KeyCorp
NYSE:KEY
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KeyCorp
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Good morning, and welcome to the KeyCorp’s Second Quarter 2019 Earnings Conference Call. As a reminder, this conference is being recorded.
I would now like to turn the conference over to the Chairman and CEO, Beth Mooney. Please go ahead.
Thank you, operator. Good morning and welcome to Key Corp's second quarter 2019 earnings conference call. Joining me for the call is Don Kimble, our Chief Financial Officer; Chris Gorman, President of banking and Mark Midkiff, our Chief Risk Officer.
Slide 2 is our statement on forward-looking disclosure and non-GAAP financial measures. It covers our presentation materials and comments as well as the question and answer segment of our call.
I am now moving to Slide 3. This morning, we reported earnings per common share of $0.40, which included $0.04 of notable items consisting primarily of efficiency related expenses. Adjusting for notable items, our results were $0.44 per share, the same as the year ago period and up 10% from our first quarter results. To provide a consistent view of our financial trends and prior periods comparisons, my remarks this morning will focus on the adjusted numbers, which exclude notable items in all periods.
Our results this quarter highlights the momentum we continue to see across our company and highlight for the quarter included solid revenue trends, reflecting balance sheet growth and momentum in our fee based businesses; focused expense management, including the realization of substantially all of our $200 million in cost savings by the end of the quarter. Continued strong credit quality with net charge offs well below our over the cycle range and disciplined capital management, which includes returning a significant amount of our net income to our shareholders through dividends and share repurchases.
Turning to the balance sheet, we saw continued growth in both loans and deposits. Loan growth continues to be driven by commercial and industrial loans with average balances of 5% from the year ago period and 3% from the first quarter. Our growth is broad based and focused on high quality credits. Our outlook remains positive as client sentiment remains constructive and our pipelines continue to be strong.
We also benefited from growth on the consumer side, including our residential mortgage business, which generated $1 billion of loan originations in the second quarter, 60% of which we held on our balance sheet. This has doubled the volume from the prior quarter and last year and resulted in a 6% year-over-year increase in residential mortgage loans. Also adding to our consumer loan growth was Laurel Road, with over $400 million in loan originations in the second quarter. We remain very excited about our Laurel Road acquisition, which bolsters our digital capabilities and the production from Laurel Road has exceeded our initial expectations. In total, our direct consumer loans were up 33% year-over-year.
Average deposits from both commercial and consumer clients grew 5% from the year ago period. Our growth reflects the success of our business model and focus on relationship clients. Noninterest income this quarter adjusted for notable items reflected broad based momentum. In our first quarter call we guided to a linked quarter double digit increase in fees driven by stronger investment banking in debt placement and adjusting for notable items noninterest income was up $86 million or 16% compared with the first quarter. And we reached a record second quarter level of investment banking and debt placement fees, which were up $53 million or 48% from the prior quarter.
Our pipelines remain strong and client engagement is high, which should position as well for the remainder of the year. We also saw linked quarter double digit increases in areas where we have been investing, including cards and payments and our residential mortgage business. Expenses were also a positive story this quarter, reflecting our success in achieving our cost saving targets and positioning the company to reach its targeted cash efficiency ratio of 54% to 56% in the second half of the year, and strong expense management will continue to be a priority.
Moving to credit quality, we had another very strong quarter with stable credit metrics, and a net charge off ratio of 29 basis points well below our over the cycle range. We remain committed to disciplined underwriting and maintaining our moderate risk profile. The final item on the slide is capital where we have remained focused on maintaining our strong position while returning a large portion of our earnings to our shareholders through dividends and share repurchases. And just last week, our board of directors approved a 9% increase in our common share dividends to $0.185 beginning in the third quarter of this year.
Before I turn the call over to Don, let me comment on the disclosure that we made last week concerning fraudulent activity by one of our long standing business clients. Since this is part of an ongoing investigation, we're limited in what we can say, but we are pursuing all available sources to mitigate the potential loss that could be up to $90 million net of taxes. The potential loss will be recognized as a third quarter event. Importantly, I want to underscore that we believe this is an isolated occurrence. This was a fraud perpetrated by a single long standing business customer and we will provide appropriate updates in our public filings.
Now, I will shift back to today's news and conclude my remarks by restating that it was a good quarter with broad based growth across our franchise. We added and grew relationships, driving growth in both our consumer and commercial businesses. We grew loans including 5% year-over-year growth in C&I and experienced growth in consumer loans from residential mortgage and Laurel Road. We grew fees with a record second quarter for investment banking and debt placement fees.
We managed expenses, reaching our $200 million cost savings target, which keeps us on a path to reach our targeted cash efficiency ratio in the second half of this year. We maintain credit quality underpinned by our disciplined loan underwriting. And we continue to return capital to our shareholders, including a 9% increase in our common shared dividend approved last week by our board of directors. And finally, we remain committed to achieving our long-term targets and to continue delivering value for our shareholders.
With that, I will close and turn the call over to Don.
Thanks, Beth. I'm now on Slide 5. As mentioned earlier, we reported second quarter net income from continuing operations of $0.40 per common share. Adjusting for notable items earnings per share was $0.44. Our adjusted results compared to $0.44 per share in the year ago period and $0.40 in the first quarter of 2019.
Notable items for the quarter totaled $52 million, including 32 million of personnel largely severance, as well 17 million of real estate expenses, both related to our efficiency initiatives. Notable items also included 2 million of onetime charges related to the closing of our Laurel Road acquisition in April.
As Beth mentioned, we achieved our $200 million cost savings target, with the full amount expected to be in the run rate next quarter. Importantly, we also remain committed to reaching our 54% to 56% cash efficiency ratio target in the second half of this year. I will cover many of the remaining items on this slide in the rest of my presentation.
So now I'm turning to Slide 6. Our business model continues to position us well to grow relationships and loan balances. Total average loans were $91 billion, up 2% from the second quarter of last year, driven by growth in commercial and industrial loans, which were up 5%.
Linked quarter growth and average balances was also driven primarily by commercial and industrial loans up 3%. Our growth continues to be broad based across our footprint, as well as through our targeted industry verticals. C&I growth was partially offset by a decline in commercial real estate balances due to elevated pay downs.
Importantly, this quarter, we saw strong growth on our consumer side as well. Laurel Road and investments in our residential mortgage business contributed to our growth this quarter, and we expect to continue to benefit from both moving forward. For Laurel Road, we originated over $400 million of loans this quarter.
For the residential mortgage production, we originated over a $1 billion of loans in the second quarter, double the volume from a year ago and from last quarter. Of this production approximately 60% was retained on balance sheet. We expect to continue to grow loan balances consistent with the top end of our 2019 full year guidance as we support our relationship clients.
The tone and sentiment with our clients remain positive and our pipelines are solid. That said we remain committed to our moderate risk profile; we will continue to walk away from business that does not meet our risk parameters.
Continued on Slide 7, average deposits totaled $110 billion for the second quarter of 2019 up $5.6 billion or 5% compared to the year ago period and up 2% from the prior quarter. Growth from the prior year was driven by both consumer and commercial clients. On a linked quarter basis, the increase in deposit balances is also driven by both consumer and commercial clients, as well as elevated levels of short-term deposits from certain commercial customers.
The cost of our total deposits was up to six basis points from the first quarter, reflecting the continued migration of our portfolio into higher yielding products. As expected, our deposit data increased from the first quarter bringing our cumulative data to 38%. We continue to have a strong stable core deposit base with consumer deposits accounting for 66% of our total deposit mix.
Turning to Slide 8, taxable equivalent net interest income was $989 million for the second quarter of 2019 and net interest margin was 3.06%. These results compared to a taxable equivalent net interest income of 987 million and a net interest margin 3.19% for the second quarter of 2018 and $985 million and 3.13% in the first quarter.
The increase in net interest income from the second quarter of 2018 and was driven by earning asset growth and the benefit from higher interest rates, partially offsetting this with a lower net interest margin driven by higher interest bearing deposit costs, lower loan fees and $11 million decline in purchase accounting accretion.
Net interest income increased $4 million or 0.4% from the prior quarter driven by higher earning asset balances and one additional day in the quarter. These benefits were partially offset by a decline in net interest margin given by higher interest bearing deposit cost, elevated levels of liquidity as well as the decline in purchase accounting accretion.
Going forward, we expect our net interest margin to remain relatively stable and net interest income to grow consistent with the guidance we have provided. In the appendix of our slide deck you can find additional information on our asset liability positioning, with continue to actively reduce our exposure to declining rates executing approximately $3 billion in interest rate swaps and floors in the second quarter.
This was a move that we began back in the third quarter of last year entering to a total swaps and fours of $15 billion during this time. Today our net interest income impact for 100 basis points parallel increase or decrease from current levels is less than 1%.
Moving on to Slide 9, Key's noninterest income was $622 million from the second quarter 2019 compared to 660 million for the year ago quarter. The year ago, quarter included notable items with a net impact of $36 million, including a gain from a sale of Key insurance and benefits services and a least residual loss. Excluding these items total fee income was down $2 million year-over-year.
The change from the year ago period reflects continued momentum in core fee based businesses resulting from ongoing investments including growth in our investment banking, debt placement fees, as well as positive trends in our mortgage business. Offsetting this growth was a year-over-year reduction in trust and investment services income related to the sale of Key insurance and benefits services and a $6 million impact from the revenue classification changes mid 2018 on deposit service charges.
Compared to the prior quarter, noninterest income was up $86 million or 16%. This change was largely related to a rebound in investment banking debt placement fees, which increased $53 million to a record second quarter level. We continue to see momentum in other fee based businesses as well as including a $7 million increase in both cards and payments related income and trust and investment services income from the first quarter.
Turning to Slide 10, expense management has remained an area focus for us. As we mentioned, at the end of the second quarter, we have implemented substantially all of our expense initiatives tied to our $200 million continuous improvement target, which we expect to be fully reflected in our run rate next quarter.
Second quarter noninterest expense was just over $1 billion or 967 million excluding the $52 million of efficiency related expenses. This compares the $966 million in the second quarter of 2018 and 937 million in the prior quarter, both excluding notable items. The table on the bottom left side of the slide breaks out our detail of the notable items.
Expenses are relatively flat compared to the year ago period, again excluding notable items. The year-over-year comparison reflects our Laurel Road acquisition in April 2019, as well as the successful implementation of the company's expense initiatives.
Compared to the prior quarter noninterest expense increased $30 million excluding notable items, the increase reflects the impact of the Laurel Road acquisition as well as our higher variable costs related to increase in the capital markets activity. Marketing expenses were also seasonally higher in the second quarter while employee benefits costs were seasonally lower.
Moving to Slide 11, our credit quality remains strong and we continue to be consistent and disciplined in our underwriting. Net charge offs were $65 million or 29 basis points of average total loans in the second quarter, which continues to be below our over the cycle range of 40 to 60 basis points.
The provision for credit losses was $74 million for the quarter, reflecting ongoing loan growth. Nonperforming loans were 561 million this quarter and represent 61 basis points of period-end loans consistent with the prior quarter.
Turning to Slide 12, capital also remains a strength of our company, with an estimated common equity Tier 1 ratio at the end of the second quarter of 9.6%. As Beth mentioned earlier, we have remained true to our capital priorities, including returning a significant amount to our shareholders. In the second quarter, we declared a common dividend of $0.17 per share. We also continue to repurchase common shares with $180 million repurchase this quarter.
We also announced our 2019 capital plan in April. This was for the third quarter of 2019 through the second quarter 2020. The plan includes a 9% increase in our common stock dividend to $0.185 per share in the third quarter, which was approved last week by our board of directors. We also plan to repurchase up to $1 billion in common shares over the four quarter period.
Our strong capital position supports our organic growth along with our planned capital action.
On Slide13, we provided our outlook for 2019. Our guidance excludes the impact of the fraud loss that was disclosed in Form 8-K filing on July 16. Excluding this singular occurrence our outlook has not changed from what we provided earlier this year. This reflects our performance through the first six months and expectations for the remainder of the year. We continue to expect another year of strong positive operating leverage with improved efficiency.
Average loans should be in the range of $90 billion to $91 billion, once again driven by our commercial businesses, but also benefiting from growth and our consumer lines including Laurel Road and residential mortgage. With the contribution from mortgage origination and Laurel Road, we would expect to be toward the higher end of our guidance range.
Average deposits should remain relatively stable as our continued to account growth will offset by declines in temporary deposit balances reaching the $108 billion to $109 billion range. Despite a more challenging interest rate environment and assuming one more 25 basis point rate cut, we still expect net interest income to be in the range of $4 billion to $4.1 billion.
As a result of the projected rate decrease and the shape of the yield curve, we would expect to be at the lower end of this range. The leverage for this quarter and noninterest income keeps us on a path to reach our full year range of $2.5 billion to $2.6 billion. We expect growth in most of our fee based businesses including investment banking and debt placement fees. Our current outlook would place us toward the lower side of our guidance range.
Although we may operate at the lower end of a revenue range, we also believe that we're likely to outperform on expenses. We have achieved our $200 million cost savings target and we continue to identify opportunities for further expense reductions. At this point, we have not changed our expense outlook of $3.85 billion to $3.95 billion, but based on the first half results, the completion of our expense initiatives and our focus on continuous improvement, we believe that we can come in at or slightly below the lower end of the range.
And we also expect to reach our targeted cash efficiency ratio of 54% to 56% in the second half of the year. On credit quality, we see nothing on the horizon that changes our outlook with net charge offs and provision expense remaining below our over the cycle range of 40 to 60 basis points. Our loan loss provision should slightly exceed net charge offs to provide for loan growth.
And our guidance for our GAAP tax rate remains in the range of 18% and 19% with some opportunity to come in at or slightly below our range. Overall, we expect 2019 to be another good year for Key, building on the momentum across our businesses with discipline expense management, a clear focus on risk and strong returns.
On the bottom of the slide are our long-term targets, and remain confident in our ability to achieve these targets. Continue to move toward the top tier of our peer group. And over time, I believe our market valuation will reflect our progress and improved results.
I'll now turn the call back over to the operator with instructions for the Q&A portion of the call. Operator?
Thank you. [Operator Instructions] Your first question comes from the line of Scott Siefers from Sandler O’Neill. Please go ahead.
Good morning, everyone. Thanks for taking the question.
Good Morning.
Don, I was hoping you could walk through and with a little finer points the thought on the margin. I think you said in your prepared remarks that the margin overall should hold stable, I know you had those little liquidity build in the 2Q and I think that tends to be a seasonal issue that comes out in the 3Q, so presumably that helps. But guess I'm just curious regarding the puts and takes as you see them and then when you made those comments are you talking the core margin or the reported. Maybe if you can sort of bisect that as well, please.
Sure, and Scott as your highlight, we did have some seasonal trends in the deposits, especially the cost, some of the pressure on liquidity. And so, in the second quarter, our margin came down by three basis points from liquidity not any impact on net interest income, but that did have an impact on the overall margin. We also saw a reduction that wasn't expected as far as our purchase accounting accretion. Last quarter – first quarter, we're at $22 million, second quarter, we came in at $17 million, we would expect that to be relatively stable with maybe a slight decline from here, but not having the kind of pressure that we saw this past quarter. Going forward, we would expect margin on a reported basis to be relatively stable. And so, to your point, we should see some of that liquidity come back in over time. And that could help offset some of the pressure associated with the most recent our expected and 25 basis point rate decline. And so, we think that positions us to have more stability in that margin prospectively.
Okay, that's perfect. I appreciate that. And then just one sort of – to keep that question just on the accounting for the fraud. Just what is the reason that that becomes a 3Q event? Is that just because of the difficulty in estimating the potential loss now or were the books from an accounting standpoint closed at the time of disclosure, just curious about that dynamic?
On that point, the events that resulted in the fraud actually took place here in the third quarter. And that's why the timing of the loss is recognized in the third quarter as opposed to the second quarter.
Yeah. Okay. So, I guess nothing more than that. All right, that's perfect. Thank you, guys, very much. I appreciate it.
Thank you.
Your next question comes from the line of Ken Zerbe from Morgan Stanley. Please go ahead.
Great, thanks. Good morning.
Good morning.
I guess first is I have a silly or simple question. You're building at one rate cut into your guidance, how does your NII guidance change if we actually get a cut both in July and in September?
If we would get an additional rate decrease of additional 25 basis points, we think near term that would have a negative impact of about two to three basis points. And essentially what causes that is, is that our deposit pricing lags a little bit as far as the current market and so we would see a little bit of a near term negative impact from that.
Got you and are you building in the July cut or September cut?
We are building in the July cut.
Got you, okay. Understood and then just as a follow up question, in terms of Laurel Road, obviously good growth from them this quarter. I guess, when you think about the longer term growth maybe the next year or two years, like what kind of pace of growth are you comfortable putting on to your balance sheet from Laurel Road?
Well, we're very pleased with the credit quality of the originations. We love the customer base that we're approaching with Laurel Road. And as far as just this product, I don't know that we're going to see tremendous growth from that, but we think there's a lot of additional opportunities for expanding the relationships with these customers, whether it's residential mortgage or savings products or other potential relationship building services that we can provide for that customer base. So, we do expect to see nice growth there, but maybe not at the same pace on the student loan consolidation product.
Okay, thank you.
Your next question comes from the line of Steven Alexopoulos from JPMorgan. Please go ahead.
Hey, good morning, everybody.
Good morning, Steven.
Good morning.
It's like I'll start on the fee income. So year-to-date you reported 1.2 billion. And if we just look to get to the low end of the guided range, I think you need to do somewhere around 670 million per quarter. And I don't think you've ever done that a single quarter. Can you walk us through what gives you confidence to – I know you said to be the low end, low end of the range, but even to maintain the range?
Sure, that I think your math is right there, Steve. So, what I would offer up is that, first of all, we take a look at our investment banking, debt placement fees, and we compare what we reported in the second quarter of last year to the run rate for the second half of last year. It's an increase of $42 million. And we believe that our pipelines are strong and activity levels support, seeing that same type of continued growth from here. In addition to that $42 million increase we would see seasonal increases in a number of key categories, including COLI, which we believe adds about $20 million to the second half of the year compared to what we saw in the second quarter. And then we also have about $30 million of other growth. And I would say that growth is coming from areas we might not have seen as much in the past. But we talked about our mortgage production this quarter. And that's the first time we really see that come through. And we were originated over $1 billion in the second quarter, our application volumes, and our pipelines are even stronger going into the third quarter than they were the second quarter. And so, we think we're positioned there. We also think there's other categories where we're seeing a lot of growth. And so, if you would assume about $30 million for additional growth, the $20 million for seasonal increases and roughly the $40 million plus for the IBND revenues, we believe that we'll be at that 95 kind of million range that you're talking about to further needed to achieve that kind of growth for the second half.
Okay, that's helpful Don. And then the follow up in your response to Ken's question about the NIM going down two to three basis points, if you get that additional cut, is that about the math of what you would expect per 25 basis point cut two to three?
Well, initially, we would and so for example, on our average rates paid on deposits, the first quarter after that rate decrease, we think that deposit rates will go down by about five basis points in that second quarter. That cumulative reduction would be about 10 basis points. And so that's how that two to three basis points initial hit will go away over time.
Okay, thank you. Then just finally, for Beth, once we get into the 54% to 56% cash efficiency ratio, where do you go from there? Still stay in the range, do we improve further, how do you think about that?
Obviously, with our fourth quarter call in January, we will update our thoughts for the coming year. And so, I think some piece of that will be predicated on the expectation for the macro environment. But I do know that you hear us talk with a degree of relative confidence about our targeted business strategies and our commitment to continuous improvement. And we have a diversified business model. So, we continue to see the ability to drive our performance in the future. But what that looks like is the southern substance of our fourth quarter call.
Okay, fair enough. Thanks for taking my questions.
Thank you.
Your next question comes from the line of John Pancari from Evercore. Please go ahead.
Good morning.
Good morning.
Good morning.
Related to Steve's question there on efficiency, I guess the other way I'd like to ask is just is – if you could talk about the leverage you would have on the expense side if the revenue outlook gets more challenging if we are looking at for example, another cut in addition to the one cut that you modeled. If we get another cut this year, could you talk about the impact on your efficiency ratio expectation and then what the levers are to dig deeper on expenses. Thanks.
Great and in our comments, we did allude to that we've already achieved the $200 million, but we still have other efforts and steps and identified and we're executing against for further continuous improvement. And so, we are very committed to delivering that 54% to 56% range. And so, we believe that that will help provide some support for that. So, it's critical that we continue to manage that we're always going to be focused on further continuous improvement efforts to manage that efficiency ratio down and generate positive operating leverage. I think one thing else that's unique for us compared to many of our peers too is the steps we did take as far as managing our overall asset liability position. And as we noted in our comments that we've added a $15 billion worth of swaps and floors to help protect against that downward rate pressure and that did cost us some margin over the last few quarters, but we think that it was prudent for us to be able to manage to that level, especially given the current outlook that we see for interest rates.
Okay, got it. All right and then separately, I know you can't speak much about the fraud specifically. But as the investigation continues and even though it's an isolated thing, is there any risk that there is an increased focus around your risk controls and the expenses related to that as a result of this? Thanks.
Well, sure. And maybe I'll take up more of a comprehensive look at this issue, because I'm sure people have lots of questions about this. But as we did note in our Form 8-K that we are limited as what we can disclose given our current investigation and litigation that's in process. So just let me share a few things that we are able to say at this point. So earlier this month, we discovered fraudulent activity by a long standing business client. We believe that this was an isolated incident involving a single business relationship. We are pursuing all available sources of recovery and means of mitigating the potential loss, which could be as high as $90 million net of taxes. We're conducting a comprehensive assessment of all procedures and related controls and we've reported the incident to law enforcement. The potential loss will be recognized as a third quarter event. And importantly this is not a cyber event or a data breach and we do not believe this to impact our capital plans, which would include both dividends and share repurchases. We also do not believe that this will materially impact core expenses going forward and we remain on track to achieve our cash efficiency ratio target in the second half of this year. And due to the ongoing nature of the investigation and litigation we'll not be able to further comment at this point and we'll provide appropriate updates in public firing filings in the future.
Got it. Alright, thanks Don.
Thank you.
Your next question comes from the line of Peter Winter from Wedbush Securities. Please go ahead.
Good morning.
Good morning.
You guys had very good momentum on the loan side. And I'm just wondering if that continues, it does seem like you could come in above the high end of your range for average loan growth.
Yeah, Peter, we were very pleased with our production, especially on the consumer side this quarter. Our commercial has always been a core strength for us and we're seeing that momentum maintained, but that we've been talking for the last couple of years about what we're doing from a residential mortgage perspective and this was the first quarter I can really say that we're starting to achieve that and that $1 billion of production and 60% of that going on balance sheet will clearly help our long growth from that side. Laurel Road over $400 million for this quarter as far as originations and that's also another strength for us. And so, if we just continue to grow loans, like we did in the second quarter, and I think that our ending balance in our pipelines would suggest that we'd be growing average loans each quarter by about $1 billion, which will put us slightly above that $91 billion top end of our guidance range. And so, I think that you're on track there as far as what we're seeing for potential dynamics in that that category.
Okay. And if I could just ask one, just housekeeping item, within the fee income, operating lease income and gains was a little bit elevated relative to the run rate, I think the last four quarters. Just wondering if there was anything unusual or this is a new run rate for you guys.
Yeah, we had a small gain in the quarter and interesting enough that we actually had some losses on residual value. The declines will actually go through provision expense in the current quarter and so the two of those, essentially net each other out, and that could be just a little high for the operating lease income.
Okay, thanks very much.
Your next question comes from the line of Matt O'Connor from Deutsche Bank. Please go ahead.
Good morning.
Good morning.
Hi.
How much of the 200 million of savings was in the second quarter run rate?
What we've said is we were there at the end of the quarter, I would say that a number of the expense programs really had a launch date of around June 30. And so, we still have upwards of about $20 million in run right going into the third quarter for future savings.
Okay, and then I guess what else is driving the cost down as we think about, going from 2Q to 3Q that's 20. There are some other things like I know, seasonality tends to be kind of some puts and takes there.
The biggest variable Matt for expenses beyond that really is the capital markets related revenue. And then as we've shown before, there is a direct connection between the incentive associated with that and the revenues. But we also highlighted that we have other efforts in slide as far as continuous improvement. So even though we've achieved our 200, we're not done yet.
Okay, and then any additional repositioning or efficiency charges do you expect in the second half and beyond?
Our guidance would incorporate those charges. We don't think there was the material going forward.
Okay. Alright, perfect. Thank you.
Thank you.
Your next question comes from the line of Saul Martinez from UBS. Please go ahead.
Hey, good morning. Just I don't know if you mentioned this, maybe I missed it. But how much did Laurel Road contribute to your expense base and not the one off items, which is the overall level of expenses this quarter?
Yeah, this quarter, we had reported the Laurel Road expenses of $22 million. And as we noted, there is some in that notable items as far as the deal related expenses.
Right, but in terms of the core expenses, it was – I think the one time item was to 2 million if I'm not mistaken.
That's correct. So, the core was a little less than 20, but in that range.
Okay, any material revenue contribution yet from Laurel Road?
The revenue contribution really so far has been in that loan growth and so we originated over $400 million. So, it will be building over time. And so that's – really didn't have a dramatic impact of the second quarter, but that will be building that annuity stream over time.
Got it and in that 400 million, I think you mentioned that you retained 60%, if I'm not mistaken of that plus some residential mortgages, but how much of the 400 million did you retain?
We've retained 100% of the Laurel Road originations. That 60% was for the residential real estate originations we had. Now, what we do have in the second quarter though is we have transferred about $250 million of the Laurel Road production into a held for sale and then we're in the process of working through a securitization transaction on those assets, just to make sure that we stay current on the markets and see potential equity avenues for us going forward.
Right, but your intention going forward is to retain the vast majority of that.
That's correct.
And what are the terms on those? Can you just give us a sense of what kind of yield – just to get a sense of what kind of interest income pick up we could expect if you maintain something close to this level of origination?
Yeah, as we ended up the second quarter, we were talking about yields of around 5% that the long end of the curve has moved down by about 50 basis points. So, we're probably in the 450 to 460 range as far as current yields and so it's more that spread. Average life on those loans tend to be around for years and again very strong FICO scores and very low loss content based on the consumers that we're working with.
Got it that's helpful. Thanks a lot.
Your next question comes from the line of Marty Mosby from Vining Sparks. Please go ahead.
Thanks.
Good morning.
Good morning,
Hey, good morning. I want to drill into this NII because if you look at your margin, the core margin actually peaked out around 310 if we exclude PAA. It started at around 285. And now we're down to almost 3%. So how much – because you mentioned earlier the cost of the hedges that actually limit your downside, how much of the cost is related to what's going on from the 310 to the 3% to lock in as close to 3% as you can as you move forward. So, in this particular quarter is there close to 10 basis points of costs related to these hedges?
No, a couple things on there, Marty. One is that the loan fees are down significantly. In this quarter we're expecting to see a slight recovery there and we actually saw loan fees come down. And so, compared to that peak period, our loan fees are costing us about three basis points on the margin. If you look at the net cost from our swaps in the second quarter, it was around eight or nine basis points that's down from 11 basis points in the first quarter, but there clearly has been a cost there and that's about five or six basis points of additional costs compared to that peak period that you would have talked about as well. And so those both have had a negative impact on margin and we're continuing to hopefully see the benefits from positioning for more of a neutral asset position prospectively. But there was a cost for us to initially establish that. On the loan fee front, what we're seeing there is that just refinance activity has been much slower. And especially in some of the syndicated loan products, we're seeing that across the board as far as being down year-over-year and we would expect to see that start to pick up again once we see the refinancing start to pick up again on that category.
So, what I wanted to emphasize, folks are seeing some of this compression in margin this quarter. A significant amount of that is also just related to putting on insurance that then limits the downside. So, if we're looking at the 3% and then the lower, the cycle last time was 285. That restructuring gives you how much confidence in a sense of where do you land in the worst case scenario, we get back to zero interest rates, like we did before, somewhere between three and 285. But are we to the upper end of that range or lower end of that range once it's all said and done?
I wish I could predict that accurately. I think one of the things that we've continued to be surprised is that as we position our asset liability in a way that we think is neutral, but the yield curve can take plenty changes and movement. If you look at the longer end of the curve, we're probably done 75 to 80 basis points over last 90 days, whereas the short end of the curve is now just coming down 25 basis points we expect later this month. But we think that we are better positioned than our peers, and we've been very deliberate in that approach and looking to make sure that we can maintain as much stability in that margin prospectively as we can.
And then just lastly, what's the timing of the share repurchase activities that even over the next four quarters or any front loading to get more into this year?
I would say that there's a couple of quarters where that might be a little outside, but I would generally assume fairly consistent throughout the time period that there are some quarters where we have employee issuance for different compensation programs were, we're able to buy back more, but generally pretty consistent throughout the four quarters.
Thanks.
Thank you.
Your next question comes from the line of Ken Usdin from Jefferies. Please go ahead.
Thanks. Good morning, guys. Don, couple just for yield follow ups, can you talk about this quarter, you mentioned in the deck that you had 50 basis points still positive roll over on the securities portfolio? Where do you see that heading given the right environment going forward?
Yeah, you're right in the first quarter, we had 105 basis points, so this last quarter it was 50 and it went – we're probably closer to the 20 to 30 basis point range today. So, we still have a fairly low yield on our investment portfolio. So there still is pick up there. But it's a less than today's markets than what we would have seen last quarter.
Okay. And then what are the yields that you're putting on Laurel Road loans at? And how does that compare to the average yield of the loan book?
Yeah, when we started this – the end of the first quarter, we were seeing a yield of about 5% I would say. Today we're down closer to the 450 to 460 range, because the yield curve has moved down by that much. And so really, it's focused on that kind of spread. And so, compared to that category, I think it's fairly neutral. But compared to the overall loan yields, I think it should be out of the two going forward.
Okay. And lastly, one of the things I think you mentioned last quarter was that part of – you had lower burden from the terminated swaps in the first half of the year, how much of a helper does that continue to be incrementally from here?
It was about $7 million of hit in the second quarter. It's about 5 million in the third quarter and about 2 million in the fourth quarter. So, there is some slight hiccup on an incremental basis each quarter.
Okay, got it. And one last one, just on the deposit costs. You mentioned the pace of which the deposit costs should roll over. Is that mostly due to the index part? And if so, then what do you see happening with the non-index part, just the customer behavior?
As far as the rate coming down, the index parts move very quickly with the overall rate changes. And so, it's more of the administered rates that take some time to phase in. And so that's why we only see about five basis points of benefit in our deposit rates in the first quarter. And then would expect that to be up to 10 basis points in the second quarter. And so, it really is more managing through those administered grades.
Thanks a lot Don.
Thank you.
Your next question comes from the line of Brian Foran [ph] from Autonomous Research. Please go ahead.
Hi, good morning.
Good morning.
Maybe one just housekeeping, the fraud, do we put it through the expense or charge offline? And can I just confirm that it's excluded from the full year guide?
Yeah, it is excluded from the full year guidance. And we do believe that we going through as an expense as a fraud loss as opposed to through charge offs.
Okay. And then on the core expenses or the full year guide on expenses when you were talking about being at the low end or maybe even below the range. Is that linked with the revenue outlook or independent? Or maybe said another way is, is there a scenario in your mind where you hit the low end of the revenue guide, but beat on expenses or would it more be like you'd only beat on expenses if the revenue came up a little short?
I would say that our expenses being at or slightly below was consistent with our revenue outlook. What would cause that expenses number to be higher is if the revenues coming stronger and the corresponding expenses associated with that would come through. And if for – going forward, if we would miss our revenue guidance, I think there's even further opportunity on the expense side to come down.
Got it and then very quickly, and I apologize if I missed this, the hedges are obviously proven to be a big differentiator. So well done, we have put them in. Did you say what the term or the duration and how long they'll last is?
Yeah, on average, they're a little over two years, as far as the interest rate swaps, the floors would have an average life of about two and a half years. And we've entered into some longer data swaps here recently and going into the full year for some of the new ones, we've been putting in place to more match with some of the more recent balance sheet improvements that we've had, and making sure that we keep that consistent. So, it's something that we watch very closely and we try to be fairly conservative as far as how we manage that overall position.
Great, thank you.
Thank you.
Your next question comes from the line of Gerard Cassidy from RBC. Please go ahead.
Good morning, Beth. Good morning Don.
Good Morning.
Good morning.
Can you guys share with us what your customers are saying from the standpoint that the forward curve is expecting three 600 cuts this year? And it seems rather dramatic, considering our macroeconomic environment doesn't appear to be that week. Is there a disconnect you think between the forward curve and what your customers, commercial customers in particular are seeing on the ground?
Gerard, it's Chris, I would say to some degree there is. There's kind of what we're hearing from our clients. The tone and sentiment with our clients continue to remain positive. We're having a lot of strategic discussions with them. I would say it's been about flat, kind of quarter-over-quarter, if I could give you a read of the sentiment, some of the areas of concerned continue to be labor very hard to staff up their operations, both knowledge workers and also non-skilled workers and also there's a real just bid to hire employees away. I'd say the trade tension certainly doesn't help because it's uncertainty. But on balance, it doesn't feel out talking to our clients, which we're doing very regularly. It doesn't feel the same as you would think it would feel as you look at the forward curve.
Very good and then your credit, obviously is quite strong this quarter. But some of your smaller regional peers have had so called one off credit announcements and they seem to be concentrated in their private equity area leverage loans and also some restaurant credits. Can you guys give any color on your leverage loan portfolio? I know it's been stable for a number of years. It's not as a percentage of total loans a giant number, but curious to see what your – if you're seeing any trends in there that show some weakening or no, it's fairly stable?
Gerard, its Chris, that's obviously a portfolio that we look at very, very closely at this point in the cycle. There is nothing in our portfolio that we believe is a sign of deterioration in that portfolio. It's a $2 billion portfolio, which by the way is what it was before we even acquired First Niagara. So, we have been very, very consistent at staying at that $2 billion level. It has a lot of velocity as you can well imagine and these are middle market companies that are in our areas of focus. So, we feel good about the portfolio, but it is a portfolio we watch very closely.
Very good and then just finally maybe for Don, you mentioned about – if I heard it correctly selling off some of the Laurel Road mortgage loans I assume. I assume you keeping the servicing so that you could cross sell into their customer base and speaking of that cross selling, when do you folks think you can actually start to gain some traction, where you're able to get other business from these customers?
Yeah, Gerard, we're actually securitizing off some of the consolidation student loans. And this is something that Laurel Road had done before and we just want to make sure we kept those avenues open and so we're doing a small securitization transaction. And to your point as far as additional products, Laurel Road has already launched a mortgage product. We're continuing to refine some those capabilities they've offered and hopefully be in a position to offer that to our existing retail customers as well. And so, we'll start to see some traction there. And we're continuing to work on plans to further increase the types of products and services we can offer to that customer base. So, we're real excited about the digital capabilities that they bring and I think it has a bright future for us.
Thank you.
[Operator Instructions] And at this time, there are no further questions.
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