Regions Financial Corp (RF) — Q1 2023 Earnings Call Transcript

Thank you, Christine. Welcome to Regions' first quarter 2023 earnings call. John and David will provide high-level commentary regarding the quarter. Earnings documents, which include our forward-looking statement disclaimer and non-GAAP information are available in the Investor Relations section of our website. These disclosures cover our presentation materials, prepared comments, and Q&A. I will now turn the call over to John.

Thank you, Dana, and good morning, everyone. We appreciate you joining our call today. Once again, Regions delivered another solid quarter, underscoring our commitment to generating consistent, sustainable long-term performance. We generated earnings of $588 million, resulting in earnings per share of $0.62. Despite recent events in the banking industry, we remain focused on the fundamentals and the things we can control. We’ve spent over a decade enhancing our interest rate risk, credit risk, capital, and liquidity management frameworks. Our relationship-based banking approach, coupled with our favorable geographic footprint, uniquely positions us to weather an uncertain market backdrop. Further, balance and diversity on both sides of the balance sheet have been a key focus for years. As a result, we are well positioned to withstand an array of economic conditions. Approximately 70% of our deposits are retail deposits. These deposits tend to be granular and less rate sensitive. In fact, approximately 90% of these deposits are insured. Our strategy focuses on primacy and customer loyalty. We want to be our customers’ primary banking relationship. This strategy is evident in the fact that over 90% of our consumer checking households include a high-quality checking account, and over 60% of consumer checking deposit balances are with customers that have been with Regions for 10 years or more. Our wholesale or business services deposits are also highly diversified from an industry, size, and geography perspective, with approximately 75% of deposits that are either insured, operational in nature, or collateralized. In total, approximately 75% of our deposits across all business lines are insured or collateralized by securities, and our deposits are with customers we know, as over 97% reside within our 15-state footprint. Further supporting our high-quality deposit franchise, we had access to total primary liquidity of approximately $41 billion at the end of the quarter, sufficient to cover uninsured retail and non-operational wholesale deposits by more than a 2:1 ratio. If you include access to the Federal Reserve discount window, available liquidity increases to $54 billion or approximately 3:1 coverage. We have a strong team of bankers, and the recent disruption has given us an opportunity to connect with our customers and top prospects to answer questions and reassure them of our stability. We’ve experienced some deposit outflows as corporate treasuries look to diversify and seek higher interest rates for their excess cash. However, we’ve also experienced deposit inflows from new and existing customers. Importantly, our total deposits at March 31st were roughly unchanged from what they were prior to the onset of liquidity concerns in the industry. The majority of the $3 billion deposit decrease this quarter was as expected, due primarily to further normalization in corporate deposits, which had dramatically increased during the pandemic, as well as the continuation of rate-seeking behavior in certain wealth and higher-balance consumer accounts. From a lending perspective, our focus on risk-adjusted returns continues. Overall sentiment among our corporate customers remains positive. While most are forecasting strong performance in 2023, they are expecting modest declines from levels seen in 2022. While current market conditions warrant heightened caution, we believe our strong liquidity profile provides an advantage in terms of supporting our customers’ borrowing needs. In closing, despite all the industry turmoil, we feel very good about our balance sheet and strong liquidity position. And through our proactive hedging strategies, we are positioned for success in any interest rate environment. Our granular deposit base and relationship-based banking model continue to serve us well, and we’re proud to continue supporting our customers’ banking needs. Now, David will provide some highlights regarding the quarter.

Thank you, John. Let’s start with the balance sheet. Average loans increased 2% sequentially. Average business loans increased 2% compared to the prior quarter, reflecting high-quality, broad-based growth across the utilities, retail trade, and financial services industries. Approximately 87% of this growth was again driven by existing clients accessing and expanding their credit lines to rebuild inventories and expand their businesses. Average consumer loans increased 1% as growth in mortgage and interbank was partially offset by continued pay-downs in home equity and runoff exit portfolios. Looking forward, we continue to expect 2023 ending loan growth of approximately 4%. From a deposit standpoint, our deposit base remains a strength and competitive advantage with balances continuing to largely perform as expected. Previously, we indicated that a combination of rapidly rising interest rates and normalization of surge deposits would likely lead to $3 billion to $5 billion of deposit declines by midyear before we would begin to generate net deposit growth. While the events in March created turmoil in the banking industry, we continue to believe that range is appropriate. However, we may be at the higher end of the range as we approach midyear. The preponderance of deposit outflows this quarter occurred prior to early March and were in line with our expectations. Approximately $2 billion of the $3 billion outflow came from corporate deposits, reflecting normal seasonal activity. The other $1 billion came from a continuation of rate-seeking behavior among certain wealth and higher balance consumer clients. The same characteristics that contribute to our deposit advantage in a rising rate environment are also helpful in a time of systemic volatility. As John noted, our focus on attracting and retaining a diverse and granular deposit base with high primacy drives loyalty and trust and instills funding stability. So, let’s shift to net interest income and margin. Net interest income continued to expand with market interest rates in the first quarter, reflecting our asset-sensitive profile and funding stability. Net interest income grew 1% linked quarter to a record $1.4 billion, and net interest margin increased 23 basis points to 4.22%. As the Federal Reserve nears the end of its tightening cycle, net interest income is supported by elevated floating rate loan and cash yields at higher market interest rates and fixed rate asset turnover from the maturity of low-yielding loans and securities generated through the pandemic. At this stage in the rate cycle, we expect accelerating deposit costs through repricing and remixing. Importantly, recent trends remain within our expectations. The cycle-to-date deposit beta is 19%, and our guidance for 2023 is unchanged, a 35% full-cycle beta by year-end. We remain confident that our deposit composition will provide a meaningful competitive advantage for Regions when compared to the broader industry. Net interest income is projected to grow between 12% and 14% in 2023 when compared to 2022. The midpoint of the range is supported by the March 31st market forward yield curve, which projects nearly 75 basis points of rate cuts in 2023. A stable Fed funds level would push net interest income to the upper end of the range. The balance sheet hedging program is an important source of our earnings stability in today’s uncertain environment. Hedges added to date create a well-protected net interest margin profile through 2025. Forward starting received fixed swaps will become effective in the latter half of 2023 and 2024 and generally have a term of three years. Activity in the first quarter focused on extending that protection beyond 2025. In addition to forward starting swaps, we added a $1.5 billion collar strategy, selling rate caps to pay for rate floors to limit exposure to extreme market rate movements. The resulting balance sheet is constructed to support a net interest margin range of 3.6% to 4% over the coming years, even if interest rates move back towards 1%. If rates remain elevated, our net interest margin is projected to remain above the high end of the range until deposits fully reprice. So, let’s take a look at fee revenue and expense. Adjusted noninterest income declined 3% from the prior quarter as modest increases in service charges and wealth management income were offset by declines in other categories, primarily capital markets and card and ATM fees. Service charges increased slightly as seasonally higher treasury management fees offset declines in overdraft fees. Excluding the impact of CVA and DVA, capital markets increased 4% sequentially as growth in real estate capital markets, loan syndications, and debt and securities underwriting more than offset declines in M&A fees and commercial swaps. We did have a negative $33 million CVA and DVA adjustment, reflecting lower long-term interest rates, volatility in credit spreads as well as a refinement in our valuation methodology. Card and ATM fees were negatively impacted by a $5 million increase in reserves, driven by higher reward redemption rates. With respect to our outlook, and incorporating first quarter results, we expect full-year 2023 adjusted total revenue to be up 6% to 8% compared to 2022. Let’s move on to noninterest expense. Adjusted noninterest expenses increased 1% compared to the prior quarter. Salaries and benefits increased 2%, primarily due to merit and a seasonal increase in payroll taxes. The FDIC insurance assessment reflects the previously announced industry-wide increase in the assessment rate schedules. In contrast to the prior two years, we expect first half 2023 adjusted expenses to be higher than the second half of the year. And we continue to expect full-year 2023 adjusted noninterest expenses to be up 4.5% to 5.5%. We now expect to generate positive adjusted operating leverage of approximately 2%. From an asset quality standpoint, overall credit performance continues to normalize as expected. Net charge-offs were 35 basis points in the quarter. Nonperforming loans and business services criticized loans increased while total delinquencies decreased. Provision expense was $135 million, while the allowance for credit loss ratio remained unchanged at 1.63%. The amount of the allowance increased due primarily to economic changes and normalizing credit from historically low levels, partially offset by a reduction associated with the elimination of the accounting for troubled debt restructured loans. It is worth noting the outcome of the most recent Shared National Credit exam is reflected in our results. I want to take a few minutes to speak to our commercial real estate portfolio. Since 2008, we have deliberately limited our exposure to this space. At quarter-end, our exposure totaled 15% of loans, excluding owner-occupied, and it is highly diverse. This total includes $8.4 billion of investor real estate and $6.7 billion of unsecured exposure, of which the vast majority is within real estate investment trusts. Our REIT clients generally have low leverage and strong access to liquidity, with 68% classified as investment grade. Importantly, total office represents just 1.8% of total loans at $1.8 billion. Of note, 83% consist of Class A properties with 62% located within the Sunbelt. The office portfolio was originated with an approximate weighted average loan-to-value of 58%, and we have stressed the portfolio to include a 25% discount using the Green Street commercial property price index, with the weighted average resulting loan-to-value of the book approximating 77%. It is also noteworthy that 37% of our secured office portfolio is single tenant. While we are carefully monitoring conditions, we believe our portfolio will be able to weather the weakness in the industry. Including first quarter results, we now expect our full-year 2023 net charge-off ratio to be approximately 35 basis points. Given the recent economic uncertainty and market volatility, we may see a pickup in the pace of normalization towards our through-the-cycle annual charge-off range of 35 to 45 basis points over time. From a capital standpoint, we ended the quarter with a common equity Tier 1 ratio at an estimated 9.8%, reflecting solid capital generation through earnings, partially offset by continued loan growth and approximately $100 million or 7 basis points related to the phase-in of CECL into regulatory capital. Given current macroeconomic conditions and regulatory uncertainty, we anticipate managing capital levels at or modestly above 10% over the near term. So, in closing, we delivered solid results in the first quarter despite volatile conditions. We have balance and diversity on both sides of the balance sheet and are well positioned to withstand an array of economic conditions. We are in some of the strongest markets in the country. And while we remain vigilant to indicators of potential market contraction, we will continue to be a source of stability to our customers. Pretax pre-provision income remained strong. Expenses are well controlled. Credit remains broadly stable, and capital and liquidity levels remain robust. With that, we’ll move to the Q&A portion of the call.

David, maybe a question on betas and deposit balances. So, you guys are one of the few that aren’t increasing your deposit beta guidance given that you’re at 19%, and I think expectations are for 35%. Can you maybe just talk about where you expect the pressure to come from? I think you noted in the remarks, repricing and remixing, how much will each of these contribute? Are you expecting more to be in retail given the push for insured deposits, or is it on the commercial side? And then second, you noted that you do expect to see stabilization of growth in balances later in the year. Can you maybe just talk about what you see driving that as we move through the year? Thanks.

Sure. As we have previously mentioned, we had $41 billion in surge deposits, and we didn't expect them to remain with us for as long as they actually have. We also indicated that as rates increased, people would be looking for better returns than we were offering at the time. Our cumulative beta is currently at 19%, significantly lower than our competitors. We anticipate a shift of deposits into CDs, which are more expensive. Therefore, we do expect some ongoing runoff. We previously guided you to expect a reduction of $3 billion to $5 billion, and we are currently down $3.3 billion. We expect to reach the upper end of that range by the end of the second quarter. A lot of this is due to deploying funds into businesses, along with some individuals seeking higher rates. Given our current deposit costs in comparison to our peers, it suggests that we will need to adjust some rates over time, influencing our beta. We still believe that achieving a beta of 35% by the end of the cycle, which we are defining as the end of this year, is realistic.

Got it. And maybe as a follow-up, so you guys are now expecting losses at the high end of your previous guidance. It looks like the increase this quarter was driven by C&I. And I think, David, you just noted you could see a pickup in the pace of normalization. Can you maybe just talk about, one, what is driving the incremental pressure? And what are you expecting to be the higher driver of charge-offs, both for the rest of this year and then the pace of normalization that we could see? Thanks.

Well, so, as we’ve stated many times, the charge-off level is below normal. And that we said it would be normalizing over time. We’ve furthermore set our normalized loss rate based on the risk profile we maintained as 35 to 45. As we get through the end of this year, we’re trying to give you the message that that could kind of lead you into a run rate towards that 35 to 45 by the end of the year. We’re already at 35 this quarter, which would imply we expect a reduction in charge-offs in the second and/or third quarter. But all in, we still think we’re going to be at 35 basis points, which is below normal. So, we have a lot of confidence in that. We had certain things that happened in the first quarter that we don’t think will repeat. And so I think our 35 is a pretty good number.

Yes. Ryan, I’d just add to the question about where we’re seeing the stress. We’ve identified a couple of areas on previous calls where we are experiencing some stress in the portfolio. That would be healthcare, where we’re seeing rising costs and pressure on labor. Transportation, particularly on the smaller end of the transportation sector where customers are competing in the spot market to move products. Consumer discretionary, where consumers are changing their buying patterns and moving away from more discretionary items towards services where we’re seeing some pressure; office, obviously; and then senior housing, which is a sector that we believe is improving but still has not returned to occupancy levels that we experienced prior to the pandemic. And again, it’s a sector where labor is a factor in the operations of those businesses and driving costs up. So, those are all areas where we are seeing more pressure than in the rest of the portfolio. And I would finally comment, I think we’ll see some additional, quote, movement toward normalization. But, we’ve probably gotten there a little faster than I think we thought we would. So, we don’t expect a whole lot of additional deterioration as we move towards normalization.

My first question is for David. You continue to have that long-term NIM target of 3.6% to 4%. I think investors are starting to think about rate cuts in 2024. And I’m low to always ask about 2024, but I think investors are thinking about how inexpensive bank stocks are really, right, trying to evaluate them on what could be trough earnings next year. So, if the Fed cuts, can you still stay within that range? And I think nobody is expecting a cut to zero, but perhaps walk us through the scenario of that range in the scenario of like a 200 basis-point cut over one year?

Yes. So, the bottom line answer is yes, we do feel comfortable under any scenario. As we mentioned that we would operate in that 3.6% to 4% range. Clearly, our guidance is based on the market. I mean, on the March 31st forward, it has three cuts, 75 basis points worth of cuts after one increase. So, to the extent that were to happen, we will still be within that range. If it stays higher than that, then we’d be at the upper end of the range. And we have some received fixed swaps that actually come on board in the second half of the year to protect us from lower rates. We’re not saying that the rates will be cut. That’s what the market says. I personally don’t see that happening at that pace. But we wanted to be able to center the discussion on what the market is saying, and that’s why we gave you that and then we gave you some sensitivity around it. So, we feel very good about the range. Where we are in the range? There are a whole lot of factors. The pace, the timing of cuts would take us down, even if we had a couple of hundred basis points of cuts in ’24, we’re still in the range. So, does that get you what you wanted?

Yes. And as we think about perhaps a more measured pace of cut, how would you anticipate being able to normalize your deposit costs in that backdrop?

Yes. Well, so you can see our deposit cost relative to our peers is 19% fair are lagging. And so, the ability to cut, we have to be competitive. We have to offer a fair price to our customer base. And I think to the extent you start seeing a pause and/or cuts coming from the Fed, the beta that we just mentioned could change and may not be as severe. What happens is the increase in deposit cost lagged the last increase that the Fed is going to make. So, it will take some time for that to manifest itself. So, if you look at the retail side, the retail side is very slow to react. But on the commercial side, it’s almost instantaneous as treasurers look to lock in the best yield that they can. We have some index deposits that move with changes in Fed funds. So that will react pretty quickly, which I think is a benefit to us in that scenario.

In terms of your maintaining the cumulative or through-cycle beta at 35%, I hear you where you’re trending down 19% in your confidence. But I’m just curious how the liquidity crisis through March and how it really impacted that outlook. We saw a number of other banks increase their deposit beta expectations given the intensifying pressure around deposit costs as well as broader funding costs. So, how has the liquidity crisis impacted your view? And how does that not influence an increase in how you’re thinking about the through-cycle beta? If you could just walk us through that.

Yes, John. Our competitive advantage lies in our deposit base, which means we haven't had to respond as quickly as others. In comparing our core peer group's incremental beta, which was about 73% this quarter, ours was only 40% to 41%. This slower pace is largely attributed to how we fund ourselves, with 70% of our deposits being retail, allowing us to maintain a beta of 35%. While we did experience competitive pressure from larger customers seeking better rates and returns, which we observed in the first quarter, this was factored into our projections of $3 billion to $5 billion. Initially, we assumed the impact would come from noninterest bearing deposits, which turned out to be a conservative estimate for guidance. Considering all this, we decided not to alter our cumulative basis of 35%. With our current position at 19%, we recognize there is still a significant distance to cover to reach 35%. We are aware of this, and even if we fall short, it may only be slightly below that, which is why we also provided guidance on our slide number 7 to indicate potential outcomes if beta were slightly higher than 35%.

Got it. Thanks, David. That's helpful. On the capital front, I know you increased your target to around 10%. Could you provide a bit more insight into the reasoning behind this decision? Also, does this open up the possibility for buybacks in the future? What are your thoughts on the timing and pace of reaching the 10% range?

Sure. Our common equity Tier 1 increased from 9.6% to 9.8%, even after accounting for about 7 basis points due to the CECL impact in the first quarter. We’re generating 20 to 30 basis points of CET1 each quarter. Our priority is to provide strength to our customers and make all creditworthy loans possible. We are fully operational and committed to this mission. We also aim to reward our shareholders with a fair dividend, typically between 35% and 45% of our earnings, although we’ve been on the lower end of that range. Additionally, we have invested our capital in nonbank acquisitions and mortgage servicing rights, and we wish to continue doing so. To optimize our capital, we will buy back stock occasionally. However, given the current market uncertainty, especially following the events of March, we are reviewing the situation closely as regulatory reports are forthcoming regarding potential changes. We believe it's not the right time to buy back stock with this level of uncertainty. We must also consider the unpredictable nature of the economy and monetary policy. Therefore, we have decided to wait, aiming to reach a CET1 of 10% or slightly above. Once things stabilize, we will look into capital optimization through share repurchases.

How are you thinking about managing liquidity going forward? Obviously, with a very strong deposit base, you’ve been less reliant on wholesale borrowing. But both in light of current conditions and then just kind of the way the regulation might be moving, what are you thinking about in terms of borrowings and then also both cash and securities? And again, like you’ve got a smaller AFS book than others, which has worked well given the moving rates. But what’s the outlook on both the funding and asset side? Thanks.

We continue to prioritize growing our customer relationships, focusing on core checking and operating accounts for businesses, which is fundamental to our operations. Recent developments have highlighted that circumstances can change rapidly. We have a strong primary liquidity position and access to the discount window if necessary. We've learned that we may need to adapt our cash reserves more than we previously anticipated, particularly given the unpredictability of deposit outflows. Therefore, we will likely maintain a higher cash balance than in the past. Currently, there's a temporary new term bank facility created by the Fed, and while we haven't utilized it, we tested it post-quarter end to confirm its functionality and borrowed a small amount briefly. The Federal Home Loan Bank remains our main source of funding, and we have some outstanding borrowings there. We recognize the importance of diversifying our funding sources and deposit bases to mitigate risks related to concentration. This experience reinforces the need for diversity in our funding strategies and maintaining adequate cash on hand.

And then specifically on the securities book, how would you think about that relative to assets kind of near or longer term with the current framework?

We have historically maintained earnings assets in the 20% range, and we do not expect significant changes to this. It’s important to approach this cautiously. There has been considerable talk about shortening maturities and related matters, but we must be prudent as this could have extensive implications. The banking system plays a significant role as a purchaser of mortgage-backed securities; hence, it is crucial to support the mortgage and housing industries, as well as consumers. We should avoid going too short, as this has broader economic implications. We will monitor the actions of policymakers and will adapt as necessary. However, for now, I believe maintaining a portfolio that is somewhat lower than others aligns with our funding profile, and is the appropriate position for us.

John or David, Regions has significantly reduced its balance sheet risk since the 2008-2009 time period. I believe you are well-positioned to address this question about the commercial real estate market. Could you explain the differences you are observing in your current commercial real estate portfolio compared to 2008-2009? I understand that you have reduced your exposure, which is a significant change. Considering the higher cap rates and the existing refinancing risk, how do you believe you can manage these challenges more effectively today than in 2008-2009?

Yes. Gerard, this is John. I would say we rebuilt our business beginning in kind of the ’09, ’10 timeframe, recognizing that it’s very much a specialized business. And we’ve built it around professional real estate bankers who are working with professional real estate developers. Generally, they are either regional or national developers. They have strong capital positions, good access to liquidity, and strong track records. They’re operating in some of the primary markets across the U.S. We rebuilt our business with a focus on concentration risk management. So it’s well distributed, and the portfolio is across different segments of the industry as well as across geographies. We have built a business, I think, very conservatively from a structural standpoint requiring good equity in projects. And we’re constantly stressing our exposure. It’s a relationship business for us. We’re transacting with customers who maintain deposit relationships with us who use our capital markets capabilities. We’re very close to those customers. And as a consequence, I think we have a very good handle on the exposure that we have across the business. And we have the benefit of operating in some of the best markets in the country as well. If you look at markets like Dallas and Houston, Orlando, Charlotte, Atlanta, and Nashville, where we’re doing business and where the majority of our portfolio resides, we have good underpinning economy to help support the projects as well.

And maybe, David, on a technical question regarding the commercial real estate, how does the elimination of TDRs now help or hinder you’re guys working out with some of your customers that may inevitably have an issue with their property?

Well, we’re not going to let an accounting change change or what we’re going to do for our customer. If we need to have a restructuring, then that’s what we’ll do. And we’ll let the accounting is what it is. So I don’t think that will impact us at all, Gerard, from moving forward just like we always have.

Very good. And then just as a follow-up question, another technical one for you, David. Can you just remind us about the CECL being phased into capital, just the time range and how that may affect your capital ratios going forward?

It’s roughly the same number you just saw. It’s almost a straight line number over four periods. So we’ve got more of these coming. It’s $100 million in round numbers in the first quarter of each of the next three years, about two more years. And so, it will be about a 7 basis-point hit to us each of the next two years.

You guys had pretty solid average loan growth this quarter and did maintain the period-end outlook. Can you just talk about loan demand? And then, secondly, if there are any areas maybe where you’re tightening underwriting standards or being more selective at this stage?

Yes. In this economy, we want to be careful about any new relationships and credit we book. I believe we are maintaining consistent underwriting standards across all economic cycles. However, when it comes to capital allocation and lending in this environment, it’s important to be prudent. We aim to ensure that any new business we acquire results from ongoing outreach efforts. We understand the relationship potential and have a solid plan. Most of the loan growth we've seen in the wholesale business has come from existing customers. Recently, we've experienced growth in our industry verticals, particularly in power and utilities, energy, and the industrial sector. We're also seeing some growth in our Regions Business Capital, particularly in asset-based lending. On the consumer side, we have seen growth in mortgages and interbank as a result of generating some adjustable-rate mortgages during this period. However, our loan pipelines in the wholesale side of the business are down, which reflects caution among customers and projects due to the slowing economy caused by rising rates and increasing costs. We believe there are opportunities to grow loans given our view of the future and known projects that are either in development or will start soon. We are projecting about 4% growth between now and the end of the year, particularly in the same categories mentioned.

I think, Peter, I’ll add to that, as part of the growth outlook, because of the markets that we operate in, we’ve been the recipient of a lot of migration of people and businesses into where we operate. And so, our economy here is a bit different than certain other economies around the country. And I think that’s given us some confidence that our 4% loan growth is reasonable.

Yes. If we annualize our results from the first quarter, we would exceed $550 million. This is because our recent change allowing a 24-hour grace period will take effect at the start of the third quarter. Therefore, you will notice a more significant decline in the third and fourth quarters than you have previously since we haven't implemented the change yet. We have benefited from our investments in treasury management, including personnel and technology, which have helped to mitigate some of the decline in consumer service charges, and we anticipate this trend to continue. Our treasury management is up approximately 8%. If this trend persists, we may have a more positive update for you in the next earnings call. For now, we're projecting $550 million and a decrease in the second half of the year.

I’d like to follow up on the fee side. It’s been a challenging start to the year in capital markets, and you’ve mentioned the 60 to 80 range you experienced in the first quarter. Can you provide some insight on how the business is performing regarding pipelines and expectations? Do you expect any bounce in the second half? Thank you.

Yes, we do expect the business to pick up in the second half of the year. It's still modestly improving, but our guess is that the second quarter will look a lot like the first. A significant portion of our business is centered around real estate capital markets, and that segment has been very slow. When looking at different parts of our business, such as syndication revenue or revenue from fixed income placement and derivative sales, those have performed quite well in the first quarter. However, real estate capital markets have been very soft. M&A was strong in the first quarter, and we anticipate that trend to continue throughout the year. Therefore, we are guiding for an improvement in the second half of the year, which we believe is quite possible.

Just to clarify, Ken, you and John mentioned that we should expect the second quarter to resemble the first quarter, excluding CVA and DVA. We anticipate the flow will likely be in the middle of the 60 to 80 range. Additionally, we do not expect the CVA and DVA adjustments to be as volatile as they were this quarter.

In a softening economy, we are likely to adopt a more conservative approach, although we believe our underwriting standards remain consistent regardless of economic conditions. We are operating in strong markets, and while we notice a decrease in pipelines, there are still opportunities available. It's important for us to be selective with clients, especially during times like this, but we are committed to supporting our existing customers. In fact, about 85% of our loan growth last quarter came from current customers. We are cautious in bringing on new clients. Additionally, even though the economy appears strong and there are opportunities, pipelines have declined due to customer caution stemming from challenges in labor acquisition. The labor market remains tight, with two job openings for every job seeker in the Southeast. Although costs have moderated, they have risen significantly, particularly interest costs, which increases pressure on projects. Therefore, we expect pipelines to remain subdued for the remainder of the year, but we are confident in achieving the loan growth we have projected despite these challenges.

In the past, you’ve mentioned that you won’t need debt financing for several quarters. Can you provide an update on your thoughts regarding this, especially considering that while your current size doesn't meet TLAC expectations, there is a possibility that it will in the future? I would like to hear your perspective on this. Thank you.

Yes. So from a debt financing standpoint, we borrowed a little bit from the FHLB, as you saw. But the larger term financing, we said we’d push off probably until the second half of the year. We don’t know what the regime is going to be, if there will be any change pushed down to us from a TLAC standpoint. At some point, whether we had that or not, we need some more term financing, some term debt that we’ll put on. And so, I think that we can make sure we deal with that over time. Betsy, I would say that the changes that are at least being bandied around right now, you can’t move too fast because we all can’t go out there and raise a bunch of debt at the same time. It would be tough for the market to absorb. So I think any change that might be coming relative to that would be over time. And I still think there’s going to be some tailoring. What that looks like, what that means, we’ll have to find out with our regulatory supervisors and policymakers decide. But outside of something like that, and we have a little bit of term debt that we need to get done, and that’s really pointed towards the back half of this year. And that’s included in our guidance.

Right. And that was something that you had been talking about for a while. Just wondering if it’s feasible to give us a sense as to size, if that’s reasonable or not?

No, we haven’t done that yet. So, we’re still working out what that needs to look like and precise timing, too. But we don’t expect it in this first half of the year.

Yes, that’s a great question. We indicated that our first quarter would be a peak period. I’m not sure everyone had that in mind, but that’s the reality. We've provided guidance that suggests the first half of the year will outperform the second half. We anticipated certain events for the first half, including moving our merit increase from April to March, which was reflected in our first quarter results. When it comes to managing expenses, the focus starts with salaries and benefits, ensuring we have the right number of people in appropriate roles. This remains a challenge, and we consistently seek to improve processes and utilize technology so that with natural attrition, we may not need to replace every departing employee. We've also assessed our workspace, acknowledging that our return to office strategy is still evolving. It appears we have more office and branch space than necessary, prompting a team to work on optimizing our real estate, which is our second highest cost. In terms of technology, we need to allow for funding our ongoing transformation, which will increase certain costs, but we can make cuts elsewhere to accommodate this. We also focus on managing vendor expenses by ensuring we get the best deals and limiting reliance on consultants. There is a cost structure in our company that will face challenges this year, especially without rate support in 2024. Therefore, we need to begin addressing our expenses now to prepare for next year, and we're confident in our expense forecast of 4.5% to 5.5% for this year.

I just wanted to ask a little bit about the adjusted revenue guidance. Obviously, I can appreciate that would be down a little bit given the funding pressures industry-wide. But as I look at your results from this quarter, it kind of feels like they were within guidance from last quarter, and the NIM was exceptionally high. So, it just feels like you might be ahead of schedule versus having to pair that guidance back. So, I’m wondering if you can walk me through the main drivers of that reduction.

There are two main factors influencing our guidance. First, we based our projections on the March 31st forward curve, which anticipated 75 basis points in cuts this year along with one increase, leading to rates in the 450 range by year-end. We provided sensitivity analysis for any deviations, which is available on page 7 of our presentation. The second factor is that our capital markets segment experienced a significant decline in the first quarter, largely due to the CVA/DVA adjustment. We don't expect this level of impact to recur, but it still affects our numbers, and we included it in our core figures without adjusting it out. Some analysts may choose to make adjustments, but we present it as part of our core data for your consideration. In addition, we've indicated that our service charge revenue may decrease as we plan to introduce a 24-hour grace period, but we have provided an estimate of $550 million for service charges and will keep you updated as we gain more clarity. Overall, those are the three primary drivers.

Okay. Very helpful, David. And then I guess just one maybe high-level kind of question. I mean, it feels like your business model is really proving itself out right now. I mean, you’re in just a phenomenal position from a deposit perspective, and you’ve diversified your loan book so much over the last few years. I guess, as you look at the environment today, is there anything you would have done differently or anything you would have structured differently, knowing what, I guess, we’ve learned since March 8th or what have you? Or do you feel like you’ve done what you would have wanted to do regardless?

Stephen, I believe our core franchise consists of our customers and the people who work here, and we have an excellent customer and deposit base. We’ve emphasized this for many years, even during times of near-zero rates when the benefits weren’t apparent. The rise in rates and the liquidity challenges we've faced have validated our business model. We see no reason to alter that approach, nor our focus on viewing customers as assets on the right side of the balance sheet through checking and operating accounts, which has worked well for us. We’ve also added some talented individuals to our team, especially in technology and revenue areas, who are performing exceptionally. Sticking to the fundamental principles of banking is what we've adhered to. John has encouraged us to maintain this strategy. We aren’t taking significant risks; instead, we aim for consistency. To me, staying the course has proven to be effective. If we focus on soundness, profitability, and growth—those are the three priorities John has emphasized in that sequence—we will establish a strong franchise that is less volatile than many of our peers and significantly less volatile than we were before the crisis. I don't foresee major changes ahead. We do need to improve our use of technology in areas where we currently rely on human capital, which is on our agenda, and we are addressing it.

Thank you. Well, I know it’s been a busy week for everybody. I appreciate your participation today, and thank you for your interest in Regions. We’ll end the call. Thanks very much.