is, I've always felt that it's very hard to predict economic cycles. I don't think Capital One is in a better position than anyone else to predict economic cycles. Sometimes you've seen us weigh in, in predicting credit cycles, which can be correlated, but not the same thing as that. But the most important thing that -- what I take away from years of doing this is, it's very hard to predict these cycles.

The key thing is to underwrite to a resilience level to make it very successfully through cycles, and that's been a cornerstone of our strategy, actually since the founding day of Capital One.

[Bill Carcache, Wolfe Research]

Yes, super helpful Rich. Thank you for taking my question. I will let others jump in. thanks.

[Danielle Dietz, Managing Vice President, Global Finance]

Great. Next question, please?

[Operator]

Our next question comes from Rick Shane with JPMorgan.

[Rick Shane, JPMorgan]

Thanks for taking my question. Hey, Rich, when I sort of piece together everything that I'm hearing and looking at the numbers, if we particularly focus on the growth and the reserve movements at the consumer lending business, the Credit Card business and the commercial lending business, it kind of feels like you are diverging in your outlook in terms of the Credit Card business outperforming the other businesses likely from a cost perspective. Is that because of competitive pressures, or is there something in line that you're seeing that would cause that divergence?

[Richard Fairbank, Chairman & Chief Executive Officer]

So Rick, I don't know if we explicitly run around with a -- I wouldn't say our view is that stark as you say it, but I think that we certainly feel the most bullish about the card business.

Let's talk about why for a second. First of all, just as the business and with the business model Capital One has, with the resilience it's shown through several downturns now and the power of leveraging data and analytics and mass customization to that business, I think that we feel particularly high level of resilience in that business, and that has been demonstrated in the past. And if anything, I think the technology transformation and some of the continued choices we've made like dialing back from high balance revolvers and other things has -- and as I said, the whole heavy spender push, I think, has put Capital One and actually an even stronger position from a resilience point of view.

Also in terms of what we see going on with the -- in the business, there is normalization, but it is really quite gradual. By the way, the normalization is gradual across all of our businesses.

But the -- but I want to point out just a bit of a math point in auto, for example. Auto is normalizing gradually, so is card, but -- and the front book with respect to auto and card, which are both normalizing faster than the back book, by the way, I've seen that universally, whenever there's normalization, one always sees it more in the front book than in seasoned back books.

But if you think about auto as an average life of like two years, and Credit Card last much longer than that. And so as there's front book normalization, the replacement speed in the portfolio in auto is much faster than in card. So even for the same amount of normalization in those two businesses, in, say, the front book, you're going to get just mathematically faster normalization in auto. So it is our expectation.

It would be surprising to us if that weren't the case, more just because of the math of replacement of a more rapidly turning over portfolio.

So, we certainly -- card is the business we're most bullish about is the one that we're leaning hardest into. And you'll notice our story here. We're not -- our story is not a universal one that says I know there's a lot of uncertainty out there, but we feel great about growth. So, we're leaning into it everywhere. You can see an example of what you've seen over the years of how Capital One works.

Everything is choices that is made at the margin locally, I mean, in various businesses. And the fact that in auto, we're pulling back significantly as we've talked about while leaning pretty hard in the card and certain parts of commercial is a window into that very phenomenon. Rick, thank you very much.

[Rick Shane, JPMorgan]

Thank you.

[Danielle Dietz, Managing Vice President, Global Finance]

Rick, did you have a follow-up question? Okay, we'll go to the next question, please, Melinda.

[Operator]

Thank you. Next, we'll hear from Sanjay Sakhrani from KBW.

[Sanjay Sakhrani, KBW]

Thanks. A question for Andrew. Could you just talk about how you see the NIM progressing from here? Obviously, the rate outlook suggests more rates than last quarter. Maybe just talk about how you're seeing deposit betas progress and sort of how that plays through the NIM?

[Andrew Young, Chief Financial Officer]

Sure, Sanjay. Why don't I start with beta and just give a little bit of detail there and then feather it into the broader NIM question you asked. And so when you look at our deposits, roughly 15% are a combination of commercial and brokered, which have higher betas, but really the 800-pound gorilla is the -- something like 85% of the deposits that are in retail. So, I'll focus mostly there.

And I think looking back on history as a guide is a bit of a challenge in this cycle. So we've already seen 150 bps of move in the first six months. We're expecting another 200 or so over the next. And in the last rising cycle, it took three and a half years to just get to 200 in that first year. We moved 50 in total versus the 350 we might see this year.

And so I share that context to say the faster and larger set of moves, coupled with quantitative tightening and the possibility of some competitors being a bit more aggressive to fund their loan growth, all will play into how competitors behave and the overall level of deposits.

And so if I look at the last rising cycle, we were at something like 40%. And the last falling cycle, we were around 50. But given the factors that I described a moment ago, it's hard to really pinpoint exactly what's going to transpire looking ahead, but I would think our cumulative beta could be around or slightly above the last rising cycle. And so in line with what you've seen historically, beta moves pretty slowly in the beginning to the first set of hikes. And so this quarter, you saw that we were high single-digits, but the planned rate hikes for the second half of the year are likely going to pressure that beta up. And so, when I take that and factor it into our NIM outside, obviously, of the quarterly day count effects, the tailwinds to our NIM are going to be the asset mix moving towards higher yielding assets like card.

And what we saw in this quarter, by the way, ending card loans grew faster than average, so the more that card is growing relative to other asset classes and the cash and investment portfolio and then just the broader asset yield increases from the higher interest rates.

Those are things that are going to be tailwinds. The headwinds are going to be the deposit costs, not only from the rising deposit betas that I just described, but also wholesale funding costs to the extent that we do more of that and depending on credit spreads in the marketplace.

But there isn't one dominant force in those factors from where we stand today. So I think they're all going to be pushing against one another and we're going to see where that nets out in the coming quarters.

[Sanjay Sakhrani, KBW]

Okay. Just a follow-up question for Rich. Obviously, there's been a massive dislocation in the fintech space from a valuation standpoint. I'm curious if you think that presents opportunities for M&A for Capital One. Thanks.

[Richard Fairbank, Chairman & Chief Executive Officer]

Thanks, Sanjay. Capital One, we've said for a number of years that unlike most banks, we're not on a quest to go buy other banks and build our national banking franchise that way. So -- and that really where we would do acquisitions, it would really be of -- either basically of tech companies themselves that bring a tech capability or fintechs that bring a tech-based capability right in our business sweet spot.

So we have -- for that reason, plus our great interest in learning from fintechs, we have been very keen observers of that marketplace. We -- you haven't seen much in the way of acquisitions from Capital One, because of the breathtaking pricing that fintechs have had.

But certainly, to your point, as the pricing has crashed in that marketplace, we continue to watch the market carefully. And our strategy remains the same that we believe that Capital One is kind of an ideal buyer for fintechs, because we have a modern tech stack and we built a company that feels very much like a tech company and I think is very well suited to acquire and assimilate and provide opportunity to the talent that comes in a tech acquisition.

So that's sort of the principle behind it. So we continue to look in the marketplace, and that's the primary acquisition interest that Capital One has, which is kind of different from, I think, most banking institutions.

[Danielle Dietz, Managing Vice President, Global Finance]

Next question, please.

[Operator]

Thank you. Next, we'll hear from Don Fandetti of Wells Fargo.

[Don Fandetti, Wells Fargo]

Hi. Rich, I was wondering if you could maybe talk about where you see more downside surprise risk on the credit spectrum. Is it the lower end consumer, or is it the affluent heavy spender? And I guess on the low end, can consumers really weather the strong inflation, in particular, unemployment softens a little bit?

[Richard Fairbank, Chairman & Chief Executive Officer]

So Don, thank you for that. Let's start by just talking about the consumer. Certainly, I'm certainly struck by the starting point of where the consumer is because the US consumer remains quite healthy. We see sustained improvements in consumer balance sheets coming out of the pandemic. Let's see. Debt servicing burdens remain near like mutli decade lows.

The savings rate has dipped below pre-pandemic levels over the past few months, but cumulative savings over the last two years remain a significant positive still for consumers on average. We see higher bank account balances and higher household net worth across the income spectrum. Labor market demand remains exceptionally strong with record numbers of job openings and solid wage growth. And in our own portfolio, we see continuing strength in our delinquency roll rates and recovery rates.

Despite times of credit normalization, our credit metrics remain strikingly strong by any standard -- any historical standards. So that is the context that we see. But to your point, the big headwinds for consumers are price inflation and higher interest rates. And inflation could erode the excess savings consumers accumulated through the pandemic, especially if price increases continue to run ahead of wage growth.

Higher interest rates could push up debt servicing burdens, although this effect is muted by the fact that most existing household debt is in fixed rate mortgages and auto loans. So I'm struck by, though, the strong starting point for consumers as we look into the potential -- the headwinds of inflation and more economic trouble. And I would contrast this, of course, to the Great Recession or the global financial crisis, which -- where the consumer was in a much weaker position going into that.

Now the strength of the consumer is pretty much across the board -- across the -- from the top of the market into sub-prime. And so I think the thing most striking is how sort of universal it is. But it is also the case that normalization is a bit more pronounced in sub-prime than it is higher in the market. But these – these populations, though, Also more and more quickly earlier in the pandemic. So, I think these trends shouldn't be surprising. So, I think certainly – now FICO score and income are not the same thing. But a lot of times, people tend to state them in the same breadth. Our subprime business is definitionally about people with FICO scores below a certain level.

But I think that the consumer starts in a strong place, then we should probably expect normalization to be a little faster on the lower end. And interestingly, if you switch to kind of income, which is a different cut than FICO certainly, and income, I'm struck by the fact that consumers – the wage growth for the lower income consumers is -- they're kind of the one category, the lower income consumers, where their wage growth has been keeping up with inflation, but that won't necessarily continue, but that's also a position of strength.

But pulling way up, I think we could see normalization a little faster in subprime. I think, in fact, we already can see very modestly that effect. But of course, in our underwriting and the whole business model of Capital One, that's also where we have built in kind of the biggest buffers of resilience. So, we feel good about that part of the marketplace. We feel good really across the credit spectrum and to lean into our marketing opportunity.

[Don Fandetti, Wells Fargo]

Got it. Thank you.

[Danielle Dietz, Managing Vice President, Global Finance]

Great. Next question, please.

[Operator]

Our next question comes from Moshe Orenbuch with Credit Suisse.

[Moshe Orenbuch, Credit Suisse]

Great, thanks. Rich, you had mentioned that you saw good kind of increases in prices for new accounts across the spectrum. But at the same time, I guess, rewards and upfront bonuses have also been very high. Can you just talk about how you're seeing the kind of competitive environment, particularly for the higher-end consumer where you're spending a lot of that effort?

[Richard Fairbank, Chairman & Chief Executive Officer]

Yes. So, competition in the rewards space is, I'd say, more intense than pre-pandemic -- a bit more intense than pre-pandemic levels, but largely unchanged in recent quarters. So early spend bonuses in points offers were slightly more aggressive than in the first quarter, and we continue to see certain offers come in and out of market.

Cash, early spend bonuses are higher now than pre-pandemic, but have been relatively stable at these elevated levels since basically mid last year. And then if we look at the baseline rewards earn rates, particularly in the cashback space, they overall were probably more aggressive in the middle of 2021 as new products were being introduced, but it's been relatively calm since.

Now we feel great about our flagship products. We continue to be very pleased by consumers' response and engagement with them. We're very pleased with the launch of our Venture X card. But I think if I pull way up, Moshe, one of the things that I so deeply believe and have experienced is that winning in the heavy spender space, I think it requires good products, but you can't win with good products. It takes a lot more than that. And the customer experience, specifically the digital experience, the brand, the -- a lot of experiential things that are way beyond the product are part of the whole package.

And what we have said -- this is why we've been saying for years now that winning at the top of the market is not an in and out thing. It is a matter of choosing as a few players have done, Capital One being one of them that, that's where we're going, and we're going to continue to lean into that. And I have been struck by the sustainable success that we have been generating. And also the marketplace, while very intense hasn't tipped over to being unreasonable or irrational. So it's very competitive, but I continue to really like our opportunity in that space.

[Moshe Orenbuch, Credit Suisse]

And maybe just as a follow-up. The yield for the last four quarters in your card business has been pretty flat both the yield on the loans up a little bit this quarter, I guess, with the rate increases that you talked about. But what is it really going to take to get that to be a higher number? Is it -- are you going to see more revolving from some of your high-end consumers? Is it -- what is it going to -- to get that -- the level of revenue growth and profitability enhanced?

[Andrew Young, Chief Financial Officer]

Hey Moshe, it's Andrew. And I think if you put the card yield in the context of a longer term history, looking a year ago, it's up 100 basis points. And that's really been a shift to a higher mix of assets in our branded book, which is both growth of existing customers and the success we're seeing in the originations that Rich talked about. And as we sit here today and looking over the last few quarters, we're also seeing a modest uptick in fees from the very low levels last year and so driven by the delinquencies that have ticked up very gradually year-over-year. But I think having a yield at these levels is something that has sustained. But to your point of how can we drive it up, I think we're seeing an impact from rate changes that's been a bit of a tailwind on the yield side. But clearly, that comes with a funding cost that ultimately will probably leave margin much closer to flat.

[Moshe Orenbuch, Credit Suisse]

Thanks very much.

[Danielle Dietz, Managing Vice President, Global Finance]

Next question please.

[Operator]

Our next question comes from Arren Cyganovich of Citi.

[Arren Cyganovich, Citi]

Sorry I was on mute. Thanks for taking the question. I just wanted to follow-up on that last point. You're talking about the benefits of some of these super prime spenders. And I guess one of the aspects that's, I guess, less challenging or less beneficial is that you're not really revolving or they don't tend to evolve nearly as much because that spend velocity is so high, and they pay down each month. As you think about that customer base growing over time, would that just have a natural kind of downward pressure on your Domestic Card yield?

[Andrew Young, Chief Financial Officer]

Well, Arren, it depends a bit on the degree to which they're revolving versus just pure transacting. But if they're transacting, they're bringing quite a bit of interchange and relatively low outstandings over time. So, that very well could prove to be a net positive and not create the downward pressure that you just described.

And not to mention the fact that in doing so, it creates less of a capital need. And so it ends up being over time at least a pretty capital-efficient business, which is one of the reasons why we've been on this decade-long journey to build that franchise.

[Arren Cyganovich, Citi]

Okay, got it. And then just on the deposit side, you had a modest decline kind of seasonal, I'm assuming that had to do with taxes. You haven't really, to your benefit, I guess, not been a leader in terms of pricing on the online side. Are you seeing kind of quarter-to-date an increase in deposits or do you expect that to be a little bit slower growth as we see the rate hikes increase?

[Andrew Young, Chief Financial Officer]

Well, I'm not going to comment specifically on what we see so far this quarter. But let's take a step back and think about the industry context and then talk a little bit about our strategy there.

As you look at the industry, you brought up, at least in retail, the tax outflow phenomenon that happened in the second quarter, and we certainly felt a little bit of that. But where industry deposit balances go from here, first thing is at least history, whether it repeats itself, would indicate that the rate of deposit growth drops in rising rate environment.

And in this particular cycle, the Fed fund rates, as I mentioned to Sanjay's question, are both larger and faster than previous ones, and the Fed shrinking its balance sheet. So who knows? I guess this is good as yours, but I think we could see a scenario where industry-wide deposits are flattish to down in the near-term.

And so what we choose to do there is really trying to optimize our balance sheet across a number of different dynamics of liquidity and funding and tenor and pricing. And so we feel like we're in a great position to compete in that industry backdrop with simple straightforward competitive products that have a great user experience. But where our deposits ultimately go from here in the context of that industry will be a function of our deposit needs and competitive dynamics.

[Richard Fairbank, Chairman & Chief Executive Officer]

Arren, let me just add that this is -- I want to underscore the strategy that Capital One has had for years now, which is, we are building a national bank through, not by just acquiring branches on every corner across the United States, nor by just having a national digital bank, but really building a, in a sense, full-service digital bank that can provide almost everything that you can get in a local branch to provide it nationally -- excuse me, digitally.

And that is part of our strategy to build primary banking relationships that are digital-first and digitally originated. And it's all part of a larger strategy to build a consumer banking franchise that is not about just the highest rate paid, but really about high-quality products, a great customer experience and a full-service set of capabilities where people can -- banking relationship and then also have savings deposits there.

And one of the -- one of my comments that I made about our marketing levels, which, everybody notices, are high is, one thing we've continued to invest in over time is, Capital One as a company that doesn't have branches on every corner.

We've got branches on some corners, but a greater proportion of our expenditures are on the marketing side, are on the brand building side and, to some extent, on the tech side as well. But it is very much in service of building a franchise of -- a brand and a franchise that enables us to dynamically grow our deposits at very appropriate blended pricing and build long-term loyal banking relationships. And we're very pleased with the success we've had in that, but we continue invest very much in that.

[Danielle Dietz, Managing Vice President, Global Finance]

Next question, please.

[Operator]

Moving on to Betsy Graseck of Morgan Stanley.

[Betsy Graseck, Morgan Stanley]

Hi. Good evening.

[Richard Fairbank, Chairman & Chief Executive Officer]

Good evening, Betsy.

[Betsy Graseck, Morgan Stanley]

Andrew, just wanted to double-click on the comments that you're making around the high transaction -- high transactors having lower capital intensity, and that's a function of them just being higher credit quality, shorter duration on the book? Is that basically what it's about, or is there something more there?

[Andrew Young, Chief Financial Officer]

No. It's really just the loss content of that book, Betsy.

[Betsy Graseck, Morgan Stanley]

Yes. Okay. And then when you were going through the deck on the capital slide, I think you mentioned 11% is your CET1 target. And so, given that there is such demand for spend and borrow right now, should we take your comments to mean that it's unlikely that you'll be doing buybacks in the near future while this high loan growth period is upon us?

[Andrew Young, Chief Financial Officer]

Well, just to repeat a little bit, Betsy, of what I shared in my prepared remarks there's just a number of factors to consider, just our forecasted level of capital and earnings and growth, but we need to put those things in the context with a particular eye to the error bars around those estimates. And so what I was mostly trying to highlight is if you look back a year ago, we were at 14.5% CET1, that's down to 12 1 this quarter. And so we're getting much closer to that 11% level. And at a time when there are a number of uncertainties given the economic environment and the growth opportunities, those error bars just start to matter more. And so we slowed down a bit in the second quarter. But as always is the case, managing capital both conservatively and efficiently is top of mind for us. And so looking ahead, we're just going to dynamically adjust our pace in the context of those evolving factors.

[Betsy Graseck, Morgan Stanley]

Okay. Thank you.

[Danielle Dietz, Managing Vice President, Global Finance]

Next question, please.

[Operator]

Our next question comes from Dominick Gabriele of Oppenheimer.

[Dominick Gabriele, Oppenheimer]

Thanks so much for taking my question. I was wondering if you could provide us with a breakdown of your -- and remind us of your Domestic Card spending by retail category as a percent of total spend within Domestic Card, so grocery or T&E or gas, whatever you could provide would be excellent. I would just think that as you're targeting the higher spenders, it's probably had an effect on that mix over the last 10 years as that's changed. Any color you could provide would be great. Thanks.

[Danielle Dietz, Managing Vice President, Global Finance]

Rich, you need to unmute, please.

[Richard Fairbank, Chairman & Chief Executive Officer]

Sorry. Sorry. Yes. Sorry. I have in front of me -- I don't think it's the exact thing you're asking, but I have in front of me some growth rates, in fact, finishing growth since -- versus 2019 of a bunch of categories that I find pretty fascinating, but this is not -- this isn't our own mix, but these things in fact mix things, I guess, but gas 90%. Now by the way, this is – this includes growth by Capital One overall. There's been significant growth of our whole business. So -- but just some relative comparisons. Travel, 26%, although travel is second to gas, if I look at year-over-year gross, only gas as a category has grown more. So gas is up 54% year-over-year.

The travel is up 42% year-over-year, and those are swamping most of the other categories there. But travel was way the laggard during the downturn, and it's been -- like I said, other than – than energy, it has been the one that is really catching up quickly. So what's striking is just how much these things vary across categories as the consumer reacts to the COVID or energy costs. And also, it'll be interesting to see how much the consumer migrates to whether -- to -- between discretionary and nondiscretionary categories. We'll keep a close eye on that one as things get a little tighter in the marketplace.

[Dominick Gabriele, Oppenheimer]

Great. And then maybe just as a follow-up. Given – just to take some of the conversation one step further around deposits and funding, given the amount of card growth that you're seeing and building out this franchise, but the slowing deposit growth, is it reasonable to assume that as a management team, you would really look to focus on growing this business first, regardless of perhaps the funding cost, trade-off between deposits and non-deposit funding because really, you're just gaining more customers within your card franchise and you would make that trade? Thanks so much.

[Richard Fairbank, Chairman & Chief Executive Officer]

Yes. So first, pulling up, it's not lost on us that our assets are growing rapidly. Right now, all banks are growing more slowly in deposits. So, we -- I think that – I mean this is a natural thing that happens at this part of the cycle. And so, this is why I made my earlier comments about being very pleased that we have already been leaning into having a deposit franchise and being in a position to build primary banking relationships, to grow savings accounts, to have a brand as a company that will have attractive savings rates, but not to have to go generate all our business off of the bank rate tables kind of marketplace.

So – but with respect to the economics, Dominick, I think the card margins are such that -- it's hard to imagine that we wouldn't continue to make the trade that even if we have to pay more for deposits, we would not turn down the growth opportunity. So long as the deposits are available and they're there, it's going to be a good trade to continue growing that card business as far out as we can see because of the particularly robust economics that come with our card franchise.

But just to finish off that point. I'm sorry. But we also like being in a position as a national bank with a national brand for digital banking that we're in a position to gather the deposits we need in order to fund the kind of growth opportunity that we have at a time when it's going to get harder to grow deposits at this part of the cycle.

[Danielle Dietz, Managing Vice President, Global Finance]

Great. Well, thank you, everyone, for joining us on this conference call today, and thank you for your interest in Capital One. The Investor Relations team will be here this evening to answer your questions, if you have any, and have a great evening.

[Richard Fairbank, Chairman & Chief Executive Officer]

Thanks, everybody. Good night.

[Operator]

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