Canadian Western Bank
TSX:CWB
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Canadian Western Bank
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Good day. My name is Michelle, and I will be your conference operator today. At this time, I would like to welcome everyone to CWB's Second Quarter 2023 Financial Results Conference Call and Webcast. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.
I will now turn the call over to Chris Williams, Assistant Vice President, Investor Relations. Please go ahead, Chris.
Good morning and welcome to our second quarter financial results conference call. We'll begin this morning's presentation with opening remarks from Chris Fowler, President and Chief Executive Officer; followed by Matt Rudd, Chief Financial Officer; and Carolina Parra, Chief Risk Officer. Also present today is Stephen Murphy, Group Head, Commercial, Personal and Wealth; and Jeff Wright, Group Head, Client Solutions and Specialty Businesses. After our prepared remarks, they will all be available to take your questions.
As noted on Slide two, statements may be made on this call that are forward-looking in nature, which involve assumptions that have inherent risks and uncertainties. Actual results could differ materially from these statements. I will also remind listeners that the bank uses non-GAAP financial measures to arrive at adjusted results. Management measures performance on a reported and adjusted basis and consider both to be useful in assessing underlying business performance.
I will now turn the call over to Chris Fowler, who will begin his discussion on Slide four.
Thank you, Chris, and good morning, everybody. Before I begin my prepared remarks, I'd like to say that our thoughts are with the 1000s of people who have been displaced and affected by the wildfires in Western Canada. Our clients and communities have proven their resilience to navigate similar challenges in the past, and we remain ready to provide support to this latest challenge if needed.
We reported adjusted EPS of $0.74 per share, which was down 27% or $0.28 from the previous quarter. The previous quarter included a $0.13 benefit from the reversal of a previously recognized impaired loan write off. The current quarter also reflected three fewer earning -- interest earning days and a provision for credit losses that move towards a more normal level from the very low provisions recognized over the previous two years.
We continue to build meaningful strength and resilience in our organization with a consistent and disciplined risk appetite, which has enabled us to navigate the significant disruption that we've observed in the banking industry during this quarter.
We grew total loans by 2% compared to the prior quarter with increases across our national footprint and very strong growth in our general commercial loans of 4%. Primarily reflecting growth in Ontario that was supported by our Mississauga and Markham banking centers. We delivered another quarter of low credit losses supported by the secured nature of our loan portfolio with conservative loan to value ratios to support the right growth opportunities through the business cycle.
As Carolina will discuss in a moment, we're starting to see credit performance returning to more normal levels compared to the very benign conditions over the last two years. The normalization of credit is expected along with credit losses that remained within our normal historical range through the remainder of the year.
Our regulatory capital ratio strengthened during the quarter without the use of our aftermarket equity distribution program. Our higher capital ratios were supported by the successful adoption of the new standardized capital regulations, which provides lower risk weights for many of our lending portfolios. Matt will speak to this further in a moment.
Our branch-raised deposits declined by 2% this quarter, with the entire decline occurring prior to the global banking industry volatility that escalated in early March. Following these events, we delivered growth of branch-raised deposits were partly supported by strategic pricing adjustments. These changes were made to better respond to increased competition for deposits that arose during the quarter. We exited the quarter with a positive trend of branch-raised deposit growth that we expect to continue to the balance of the year.
As we look forward, we're now targeting lower annual loan growth than previously expected. With the change in our forward view, we'll be vigilant with expense growth against revenue to position ourselves to deliver positive operating leverage through the remainder of the year. With interest rates to remain elevated, we continue to expect that our net interest margin will expand in the second half of the year, but at a slower pace than previously anticipated, primarily due to higher funding costs from elevated competition. We'll continue to drive selective growth in our risk adjusted loan yields to deliver stronger net interest margin performance in the second half of fiscal 2023.
Our teams are focused on the discipline management of our business to adjust to lower loan growth expectations and keep us positioned to finish the year with adjusted ROE within our financial scorecard range of 10% to 11%. Our forecast is to deliver stronger financial results through the remainder of the year and remain well positioned to drive accelerated growth when economic conditions improve as we have through prior cycles.
I'll now turn the call over to Matt, who will provide greater detail on our second quarter financial performance.
Thanks, Chris. Good morning, everyone. We begin on Slide six. Our branch-raised deposits were up 3% from last year, reflected 25% growth in our fixed term deposits partially offset by a 5% decline in demand and notice deposits. In the elevated interest rate environment clients continue to favor fixed term deposits. Overall branch-raised deposits represent 55% of our total funding.
Our sequential performance reflected a 2% decrease in both branch-raised demand and notice as well as term deposits. Demand and notice deposits were down as we intentionally exited select higher cost non-full service client relationships early in the quarter. We grew demand and notice deposits through the second half of the quarter partly supported by strategic pricing adjustments to respond to the elevated competitive environment.
The 2% decrease in branch-raised fixed term deposits reflected our choice to replace select maturities with broker term deposits at a lower relative cost. Capital market deposits decreased by 6% from last quarter, due to a senior deposit note maturity that we also elected to replace with broker term deposits at a lower relative cost. Broker source deposits increased 9% from last quarter. The broker deposit channel continues to be deep and liquid source to raise fixed term funding with maturities between one and five years that are predominantly insured deposits.
Our conservative approach to liquidity management ensures we maintain strong levels of liquidity while in excess of the regulatory requirements. And we continue to hold a liquidity coverage ratio that's higher than the current levels of the large Canadian banks.
Turning to Slide seven, our total loans were up 9% in the past year. Our focus to increase full service client relationships across our national footprint drew very strong 16% growth in the strategically targeted general commercial portfolio. Annual growth and commercial mortgages of 5% primarily reflected strongly lending volumes to high quality borrowers secured by underlying assets within our risk appetite.
The increase in personal lending of 7% was driven by solid new origination volumes, with proven loan to value ratios and strong average credit scores. Both the commercial mortgage and personal lending portfolios remained relatively flat compared to the previous quarter, as new lending volumes that met our risk adjusted return expectations were offset by scheduled repayments.
Our sequential earnings performance has shown on Slide eight. Common shareholders net income decreased 26% sequentially primarily driven by 21 basis point increase in the provision for credit losses and a 3% decline in revenue. Pretax pre-provision income decreased 8%. Compared to the prior quarter adjusted EPS decreased $0.28. In the first quarter, we benefited $0.13 from the reversal of a previously recognized impaired bone write-off, which reflected the combined impacts of a reduction in the impaired loan provision for credit losses of $0.10. An incremental net interest income which benefited EPS by $0.03.
Within the quarter higher non-interest income increased EPS by $0.03, excluding the benefit received in Q1 from the reversal of previously recognized write-offs, lower net interest income reduced EPS by $0.06, mostly driven by three fewer interest earning days this quarter, and a 3 basis point decline in net interest margin again net of the impaired loan interest recovery in the previous quarter.
Higher non-interest expenses reduced EPS by $0.01 primarily driven by seasonal increase in statutory employee benefits, or discretionary expenses for wall contained. Excluding the impact in Q1 from the reversal of the previously recognized impaired loan write-off, the increase in the provision for credit losses reduced EPS by $0.14. EPS reductions also included $0.02 from the impact of a higher effective tax rate reflecting one time true ups and a $0.01 impact from higher LRCN distribution.
As shown on Slide nine, total revenue decreased 3% on a sequential basis. The 11% increase in non-interest income was primarily due to an increase in foreign exchange revenue record within other non-interest income, which was driven by a strengthening US dollar in the quarter. Net interest income decreased by 5%, as 2%, sequential loan growth was more than offset by three fewer interest earning days and a 6 basis point decrease in net interest margin.
As shown on slide 10, our NIM decreased 6 basis points this quarter with half of the impact related to the non-recurring 3 basis point interest income recovery recorded in the prior quarter. NIM benefited 1 basis point this quarter from the full quarter impact of a 25 basis point Bank of Canada policy rate increase made at the end of January, impacting our floating rate loan yields net of floating rate deposit costs.
Fixed rate asset yields continue to increase but were partially offset by lower loan related fees for net contribution of 17 basis points to our NIM this quarter. Higher fixed term deposit costs had a negative 16 basis point impact, as expected the benefit from repricing fixed rate loans at higher market interest rates close the gap this quarter to the slowing impact from higher fixed rate deposit costs.
As I discussed previously, we made strategic pricing adjustments to certain administered rate deposit products during the quarter which benefited deposit growth late in the quarter, but reducing NIM by 5 basis points. Changes to our asset mix and funding mix had no significant impact to NIM this quarter.
Our capital ratios are calculated using the standardized approach and the drivers of our CET1 improvement are shown on Slide 11. Our CET1 ratio increased 22 basis points to 9.3% this quarter. The improvement from last quarter primarily reflects a 15 basis point increase associated with the adoption of CAR 2023 guidelines in the quarter, retained earnings growth, and a decrease in accumulated unrealized losses on our debt securities. And this was partially offset by risk weighted asset growth. No common shares were issued under the ATM program this quarter.
The impact of the lower loan growth outlook that Chris discussed earlier results in moderate growth of our CET1 ratio from its current level throughout the rest of the year, which we believe is appropriate based on the potential volatility and economic conditions and provides us with capacity to support future accelerated growth when prudent. Yesterday our Board declared a common share dividend of $0.33 per share up $0.01 from last quarter and up $0.02 or 6% from last year.
I'll now turn the call over to Carolina, who’ll speak further on our credit performance.
Thank you, Matt. And good morning everyone. Beginning on Slide 13, total gross impaired loans represented 68 basis points of gross loans down from 75 basis points last quarter. The level of gross impaired loans fluctuates as loans become impaired and are subsequently resolved and that's not directly reflect the dollar value of expected write-offs given the tangible security held in support of lending exposures.
Our strong credit risk management framework, including well established underwriting standards, to secure nature of our lending portfolio with conservative loan to value ratios, and a proactive approach to work with clients through difficult periods continues to be an effective approach to minimize realized losses on the resolution of impaired loans. This is demonstrated by a history of low write-offs as percentage of total loans, including through past periods of economic volatility.
I would also note that we do not have any material exposure to unsecured personal lending, including no exposure to personal credit cards. As part of our prudent risk management framework, the overall loan portfolio is reviewed regularly to provide early identification of possible adverse trends.
Turning to Slide 14, I will discuss our commercial real estate portfolio. We are an experienced and specialized lender in the commercial real estate segment. And our strong risk management framework has consistently delivered high credit quality with low credit losses. We take a long-term conservative approach to underwriting commercial real estate, including stress testing, debt service capabilities and vacancy levels.
For real estate projects with target markets where we have deep not the local knowledge and our risk appetite focuses on borrowers in our strongest lending tier with requirements for pre-sales and sufficient liquidity to support projects. Along with discipline project selection to withstand credit slowdown.
We focus on prudent risk underwriting structuring using risk policies and lending standards, sensitivity analysis and ongoing monitoring of our portfolio. Our conservative approach has created a portfolio with strong credit profile that combined with a strategic decision to focus on selective risk adjusted returns has resulted in growth of growth roughly half the rate that our larger peers have grown their total commercial real estate portfolios. Our total commercial real estate portfolio represents 29% of total loans, which is down from 33% five years ago. Real estate project loans now represent 9% of our total loans down from 16% five years ago.
Our commercial real estate portfolio is diversified and residential construction exposures represent over 40% of the portfolio. We continue to see demand outpacing supply for residential development across our footprint. Approximately half of this residential commercial real estate exposure is multi-family residential, and the remaining portion represents development and construction of single-family residential. 9% of our commercial real estate portfolio relates to office space, which is primarily includes exposures for low rise buildings that are located outside large downtown centers.
We are proactive in our low management and have completed a review of our office exposure. We recognize impairments in this portfolio this quarter, with prudent provisions for credit losses added as we work with our experienced specialists and management team in the resolution of these exposures.
Turning to Slide 15, despite elevated interest rates continue to work their way through the Canadian economy, our provision for credit losses was 12 basis points this quarter, and remain below our five-year average of 17 basis points. The performing loan allowance was consistent with the prior quarter and reflected relatively stable default rates and updated macroeconomic forecasts with slight improved housing price growth outlook, and a softer near term outlook for gross domestic product growth.
As we mentioned last quarter, we continue to expect that the impact of elevated interest rates and headwinds in the economy will drive moderate increase in our provision for credit losses in the second half of the year, but remain within our normal historic range of 18 to 23 basis points, reflecting the strong credit quality and secured nature of our portfolio.
We continue to recognize the current economic environment but feel confident of how we're managing the portfolio through the cycle. Before we begin with a question and answer section, I will turn the call back to Chris Fowler for his closing remarks and outlook.
Thank you, Carolina. Turning to Slide 16. The results of lower loan growth expectations in the current environment is delivery the pretax pre-provision earnings, and an efficiency ratio that will not meet our scorecard metrics for this year. As I noted previously, we're taking action to prudently maximize earnings within the lower growth environment.
We continue to expect that our net interest margin will expand in the second half of the year, but at a slower pace than previously anticipated, due to higher funding costs. We will continue to target growth in our risk adjusted loan yields to help support stronger net interest margin performance in the second half of fiscal 2023. We’ll also manage our discretionary expense growth to adjust to the lower growth environment to position ourselves to deliver positive operating leverage through the second half of this year.
As Carolina noted previously, we continue to expect provisions for credit losses to remain within our normal historical range of 18 to 23 basis points, reflecting the strong credit quality and secured nature of our loan portfolio. Through these actions and supported by the strength of our credit performance, we expect to drive annual adjusted earnings for fiscal 2023 in the range of $3.50 to $3.60, and adjusted return on equity in line with our 2023 scorecard targets.
As we look forward, the combination of our robust balance sheet and capital position are experienced as specialized teams in the markets we operate across Canada, and our prudent approach to how we grow have as well prepared to navigate the potential economic volatility that may unfold. As we have in past periods of economic volatility, we will remain well positioned to capitalize on opportunities to accelerate growth when conditions improve.
Before we open the call to Q&A, I want to say thank you for your commitment to CWB. I'd also like to thank our teams for their passion and dedication in supporting our clients. Their collective efforts have earned national recognition as the Business Lender of the year by the Canadian Lenders Association. I'm also extremely proud that for the second consecutive year CWB placed within the top 25 on this year's best workplaces in Canada. Recognition for our commitment to people first culture.
I'll now turn the call back to the operator for the Q&A portion of this call.
[Operator Instructions] Your first question comes from Doug Young of Desjardins, please go ahead.
Good morning. Maybe Matt, if we can start with NIMs? Maybe I'll kind of take this in two-parts. First part, like if you repriced your balance sheet today, what would NIMs be, and how long will it take to get there? Because I know there's a difference in the duration and how the funding cost is moving versus your asset yields? Maybe I'll stop there. And I just got to follow up on NIMs too.
Yes, for longer trend, just mechanics of the book, Doug I point to -- I'd say a trend we signaled last quarter that we expected to start in the second quarter. And that's precisely what we've seen. If you recall, last quarter sequentially, we saw an increase in fixed asset yields of 17 basis points or so, funding costs did increase 29. So that was an unfavorable gap. But that gap had started to close in Q1 and I made the prediction that in Q2, we'd see that gap close. And I think you can see from the slide we put up our asset yields and funding costs were up on a pretty equivalent basis this quarter. And that assets, maybe 1 basis point of benefit. So that's an encouraging trend. And that's exactly what we expected. And just looking at how that book was structured and the churn.
If we play that forward, there's likely about another year or so of this continuing trend where asset yields continue to tick up. And then just structurally fixed term funding costs, we don't expect them to go up much further, just if you're looking at market GIC rates. They feel a bit at peak levels, especially at the shorter term lengths. So we'll continue to benefit and get a NIM lift from just those mechanics over the next year.
Structurally, what does that mean? You know, there's lots of other puts and takes in our NIM, funding mix, asset mix, those are important competitive pricing dynamics in the market, that's important. But if all else was held equal, and we just looked at how the book churned, mechanically, you'd be thinking about a NIM in the mid-250s with of course, many puts and takes.
And that takes about two years to fully get to that. Is that a fair assumption?
Well, the differential in duration between kind of average assets and average liabilities, now our assets sort of being in that high two year range and liabilities in that low one-year range, you kind of have a 1 year, 1.5 year of delta between those two lengths. So that's about what it would take for the portfolio to fully churn. And we're basically we've turned the corner this quarter, and we're starting to see it.
And then the negative on that would be as if you had to raise funding costs, like administering been funding costs, again, because of competitive pressures, like that would be the biggest other delta that would go against that repricing on the asset yield side. Is that correct?
Yes, I mean, that would be something you'd look at as a potential headwind. I mean, we did make an adjustment this quarter. The adjustment we made and we've been very careful on our administered rates, deposit costs really through the first half of the year, and over the last several quarters. The reason why is when you increase pricing there, you effectively reprice, that whole product. And so the impact on NIM, as you saw this quarter, I mean, it can be significant.
Where we're feeling in terms of positioning now, and the reason why we made the adjustment. We'd like to be in line with a competitive data set and where others are pricing this product. We had fallen outside of that band, and made an adjustment to put ourselves in a very comfortable position this quarter. And -- so basically, we're well positioned through looking through the rest of the year, especially one where you think about market interest rates moderating, holding the line on the rates we have on these deposits feels like a pretty strong competitive position. And so I don't know I've circled this as a big risk to our NIM looking forward.
We made an adjustment this quarter in response to what we saw south of the border. Fortunately, none of that hit us up here. There was no impact that we saw on our deposit base. So it ended up being a conservative pricing adjustment and tactic we took. The benefit going forward is it's driven a pretty strong trajectory of growth in those products that'll serve us well as the year progresses. So we're feeling like we're pretty well positioned at this point, Doug.
And then just last on NIM. Like, what is sort of it's not administrate rate funding costs, it's not like mixes obviously can fluctuate, like, what is the biggest risk to your NIM might look?
Well, the big drivers of NIM, if you thought -- if you highlighted funding mix, obviously, skewing to a lower funding cost mix would be beneficial to NIM, obviously. Asset mix is important. So if we're looking forward, and we're not looking for growth to necessarily maximize spread on an absolute basis, anytime we're thinking about spread, it's in relation to risk adjusted returns. So spread relative to the risk.
Composition of our growth is something that can shift our NIM. And if you look backwards, its effectively one of the key headwinds we faced on our net interest margin is over the last several years, there are certain categories of lending that would have had higher yields higher spread relative to others, we just didn't like the risk return trade. And so we got into lending that had a lower absolute spread, but higher average credit quality, low credit risk. And so you know, you don't like the dynamics on your NIM. But looking forward in terms of credit loss performance, it's one of the things that gives us confidence that our credit losses will be well contained and well controlled, looking forward.
So, those are things obviously, market pricing on GICs, broker GIC pricing, capital market deposit pricing, those are things that can impact your NIM. But those are tools and levers and options we'll look at and continue to place funding and where we think the most cost effective places. We just like having that optionality and we'll use it wisely as the year progresses.
And then it takes me to my second question. And Chris, maybe this for you or Matt, like with that in mind, you obviously are slowing your loan growth down, because you don't like the risk return characteristics. Does this have implications on NIM that we should be thinking about because of that, what you just said?
When we look forward -- I'll start and then Chris can get fill in the strategic part of it. But just the mechanics of it. If we're looking at loan growth in a lower growth environment, we are even more -- we're always focused on risk adjusted returns. But in this sort of an environment, you look to set the bar higher. So when I look at the likely composition of growth through the remainder of the year, I don't think it will be a headwind on NIM relative to how we've been growing over the last year.
We've been operating very prudently and targeted and how we've been lending in the normal course here. So it's -- I wouldn't expect a big calibration or big shift in an asset mix that I'd point to as a NIM headwind, but probably I'll throw it to Chris to just lay out just strategically how we're thinking about portfolio allocation, which portfolios, we favor in this sort of an environment. But I wouldn't highlight it as a NIM headwind, Doug.
Yes, agreed. And thanks, Matt. As we think about -- if you see that the growth that we have posted has had higher on the general commercial side. And that general commercial opportunity, of course, is that full service opportunity for us as we look to do both the loans and funding side of deposit side of the clients' balance sheets. So those are the opportunities that we think are very positive, that higher yielding books that have not grown at the pace, we historically did grow them, the real estate project lending and equipment finance. The specific reasons for that, as we think about the environment that we're in.
Equipment finance, of course, the headline, there the head -- the headwind there had been the challenge of supply chain and just lack of product to actually get out to the clients that those couldn't find it remains a very attractive market for us. And we will continue to work with that to grow it and really support it. And project lending will be very specific on where we participate, very targeted on the type of client we take on and the projects in which we finance. So we're very focused on that allocation perspective, and thinking about how we really continue to very practically build the bank in a very positive way.
Again, Matt, specific to general commercial, do you expect to continue to grow. It's real, like which category is where you're more going to curtail to grow, because what I'm trying to figure out?
Right. Well, I would say that you would see less growth in commercial mortgages, real estate project lending. We'd like to see more in equipment finance, as we see more positive opportunities there and continue to focus on general commercial.
The other portfolio I'd highlight, which is no different than anyone else, Doug would be residential mortgages, and that's a low spread book as well. So that's when I expect limited growth.
Okay. I've got a few more, but I'll back in queue for now. Thank you very much.
The next question comes from Darko Mihelic of RBC. Please go ahead.
Hi, good morning. Thank you. I wanted to just follow up on this discussion. I think Matt you just mentioned that the mortgage growth will be slower and its low spread. Is that to say that there's less demand for this product? Or is it that you're actually going to probably avoid it a little bit? Because it is low spread?
Yes. And low spread, it'd be low relative to other opportunities we have on the commercial side. Yes, I think it's a case of one expecting really strong risk adjusted returns and that sort of a portfolio in this sort of an environment. But certainly on the demand side, I think we're seeing that start to slow as well. So it's kind of two factors hitting that one Darko.
Okay. I just want to be very clear on the mortgage you're seeing -- it looks like very strong growth here. And I'm looking at the slide. And you're saying that you're seeing it slow and demand. I think that there's another dynamic here that I'm I just want to make sure that I understand very well, is the funding side. So when I look at -- what you've put together on the slide, which is helpful, by the way, thank you very much for it. But you do mention that you've exited some sort of relationships or some deposits that were not full service demand notice. Can you just maybe describe the nature of those deposits?
Sure. So why don't we get Jeff step in and just kind of outline the strategic way we've looked at deposit profitability. And, obviously, with the pressure just in dynamics of our book, assets versus liability repricing, we've been very mindful of this and making sure we're being as profitable as we can within prudent limits, obviously, on our liability base. So I’ll throw to Jeff.
Thanks, Matt. Good morning, Darko. As we've talked about, the bulk of our deposit book is driven by our full service relationships, and that continues to have positive growth through the year. We have a small portion of our books that is non-strategic deposit only relationship. And on those we really look at the cost closely compared to other funding sources, and made some trades, particularly early in the quarter that we liked other funding sources better and decided to exit a few of those relationships.
Okay. So tying them both together, the reason why I'm asking these questions in a very odd manner, is, when I look at the, the broker market today for GICs, which looks like you've been favoring and growing in lieu of these other deposit relationships that seemingly are non-core. If I were to just compare where you are today versus let's say the beginning of March 1 before you had any disruption.
In the one two and three-year tenor of GIC deposits in the broker market, you're about -- in one year, you're about 35 basis points higher than a large bank. In the two year, you're 72 basis points higher. And in a three year, you're 76 basis points higher than a large bank. And in March 1, you were 17 basis points, 22 and 17. So there's been a fairly significant jump. And that's why I was very interested in the nature of the other deposit that you're exiting, because this is fairly significant.
And the reason why I asked about mortgages is because when I look at the brokered mortgage deposit market, the competition will come from some subprime mortgage providers or near prime mortgage providers. They are only today about two basis points higher than you. So I suppose where I'm going with all of this, is if you've already exhausted or removed a lot of these non-full service fixed term deposits. And the option going forward really is in the GIC brokered market.
You're really competing against a couple of very specific firms that are pushing up their pricing versus bank. And so the question is, specifically within, when you think about those competitors, they have been pushing higher and I've been watching this closely over the past quarter. And is there any reason to believe that they will stop pushing that GIC term funding cost higher for you? Because that's what you're ultimately competing against?
Yes, so a few things on this. First, just thinking about the rest of the year and how we think about funding. I mean, you heard me referenced optionality. And I mean, that's what we've set up for the back half of the year, our branch-raised deposit trend through the quarter overall was negative, we exited on an upswing, and we're seeing that momentum continue. And so, I mean, that's the first channel, you look out on a cost effective basis to drive growth. And if you think about a lower loan growth environment in the back half of the year, it creates a pretty comfortable funding profile, relative to the momentum we're seeing in branch-raised deposits.
But the trade you ultimately look at, and this is the trade we've been looking at, through the first half of the year. And it really intensified your rights, since -- coming basically since March. We've seen the large banks, and you've probably seen this in looking our pricing, not be overly aggressive in that broker GIC market, although they have actually done some volume there, and at times, you see them move up the leaderboard, where they have been especially aggressive and we have seen pricing at times 50 to 75 basis points higher than what we can ultimately pay in the broker GIC market would be on larger kind of non-core GICs.
But when we looked at our preference in that trade would obviously be the lower costs, but you're also obtaining smaller deposits, you can think about the maturity ladder of them, stack them how you need to stack them more bite sized at a lower cost for us. It makes our headline branch-raised deposit number I suppose look a bit worse. But on a relative trade from liquidity management funding profile relative cost, we favored that trade.
And that's something we'll continue to be mindful of its and you basically, look at relative pricing of the various options be that broker be that securitization be that the Debt Capital Markets, be that tactics, you can deploy in your branches, either promotions, marketing campaigns or pricing to drive that channel, you do the economics and you take your best option based on what's presented to you.
Okay, but to be clear, have you sort of finished that? Are there still pockets of these non-full service fixed term deposit maturities that you think you should be replacing here at these prices? Or are you kind of done there? And will we the source of funding going forward really come from the term GIC broker market?
We'll have some decisions to make. No real big ones coming through Darko. But we'll have some that when they come up for maturity, we'll take a look at the relative options and we expect to continue to use the broker GIC market just not to the same volume and extent we did through the first half of the year. I think you'll see us our volumes there taper off.
Okay, fair enough. All right. Thank you very much for taking the questions.
Thank you. The next question comes from Marcel McLean of TD, please go ahead.
Okay. Good morning. And thanks for taking my question. I'm going to start on expenses. Just wanted to get a little bit more information on where you intend to cut expenses. Because given the revised efficiency ratio, I'll look at approximately 51% and we're at 54% year-to-date. So over the next two quarters doing the math, that implies a fair bit of expense cuts, this quarter, it obviously came down a fair bit, and hope that's trending the right direction. But to get to that 51% think I would still imply and still pretty meaningful cuts in the second half. So just wondering where you see those expenses coming out?
Yes, fair enough. And let's start with just maybe the Q2 expenses as we anchor to that and just think from Q2, where do these trend through the back half of the year. What are we thinking about?
I mean, you start at salaries and benefits. It's two-thirds of our NIE. So that's the one. We've been managing tightly there, whether that's salary increases. I think if you do some back of the envelope math, you'll see we've been pretty well contained. Although, of course, we've had to make inflationary adjustments, but not to the same extent as others. It's been very well managed.
The way we'll manage that looking forward, obviously, it's a lower growth environment. We'll have attrition as the year progresses, and we'll just be very mindful on how we ultimately backfill those rolls, do we go person for person roll for roll? Do we take that headcount and deployed elsewhere?
We let that level of headcount run down a bit, these are the sort of levers and options we'll think about as the year progresses? But we will be laser focused on any -- every single headcount we add will have a high degree of scrutiny and will need to have strategic value and making that addition. So that's one where we will be tight and sharp on that.
Within the Q2 number, I mean, you see that, we had a bit of a tick up. And that was due to some sales incentives, based on growth delivered, kind of on a trailing basis, if you think looking forward, just organically, we'll get a bit of relief on that number looking forward as well. On the premises and equipment, I think Q2 is a reasonable run rate, I think we'll see that tick up a little bit. Just as we get digital, kind of continue working and over the finish line, but it'll be a pretty close run rate through the rest of the year.
And then if you go down to that category of other expenses, on the discretionary expenses, overall, I'd expect us to hold the line on those levels through the first kind of the Q3 and Q4, we'll look for opportunities to nip and tuck where that makes sense and were prudent. Usually, in Q4, we see an uptick in that bucket of other and that those discretionary expenses, particularly, our intention this year would be to basically hold the line on the trend through Q3.
And then within that bucket, if we look specifically at the Q2 number, within the, I suppose other category of other expenses, we had a few kinds of one-time non-recurring -- I wouldn't expect them to reoccur, for instance, in filing our GST returns, which is an annual activity, there was a bit of a true out needed there.
In our normal run rate for these other expenses should be more like 3 million, not the 5 million that was recognized this quarter, so we'll get some benefit there. So, I think if you take that recipe I just laid out and put it together, it should help you square the math on how we're thinking about expenses for the back half of the year, just managing it very tightly.
Okay, thanks. I appreciate that color. Then my second question is on the area of quarter. Significantly larger proportion of the bank's overall loan, but compared with larger peers, obviously, given your more commercial posture. Simply if you could speak to the reserve levels, your holding against those loans, typically. And how that compares to maybe say a year or more ago, how that's trended in terms of conservatism. And any other metrics you wish to provide or highlight, like LTVs of the office portfolio or vacancy levels or anything like that, that'd be helpful?
Sure, Thanks, Marcel. Yes, we've participated in the CRE market for our entire history. And it's a very disciplined approach that we do take both on the construction side and on the commercial mortgage side, in terms of on the construction side, thinking about through the borders location, how we structure all of that, with respect to pre-sales and, or is equity in the structures that go into place there.
When we look at the commercial mortgage side, we lend to the rent rolls, thinking about mortgage ability, looking really across industrial, commercial, retail and office and offices of the smallest of all the sectors we lend into. We did experience impairments in that office sector this quarter. And we're really looking at how we measure and set up the provision there, we want to be very conservative, we always are conservatives, when we think about setting up provisions, because we want to make sure it's one hit. And then we work to resolve them.
We've got a strong team that we've always had on that credit resolution side or our special asset management team. And really focus on resolution of these loans working with the board and guarantors to those loans to resolve them. So it's really a structured approach of how we deal with those areas. And really have -- making sure that we have momentum all the time.
Well Carolina, if you want to add anything further.
Okay, so thank you, Chris. When we look at been permitted quarter and the provision the PTL, we put forward once at related directly to commercial real estate specifically in the office market. But when we did a conservative review of the portfolio and that's what took that approach in terms of level of provisioning this quarter.
When we look a little bit at the loan to value levels on our commercial real estate, we have only about 20% of it below 65% loan to value. So it's like we have really strong loan to values and we have -- sorry, we have less than 25%, above 65%. So it's a good trend, we continue to work closely and looking at our relative values of the property. And we have a diversified look on the properties we hold with only 9% in the office space, with very selective asset classifications as well. And looking at offices outside of downtown center, smaller, low rise offices that have better marketability, and are easier as well. And we're following close to vacancies as well.
Thanks. I appreciate that context. I did have one follow up on, I think Chris or Matt, I'm not sure if you want take this one. But you mentioned -- I think I heard you earlier on the call say that we expect the relative proportion of theory to continue to trend down and then the slide is highlighted that it has come down over the past five years. I was just wondering the thinking over the last five years, because really, theories only become a potential issue in the last sort of 12 to 24 months. So just wondering what the thinking was in sort of bringing that portfolio down. And if there is a level you’re targeting that you feel is appropriate for your bank. What this ultimately makes up?
Yes, so the reason that has occurred, and you'll have seen that in our numbers, obviously, is the fact that it is the most competitive area of on the commercial mortgage side, so the commercial mortgage side is the most competitive area, every bank is involved in it credit unions, there's often pension funds life costs. So there's a lot of players in that market. And what we always try to do is really look at the risk return. And what we really found in this last couple of years in particular is very strong competition in there.
And we've grown at a much slower rate than, say the large banks have in that category. And it's really been that risk return measurement where we've looked at and said, we just not seeing these, and quite often, they're not necessarily that full service client, they are an opportunity for a sound asset that we look to look continues to find if the risk return works, we're happy with it. But we're not going to go and lean out just to take on more exposure just with division returns. So we're really, we want to be picky in that market, and choose the structures, locations and employer profiles that we're comfortable with.
Okay, thank you. I appreciate. Thank you.
Thank you. The next question comes from Gabrielle dishing, National Bank Financial, please go ahead.
Good morning. A couple of questions here. With the loan categories that you listed that are going to be slower growth and slower growth, long growth overall. Can you give me a sense of what the ATM usage will be, if any going forward? Because you didn't use any this quarter, obviously?
And then the second question I have has to do with the -- right now I'll wait on that actually.
Yes, so on the ATM usage. I mean, last quarter, I laid out the conditions under which we wouldn't use it. We basically looked at adopting new standardized capital guidelines, but lined up very nicely actually, to how we think about lending and got some risk weighted asset density relief and basically a capital base that can support higher levels of growth based on how we target growth and the prudent approach we take to risk it lined up nicely and gave us some support.
What we saw in actually adopting it, this quarter is precisely what we expected and something we'll continue to leverage and target. So that's been a positive. The second piece I lined out was there’d be unrealized losses in the debt securities portfolio. I know that was quite topical this quarter, south of the border. I think I feel like I've been talking to you guys about this for the better part of a year. But we're just seeing that continue to perform as we expect those bonds. They're short, dated as they're maturing, rolling off that unrealized loss and that portfolios ticking down.
And, again for our entire debt securities portfolio, we hold dollar for dollar capital against those unrealized losses. So as that occurs, that puts wind in our sales. And then just thinking about mid-single digit long growth, I mean, that's obviously a quite comfortable level of growth. If you thought about it from a capital perspective. It's not the driver but the outcome is that we see are set lined just organically building from these levels, which I suppose in this sort of an environment, not a bad idea to have dry powder and ready to be opportunistic when you kind of get through the cycle and things start trending upwards.
So mid-single digit long growth, you don't need to use the ATM?
To accommodate that level of growth, no. We can accommodate that level of growth in our organic capital generation the ATM than just it's there if something unusual occurs, and we need it, but our -- we would expect to not.
Got it. Now, credit loan losses were lower, and you saw the impaired loans balance go down about 10% from last quarter. But within the GIL balance, I saw a $70 million increase in commercial mortgage impaired loans. And that’s been moving higher pretty steadily for the past year. What can you tell me about the loan or the loans that became impaired this quarter? You know, industry classification, whatever, and what your loss expectations are?
So high Gab? So as we mentioned that the impairments this quarter and SEC was related to various properties, commercial mortgages properties across different asset classes, some of them on the office space, mostly suburban office space properties that went to impair it and prudently and conservatively looking at the asset values and locations of this. We took that impairment.
So what we're seeing is, as expected, and as we've been saying, since last quarter, we do expect an increase in our professions going forward, there will be trending towards, but do we see our average range of 13 to 18 basis points. And we will see that probably consecutively growing in the next couple of months, couple of quarters. But it's quite aligned with what we've seen historically from a trend as well.
So the 70 plus million, how many properties and where were they?
It was various properties across an imperative loan that we took as well on the loans. And most of them were in Western Canada.
Okay. And how much of that with office?
Yes, it was mostly suburban offices. I would say, I don't know the specific of that amounts, but it was mostly suburban offices.
Okay. All right. That's it for me. Thanks.
Thank you. The next question comes from Paul Holden of CIBC. Please go ahead.
Thank you. Good morning. I want to ask a question regarding the branch-raised deposits, obviously, the departure from plan this quarter. And for some reasons that impacted I'd say, all banks. If I go back to your investor day presentation, you had an interesting time series just showing the magnitude of branch-raised deposit growth for Canadian Western Bank versus the big six, and there was just a huge increase in sort of the 2020 2021 type timeframe. Is it possible that some of that growth was simply a benefit of industry dynamics and that built in excess savings for commercial customers generally and now that's unwinding it as is for the industry?
And, I guess my basic question is, is there is there continued risk that maybe you have a hard time meeting a deposit objective in the near term because of the normalization and deposit amounts? And how would you view sort of the need for core savings versus excess savings with your existing customers?
Yes, so I'll start and then Jeff can fill in the blanks just strategically how we thought about deposit growth, just over really the last year. But yes, I mean, we thought about support and stimulus being flooded into the economy, of course, that resulted in an uptick in deposits. And I wouldn't point anything specific on our end that would have had us have a different trend or an outsize benefit relative to the large banks. I think the whole economy and the whole system benefited significantly and perhaps one thing I could point to anecdotally, and I'd have to really dig into some data to support this, but with us, we have a larger commercial base.
Larger banks, obviously having the retail base where I look at where most of the stimulus and support went. I think it went into the retail wallet, rather than that commercial client's bank account. But let's say, we've benefited about the same proportion. And I think we've all seen similar dynamics and how this has ultimately been used up, whether that by retail customers in their spending or businesses and running the operation of their business. We've seen this really occurring over the last year or so. And so when we thought about deposit growth for this year, yes, we were thinking about that churn and trend.
And I wouldn't point to that as something being beyond what we expected or anything surprising there. Where are we positioned today? What's left to occur? When we look at kind of average balances, by customer, it's starting to look fairly close to back to normal, at least for commercial customers.
On the retail side, there might be a little bit of access still to turn through, which I think will be a different trend, perhaps for the large banks going forward versus us. But I think those are the dynamics and so nothing surprising there, Paul, and I think what you laid out is very logical and exactly what we've been seeing I just not sure I agree with that we would have benefited more than the large banks, I think we all benefited but the author would have Jeff just to talk about, you know, the pricing tactics, the strategy, because this is something that has got from a headline number perspective, we've made some trades on that branch-raised deposit headline number, because we've had other options.
Yes, so I agree with what Matt said. And I think the other bit I just added on the macroeconomic environment is as high as interest rates are, we have some clients that are choosing to pay down debt instead of holding deposits. And so that's also a bit of a headwind for the industry in general. But when you look at our numbers, in particular, we talked last quarter about through the first part of the year, we made the choice to prioritize NIM, at the cost of some of our deposit growth. With the events down in the U.S. while we saw no deposit runoff following what happened there, we decided the right thing to do was to build a liquidity. And so we made a shift, we've been growing our branch-raised deposit since that point, and expect to do so for the balance of the year.
Yes, it's a bit of a math problem. All when you think about the rest of the year, like you've look at the headline guidance, I guess, of single digit growth on a full year basis. And, that doesn't look overly robust. But you really have to break the year into two halves, like to get to that low single digit deposit growth on a full year basis, you look at negative growth through the first half of the year, we're seeing and we're projecting it to continue through the back half of the year, very solid, pretty strong branch-raised deposit growth to get to that number.
And so you think about dollar amount of deposit growth in the back half of the year, against dollar amount of the lending, we put up. Kind of our base case expectation is branch-raised deposits fund, the vast majority of that growth. And that's sort of the base case and how you think about a funding plan.
And then you have the optionality, though, to continue looking at other potential sources we could tap into if we thought it was a better position on a more cost effective basis, relative to, you know, the tactics you take in the branch-raised channel to continue to drive growth. We like the optionality and that's a theme that will continue through the rest of the year.
Okay, that's a very detailed and helpful answer. Thank you. And then I'll just throw in one more. So I heard some commentary around pulling back, your appetite for loan growth based on where risk adjusted margins sit and fully appreciate that and would agree with the view you're taken.
But then just how to reconcile that against the PCL expectation of going back to the normal band. Like, if risk is a little bit elevated, maybe it's more of a price dynamic. And you can clarify that risk is a little bit elevated, should we expect PCLs to also be maybe a little bit elevated versus the normal band.
You think about risk and two buckets, I'd say. So, there's risk you see out that, when you look forward, you see an element of risk, and you compare that against the pricing you're seeing in the market, and you can take a position that you just don't like those economics, while at the same time looking at that level of risk and saying, its elevated, but not so elevated, compared to the strength of our existing credit portfolio that we think our losses, get away from us here.
Its so for sure, in the way you framed it is it is a pricing and a returns relative to the risk rather than something we're trying to do because we're worried about the underlying credit quality of our portfolio, from that perspective, we're feeling solid and our provisions we've been building them up really over the last three quarters, and we're feeling very comfortable with where we sit relative to a deep look at the current portfolio, this is more about forward looking and pricing relative to risk on the lending we're seeing out there. It's just -- it's not squaring for us at the moment, maybe it is for others. But I mean, that's how we're thinking about this into pieces.
Understand, that makes sense. Thank you. I'll leave it there.
Thank you. The next question comes from Joo Ho Kim of Credit Suisse. Please go ahead.
Hi, good morning, and thanks for taking my question. I just had a couple quick ones, maybe for some mortgages.
Sure. Just ask.
And I appreciate that your mortgage book is a bit different than what you -- then what we see from your bigger peers. But could you give us a sense on what you're seeing from your borrowers? Whether you're seeing any changes in activities, perhaps on the payment rates and curious what you're also seeing from your borrowers from the -- what you're seeing upon the renewal of the mortgages? Thanks.
Sure, presumably you're talking personal mortgages?
That is correct.
So, when we look at our book, certainly, we have a number of renewals coming up at much higher interest rates than they were initially, the B-20 stress test certainly helps. Because as we did these mortgages, they all qualified, recognizing they could do 2%, higher than whatever their rate was at inception. And so we watch our book closely, we have a pretty good idea as renewals come, which clients may have a bit of a challenge, and we work with them directly. It's a pretty small percentage of our book, frankly, that having those challenges. But there's tools that we can work with in the structure to help them through this. And then in the background, frankly, we have fairly low LTVs. That give us comfort, if we do run into a challenge.
If I can just add to that. The tenure of our book, it's shorter compared to other participants in the market. And so we've had already, just over 20% of our books that have been renewed at already higher rates. And when we look at the delinquency and performance of the portfolio it's still quite strong.
So even at the higher rates we're seeing our clients in a position to continue making the payments. And as Jeff said, for those that we could see some strain, we are proactively talking to them and making sure that that we can manage through the timing. So, we're feeling very comfortable with a state of higher mortgage books.
Thank you and maybe just to follow up, is there any way you can size the borrowers that may be having trouble maybe meeting the payment requirements are up on renewal? Just to fill in.
I think the best thing you would probably look at is our delinquency rate, which although it has ticked up from abnormally low rates through the pandemic continues to be below pre pandemic levels.
Okay, sounds good. Thank you. That's it for me.
Thank you. The next question comes from Nigel D'Souza, of Veritas Investment Research. Please go ahead.
Thank you. Good morning, I wanted to circle back on deposit. Again, just a couple follow-up questions. First, could you elaborate on the pricing differential spreads between your branch-raised deposits and the brokerage challenges? Trying to get a sense of it makes the shipment better believe what the drag could be on that? And then trying to understand -- trying to get your comments on loan growth, do you expect that the moderate -- does it also mean that they want us to compete on pricing as aggressively against competitors and inappropriate talent. That way, you see it. And do you see that as a tailwind for NIM?
Yes, I mean, it's something that could be helpful to NIM, I mean, we'll obviously pick our spots. And I think what you've heard us say is that, our spots, we're defining as something that have really strong risk adjusted returns. So, all in all -- and then a lower growth allows us to just be really leverage all the options available to us to fund that growth and target lowest cost. So yes, it becomes easier to manage your NIM upwards under those conditions, certainly.
And when you thought about, kind of branch-raised deposit, pricing relative broker pricing, I guess it depends on what sort of product. So if we thought, pound for pound, retail, GIC raised and the branch channel relative to a GIC raised in the broker channel. You're immediately saving a commission about 25 bps, if you raise it to your branches.
We're also -- some deposits are raising through that channel would be at equivalent rates to broker others, you could get away with a lower rate. So you might have some overall savings there. But that's how you think about it on a term basis.
We thought about it on the basis of call it that demand and notice as an overall pocket, it would be considerably cheaper for most deposits in that channel than broker. So I mean, that would be the preference, if you thought about it, just from pure NIM perspective. But when you're raising funding, you're also as we always do, you're always thinking about liquidity profile of those deposits.
When we think about profitability of deposits, we're factoring in the liquidity we'd hold against those deposits. And so we're pretty, pretty conservative, when we think about demand deposits, in particular of how much liquidity we put up against holding those deposits. So that can impact your economics as well. So it's hard to do just a pure rate comparison, because there's a few other factors involved when you're thinking about demand versus term funding.
Okay, that's helpful. And then on the dividend increase, it's been understand the rationale out there. Why not maintain the dividend build with more dry powder given where we are in the cycle, and then deploy that? So the balance sheet or to tie back first off that we can understand. Just trying to understand from the rationale office we are to contact or remove the excess capital because the useful coming out of it?
Yes, and you thought about the dividend increase a penny, I mean, that's about one basis point of CET1. So I wouldn't look at that as a material driver of capital. When we look at the dividend increase, obviously, we're looking to provide a good return, but also trying to manage to what we think is a very reasonable payout ratio.
With the increase, I mean, we're basically in the mid-30s, which, for us is obviously very comfortable. And it's about looking at the forward trend of earnings as if we don't keep pace on the dividend, that payout ratio just starts dipping and dipping. And it's already a little bit lower, relative to some of the large banks peers. So I think when we look at a dividend increase and why we're comfortable with it, I mean, we see despite lower growth, a lot of levers that are available for us to pull to really increase the earnings power and earnings efficiency of this bank relative to that lower growth. So I take that as a vote of confidence in that earnings outlook as well.
Okay, that's helpful. That's it for me. Thanks.
Thank you. There are no further questions at this time. Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.