PNC Financial Services Group Inc (PNC) — Q3 2018 Transcript

Well, thank you, and good morning, everyone. Welcome to today’s conference call for the PNC Financial Services Group. Participating on this call are PNC’s Chairman, President and CEO, Bill Demchak; and Rob Reilly, Executive Vice President and CFO. Today’s presentation contains forward-looking information. Cautionary statements about this information, as well as reconciliations of non-GAAP measures, are included in today’s earnings release materials, as well as our SEC filings and other investor materials. These materials are all available on our corporate website pnc.com under Investor Relations. These statements speak only as of October 12, 2018, and PNC undertakes no obligation to update them. Now, I’d like to turn the call over to Bill Demchak.

Thanks, Bryan, and good morning, everybody. This morning, you would have seen PNC reported third-quarter net income of $1.4 billion, or $2.82 per diluted common share. Overall, I thought we delivered another really solid quarter, highlighted by continued progress on our strategic priorities and our key financial metrics, all moving in the right direction. We grew average loans and deposits, and we continue to add new clients. Net interest income increased, NIM expanded, and fee income grew. In fact, we hit a record high for fee income through nine months, with increases in basically every category other than residential mortgage. We continue to manage expenses well, with the small increase this quarter reflecting higher business activity. Credit quality also remained strong, with nonperformers and net charge-offs down, and our tangible book value per share grew again. We’ve raised the quarterly dividend to $0.95 in August. I do want to touch on loan growth for a second, because I know it’s something you were all watching closely. While we did see modest growth in the quarter, consistent with industry data, our corporate loan growth came in below our expectations. We attribute the shortfall to a combination of several factors, including elevated competition, significantly higher payoffs this quarter, and paydowns and overall lower line utilization. The higher payoffs and paydowns appear to be driven by competition from non-bank lenders, excess corporate cash, and attractive opportunities for our clients in the bond markets. Interestingly, our secured lending businesses, excluding real estate, which collectively comprised roughly a third of our book and faced less competition, grew at almost 3% this quarter. While we recognize these challenges, we can impact all of them directly; what we can and are doing is executing upon our Main Street model, providing value-added solutions in a world-class service. We continue to add new customers and deepen relationships that meet our risk-adjusted returns. On the consumer side, I was pleased to see loan growth again this quarter. While our outlook for fourth-quarter loan growth is up modestly, as Rob will review with you a bit later, the economy is really strong. Consumers are in great financial shape, and companies are optimistic and growing. Recent market disruptions may help to alleviate some of the challenges that I outlined. We expect to see continued opportunities for loan growth moving forward. To that end, we are experiencing success in our national initiative to expand our middle-market corporate banking franchise and faster-growing markets. We also recently launched our national retail digital strategy, leading with a high-yield savings account and offering our virtual wallet checking accounts, which will be supported by an ultra-thin retail network. In fact, we just opened our first out-of-footprint retail location in Kansas City earlier this week. As we work to expand the reach of our brand, we are excited about how we are positioned to drive growth and efficiency over time. Before I hand it over to Rob, I want to thank our employees for their continued hard work, as well as our clients for their trust in us. With that, over to you, Rob.

Great. Thanks, Bill, and good morning, everyone. As you’ve seen by now, we reported net income of $1.4 billion, or $2.82 per diluted common share. Our balance sheet is presented on an average basis on Slide 4. Total loans grew approximately $700 million linked-quarter and $4.1 billion compared to the same quarter a year ago. Investment securities increased $3.3 billion, or 4% linked-quarter. Our cash balances at the Fed averaged $18.8 billion for the third quarter, down $1.9 billion linked-quarter and $4.6 billion year-over-year. Deposits were up 1% on both the linked-quarter and year-over-year basis. As of September 30, 2018, our Basel III Common Equity Tier-1 ratio was estimated to be 9.3%, down from 9.5% as of June 30, reflecting continued capital return to shareholders and a decline in accumulated other comprehensive income. Importantly, we maintained strong capital ratios even as we returned $914 million of capital to shareholders. We repurchased 3.3 million common shares for $469 million and paid dividends of $445 million. Our return on average assets for the third quarter was 1.47%. Our return on average common equity was 12.32%, and our return on tangible common equity was 15.75%. Our tangible book value was $73.11 per common share as of September 30, an increase of 5% compared to a year ago. Turning to Slide 5, average loans were up approximately $700 million linked-quarter and comparable year-over-year. Commercial lending balances increased approximately $200 million compared to the second quarter. As Bill mentioned, our pipelines were strong throughout much of the quarter, but payoffs and paydowns were substantial. Compared to the same quarter a year ago, total commercial lending increased $3 billion and growth was broad-based with the exception of real estate, which declined by $1 billion. Importantly, we’re seeing momentum in consumer lending. Balances increased by approximately $500 million linked-quarter and $1.1 billion year-over-year. We had growth in our auto, residential mortgage, credit card, and unsecured installment loan portfolios, while home equity and education lending continued to decline. Deposits increased by $3 billion, or 1% compared to the same period a year ago. On a linked-quarter basis, deposits increased $1.5 billion, driven by seasonal growth in commercial deposits. During the quarter, consumer demand deposits decreased somewhat, reflecting seasonal consumer spending. However, our time deposits increased, reflecting higher rates. Our overall cumulative deposit beta increased in the third quarter to 29%, driven by both commercial and consumer. The cumulative commercial beta is near our stated level, however, our cumulative consumer beta is only 15%, compared to a stated level of 37%. Increases in our overall betas, which we expect to continue, will primarily be driven by the consumer side going forward. Our net income in the third quarter was $1.4 billion. Revenue was up 1% linked-quarter, driven by growth in both net interest income and fee income. Noninterest expense increased 1% compared to the second quarter, reflecting higher business activity. Provision for credit losses in the third quarter increased slightly to $88 million, as overall credit quality remained strong. Our effective tax rate in the third quarter was 15.7%, a result of the timing of certain tax benefits that mostly occurred in the third quarter. You’ll recall our tax rate in the second quarter was somewhat elevated at 18.3%. Combined and viewed on a year-to-date basis, our effective tax rate year-to-date was 17%, consistent with our guidance and expectation for full-year 2018. Total revenue grew 1% linked-quarter and 6% year-over-year. Net interest income increased $53 million, or 2% linked-quarter and $121 million, or 5% compared to the same period last year, as higher earning asset yields and balances were partially offset by higher funding costs. The linked-quarter comparison also benefitted from an additional day in the third quarter. Net interest margin was 2.99%, an increase of 3 basis points compared to the second quarter. Noninterest income decreased 1% linked-quarter and increased 6% year-over-year. Importantly, fee income grew 1% linked-quarter and 8% compared to the same quarter last year. Our fee income on a year-to-date basis was a record-setting $4.7 billion, with increases in every category except for residential mortgage. The main drivers of the linked-quarter fee increases were: asset management fees, which include our earnings from our equity investment in BlackRock increased $30 million or 7%, reflecting higher average equity markets. Discretionary assets under management increased $10 billion in the quarter. Service charges on deposits increased $17 million, or 10%, reflecting a seasonal increase in consumer spending. Corporate services fees declined $22 million, primarily due to a lower benefit from commercial mortgage servicing rights and lower loan syndication fees, partially offset by higher M&A advisory fees. Notably, Harris Williams had another record quarter. Finally, other noninterest income of $301 million decreased $33 million linked-quarter. Visa derivative fair value adjustments were negative in the third quarter and positive in the second quarter, resulting in a change of $59 million. This was partially offset by higher private equity investments. Going forward, we continue to expect the quarterly run rate for other noninterest income to be in the range of $225 million and $275 million, excluding net securities and Visa activity. Third-quarter expenses increased $24 million, or 1% linked-quarter. Personnel expense increased $57 million linked-quarter, largely as a result of incentive compensation expenses relating to business activities and an additional day in the quarter. Every other expense category declined quarter-over-quarter. Compared to the same period a year ago, expenses increased $152 million. Personnel expense grew $127 million year-over-year, reflecting revenue growth, higher staffing levels to support business investments, and the increase in the minimum hourly wage commitments we made to our employees at the beginning of the year. Additionally, marketing expense increased to support business growth, including our digital expansion efforts. Our efficiency ratio was 60% in the third quarter, unchanged on both the linked-quarter and year-over-year basis. As you know, we have a goal to reduce costs by $250 million in 2018 through our continuous improvement program, and we are confident we will fully achieve that target. Our credit quality metrics remain strong. Total nonperforming loans were down $25 million, or 1%. Total delinquencies were up $67 million, or 5%, and included higher auto loan delinquencies in the 30-day to 59-day bucket, related to the impact of Hurricane Florence. Provision for credit losses of $88 million increased by $8 million linked-quarter, reflecting a higher consumer provision, primarily due to credit card and auto loan growth. Net charge-offs decreased $18 million compared to the second quarter. In the third quarter, the annualized net charge-off ratio was 16 basis points, down 4 basis points linked-quarter. In summary, PNC posted strong third-quarter results. During the fourth quarter, we expect steady growth in GDP, and one more 25 basis point increase in short-term interest rates in December. Looking ahead to the fourth quarter 2018 compared to third quarter 2018 reported results, we expect loans to be up modestly. We expect both total net interest income and fee income to be up low single digits. We expect other noninterest income to be in the $225 million to $275 million range. We expect expenses to be up low single digits, and provision to be between $100 million and $150 million. With that, Bill and I are ready to take your questions.

Good morning, guys.

Hi, Scott.

Okay. First question just on loan growth. The guide for the fourth quarter is consistent with the guide for the third quarter. Just curious if you could give us a sense for overall trajectory. Should we be expecting it to be the same level, maybe a little better and why? And then, I guess, Bill, just as you look at the numerous factors that seem to be impacting growth for you guys in the industry, given where we are in the cycle, what would it take for loan growth that banks like PNC to be able to reaccelerate towards something that you would expect would be more normal, given the strength of the economy?

All good questions. So our guidance for the fourth quarter shows we are seeing up modestly. I would tell you that our forecast as it sits today is up a little bit over the growth rate that we had in the third quarter, so a little bit better. But I would also say that we were surprised by the third quarter. Our actual production and new clients were pretty good. We saw this broad-based utilization drop and we saw a lot of paydowns that we hadn’t expected. I don’t know how to forecast for that. I look at some of this disruption and some of the value lost in corporate bond funds, and I think maybe that will slow some of that down, but I don’t know, which is why we put the forecast out that we did. As I think forward and you say, what should trigger growth here? As we talk to companies, they are really bullish and they are investing, and we see CapEx expenditures going up. So you would think it would follow through in loan growth. However, we have seen a preponderance of non-investment grade borrowing and even the volume of BBB inside of investment-grade and then the size of the corporate bond markets, all of which are playing against banks as sort of the shadow banking system has taken a lot of volumes. I would like to think that it would change for the better, but we have some structural changes in the market that we saw play out in the third quarter that, at least, in the near term are impacting us.

Okay. All right, I appreciate that color. And then, Rob, if I could switch for one second to the deposit side, total deposit growth still fine, but a little bit of a mix shift as you would expect in our rising rate environment.

Yes.

I think in your prepared comments, you had made some note about demand deposits being down seasonally. What would be your best guess for how the mix of the overall deposit book trajectory will look as we go forward?

I would expect to see a shift between interest-bearing and non-interest-bearing.

Yes. I think - sorry, I thought your comment was on demand deposits, but I could be wrong.

Yes, just the way I do, and then you tell me if this answers your question in terms of the consumer and the commercial side. On the consumer side, we are seeing a shift in savings, which we’ve seen for some time, and now the beginnings of time deposits, which is natural in what you would expect. And then on the commercial side, we are seeing somewhat of a shift from noninterest-bearing to interest-bearing deposits. Again, all reflective of a higher rate environment.

Yes. Okay. All right, that sounds good. I appreciate the color.

Sure.

Good morning.

Good morning.

Good morning, John.

On the expense side, just given some of the pressures on balance sheet trends, particularly on the loan side that you just discussed. Any thoughts as you are looking at the expense side of the equation to get more constructive on the CIP goals, particularly as you look through the rest of this year and more importantly into 2019?

So - hey, John, this is Rob. So, on expenses in the quarter - in the linked-quarter, we did well. Virtually all of the increase in the linked-quarter was in personnel and all of that was essentially incentive compensation related to the higher business activity level. Every other category went down linked-quarter, and part of that reflects our CIP effort. When you drop back and take a look at our expenses year-to-date, that tells the broader story. If you look at our expenses year-to-date, we’re up $382 million so far this year over 2017. And of that $382 million, 80% of that, or $300 million, is in personnel. The other categories are good. Occupancy is down, equipment expense, all others are in line and marketing expense is part of our investment, but that’s a smaller number. But back to that personnel number, that $300 million, about half of that in a typical year is what you would expect to see, half of that is merit and promotion, as well as incentive compensation, which as I pointed out earlier, is a little higher this year, which is a good thing. The other half of that, the other $150 million really reflects investments that we’ve made that - we make investments every year. But in 2018, they are particularly strong, and they represent higher headcount to support our technology, build out our physical geographic expansion in corporate banking and our digital expansion in consumer banking, as well as the commitment we made to raise the minimum wage to $15 an hour. That part, that $150 million of the $300 million reflects investments and like all investments, we expect to see a return on that over time. Obviously, the technology investments, we’ll talk about a little bit more. On the raise to the $15 an hour, we’re already seeing lower attrition rates that we would expect will continue. That’s all deliberate and all factored in, and our expense discipline and our program is on track.

Got it.

I mean, the quick answer, John, we focus on expenses every day and try to find ways to knock them down. At the same time, as you look at the changes that are happening in the banking industry as digital takes over and the need to produce product and serve clients in that space would be a real mistake, in my view, to slowdown and stop our investments. I like the idea of self-funding, which we’ve largely been able to do. But I don’t want to cap off our growth rate, because we see one quarter of slower loan growth. That’s not the right answer.

Got it. All right. Thanks, Bill. And then separately, on the capital side, sitting here at about a combined payout ratio of about 75%. You’ve alluded to the potential to increase that given - you might have been a bit too conservative as we look to this past CCAR. Could you give us your updated thoughts there? And your peers are around 150% combined payout. How do you - where do you think you could go here as you look forward? Thanks.

Well, without getting specifically into payoffs, as I said at a recent conference, we did realize we went in a little light. There are a couple of reasons why it made sense for us to go back to the Fed and resubmit. We are in conversations with the Fed at this point. Beyond that I don’t have any more detail to give. On a longer term, I like the idea of 100% payout. We, on our base case, CCAR always tend to kind of get there and then we tend to out-earn our CCAR case, largely because of some of the assumptions you have to put in on loan loss provision and some other things. We always struggle with this notion that we try to get to 100%. Maybe we have to budget for over 100% to solve back to 100%. But we’re not holding back from capital return at this point, and our goal wouldn’t be too.

Got it. Thanks, Bill.

Yes.

Hi, good morning. Rob. I was wondering based on some of the recent regulatory dialogue, it seems that you could potentially see the benefit from EC liquidity rules. Just if that happened, could you remind us how mechanically an EC or LCR rule would allow you to perhaps do some things on the balance sheet you can’t do now? And is there any way for us to think about the magnitude of that benefit?

Yes. Hey, good morning, John. We’ve spoken about this all year, and we are optimistic that something favorable will occur. The easiest way, there’s a lot of options, the easiest way, obviously, would be to take a look at the $19 billion that we have on deposit at the Fed. We would, in simple terms, be able to pay down debt or liabilities. In other instances, we’d be able to redeploy in the higher-yield securities. I think that the conservative rule would be to establish what level of liquidity you need and then just reduce the short-term debt accordingly.

Okay. And I guess, in this environment, you wish you had more things to do with your current liquidity. So just kind of add, I guess, to more of that?

Yes, that’s right. That’s right.

We compete with them everywhere already other than maybe Pittsburgh. And I would tell you in our own experience, where we go into a market dominated by somebody else and we are the underdog. The growth rate always tends to surprise me largely, I think, because there’s some percentage of the population that wants to try a different bank. I suspect if somebody comes into Pittsburgh, they’ll pick up some amount of that. We have 60% market share or something in Pittsburgh, and there’s 40% left to go around without any major bank presence sitting here. I suspect they’ll do fine.

Okay, thanks.

Not - but not necessarily with our customers.

Hey, good morning.

Good morning, Betsy.

Good morning.

Two questions. One, just one more on expenses. So up a little bit this quarter, or partly a function of the marketing and the investments that you’re doing. I think it’s related to the digital banking. I’m just wondering how much of that persists from here? Because you’ve got that start-up costs and then you’ve got ongoing marketing. Should we expect that some of that fades as start-up is done, or maybe you could talk through that a little bit?

You’re going to have some offsetting things. We didn’t kick off the digital program until late in the third quarter. Having said that, the third quarter, I think, was probably the first full quarter we had the total impact of the $15 raise increase. So there’s a whole bunch of moving pieces in there between personnel and what we’ll do in marketing. All of that’s embedded in Rob’s script.

Yes, I think, and for the fourth quarter guidance actually, the most notable item is that our marketing expense will increase in the fourth quarter. Typically, that hasn’t happened, and that marketing is largely directed towards the digital initiatives.

And then could you talk a little bit about the branch rationalization that you’re doing in your core - your legacy markets. Is there run rate? Is that run rate going to persist at current kind of levels, or is there more to do there, or are you almost done? Just give us a sense on that side of the equation?

Yes. We’re pretty steady there, Betsy. On our plan for the year, we’ve been averaging about 100 consolidations a year, and this year we’re on track to do a comparable number. So that’s the current path, and I’d expect that to continue.

Part of the issue with accelerating that is the time and effort we put into preparing customers for a branch to close. It’s very important that we retain the balances and the customers as we consolidate a branch. We spend a lot of time on that. I’m not sure as a practical matter that we could actually do more or substantially more than the 100 a year we’re currently doing. We’ll continue to go kind of at that run rate until, and if the market tells us based on client attrition that we need to slow down.

Got it. Okay. Now that’s helpful. And then just lastly on the mortgage side. I know you did a lot in improving the efficiency of that platform over the last couple of years. Could you just tell us strategically how you positioned? And is there - have you created some operating leverage for yourself as you build out into some of these new markets?

We’re finally seeing the costs come down in terms of sort of duplicative personnel as we are running two systems. We’re still at the last leg of bringing home equity origination onto that platform. With that, we will have an effective digital origination capability and closing capability for home equity in our out-of-footprint market should we choose to offer that. I’m not exactly sure where we are on that yet, but that’s a dramatic improvement from where we are today. Believe it or not, to close a home equity loan at PNC, you’ve got to go into a branch. All of this system change puts home equity mortgage on the same front and same servicing platform, and independent of volumes, which we hope would increase. You’ll see costs continue to bleed out of that system.

Okay. Thanks so much.

Sure.

Hi, good morning.

Good morning.

Good morning, Erika.

Can I ask a little bit, Bill, about the tenor of competition from non-banks? I’m really most curious about more on the competition with regards to structure. And what you’re observing in terms of competition from private direct middle market lenders? As a follow-up to that, you mentioned structural changes in the market, which I agree with. I wonder how much of the opportunity can go back to banks over time, as the Fed continues to drain liquidity out of the system.

Yes. Again, all good questions. I would say we continue to think that the leverage loan market is overheated. I think, as rates rise, it’s going to put real pressure on those credits that are originating in a lower rate environment and not necessarily hedged against LIBOR going up as it does. Eventually, that turns. Our near-term flow doesn’t really play in the leverage loan market. But that market, being as open it is, has caused many of our private middle market companies that we’ve historically banked to go to private equity. While we might keep them as a transaction client and so forth, we don’t participate in the financing of that. This M&A wave pulls loan demand away from the banking system by leveraging it and putting it into CLOs. I do think there’ll be a crack in that at some point as rates continue to rise. When that happens, you’ll likely see more traditional flows back into the banks. But I just don’t know the timeline in that.

Great. Thank you.

Hi.

Hi, Mike.

Well, thanks for your honesty, Bill, in terms of what’s happening with your loan growth. That is tough to forecast. So when you go back to your team at PNC, what kind of message do you want to send? I mean, you could send all sorts of messages; you could be angry, you could be happy, you could accept what’s taking place, or you could pause. You could be angry, because you say, 'Hey, we’re not executing as we need to do better.' Or you could be happy and say, 'You know what, you’ve seen these cycles before, and we’re going to stick to what we do and that’s fine.' Or you could accept what’s taking place and say, 'It’s not going to get better and have a new expense program or something.' Or you could pause and say, 'You know what, this is just weird and we’re just going to see what happens over the next couple of quarters.' So what message will you be sending to your team?

I don’t really have to do any of the above. Since I’ve been at PNC, we’ve followed the same model, the same credit box, the same clients we want to bank. For risks outside of our box, we just don’t do it, and we can’t control the market. What was weird about the third quarter was we actually originated a lot of business. I’m pleased with the activity of our bankers and the number of new clients that we’ve brought on board. I’m disappointed by the environment in the sense that utilization went down and we had paydowns, but there’s nothing I can do about that. As a practical matter, we will never choose to be the bank that just chases loan growth. We could easily get loan growth for the next six months or a year or until the cycle cracks, and we just don’t do that. We don’t need to do it, given our ability to grow fee income.

So do you…

Your question on expenses, I get back to this. We’re fighting every day to drop expenses. But having said that, again, we could choose to simply curtail investment in digital. We could choose to curtail investment in cyber. We could choose not to have active data centers in terms of resiliency of our client-facing applications. In the near term, that would make our expenses look great, and in the long term, it would kill us. I think a lot of our competitors are choosing to do that on expenses and loans, and that’s just not who we are.

So let me see if I had this straight. I mean - but I think I hear you’re saying, you’re going to barrel through with your strategy that’s worked for the last several years and the environment will eventually come your way since you’re looking through an entire cycle. Is that paraphrasing it correctly?

Well, on credit, yes, right? You can figure out who is lying or not with respect to loan growth until you have a credit crunch. And you’ve heard me say forever that banks are the only industry in the world where you can live by your cost of goods sold until their downturn. I always want to be the bank that outperforms in that environment. That means that we have to, at the margin, slow top-line growth to not chase deals or just don’t hit our return metrics, then so be it.

All right. And then lastly, the line utilization, is that from some of the borrowers going elsewhere, or what else is just the corporate?

That one - what I think that is simply corporates are flush. The lower tax rate has increased cash flow in companies, and all else equal, they’re not spending the incremental difference in totality on CapEx. They’re dropping their line utilization.

Hey, Mike, this is Rob. I can jump in on that. That’s exactly right, and Bill referenced this in his opening comments. If you take a look at our commercial loans, where the pressure that we’re talking about is most pressing is in that general corporate book. The two headwinds we’re talking about are cash-rich borrowers, which is dropping utilization and that’s a function of lower tax rates, repatriation, all the things you’ve read about. The other headwind is those paydowns and payoffs. To the extent that they abate, which we expect they might at some point, that’s the issue.

Yes. And by the way, Mike, our pipeline as it sits today in the forward months looks great. It looks stronger than it’s looked in the last six months. I think we’re going to rob the knob. Our only hesitation on this stuff is these headwinds. We can get lots of deals that meet our risk criteria in this environment, and we’re winning them. What ends up happening is that our existing book of business is borrowing less and/or disappearing through paydowns, either public market or paydowns, because they were taken private. That’s the dynamic.

Great. That’s helpful.

All right. Thanks, Mike.

Good morning, guys.

Good morning, Gerard.

Can you talk a little bit about the noninterest-bearing deposits? When you look at your levels, which represent about 31% of total interest-bearing liabilities, what do you think in a rising rate environment, that’s going to settle out at? When you think back at PNC, maybe prior to the financial crisis, where those levels were? Do we have just as a risk for everybody in a rising rate environment, those deposits tend to fall?

Yes, Gerard, I can say that. I mean, obviously, that’s theoretically, we watch it all the time. I would expect the continued shift that’s occurring, that will occur. I don’t - we haven’t really handicapped where it’s going to stop or where it’s going to be because there’s obviously a lot of variables involved there. But we manage this way before, it’ll be fine either way.

I see, okay. And then coming back to the competition on commercial lending that you have already addressed. Have you sensed that other competitors with the lower tax rate or maybe competing away some of the lower tax rate? Is there any way of seeing if that’s happening?

For all the talk around that, we actually haven’t seen it. There was some talk early on that we heard from some clients that competitors were maybe doing that at the margin. But practically, that isn’t really what we’re seeing. We’re seeing competition on structure, or seeing deals that should be ABL going cash flow and those kinds of things. But I don’t see people outright rebating tax reform.

Okay, I see. And just finally, in this whole commercial competitive area that you’ve referenced, is it primarily in the legacy PNC footprint, or are you also seeing it in your newer markets that you’ve been expanding into?

It’s everywhere. It’s intuitive, right? If what you’re offering is a commodity, which is money, there’s no special skill involved. There’s no special secured financing or technology; then you’re offering a commodity. In this market, there’s a lot of competition for that commodity.

As part of your question, though in our expansion and growth markets, we do see better growth dynamics just because it’s of a smaller base, even though those factors are in place there.

Yes.

Thanks. Good morning, guys. Recently, there has been some talk about banks of your size and the potential maybe to help us on the regulatory front from either capital or liquidity? I know you’ve discussed this in the past, but I’m just wondering where that conversation sits in your mind? And what you’re hoping for directionally?

I think in Governor Quarles' last testimony, he spoke to this and talked about having something out in the market before the end of the year, and that’s consistent with my own dialogue with the Fed. I’m not exactly sure what they’re going to do. I think, they’re thinking about the notion, and we would like to see the notion that you get rid of the step function of 250. Not only as it relates to LCR but frankly, as it relates to some of the relief you see on the capital to the groups below 250. The change in the sin bucket items, AOCI, and some other things, so we’ll have to see. But I think there is an inclination amongst the regulators to put more finesse on allowing regulation to fit the size and risk of the firm as opposed to doing a step function off of asset value that they came up with fifteen years ago.

Which they call tailoring, Ken.

Yes. Okay, got it. So that we’ll wait and see on that. Then just a follow-up on the choices that you have on the mix of the excess cash. Just in terms of what are you doing right now in terms of the investment portfolio? Obviously, it was up at period-end. But in terms of the types of new rates you’re seeing versus what’s rolling off the back book in the securities book?

Yes. So a couple of things. The securities balances were up quarter-to-quarter, but our actual duration dollars were flat because we unwound or reduced received fixed swap position. It looks like we put a lot of money to work in the third quarter and we didn’t really. We just moved from synthetic to cash. That said, particularly with the rate environment, where it’s been for the last couple of weeks, the yield we’re seeing on income and securities are largely mortgage-backs and treasuries and are in excess of the portfolio that’s running off. There is clear benefit from this going forward.

Yes. And Bill, one just follow-up on that. Will you continue to move that synthetic to cash just at this point of the rate cycle? How do you balance just where you stand on asset-sensitivity versus you starting to kind of mortgage it a little bit?

We’re still asset-sensitive. We’re nowhere near done here. The move from synthetic to cash is simply a value trade. Swaps and we put them on offered a lot more value than they did, so we unwound those and went into securities. We will do that opportunistically. We’ll go back the other way if things change. That was just a value trade. Going forward, we will be investing into this market. You’ve heard us say forever we’re not going to bet on red in one big swoop, but we’ll do it incrementally and our patience thus far looks like it’s going to pay dividends.

Yep. Okay, I understood. Thank you.

Yes.

Good morning. I just wanted to follow up on some of the deposit conversations and questions. We’ve seen the period-end noninterest-bearing deposits drop significantly. You mentioned part of that was due to business customers. Was there any shift also from the consumer side? And do you expect the rate of change between noninterest-bearing deposit growth and interest-bearing deposit growth to remain the same going into the fourth and first quarters?

Hey, Kevin, it’s Rob. To answer your first part of your question: Firstly, all the movement we saw was on the commercial side, not much in terms of the consumer side. If anything on the consumer side, as I said earlier, it’s more a migration to savings and time deposits, but from already interest-bearing accounts. Going forward, we’ll just have to monitor it. I don’t see anything in terms of a radical step change.

One thing that will happen over time is we do accelerate our digital expansion; the bulk of those new monies will come in the form of interest-bearing.

Yes, that’s growth.

Yes, but it’s growth in interest-bearing accounts that would largely outpace because we’re not bringing in proportional amounts of noninterest-bearing at the same time, so it could cause our mix to shift over time.

Over time, but not necessarily in the short term.

Yes. So when I think about the shift to digital, I mean, you already have plenty of liquidity. You are meeting your LCR ratio. Your loan deposit ratio is running in the mid-80s, much better than most of your peers. When I look at the digital offering, are you going to be a price leader here in the beginning just to show that you can grow this deposit and then slow it down?

You have to compare it to the alternative, and the alternative today is wholesale funding. So it’s a lot cheaper than what we pay in wholesale funding even with LCR. If they make LCR changes, our ability to mix shift some of our more expensive wholesale funding into retail is beneficial to us. We’ll continue to be competitive on our digital offering. We have no real cost structure other than advertising behind it. So the margin to it is actually pretty good.

And as you know, there is a big qualitative element to it. This is an experiment in terms of the future of banking. So, largely that versus a need for the deposit.

The one thing I would say and it’s really early days in what we’re doing in digital is we have been pleasantly surprised by the number of clients who choose to open the virtual wallet account, which is a full-service account versus just the high-yield savings account, which is obviously our dream scenario. We want full-service clients and we have a large percentage of the people out of the gate choosing to be that. My own assumption going in was that it would take longer to convert these clients, so that is a good thing.

Do you see that starting to generate higher loan growth in the consumer side, particularly in card and auto because of that shift?

It’s too early, but that’s something we are going to track, and we are going to have to figure out the right metrics to show you guys, which we will.

All right. Thank you for taking my question.

Yes.

Okay. Well, I would like to thank all of you for joining us for this quarterly call.

Thanks, everybody.

Thank you.