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Truist Financial Corp
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Greetings, ladies and gentlemen. And welcome to the BB&T Corporation First Quarter 2018 Earnings Conference. Currently, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation [Operator Instructions]. As a reminder, this event is being recorded.
And it is now my pleasure to introduce your host, Alan Greer of Investor Relations for BB&T Corporation. Please go ahead, sir.
Thank you and good morning everyone. Thanks to all of our listeners for joining us today. On today’s call, we have Kelly King, our Chairman and Chief Executive Officer and Daryl Bible, our Chief Financial Officer, who will review the results for the first quarter and provide some thoughts for next quarter and for the full year. We also have Chris Henson, our President and Chief Operating Officer and Clarke Starnes, our Chief Risk Officer.
We will be referencing a slide presentation during today’s comments. A copy of the presentation as well as our earnings release and supplemental financial information are available on the BB&T’s Web site. Let me remind you that BB&T does not provide public earnings predictions or forecasts. However, there may be statements made during the course of this call that express management’s intentions, beliefs or expectations. BB&T’s actual results may differ materially from those contemplated by these forward-looking statements.
Please refer to the cautionary statements regarding forward-looking information in our presentation and our SEC filings. Please also note that our presentation includes certain non-GAAP disclosures. Please refer to Page 2 and the appendix of the presentation for the appropriate reconciliations to GAAP.
At this time, I will turn it over to Kelly.
Thanks, Alan. Good morning, everybody and thanks for joining our call. So, I think we had strong quarter with record earnings and returns, very good expense control, continued healthy asset quality and really, we have strong commercial loan growth if you adjust for the mortgage warehouse lending.
Net income available to common shareholders was a record $745 million, up 97% versus the first quarter, and adjusted net income was a record $767 million. Diluted EPS was a record $0.94, up 104% versus first quarter and to adjust for diluted EPS for merger and loss on extinguishment of debt in first quarter is up -- it was $0.97, up 31%. But the way I think about this in time to get it through a real comparable run rate I go into pretax ex mergers and ex loss on extinguishment of debt to get it to real apples-to-apples in it’s still up I think strong 5% versus first quarter, which is really good on a 2% environment.
Adjusted returns; ROA was 1.49, common equity was 11.75 and internal tangible was 19.89, so all very, very good returns. And very importantly we did achieve positive operating leverage on a debt basis versus the fourth quarter and the first. Taxable equivalent revenues totaled $2.8 billion up 0.6% versus first quarter. Virtually the net interest margin increased 1 basis to 3.44, our core margin increased 4 basis points, both were a little bit better than we expected. Our fee income ratio was 41.9. Our adjusted efficiency ratio was 57.3 versus 57.2. But if you adjust for the system outage, which Daryl will give you more color on, the efficiency ratio would've been down.
Our adjusted non-interest expense of $1.68 billion, a decrease 9.3% annualized versus fourth quarter and a decrease of 1% versus first quarter. So, we have decreased expenses linked and like, including increased expenses for the future. We’re making substantial investments in the future investments for risk management, infrastructure transformation, digital product development platform, enhancements and marketing. And Chris is going to give you a special breakout commentary with regard to some of those investments.
Our credit quality remained excellent. NPAs did increase a couple basis points but we’ve told you in the past we’re at the bottom, you will see a little bouncing around the bottom that doesn’t mean anything. And importantly, it decreased 6 basis points from a like quarter basis. We did have seasonally higher charge-offs, 41 basis points versus 36 basis points in the fourth. But if you go to like quarter, which you should, it’s very, very comparable and little bit down.
We did have a strategic announcement to acquire the Regions Insurance Group, which we’re very happy about. This was a great addition from both a cultural and a market perspective. It strengthened our presence in many of our Southeast markets and importantly, it expanded us into new markets in Texas, Louisiana and Indiana. And we did increase our common dividend 13.6%, which we’re very pleased with.
On Page 4, if you are following along on the deck, we did have some merger and restructuring charges of $28 million pretax, 22 after tax, which was about $0.03 per share. We didn’t try to qualify for you the impact with regard to outage, but Daryl is going to give a little color with regard to that and its impact as well.
If you look at Page 5, we always like to grow our sales relative to the guidance we have provided for you. So, if you look at average loans, the guidance was 1 to 3 we came in at 0.6. I could say around at 1 but I won't say that, but it did came little shy of that. But if you ex the mortgage warehouse, which you can really need to because it’s very, very volatile then it was an adjusted 1.8, which was right in the middle of the guidance. Credit quality was right in the middle of 41 basis points.
Net interest margin, I would say, was up on GAAP and core. Non-interest income was a little light. We said 1 to 3, it was 0.8. But again, if you exclude the estimated impact from the system outage, fees would have been up 2%. So, it would have been in right in middle of guidance. Expenses were real positive, down versus the flat we have projected. So, we’ve got really good folks on expense control, and frankly expense control for the rest of the year looks great.
If you look at Page 6 on loan growth, we had what I’d call strong core commercial loan growth. Now, our total loan growth as you can see was 0.6%, but again if you ex the mortgage warehouse its 1.8. But importantly, we think if you look at core commercial loan growth, it is 5.2% ex the mortgage warehouse, has substantial growth in a number of areas. Commercial real estate was up 7.7%, revolving credit of 5.7%, commercial leasing up 4.6%, mortgage 3.8% annualized, government finance and Grandbridge experienced double-digit annualized growth. So, it's pretty broad-based in that commercial growth. So, I feel really good about 5.2% core growth in this market.
And I just want to point out that we told you in January that we expected mortgage to turn in the first, it did. We told you we expected indirect to turn by about midyear, it will. And so, it's going exactly as we had expected, knock on wood, and we feel good about that. I will give you just a bit of commentary in regards to market. We’ve recently averaged the Kennebec 24 regions in the last few weeks. I’ll tell so actually even with a lot of the conversation coming out of Washington, the attitude of business owners and our officers that deal with them are very, very positive. They seem to be focusing on what’s happening versus what’s been said, which is actually a very pretty instructive way to think about it. Our pipeline in all areas is all time highs, which is very, very positive as we think going forward.
So, we do we expect loan growth to improve as we go forward for two basic reasons; the market, we think is positive out there and that it’s going to begin to turn into loan growth as the pipeline begins to move through; and optimizing portfolios are moving from a big tailwind, a big headwind to a tailwind as we projected and that’s a good thing.
If you look at next page with regard to deposits, not a lot to say there. Our non-interest-bearing deposits were down 6.7% that’s seasonal adjustment. It was down a little more than the season investments were called for. So, we think clients are beginning to use cash, which we’ve been talking about and that’s a very positive development. We begin to see just a little bit of line draw downs, which is very positive development. So, all of that is moving, which portends the economy beginning to have a confidence to go ahead and make some investments and move forward.
So, our cost of funds is moving up some and we can expect some additional increase. But I would point out that our betas are still at 17% since they started rising and we’re 24% in the first quarter and probably go up a little more. And Daryl can give you more detail on that, but I'm pretty comfortable that betas have not going to just really take off. And loan growth takes off and if loan growth takes off, we’re going to afford for betas to take off, so I feel pretty confident in terms of earnings impact about that as we go forward.
Let me turn it now to Daryl for some additional color.
Thank you, Kelly and good morning, everyone. Today, I’m going to talk about credit quality, net interest margin, fee income, non-interest expense, capital, segment results and provide some guidance for second quarter and full year 2018.
Turning to Slide 8. Credit quality remained strong. Net charge-offs totaled $145 million or 41 basis points, up 5 basis points, but down one from last year. We've been running below normal levels for a while and this increase reflects some normalization. Loans 90 days or more past due and still accruing as a percent of loans and leases decreased 4 basis points for the fourth quarter and from a year ago. Loans 30 to 89 days past due decreased 16 basis points from year-end, mostly due to seasonal improvement. This was up slightly compared to last year.
The NPA ratio was up 2 basis points but down six basis points from a year ago. The slight increase was mainly due to CRE and leasing portfolios, and an increase in foreclosed properties. Continuing on Slide 9. Our allowance coverage ratios remained strong at 2.55 times for net charge-offs and 2.49 times for NPLs. The allowance to loans ratio was 1.05%, up slightly. We recorded of a provision of $150 million compared to net charge-offs of $145 million.
Turning to Slide 10. The reported net interest margin was 3.44%, up 1 basis point. Core margin was 3.32%, up 4 basis points. Excluding tax reform, reported margin would have been up 3 basis points. The increase in GAAP and core margin reflects asset sensitivity to December rate hike and higher LIBOR rate. We were successful in repricing our tax-exempt loans higher in the wake of tax reform.
Deposit betas continue to come in lower than expected with most of the increase in deposit costs coming from index accounts. Since November 2015, cumulative deposit beta has been 17%. During the quarter, deposit beta has been higher at 24%. Asset sensitivity increased slightly due to the increase in free funds and balance sheet mix changes.
Continuing on Slide 11. Our fee income ratio was 41.9%, down slightly mostly due to seasonality. Non-interest income totaled $1.2 billion. Investment banking and brokerage had a strong quarter and was $22 million higher than last year. Insurance income was up $18 million, mostly driven by seasonality and employee benefits. Service charges on deposits were down $18 million, mostly due to system outage we had in February.
We decided to enter on the side of the client, refunding many fees whether they are related to the outage or not. The cost was about $15 million in lower deposit service charges and about $5 million higher operating expenses. Other income decreased $40 million, mainly due to decline in private equity investments and certain post-employment benefits. When you exclude the system outage, we would have had positive operating leverage on an adjusted basis on a linked quarter.
Continuing on Slide 12. Adjusted non-interest expense, excluding restructuring charges, came in at $1.66 billion, down 39 million from last quarter's adjusted expense number. Personnel costs included a decline of $33 million due to last quarter's $36 million of bonuses related to tax reform, partially offset by the typical seasonal increase of $25 million due to compensation related items. Notably, FTEs declined 576 versus last quarter. Other expenses were down $127 million, mostly due to $100 million charitable contribution in the fourth quarter.
In addition, FASB changed how we account for our pension cost. Only service costs are allowed in personnel expense -- only servicing costs. That means that the benefit on investment returns now go into other expense. These costs were down $15 million versus last quarter, and will be repeated for the rest of the year. Merger-related and restructuring charges were up $6 million, mostly due to our facilities optimization.
Continuing on Slide 13. Our capital and liquidity and payout ratios remained strong; common equity Tier 1 was at 10.2%; our dividend payout ratio was at 39%; and our total payout ratio was at 82%. This reflected $320 million in share repurchases, leaving the same amount in share repurchases authority for the second quarter. LCR was 144% and our liquid asset buffer remains very strong at 15.1%. Looking ahead to CCAR '18, we plan to increase the common dividend while maintaining our capital ratios. We expect our recent announcement to purchase Regions Insurance will impact the third quarter share buyback.
Now, let's look at our segment results, beginning on Slide 14. Community bank retail and consumer finance net income was $324 million up $61 million. Net interest income was $886 million, down $9 million, mainly due to fewer days, partially offset by wider spreads on deposits. Non-interest income was down $19 million, mostly due to the system outage.
Regarding residential mortgage and loan production mix was 65% purchase and 35% refi similar to last year. And the gain on sale margin was 1.72% versus 1.53% last quarter. Residential mortgage closings were down 16% similar to the MBA forecasted 17% drop. Non-interest expense was down $22 million, mostly due to one-time bonus last quarter. We closed a net of two branches and expect to close 80 in the second quarter, and plan to close about 150 this year.
Continuing on Slide 15. Average loans declined, driven by seasonality in the mortgage warehouse lending and run-offs in prime auto. As expected, the mortgage loan portfolio stabilized. We continue to expect prime auto to turn and to begin growing in the second quarter. Deposit balances increased $420 million with growth in DDA and money market accounts. And interest-bearing deposit costs were up 2 basis points implying a deposit beta of about 10%.
Turning to Slide 16. Community banking commercial net income was $270 million, an increase of $36 million. Net interest income decreased $12 million, mostly due to fewer days, partially offset by a higher deposit costs. We had a good increase in our commercial pipeline, which was up compared to year end.
Continuing on Slide 17. Average loan balances were up $642 million C&I and CRE were up and annualized 6% and 4%, respectively. Deposits were down $737 million due to a seasonal decline in non-interest-bearing deposits. Interest-bearing deposit costs were up 9 basis points, implying a deposit beta of about 45%.
Turning to Slide 18. Financial services and commercial finance net income was $144 million, up $8 million. Non-interest income was down $14 million, mostly due to lower trading gains and commercial mortgage banking seasonality. However, compared to our like quarter, non-interest income was up $21 million, driven by investment banking and brokerage managed account fees.
Continuing on Slide 19. Average loans were up $492 million with all lines of business seeing growth. Deposits were down slightly, reflecting seasonality. Interest-bearing deposit costs were up 13 basis points, implying a deposit beta of about 65%.
Turning to Slide 20. Insurance and premium finance net income totaled $62 million, up $29 million. Non-interest income totaled $439 million, up $11 million, mostly driven by seasonality. Like quarter organic growth was up 3%, mostly due to 12% increase in new business. Regional insurance will add about $70 plus million in revenue for the second half of the year. Non-interest expense was down $18 million, mostly due to one-time bonus we paid in the fourth quarter.
On Slide 21, you will see our outlook. Looking at the second quarter, we expect total loans to be up 1% to 3% annualized linked quarter; net charge-offs to be in the range of 30 to 45 basis points; and loan loss provision to match net charge-offs plus loan growth; GAAP margin to be stable and core margin to be up slightly; fee income to be up 2% to 4% versus like quarter and expenses to be down 1% to 3% versus like quarter, excluding merger-related restructuring charges and other one-time items; and an effective tax rate of 21%.
Looking ahead for full year 2018, we expect loans to grow in the 1% to 3% range. This decline from previous annual guidance reflects the actual loan growth from the first quarter. Taxable equivalent revenues are expected to be in the 2% to 4% range. This includes the impact of Regions Insurance in the second half for the year. Expenses are expected to be flat to down 1%, excluding merger-related and restructuring charges and other one-time items.
The improvement from the previous guidance reflects additional expense control initiatives and the reduction in FDIs surcharges in the fourth quarter. This also includes the impact of Regions Insurance in the second half of 20118. And an effective tax rate of 20% to 21%. We expect our first quarter revenue momentum to continue and we feel very confident at flat to down non-interest expenses will result in positive adjusted operating leverage for full year 2018. In summary, we had record quarterly earnings, positive operating leverage, strong credit quality and excellent expense control.
Now, let me turn it over to Chris to talk about some of the investments we’re making to serve our clients and grow revenue for the company.
Thank you, Daryl and good morning. We are making significant investments, primarily around three areas; risk management, backroom infrastructure really to help drive efficiencies; and then front room functionality to help drive revenue. We first look at the risk management. We’ve invested significant amount of dollars. I think we’ve been pretty transparent around at in BSA/AML also in cyber security as we think the leader in that area, and also infra where we’ve doubled down this past year in fraud expense.
In terms of backroom digital investments, most of that would be in the area, and I am just going to tick through a list of items that we have underway as we speak. And this is not all inclusive list but represents I think a good breath of what we're doing. First is the continued investment in our leading new retail platform. We’re doing things like credit and debit card controls where you have spend controls where you can limit spend in certain geographic area on/off controls, et cetera. What we’re really excited about is Siri payment for Zelle. So if you want to activate Zelle, you can do it through fingerprint or facial recognition. That should be out in next 30 to 45 days.
We’re also embedding a financial planning tool integrated within U, called EMPOWER for our private wealth clients which we think would be very helpful, and then assorted group of debit card fraud alerts. We have really ramped up over the last year and half our digital marketing campaigns, and really increased that at the rate of about 70% and about 86% of those have a digital component. And to give you an example, our retail checking opened online is up first quarter ’18 over ’17 by 13.5%, business checking is up about 43%, retail savings is up [9.2%], bank card up about 70% all over the line. So we’re actually reaching really good success with that.
We began the fourth quarter implementing something we call Voice of the Client, which is a digital platform that integrates with our business lines and we continue to roll it out this year and in ’19. That really provides near real-time feedback on client issues towards businesses so they can deal with them immediately, and we’re seeing very, very good success with that in the early stages. It also allows them the ability through an iPad to be able to access that information, as I say, pretty near real-time. We’ve implemented Zelle to-date, our lunch date was December 14th. We've enrolled 164,000 clients. We’re opening -- enrolling about 1,400 per day and we’re moving about $1 million a day if you include both incoming and outgoing transactions.
In the second quarter, we’ll implement TCH Faster Payments on the receive payments side and then in third quarter, we should be able to originate payments for our business clients. Another area that we’re really excited about, in February, we rolled out a new mobile app for auto business really to help our clients self-serve and be able to do things like make payments, make promises to pay, just look at the reserves, and we’ve had 15,000 downloads and made 11,000 payments just since February ’18.
We’re implementing something called commercial portal, which is really to simplify the ability for our commercial clients to access our treasury systems really with a single sign-on I think that’s going to be very helpful. And then from an agile dev ops perspective, we've really started a couple of years ago, agile teams in IT area and we’re really beginning to build out our built -- remove out our overall scale of implementing our new rule skills to really to help us, really being to elevate. I am going to focus on three primary areas initially, one is building a small business on-boarding project, as well as some retail online accounts, our ability to open accounts like home equity, unsecured auto and also digital mortgage platform.
And as Kelly has mentioned in some calls past, we started really about a year ago now rolling out robotics in our organization today. We have stood up about 25 bots and 10 processors or so and growing fast. We've got about 75 additional ones. We’re in the process of evaluating and implementing. And then eSavings are really across the whole company. So it’s a digital initiatives just to give a sense.
Our other areas we’re really excited about is front room functionality, and I really comment on a few items we have going on in retail, commercial and also in insurance. You heard Kelly say that in second quarter, we expect our auto business to turn. And one of the primary reasons for that is we, historically as you know, had a prime and a subprime business but we really have not had a new prime business. A couple of months ago, we rolled out near prime and it's really working well and we've seen a ramp-up in revenue opportunity out of that business.
Also implementing a branch home equity loan product, closing the branches that runs on our mortgage rail, expect to have that up in a couple of months. And in June, we’ll roll out a whole new credit card lineup that really offers we think aggressive market-based features, gives travel products to all segments of our clients and really excited about that.
In mortgage, we’re strongly considering and we’ll likely open as we have really over the last two or three years some additional de novo markets within a large corporate business in St. Louis, Denver and Northwest, all under evaluation. We are now participating and syndicating credit through national auto dealerships. We really begin back at the end of last year and we think that can bring some additional balances in this year.
In insurance, as Kelly and Daryl both commented on the acquisition Regions Insurance, was something we were very pleased about. We think it really provides us strategic catalyst to really restructure retail side of our business. And they have -- it's in our backyard, they’re in 10 states, they provide -- we have overlap at six of those states and in Arkansas and Pennsylvania -- I mean Louisiana where we did not have effective markets, they had acquired the largest agencies in those markets. So we’re going to the new markets in a sizeable way, really excited about that.
And then finally in insurance, we have really got a head start in implementing robotics there and so really good opportunities in robotics and also machine learning. So really excited about some of the revenue opportunities and investments that we have made and stand to harvest looking forward.
With that, I’ll turn it back over to you.
Thanks Daryl and Chris. So in summary, I would say the record quarter, record earnings and returns, strong core commercial loan growth, our optimizing portfolios are turning, that's a big deal. We have really strong disciplined and expense focus. But as you just heard, we have substantial future investments to increase our relationship with our clients.
We have positive operating leverage expecting going forward. We have excellent asset quality. We have strong market momentum. By the way, there was a recent study that came out that looked at the best markets in the country in terms of economic opportunity and we’re in seven of the 10. We have three of our largest new markets that we've invested in that being Florida, Texas and Pennsylvania. All of which are turning and relatively making a big positive benefit as we go forward and have enormous opportunity. So all of that put together helps me to still conclude our best days are ahead. Alan?
Thank you, Kelly. At this time, I'll ask the operator to come back on the line and explain how our listeners can join and participate in the Q&A session. Euglena, if you would come back on and explain please.
Certainly [Operator Instructions]. And our first question will come from Mike Mayo with Wells Fargo Securities. Please go ahead.
You're guiding for 2018 for 200 to 500 basis points of positive operating leverage, and you just spent about 10 minutes going through all the investments. So can you just tell us why you're confident about that positive operating leverage? And highlight maybe some of the segments, including insurance.
So Mike, the way we can do that is because we’ve been talking for the last couple of years about our consistent focus and it’s been building in effectiveness with regard to re-conceptualizing our business. So if you look just from the start and say how could that be implicit to your question. How it can be is that we are restructuring re-conceptualizing all aspects of our business front and backroom.
And so basically what we're doing is we're harvesting expenses from the backroom and shifting into the front room. It’s like I’ll use an analogy with our board, it's like you're living in a house and you’re building a new house for the future. You have to take care of the house you’re in and you have to invest for the future. But you don’t have to spend the same money on the existing house that you’re in while you’re investing for the house of the future. So it's about re-conceptualization that's why robotics, AI, all of that is critical. It changed over the last 15 to 20 years, Mike, is this. We now have the tools through advanced automation to be able to do all the things we have to do better, more efficiently and reinvest that money for the future with regard to client satisfaction and revenue.
And by business line, I’m actually here with our insurance analyst, maybe she can ask as far as the improving efficiency or what you expect. In the insurance line, you said the Regions Insurance acquisition could perhaps help you restructure the retail insurance. But Elyse Greenspan, my colleague on the insurance, I think.
So my specific question on insurance, I was hoping you can give us more color on the pricing environment. You guys seemed a little bit more optimistic in the fourth quarter. Did you see improving prices in the first quarter? And how do you see the improving pricing environment translating into a pickup in your revenue growth within your insurance business during the balance of 2018?
Sure, it’s a great question and very insightful. So in the first quarter, we absolutely did see a pickup in pricing. We saw, as you probably heard me on the fourth quarter talk about pricing in the down 2% to 3% range, we actually saw pricing in the up 2% range following the hurricanes we saw in the fall. And I’ll talk about outlook in just a minute, but more about the first quarter. Our retention really is industry relating and retail at 92% to 93%, wholesale is probably more than 75% range, which is also very strong.
But one thing we also saw, which is driven by just a better economic environment is, we had 11.8% new business production. I haven't seen that kind of new business production in probably two or three years, and that is purely driven by new exposures and opportunities in the economic market. By comparison, fourth quarter was 3.7%.
So our core organic growth really jumped from what was been last year in the 1.5% range to 3% given those factors, the pricing, the new business and the retention. On the other side of that, we also have a number of operating opportunities. One is very obvious to you with the acquisition of Regions. You might recall if you pay attention to our business over a last say five or six years, we've done several strategic large-scale items; we had CRC wholesale in 2012; we acquired Crump, which frankly was Marsh’s wholesale business; and then in ’15, we acquired Swett & Crawford, which was Aon’s old wholesale business. And we really have scaled up in that channel. There is not a lot else we need to do there.
We are now focused on trying to do something similar in retail. And the Regions Insurance gives us an opportunity to do that. It’s about 15% the size of our retail business. So it enables us to -- with the business in our backyard to really begin to do some of the same scale than we did in wholesale. We’ve already, as you’ve heard me say, had robotics and machine learning with some really good opportunities in some areas where we already have perfected workflow, we just need to go back now and have bots turn into some of the digital workers, if you will. And there's good opportunities there in the backroom, I would say to drive margin over the next two to three years.
In terms of outlook, which I think is where you were headed with your question. We expect just a normal seasonal pickup next quarter of commissions to be up in the 7% to 8%. We expect economic expansion continue to be good, which we think is going to help drive unit growth and the new business production that we’ve already seen. And I should say the contribution is coming from both retail and wholesale. In this insurance cycle, wholesale obviously is stronger than retail. You follow that just because following large catastrophes, capital tends to lean toward the wholesale side of business. Still pretty tough to impact the full impact of the catastrophes given the access capital to markets. And we know is centered on $135 billion to $150 billion in losses but you also have offsetting that fresh capital coming into the market.
So I can just tell you that we’re up a couple percent currently. What we're seeing is property rights continue to increase at a modest pace. Carriers are really trying to get casualty rates up and professional is fairly flat. You’ve seen reinsurance markets raise their rates in the low to mid single digits but we think there's a good opportunity to hold at 2% up, which is a lot different than in 2% to 3% down market for the balance of the year. Now, that could change. We’ll have new reinsurance rates coming out in the middle of the year.
But we feel good about pricing, we feel good about, our retention is industry-leading, our business production is as good as it's been and we’ve got a number of operating items work on the bottom line. We really feel pretty positive of being able to drive better operating performance over the next couple years in this business.
Thank you. We will move next to Gerard Cassidy with RBC. Please go ahead.
Kelly, you mentioned that you've been out in your markets over the past couple of months and there is a lot of optimism. What do you think is going to be the catalyst to take that optimism to actually see an acceleration in commercial loan demand through your franchise?
Gerard, I had thought a lot about that and I think it comes down to what I call the boomer effect. So our most of the businesses in this country are either owned or run by boomers, and when 2008, 2009 came along boomers and most of which came from fairly a bigger backgrounds not all of them most they got scared because they have build up a nice comfortable and financial position they lost half of it, they got scared and so this has taken them a while to get their confidence back and be willing nicely to execute, so what you are seeing now is optimism their confidence is there but if they delivered and it's evaluating all this products and I hear the discussion is like it normally they might have taken too much evaluating now they have taken six month to evaluate this probably been very cautious.
But I think all of that is just about the play out and so through that their nature of these boomers are still they are achievers, they are growers and they are not real quick and so I think it's right around the corner in terms of turning into actual long executions and planned expansions, equipment purchases and enhanced with our growth and the economy. We will see I would say by the third quarter, you will begin to see it evidenced in loan growth for us and others, and then growth in the economy.
Very good. And then, following up about loan growth, your commercial real estate loan growth was decent in the quarter. Can you share with us two things? One, what type of commercial real estate loans are you having the most success with? And in your region, geographically, are you seeing more growth in Florida versus North Carolina? And then I don't know if Clarke's in the room, but if he is, is there any comments you can make about the underwriting? What are you guys seeing in terms of underwriting standards in the commercial real estate area?
As far as areas of focus for us we're seeing some really nice opportunities as the economy is transforming more digitally in ecommerce much more in the industrial and the distribution marks distribution centers so we're taking the advantage of that and I would say that's pretty much across the board in a lot of our markets, across the mid-Atlantic and the Southeast. We are also doing some hospitality very conservative select retail things like single credit tenants, local anchored grocery, conservative opportunities there and then we are still seeing some in the right markets, certain selected but multifamily opportunity so I think for us it's fairly widespread. So, I wouldn’t say one market over another stands out. I think it's pretty broad-based.
Now as far as underwriting considerations, we are being very careful one of the things that we are seeing that is a little unique right now is it seems a little counterintuitive, some of your construction and development opportunities are probably maybe lower risk than some of the permanent than the fact that you can get really strong equity sponsorship in terms if you are willing to take the seasoning in a lease up risk and if it all works then your ongoing cash flow coverages and debt yields look very strong. Whereas -- but if a loan is fully leased up right now the market is extraordinarily aggressive as far as demand or leverage in the low coverages they are willing to take. So, we're a little more cautious on the permanent side and we are letting a lot of that and go to the secondary market. But overall, I think our underwriting standards are pretty consistent with the more through the cycle look.
Clarke, in the permanent market, are you referring more to the insurance companies then, and other types of financial companies rather than other banks or is other banks included in that as well?
It's mostly the nonbanks it would be the insurance companies, any capital markets executions and then big one on the multifamily size, are the GSEs.
We will move next to Erika Najarian with Bank of America.
I really appreciate some of the specifics that you laid out in terms of your investments spend. And you have kept your efficiency ratio stable at 57% and your guidance for 2018 is pretty clear. As we look to 2019 the street has a 58% efficiency ratio which is ahead of where you have posted over the past two quarters. I’m wondering if you could sort of just take what you told us a step further and maybe talk about the impact on efficiency as the revenue opportunities or that you mentioned that Chris was listing out, actually become more mature in '19? And also, what that means for the expense trajectory beyond this year?
I think what we are hearing say is that we are making these investments. A, we are substantially paying for these investments by expenses where we are extracting from the old business the background if you will. You are right as we head into '19 those investments will turn into revenue enhancements and so I’d say for street is thinking 58% efficiency in the '19 is reaching too hard. So, we see as we move through '19 as from the revenue those are -- I’m projecting the economies getting better so I’m assuming these are revenue growth which is obviously a part of that equation. But we have got a tight control of expenses even with these investments and where these investments turning into more revenue and the economy doing better I think what we are guiding you towards is 57 to down in terms of efficiency ratio versus up.
And in that context, it seems as if you have a very disciplined process for allocating investment spend. Can expense stay similarly flat in 2019 as you contemplate future expenses?
Erika, I got the same question in January. I’m not to make '19 projections at this point but honestly I think there is a piece of chance as we look through '18 and '19 that the best way to think about our expenses are kind of flattish to downish. I don’t see any major driver that could be driving expense up. I think we can make all the investments that we described by harvesting the expense opportunities on the other side. And frankly we are just really, really intense. I’m really intense about expense control. So yes, I think we can think in terms of that I don’t know, you might have projections for '19, I am not doing, its too early, but to concept I am willing to permit is that, I see forward-looking focus on expenses very constant as we head through ’19.
Thank you and if I could just slip one more and I really want to hear what you think Kelly. The feds proposal for the stress capital buffer, it seemed to be positive for high dividend paying banks like BB&T and also regional banks like BB&T. And I’m wondering if the stress capital buffer proposal possesses or rather passes as written, has that change how you’re thinking about capital strategy or capital allocation going forward. Thank you.
So, I don’t think that changes what we think about because, we capital is under the 2.5 before, that affects some of the big banks to take a lot of risk and much different kind of relation. So, all the math of that there was a change of basically fundamentalist [indiscernible]. So, what you think about our capital is we got to a 10.2, call it common equity tier one, we got a firm center of floor. We really got about 1% that we’re holding in reserve for OCI when we probably will do 250, which we will at some point. So, we really have 9 versus 7.5 and so the debate is can you give back some of that 1.5 as you think about moving forward, we have a lot of discussions about that. We also are very focused on a tangible capital level however and so while I will say there is some opportunity for some additional capital deployment, I'm not ready to commit to that at this point.
Thank you. We will hear next from Stephen Moss with B. Riley FBR.
Just want to flesh out the loan growth outlook here going forward. Couple of things. Wondering if you could quantify the increase in loan pipeline this quarter? And also, how we should think about loan growth over the next couple quarters? Will it perhaps be a little bit more weighted towards commercial real estate in the near term? And perhaps broader-based in higher in the second half of the year?
So, the pipeline is broad-based and frankly it continues to build every quarter. And so, the real key as to the question asked earlier, is when the pipeline turn into loan growth. That said I think that thing a different trying to member called the psychology but I think that's moving so you get the pipeline turn into loan growth. It will be very similar kind of growth composition. However, as you seen today is not going to be slanted more toward to really say, towards anything else with one possible exception that is we have executed a new national CRU strategy, frankly in the Grandbridge platform and I think you know Grandbridge is one of the industry we've been constraining it in the past, in terms of this tradition or GSE kind of strategy, we’ve now opened it up and are very experienced to national strategy which will produce relatively more high season CRU types of assets opportunities, so you may see some lift in CRU to account for different strategy but that’s the strategy versus the market mix, the general market is going to continue to give us broad based loan opportunities as we have experienced.
The other thing Steve is on the retail side, we sell residential and mortgage so to grow this quarter that will continue and we expect our indirect portfolio to turn in the second quarter it's been running off now for a while and we expect that to starting to grow in the third quarter and so that will be a big difference. And then in our direct retail we are launching some new products that should help that stop running off and they also start to grow later in the year, so I think on retail coupled with the commercial and CRE I think you are going to see much more robust loan growth out of us in the second half of 18.
That's helpful. And then, you guys have steadily continued to increase your asset sensitivity over the last couple quarters and has showed up in the margin here. Just wondering, should we expect further increases in your asset sensitivity position? And just how to think about the margin over the next several quarters with additional hikes?
We are a little bit more asset sensitive it feels we are trying to become a little bit more asset sensitive but it's really a function of the assets reported on the books and what happens to funding. So, I would say we will stay asset sensitive and as we move a little bit more about what we are a positive thing. It's hard to call because so many moving parts of what goes on there but we are trying to become a little bit more asset sensitive.
Our next question will come from John McDonald with Bernstein.
Just wanted to follow-up on the NIM and the NII Daryl. What led the core and reported NIM to do better than you are expecting this quarter and what are some of the puts and takes for the core NIM to be up next quarter and your outlook?
So, John, I think the key drivers obviously, is we continue to outperform on deposit betas and deposit betas basically came in were only up 24% in the quarter, we expect that to be higher than that so that was a positive. Our credit spreads that we may have a commercial side, all kind of increased C&I spreads are up, CRE spreads are up, were doing a good job in the retail and so credit spreads seem to be positive, so while the volumes are not showing up yet are spreads that were put on the balance sheet is also a positive as we go forward into the year, we expect right now our forecast has two more rate increases, one in June and the other in September and then we have one in '19, so we should benefit as those occur. And as we become a little bit more asset sensitive, we believe that we will continue to have a positive core growth of the non-interest margin and make some reach outs from growth and reported on gap margin whenever in the year possibly.
Could you remind us Daryl, at the current level of betas that you're seeing now, how much does 125 basis point hike. And then what kind of terminal data assumptions are you guys using when you look ahead?
So, our margin on this past quarter from the December rate hike we would have been up 3 basis points this past quarter we didn’t have the adjustment on the tax-exempt assets because of the corporate tax rate change. So, I would say on a 25 move right now we're seeing 3 basis points expansion in margin plus or minus but it's around three. As far as terminal betas go, I think in our disclosures when you look at the segments it's slice and dice very easy to see. So, on the retail side right now our beta is about 10% that will continue to climb overtime, but that's still going to stay really, really low versus historical pieces. On the middle market commercial areas those betas during the mid-40s today they are probably going to continue to go up maybe 50 plus that’s about right. And then on the more rate sensitive that you see in our corporate and wealth areas were 65 and that's probably going to go in the 70s. So, we are too far away from terminal betas on the two later segments that we have, but it's the retailers is what's and a lot lower.
Our next question will come from [Matt O'Connor with Deutsche Bank]
I was wondering if it's possible to parse on the loan growth, how much lift you might get from new products or the expansion for example, into the [near prime auto], just those efforts collectively I guess the home equity and I think there's one or two other you mentioned as well, but how additive you think that could be as you think it about loan growth picking up in the back half the year overall?
So, Matt, this is not an exact science but, in our forecast, I would say that we are going to have more growth. If we grow call it, 2% to 3% range for rest of the year, call it, we are probably going to have a commercial and CRE be in the 4 to 6% range. And then the retail areas, including the RESI mortgage portfolios probably be in the 1% to 3% range. If you look at it that way, and we are split about 50-50 from that if that helps.
And then I guess just how meaningful you think some of these expansion efforts or however you wanted to deploy that. I mean obviously auto is not a new product but is a new target customer. How big can some of those efforts be as you think out I don’t know four years or so.
Matt, it's Chris. Near-prime, kind of tough for us as three or four years out. I mean it's already just out of the box in a couple of months, 30 million 40 million a month. So, I think it can continue to grow. Where it goes is tough to call, honestly depends a lot on kind of the auto market, et cetera. But what it does for us is it provides a real feeling for a void that we've had. And we are already talking to both sides prime and so on. So, it really is a pretty quick start up. The other thing I will mention is, I did mention before that business we moved from a flat B to dealer retention which is also had a nice part. We started that really at the end of March and we are only probably two thirds, three quarters through taking that back to the dealership. So that's also going to have a nice boost for us, and we had very, very good receptivity. All that is a good drive. The home equity loan in the branch is something we used to have before QM, back in 2014 and frankly we are just putting it back end or forcing the back end with all it’s a product we did for years that could be substantial for years it was substantial. And we think that we get a run rate back there that [indiscernible]. How to quantify kind of hard to know.
But in conceptually I’d say that if you think about our growth going forward about half of the lift will be from I’d say the broad-based market, the traditional execution, the regions excreta, and about half of the lift will be the improvement of the optimizing portfolios, the new products initiatives that Chris talked about. All of that road together will be about half, because we got a lot of new stuff happening, so that number is will be those exposure we thinking it more in the 2 to 3% kind of number but we’re not counting on the whole market lifting, we’re assuming the markets can be, may not delivers the markets as more an even great but we are putting all these initiatives and make sure that we cover ourselves into bit more what we hope that we get.
And I didn’t even comment on our full-service growth has gotten [indiscernible] to work together to move in the markets commensurate much like we have corporate for the last three or four years. Going in the Cincinnati Fort Worth Texas national and Tampa and both of those businesses have revenues that are up 15% pretax income of 30% if we run right now. We got a really good momentum as we kind of move to these markets.
Our next question will come from Ken Houston with Jefferies.
This is Amanda Larsen on for Ken. Can you talk about deposit growth and overall balance sheet size as we progress through ’18, I think average deposits were down 3% year-over-year and you tipped down '18 loan growth guidance modestly? Do you see a similar amount of average earnings asset growth and some improvement in deposit growth rates?
I think its real important to manage and you know that, as our loan growth or deposits will grow, they are really a cash that they have and we really try to manage that process, so that if we start getting more growth on the lending side, we’re going to have more core deposit growth. We’re doing a great job just attracting transaction accounts. Chris mentioned that all the digital marketing efforts and the account growth initiatives that we have going on with our retail and corporate areas and we’re getting great growth in our net account growth there. So that’s going to continue. And then on the margin, we’re starting to finally grow our CD deposits and those have been growing for a long time, they actually grew this quarter on a core basis. So, as rates go up we’re able to track some growth there, that helping our asset sensitivity as positive. So, I would say I would plan, for deposits to grow in sync with the loan growth that we’re going to have.
Okay and therefore average earning assets also grow in '18.
I mean average earning assets will rose as those growth, I mean that’s the function as more successful in growing loans, it’s going to drive earning assets. Investment portfolio will not be a growth opportunity for us, it might be flat to down from that perspective. We really just want to optimize the earning assets that we have on our balance sheet and our returns and really drive profitability in the company.
Okay and them you talk about the systems outage, what exactly cause there and what you learn from going to the experience of having outage? Are you thinking about infrastructure spending any differently, given your improved expense outlet for ’18, I would assume your plans have not changed but if you can give us some detail on the thought process there that would be helpful?
While the system average was a significant event in terms of some client impact, I will remind you however that its fairly short duration, it happened on a Thursday afternoon and about Friday afternoon, we are basically up and running. It took a little bit longer for some of the wrinkle to work out but it was a very short event. It was a very simple but serious equipment malfunction, it was new equipment and it was just unfortunate event, of course it went over a couple of days later and examined it myself. I'm not going to get into detail because the discussions that are going it may from discussing the exact detail but I would tell you that it was a very simple thing that should called no alarm with regard to our infrastructure in terms of IT and its resiliency and its redundancy. in fact, we have are just finishing a 300 million new datacenter that has a duplicate redundant data house which is where this occurred.
So, we have already made the investment for the high level of resilience and redundancy. So, there's no additional investment required to respond to that event because the cost structure was already built into place and the event occurred because some of the investments that we made were not fully executed on where they should have been.
The learning from that is and record to all the parties that are involved in these new big investments. There will be mistakes made and the only thing you can do is to increase your focus in terms of managing the risk around that and checking and double checking. I use the analogy at the Board and maybe to help you, it's kind of buying a new car and I hate to buy a new car, I am still driving a 2001 Lexus with 140,000 miles, because I hate buying new cars but every time you buy a new car, you got to go through about three months of working out all the wrinkles. And so, it's fine when you look to the wrinkle both are hassle going through the wrinkles.
And that’s just kind of what you get a little bit up here it's a 300 million great high quality new investment that we made dramatically improves our capability for our clients our resilience our redundancy reduces our risk and it's just that simple.
Our next question will come from Brian Klock with Keefe Bruyette Woods.
I just wanted to follow-up on two things one, Kelly you mentioned that 2019 is a little bit further out, but you did say that it is possible to have flattish to downish expenses in '19 how should we think about that including full-year of operations of their regions and insurance acquisition of those operations or is it a core.
No that includes that.
And a follow-up on kind of that insurance business and the potential impact on capital. I guess, is there any disclosures or give us an idea of what kind of a purchase price, you might have paid or what kind of impact it could have on the intangibles created from that deal.
We do not disclose the terms of the transaction, we don’t view it as significant number and it feels that we are going to basically all of our guidance incorporates the revenue and expense that we gave and it's going to impact some of our buyback in the third quarter.
It’s a situation where [indiscernible] you want to stay active in the future and compete with private equity and it's just sort of at least stay that way.
Our next question will come from Betsy Graseck with Morgan Stanley.
Okay. So just to make sure I understand on the acquisition piece the revenue, expenses, that's in the guidance that you already gave for the full year 2018, because it's going to hit in the 3Q right, is that correct?
Yes, we planned to close it early third quarter.
And then I guess the only reason I was getting asked a lot because it does have some impact on the buyback but is this smaller than a breadbasket impact or is this hey, we should take the buyback out in 3Q?
Hey, Betsy, do you want Daryl to have to repeat exactly what he just said?
Depends on what you want your EPS to look like.
You know our bank very well Betsy you figure it out.
And then just lastly when you were mentioning about how the competition with PE et cetera. Do I sense a tone from that on hey, there is other opportunities in insurance brokerage as well and that because I thought there was a little bit of a slowdown in the acquisitions and insurance brokerage, but I'm wondering if the conversation that we just been having suggest that we should see more in the coming quarters?
Yes, we have had for years sort of our CapEx really 20% this gets us to 17% and 17.5%. So, it kind of does what we need to do there is no real need for us to do anything other significant. If there was a small something that had a product there is small geography that made sense. But there is no real reason for us to do anything. We are fifth largest in the U.S. and the world as it is. I think our focus is really improve the profitability in the business as we said.
So, what it the footprint that regions had gave you because there is some overlap there already but I know they extend into more of the central area of the country and upper Midwest was that a geography that you didn't have before? Or what was it they had that you could benefit from?
Yes, there is 10 states, we overlap in six. We did not have Arkansas, Louisiana, we had a little bit Indiana but the biggest is Arkansas Louisiana. They bought the largest agencies in those markets. So, we go in with substantial, kind of opportunity there. They were also in parts of Tennessee we were in Memphis and so those are meaningful to us.
Ladies and gentlemen that will conclude our question-and-answer session for today's call. I’d now like to turn the conference back over to Alan Greer for any additional or closing remarks.
Thank you and thanks for everyone for joining us today. I hope you have a good day. This concludes our comments.
Again, that will conclude today's conference. Thank you once again for your participation and you may now disconnect.