Wells Fargo & Company (WFC) — Q4 2015 Earnings Call Transcript

Thank you, Regina, and good morning, everyone. Thank you for joining our call today where our Chairman and CEO, John Stumpf; and our CFO, John Shrewsberry, will discuss fourth quarter results and answer your questions. This call is being recorded. Before we get started, I would like to remind you that our fourth quarter earnings release and quarterly supplement are available on our website at Wellsfargo.com. I'd also like to caution you that we may make forward-looking statements during today's call that are subject to risks and uncertainties. Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings, including the Form 8-K filed today containing our earnings release and quarterly supplement. Information about any non-GAAP financial measures referenced, including the reconciliation of those measures to GAAP measures can also be found in our SEC filings, in the earnings release, and in the quarterly supplement available on our website. I will now turn the call over to our Chairman and CEO, John Stumpf.

Thank you, Jim. Good morning and Happy New Year. Thank you for joining us today. Our strong performance in 2015 reflected the benefit of our diversified business model and our focus on the real economy. Our contribution to the real economy in 2015 was broad-based and included originating $213 billion in residential mortgage loans, $31 billion of auto loans, almost $19 billion in new loan commitments to our small business customers who primarily have less than $20 million in annual revenue, $34 billion of middle market loans, and $29 billion of commercial real estate loans. We're active in facilitating the payments that drive economic activity across the country, with over $280 billion of debit card purchase volume, $70 billion of consumer credit card purchase volume, and $25 billion of commercial card spend volume in 2015. We also contribute to the communities we serve in many other ways that are not directly reflected in our financial results but are just as important to our success. For example, we've had the nation's number one United Way campaign for six consecutive years. Let me highlight a few of our other accomplishments during the past year. We generated earnings of $23 billion and earnings per share of $4.15. We grew revenue and pretax pre-provision profit. Our financial strength and competitive position have enabled us to capture opportunities for loan growth organically and through acquisitions, with average loans up $51 billion from a year ago, a 6% increase. Our deposit franchise once again generated strong customer and balance growth, with average deposits up $80 billion or 7% from a year ago, and we grew the number of primary consumer checking customers by 5.6%. Our credit results continued to be very strong, with our net charge-off rate declining to 33 basis points for the year. However, since we did not have any reserve release in the second half of the year, our provision expense increased $1 billion compared with a year ago. Our capital levels increased, even as we returned more capital to shareholders, our fifth consecutive year of increased returns. We returned $12.6 billion to our shareholders through common stock dividends and net share repurchases in 2015. Turning to the economic environment, while parts of the global economy have continued to experience stress and the markets have reacted negatively in the early weeks of 2016, domestic economic conditions remain generally favorable. As you know, Wells Fargo is a U.S.-centric company and the strength and diversity of the U.S. economy benefited our results in 2015. The economy continues to advance with strong job creation, including 70 consecutive months of gains in private payrolls, the longest run ever recorded. While falling energy prices have hurt certain sectors of the U.S. economy, most consumers and many businesses are benefiting from lower power costs, which results in more discretionary cash that can be used for other purposes. Auto vehicle sales were the best ever in 2015, and Wells Fargo originated a record number of auto loans during the year. If gas prices continue to remain low, 2016 should be another strong year for the auto market. The housing market also continued its steady improvement, with price appreciation of 6% helping homeowners build equity and improving the credit quality of our consumer real estate portfolio where net charge-offs were down 44% from a year ago. While December housing data is not yet available, 2015 appears to be the best year for home sales and housing starts since 2007. Inventories of homes for sale remain historically low, providing a tailwind for building activity into 2016. Commercial real estate appreciation has been even stronger than consumer real estate, and vacancy rates for nearly all property types continue to decline. For apartments, vacancy rates are at historic lows which should benefit both construction activity and pricing in 2016. Finally, the building blocks of our long-term growth, increasing our customer base, deepening relationships, and growing loans and deposits continue to be the foundation of our success. I am excited about opportunities to continue to build on these growth drivers in the year ahead, as our team members remain focused on satisfying all of our customers' financial needs. John Shrewsberry, our Chief Financial Officer, will now provide more details on our results. John?

Thank you, John, and good morning, everyone. My comments will follow the presentation included in the quarterly supplement, starting on page 2. John and I will then answer your questions. We had another quarter of solid results. While our fourth quarter earnings were the same as a year ago, the fourth quarter of 2014 had the benefit of a credit reserve release and the gain from the sale of our government-guaranteed student loan portfolio. Our results this quarter demonstrated momentum across a variety of key business drivers. Compared with a year ago, we continued to have strong loan and deposit growth throughout our diversified commercial and consumer businesses. We grew revenue and pretax pre-provision profit. We had positive operating leverage as our expenses declined. Credit quality remained strong, with net charge-offs of 36 basis points of average loans, and we continued to have strong liquidity and capital levels. Now let me highlight these key drivers in more detail. On page 3, we show the strong year-over-year growth John highlighted, including growing revenue, pretax pre-provision profit, loans, deposits, and earnings per share. These results are even more impressive when you consider some of the headwinds we faced in 2015, while we continued to invest in our business. For example, loan loss reserve releases declined from $1.6 billion in 2014 to $450 million in 2015. The sustained low rate environment and our disciplined redeployment of our strong deposit growth reduced our margin by 12 basis points. We continued to invest in risk management related activities and these expenses were up 12% compared with 2014. We strengthened our balance sheet with increased liquidity and capital levels. Turning to page 4, we grew earning assets 3% from third quarter, with loans, short-term investments, and investment securities all increasing. Our funding sources increased with continued deposit growth and increased long-term debt and short-term borrowings. Long-term debt increased $14.3 billion with $17.8 billion of issuances, including debt related to funding the previously announced GE Capital acquisitions. The debt we issued during the quarter had a weighted average maturity of about eight years, at a cost of approximately three-month LIBOR plus 70 basis points. However, $10.5 billion of these issuances have a shorter maturity and become eligible for prepayment during the first half of 2016. By beginning to pre-fund the GE Capital acquisitions, we were able to maintain our strong liquidity position and our healthy level of dry powder to fund prospective balance sheet growth while retaining the flexibility to pre-pay a significant portion of the debt should we determine it is no longer needed. Turning to the income statement overview on page 5, revenue declined $289 million from third quarter, as growth in net interest income was offset by lower non-interest income primarily due to the higher level of equity investment gains in the third quarter. As shown on page 6, we had continued strong broad-based loan growth in the fourth quarter. We've now achieved year-over-year loan growth for 18 consecutive quarters. Our core loan portfolio grew by $62.8 billion, or 8% from a year ago, and was up $15.4 billion from the third quarter. Commercial loans grew $9.3 billion, and consumer loans grew $6.1 billion from the third quarter. We did not acquire any loan portfolios in the fourth quarter, so the linked quarter growth was all organic. The GE Capital transactions that we announced last quarter will start to be reflected in our first quarter results. The GE Railcar Services transaction with $4.1 billion of loans and leases closed on January 1, making us the largest railcar operating lessor in North America. We anticipate the North American-based portion, about 90% of the approximately $31 billion of assets we expect to acquire from GE Capital, to close late in the first quarter, with the remainder expected to close in the second quarter. We're looking forward to having many talented and experienced people from these businesses join our team. Page 20 in the appendix has additional updates on these transactions. On page 7, we highlight the diversity of our loan growth. C&I loans were up $28.1 billion, or 10% from a year ago. The growth was diversified across our wholesale businesses with double-digit growth in commercial real estate, asset-backed finance, corporate banking, equipment finance, structured real estate, and government and institutional banking. Core 1-4 family first mortgage loans grew $15.9 billion, or 8% from a year ago and reflected continued growth in high quality nonconforming mortgage loans. Commercial real estate loans grew $13.6 billion or 10% from a year ago and included the second quarter GE Capital acquisition in organic growth. Auto loans were up $4.2 billion, or 80% from last year. We continued to benefit from a strong auto market while we remained disciplined in our approach to credit and pricing. Other revolving credit and installment loans were up $3.3 billion, or 9% from a year ago, with growth in securities-based lending, personal lines and loans, and student loans. Credit card balances were up $2.9 billion, or 9% from a year ago, benefiting from new account growth and strong growth in active accounts as we experienced better activation rates on new accounts and more active users among our existing customers. As highlighted on page 8, we had $1.2 trillion of average deposits in the fourth quarter, up $67 billion, or 6% from a year ago. Our average deposit cost was 8 basis points, down 1 basis point from a year ago and stable with third quarter. We've stated that we believe deposit betas will be lower at least initially during this rate cycle and lower than they have been in past periods of rising rates. Indications since the rate move in December support this. However, we continue to monitor the market to ensure we remain competitive for our customers while maintaining our disciplined relationship-based pricing strategy. This relationship focus has resulted in strong primary customer growth, with the primary consumer checking customers up 5.6% from a year ago and our primary small business and business banking checking customers up 4.8%. Primary customers are over twice as profitable as non-primary customers. Page 9 highlights Wells Fargo's revenue diversification and the balance between spread and fee income. Over the past year, as we benefited from balance sheet growth, we've been able to grow net interest income by 4% while noninterest income has been relatively stable compared with a year ago. As a result, net interest income generated just over half of our revenue in the fourth quarter. We grew net interest income $408 million from a year ago, even as the net interest margin declined 12 basis points. The $131 million increase in net interest income from third quarter reflected growth in earning assets and higher income from variable sources including periodic dividends, loan recoveries, and fees. Net interest income also benefited modestly from the increase in interest rates late in the quarter. These benefits were partially offset by reduced income from seasonally lower balances of mortgages held-for-sale and increased interest expense from higher debt balances. The net interest margin declined 4 basis points from the third quarter. Income from variable sources improved the margin by 2 basis points, but was offset by customer-driven deposit growth which reduced the margin by 3 basis points, with a minimal impact on net interest income. All other repricing growth and mix reduced the margin by another 3 basis points, driven largely by increased debt balances including the funding related to the GE Capital transactions that I mentioned earlier on the call. We demonstrated our ability to grow net interest income which was up 4% from a year ago through balance sheet growth, even in the challenging rate environment during 2015. On a full-year basis, we believe we can increase net interest income in 2016 compared with 2015, in part due to the December rate increase and also from anticipated balance sheet growth. If there are additional rate increases during 2016, we would expect our net interest income growth for 2016 to be higher than the 4% growth rate we achieved in 2015. Total non-interest income declined $420 million from third quarter, primarily driven by lower equity gains. Gains from equity investments were $423 million in the fourth quarter, which were in line with the quarterly average over the past two years. Equity gains declined 6% in full year 2015, compared with 2014. And considering the current market conditions in our pipeline, we would expect continued declines in 2016. The volatile markets we've had so far this year could also impact our results in capital markets related businesses, including investment banking and trading and may also affect the asset-based valuations and transaction volumes in our market-driven businesses including retail, brokerage, asset management, and trust. We had linked quarter growth in a number of our businesses including investment banking, card fees, commercial real estate brokerage, and mortgage banking. Mortgage banking revenue increased $71 million from third quarter. Origination volume of $47 billion was down 15% from third quarter, reflecting the expected seasonal slowdown in the purchase market, but was up 7% from a year ago benefiting from a stronger housing market. We ended the quarter with a $29 billion application pipeline, down 15% from third quarter, but up 12% from a year ago. Our production margin on residential held-for-sale mortgage originations was 183 basis points in the fourth quarter, down from 188 basis points in the third quarter. Mortgage origination revenue in the fourth quarter benefited from a $128 million repurchase reserve release, as we resolved certain exposures and revised liability assumptions. Higher mortgage origination revenue also reflected stronger multi-family mortgage activity in the fourth quarter. Other income declined $214 million from third quarter, driven by the impact of higher period-end interest rates on our debt hedging results and the sale of Warranty Solutions last quarter, which benefited third quarter income. There are also a few linked quarter changes in some fee categories that were not driven by business activity. Merchant processing fees as reported declined $182 million linked quarter. These fees are now reported in other income as a result of an accounting change which was P&L neutral. The increase in gains from trading activities this quarter was due to higher deferred compensation gains which are offset in employee benefits and are also P&L neutral. As shown on page 12, expenses were stable with the third quarter, and we remain focused on expense management. There are a few items to highlight that impacted the linked quarter trend in some specific categories. The increase in employee benefits expense reflected $319 million of higher deferred comp expense which was primarily offset in trading revenue. Operating losses were down $191 million from third quarter from lower litigation accruals, while foreclosed asset expense declined $89 million due to commercial real estate recoveries. Also, third quarter expenses included a $126 million contribution to the Wells Fargo Foundation. A number of our expenses are typically higher in the fourth quarter. Equipment expense was up $181 million, primarily due to annual software license renewals. Outside professional services increased $164 million which included higher project-related spending. Advertising expenses were also elevated, up $49 million. While these typically higher fourth quarter expenses should be lower next quarter, as usual, we will have seasonally higher personnel expenses in the first quarter, reflecting incentive compensation and employee benefits expense. Our efficiency ratio was 57.8% for the full year 2015 and we currently expect to operate at the higher end of our efficiency ratio range of 55% to 59% for the full year 2016. Turning to our business segments, starting on page 13, community banking earned $3.3 billion in the fourth quarter, down 1% from a year ago and down 7% from third quarter. We continue to grow the number of retail bank households we serve and we're focused on building lifelong relationships with our customers by providing them with exceptional customer service. In fact, we were ranked number one in customer satisfaction in the national bank category according to the 2015 American Customer Satisfaction Index. We're growing our credit and debit card businesses through new customer growth and increased usage among existing customers. Debit card purchase volume was $73 billion in the fourth quarter, up 8% from a year ago and credit card purchase volume was $18.9 billion, up 12% from a year ago. Our credit card penetration of retail banking households increased to 43.4% in the fourth quarter, up from 41.5% a year ago. We received the highest ranking in Corporate Insight assessment of credit card issuer rewards redemption options and just this week, we launched a new Propel American Express card with no annual fee. Our customers are also increasingly using our digital offerings, with active online customers up 7% and active mobile customers up 14% from a year ago. To better support our customers as they grow their companies, we've moved business banking and merchant payment services which were previously included within community banking to wholesale banking. For comparative purposes, prior periods segment results have been revised to reflect this realignment. Wholesale banking earned $2.1 billion in the fourth quarter, stable from a year ago and up 9% from third quarter. The linked quarter growth reflected higher net interest and noninterest income. The increase in fee income was driven by investment banking and gains from the sale of equity fund investments driven by Volker, as well as commercial real estate related businesses such as Eastdil Secured, our commercial real estate brokerage and advisory business, Multifamily Capital, and structured real estate. Revenue also benefited from continued balance sheet growth, with average loans up 13% from a year ago, the fifth consecutive quarter of double-digit year-over-year growth. Average deposits grew 6% from a year ago. We remain disciplined in our deposit pricing for our wholesale customers and we're focused on relationship-based pricing for both deposits and loans. Wealth and investment management earned $595 million in the fourth quarter, up 15% from a year ago and down 2% from third quarter. Growth from a year ago was driven by a positive operating leverage, with expenses down 2% and revenue up 1%. Revenue reflected strong balance sheet growth, with net interest income up 15% from a year ago. Average deposits grew 7% from a year ago and average loans grew 15%, the 10th consecutive quarter of double-digit year-over-year loan growth. Loan growth was broad-based, with strong client demand across a number of product offerings, including high-quality nonconforming mortgage loans, commercial loans, and securities-based lending. Retail brokerage managed account assets were up 3% from third quarter and down 1% from a year ago. The decline from a year ago reflected lower market valuations which were partially offset by positive flows. Turning to page 16, credit quality remains strong, demonstrating the benefit of our diversified portfolio. Our net charge-off rate was 36 basis points of average loans. Net charge-offs increased $128 million from third quarter, reflecting $90 million of higher losses in our oil and gas portfolio which totaled $118 million in the fourth quarter and seasonally higher consumer losses. The performance of our consumer real estate portfolios which are 36% of our loans outstanding continues to benefit from the improving housing market. Nonperforming assets have declined for 13 consecutive quarters and were down $497 million from third quarter, driven by improvements in our commercial and consumer real estate portfolios and a $342 million reduction in foreclosed assets. Oil and gas non-accruals were $843 million, up $277 million from third quarter. However, as of year-end, over 90% of our nonaccrual oil and gas loans were current on interest payments. We didn't have a reserve release or build in the fourth quarter, as the improvement in our residential real estate portfolios was offset by higher commercial reserves, reflecting the impact from our oil and gas portfolio. Total loans in our oil and gas portfolio were down 6% from a year ago and are now less than 2% of total loans outstanding. We continue to work closely with our customers and are monitoring market conditions and we have reset borrowing base determinations twice since energy prices started to decline in late 2014. However, as we've mentioned in the past, it takes time for losses to emerge and at current price levels, we would expect to have higher oil and gas losses in 2016. We've considered the challenges within the energy sector in our allowance process throughout 2015 and approximately $1.2 billion of the allowance was allocated to our oil and gas portfolio. It's important to note that the entire allowance is available to absorb credit losses inherent in the total loan portfolio. We've also considered the impact of lower energy prices on our debt and equity securities portfolio and had approximately $130 million of OTTI-related write-downs in our energy-related holdings in the quarter. Turning to page 17, our capital levels remained strong, with our estimated Common Equity Tier I ratio fully phased in at 10.7% in the fourth quarter, well above the regulatory minimum and buffers in our internal and regulatory minimums and buffers. Our strong capital generation positioned us well for the acquisitions we announced in 2015 and for returning more capital to shareholders. We returned $3.2 billion to shareholders in the fourth quarter through common stock dividends and net share repurchases, and our net payout ratio was 59%. In summary, our fourth quarter and full-year results demonstrated the benefit of our diversified business model, with strong growth in loans and deposits and consistent earnings. We continued to invest in our businesses, grew capital and liquidity and maintained a strong risk culture. We're excited about the opportunities ahead and expect our customer base to grow both organically and through acquisitions, including from the customers and platforms we're acquiring from GE Capital in 2016. We remain focused on satisfying our new and existing customers' financial needs. John and I will now answer your questions.

If we could just circle back on some of the energy comments, maybe get the exact underlying balances. You said, first on the energy loans, less than 2% of your total loan book. If you have that exact number? And then, same thing, in terms of some of the fixed income and equity exposure, just to have a sense of the gross energy risk in those three buckets?

Yes. So I would use $17 billion as outstandings for energy loans. And for securities, call it $2.5 billion which is the sum of AFS securities and nonmarketable securities.

Okay. And then just remind us on the lending side, the mix of investment grade versus non-investment grade or unrated?

Yes. The first breakdown I would provide is for upstream and midstream services, which I believe is relevant. About half of the total is upstream, one-quarter represents services, and one-quarter is midstream. For that breakdown, we've highlighted our investment-grade portion. Our primary focus is on the middle market, private clients rated BB and below.

Okay. And I'm sorry, of the $17 billion, how much of that piece that you are focused on?

We are focused on the overall picture. Half of our customer balances come from exploration and production companies, while a quarter come from oilfield services and another quarter from pipelines, storage, and other midstream activities. This does not include investment-grade, diversified larger-cap companies, as we don't consider their credit exposure to be quite the same.

Okay. And is this more related to that specific area you are focused on?

Not much of that to begin with.

Okay. And then just more broadly speaking, I mean, obviously is a very balanced loan portfolio and as you mentioned, consumer-heavy if anything. But any thoughts on how much more improvement there is still to come on the consumer side? And assuming maybe the macro either holds or just has a soft patch overall, is there still some embedded improvement that we could see, I guess, really in the real estate portfolios, on the consumer side?

Well, I mean, our outlook for housing in 2016 is actually pretty strong. We've got a little bit more supply coming in. You've got more household formation. We're going to have a four handle on unemployment before you know it and we've got low rates. So if that continues to be true, that's probably a continued tailwind in terms of some of the drivers of the estimation of embedded loss on the consumer real estate side of the loan portfolio. And without putting a number on it, because you only know it when you get there, I think that's supportive.

Following up on the energy question, you mentioned in your prepared remarks that over 90% of the portfolio is current and that you've reset twice. However, if prices remain at their current levels, we might see higher losses in 2016. I wanted to get a better understanding of what rate of change we should anticipate as oil prices decline, particularly as we develop our model for provisions in 2016.

Can I make one correction to your setup there?

Yes.

Over 90% of nonperforming oil and gas loans are performing, and all of the others are as well. Regarding the allowance we have today, we could envision prices remaining at current levels. The rate of change in loans moving to loss is influenced by several factors beyond just price. We've gone over the distribution of upstream and midstream services, which behave differently. Our customers engage in either oil or gas, and their business models vary by region and extraction method. Therefore, losses in 2016 will be influenced by much more than just the spot price or near-term expectations for crude oil. That said, we've adjusted our outlook to consider a situation where prices are around $30 a year from now, and we believe our allowance reflects the potential loss content we may encounter.

And Betsy, just to add, we have some of the most skilled people, 250 or so folks who have been in this industry a long time, have seen changes and we're really focused on this. But as Matt just asked a few minutes ago, we also should step back and look at the entire portfolio. And when you have 36% of your loans, as John mentioned in residential real estate, a small improvement there is huge for this company. All portfolios are important, but I just want to make sure we look at this in perspective.

Right, absolutely. I just wanted to understand how you're thinking about that reserve, because roughly 7%, it's one of the higher ones we've heard of. So I'm expecting that you are not just using the forward curve on oil to set your reserving levels.

That's correct. We're using the idiosyncratic customer by customer circumstances, including the things that I mentioned. And their individual leverage activity, what's going on customer by customer.

Yes. Because, I mean, the question has been, as the oil price goes down and then you get closer extraction costs and your reserves go negative. How do you deal with that kind of environment? And I'm just wondering how much of that you've already priced into the reserve that you've got?

We believe the current conditions in our portfolio, along with the prices we see today and anticipate in the future, alongside the specific situations of each borrower, indicate that the overall risk is somewhat greater than what others have reported.

On the energy side again, just do you have the criticized energy ratio for that portfolio? And then, separately, just getting to that sensitivity question, if we did see oil pull into the $20s and stay there, $20 to $25 range, can you give us just an idea of how, the magnitude of the increase and the loss migration under that scenario?

Sure. So criticized assets today or at the end of the quarter in that portfolio are about 38% of outstandings. And there isn't a simple way to dimension what the change would be in losses, based on some other future price income. As I mentioned to Betsy, we're sensitizing our portfolio based on a continuation of very, very, very low oil prices, the context of where we're today, rather than an upward sloping curve, in addition to scenarios that include an upward sloping curve and we're comfortable with the amount of coverage that we have today. That's how I'd think about it.

Yes. Okay. All right, and then separately, on the spread revenue side, you indicated that net interest income should grow and could exceed the 4% growth that you saw in 2015 if you have rate hikes. How many hikes are you assuming and by how much could it exceed the 4%?

Yes. We are considering scenarios with one, two, three, and four rate hikes, as we cannot predict the future with certainty. We have worked diligently to achieve the net interest income growth we’ve experienced in a no hike environment over the past few years. The outlook feels different daily. If we were to have three or four rate hikes, it’s possible for us to see mid to high single-digit percentage growth rates for net interest income. This would depend on factors like organic loan growth, finalizing our GE portfolios, and the timing and number of rate hikes.

Okay. Then lastly, what would that mean for the margin outlook if we experience those hike scenarios?

Yes, it starts to expand. I wouldn't anticipate that expansion until we see continued interest rate hikes. We've pre-funded a bit of debt to ensure we're positioned well for the asset acquisitions. This creates some margin pressure as those loans need to be recorded before they are paid off. Additionally, a 25 basis point increase, while significant, won't have much effect. Our response to deposit pricing has been slow, and it's the future hikes that will significantly impact our margin. Ultimately, our main goal is to grow net interest income, and while deposit growth or funding activities can affect our margin, our focus is on increasing the amount.

On the efficiency guide for full-year 2016 at the upper end of your 55% to 59% range, you noted that for the full year 2015, you were at 57.8%. And I'm wondering if you could walk us through the puts and takes, in terms of operating leverage staying flat? And also to follow up with John's question, how many interest rate hikes is that upper end of the 55% to 59% range on efficiency embedded?

So in terms of puts and takes and 2015 versus 2016, we're still in an elevated time for what I would describe as compliance risk management, technology including cyber-related spend. We're still in an elevated time of product development and sort of offensive related spend. And so, I think that that's part of what guides us to this higher end for the time being. One notable difference in 2016 versus 2015, I'm not sure if anybody else has focused on this in their calls, but we also have this new incremental FDIC insurance surcharge, every bank over $10 billion in assets. And that's worth $480 million pre-tax to Wells Fargo for its partial year impact in 2016. So we're all going to have something like that for the next year or two, while that works its way through. So I would think about that. And that begins I think in Q2 of 2016. And then, if it's enacted in its current form which it's anticipated to be. So if we have two or three moves in 2016 by the Fed and if they happen ratably throughout the course of the year, that incremental revenue will have a beneficial impact on the efficiency ratio. But I don't know that it drives us below the middle of the range. So I think the range is still appropriate. We'll probably focus more on that and the other targets that we give you in our May Investor Day. There's a little bit of time between now and then to really set the course for the next couple of years that reflect the environment, the balance sheet structure that we have, and our expense profile. But I still feel like it's appropriate to think about the higher end of the range, so the 57% to 59% for this year, unless rates really, really begin to move which seems hard to imagine sitting here at this moment.

And Erika, how we think about expenses around here is that we're pretty tight-fisted when it comes to making sure that the expenses, the investments we do make have shareholder benefits to them. As John mentioned, defensive, offensive, we're spending a lot of money in compliance, cyber, and on the other hand, we're spending also a lot of money on items and issues and things that create convenience for customers, mobile payments, and a whole bunch of other things. And we always try to take a long-term view. But there's a lot of discussion that takes place about managing expenses and making sure that the investments we're making do have a long-term pay off for us.

I understand your point regarding the ratio of your energy exposure compared to the consumer segment. However, I would like to ask about CCAR. Did you receive sufficient feedback from your regulators regarding how oil and gas losses were assessed in the 2015 CCAR and how that compares to the current baseline in your reserve? The concern for investors is that, while it seems everyone is adequately reserved for actual figures, there could be a significant amount of stress imposed on that portfolio in the 2016 CCAR.

It's certainly possible. We haven't gotten those instructions for that specific scenario analysis yet. Separately, it won't surprise you that we're very transparent, spend a lot of time talking with the regulatory community about what's going on in energy. They are fully aware of how our portfolio works. But as you mentioned, at the beginning of that statement, it's important to remember that we're talking about 2% of a $920 billion loan portfolio. So they know that. We know that and the math benefits from that.

Does the decision by one of your large competitors to pass the 25 basis point increase through to their commercial depositors influence at all how you guys view the degree to which you and others in the industry will benefit from higher rates?

It varies. Our wholesale teams, along with the different customer segment relationship teams, provide various insights into what competitors are doing. Some banks appear to be raising deposit rates a bit faster. In the wholesale space, we compete on service and product offerings. There are many factors at play, and price impacts certain balances. Some deposits are more valuable than others in terms of liquidity, and some relationships carry more weight. We are very aware of what we need to do to uphold our relationships and reward customers with significant ties to us.

We've been through this before. And we try to stay really focused, Bill, on customer and providing them great value. And I think what John is saying and what we're all saying is, there is value to the entire relationship. There is value to the products we have and services and surely deposit pricing is one of those value items. But it's not a standalone item.

Yes. One observation I have is that some of the feedback I've received indicates that the customers who are most sensitive to deposit pricing are often those whose deposits have the least liquidity value to Wells Fargo. Therefore, it’s sometimes easier to see them move on.

I know them. They're great.

Yes. We certainly hope that it does. In particular, with Vendor, we mentioned this when we announced the deal. GE has a strong business that works closely with OEMs to help them finance their sales to customers. From Wells Fargo's perspective, most of those OEMs are already our customers in some capacity, and many of their customers are also our clients. This presents an opportunity for us to deepen the relationship and get closer to the manufacturers. In some cases, we can expand an existing program where we were previously a smaller player, and in many others, we can either create a new program or join one that is already successful. Overall, customer response has been positive as our leaders have connected with our new GE teammates and engaged with customers of the GE businesses. Customer retention has not been an issue; the focus now is on how quickly and effectively we can enhance our product offerings, considering everything Wells Fargo can provide to these wholesale customers.

My question is on fees, specifically if you could start on the brokerage business. Obviously, the market values are now weighing on the underlying growth, but I was wondering if you could just give us your outlook for growth in the brokerage business which unfortunately has comped now a little negative on a year-over-year basis. But can you just kind of distinguish between market levels, impacts and what you're seeing from a customer activity perspective as you look to 2016?

Sure. It's a bit complicated at the moment due to the impact of asset-based fund or fee arrangements. It's challenging to estimate right now. However, we are experiencing strong growth in account inflows and account assets. In a more stable S&P environment, we would expect the continuation of the single-digit percentage growth we have seen in recent years. However, with the current market instability, the outcome will depend on two factors: the levels we end up at, which will affect our fee schedule, and customer behavior—whether they continue to invest, increase their investments, or withdraw due to increasing volatility. David aims to continue growing the business by attracting new customers and encouraging existing customers to stay invested where appropriate, using this market as an opportunity for those with long-term goals. Revenue will fluctuate with the equity markets, but even with the pullback in the first quarter, we are discussing a sensitivity of hundreds of millions of dollars in net income if we do not recover and do not achieve significant new client growth throughout the year. Yes, I believe the MBA is projecting a mortgage market of $1.5 trillion or $1.6 trillion, potentially decreasing to $1.4 trillion in 2016 compared to 2015, and our team appears aligned with this outlook. Regarding the reduction in servicing, we expect to return to a more typical level of defaulted loan workouts in the next few years as the backlog from the crisis era diminishes. We will then determine the stable productivity rate and the number of staff needed to manage a portfolio of our size under more normal conditions. While there is some potential for further efficiency gains, our priority is ensuring that loans are serviced appropriately and that we address customer needs effectively. We are seeing improvements in unreimbursed servicing costs, which we expect to enhance quarter by quarter in the coming months.

I believe most of my questions have been addressed. However, I would like to revisit the energy portfolio. Can you discuss how you are approaching customer interactions at a high level? It seems banks are not pulling back on credit the way they might during a correction in other asset values. Also, John, I want to confirm what you said about the non-performing assets. Is it accurate that 90% of the oil and gas non-performing assets are current on interest only? I want to ensure I understood that correctly.

Currently, many borrowers are current on their interest payments. In terms of credit availability, I would say it is not just about bank credit; capital markets were quite accessible for energy companies early on, but that has changed. Smaller regional banks have only recently started to limit their willingness to lend. The decline in crude prices has led to concerns that this may be a longer-term situation. There isn't a significant demand for extra credit at the moment. It's more about how quickly we are asking our customers to align with their borrowing bases and how they're managing their excess cash and capital expenditure programs. We are being appropriately cautious to protect the bank's interests and are actively working with each customer to navigate these challenges. It's not beneficial for us to rush into issues that could leave us with multiple oil leases. This influences our approach. Service companies differ from exploration and production companies because their operations often depend on whether they can stay in business, rather than fluctuations in oil prices. If they aren't in business, we need to maximize the recovery of their assets quickly, as some of their inventory may only serve a specific purpose. This situation creates a unique set of challenges. I hope this provides some clarity on our perspective.

On the energy side again, just do you have the criticized energy ratio for that portfolio? And then, separately, just getting to that sensitivity question, if we did see oil pull into the $20s and stay there, $20 to $25 range, can you give us just an idea of how, the magnitude of the increase and the loss migration under that scenario?

Sure. So criticized assets today or at the end of the quarter in that portfolio are about 38% of outstandings. And there isn't a simple way to dimension what the change would be in losses, based on some other future price income. As I mentioned to Betsy, we're sensitizing our portfolio based on a continuation of very, very, very low oil prices, the context of where we're today, rather than an upward sloping curve, in addition to scenarios that include an upward sloping curve and we're comfortable with the amount of coverage that we have today. That's how I'd think about it.

Yes. Okay. All right, and then separately, on the spread revenue side, you indicated that net interest income should grow and it could exceed the 4% growth that you saw in 2015 if you get hikes. How many hikes are you assuming and how much greater than the 4% could it be?

Yes. We are considering scenarios with one, two, three, and four rate hikes because, like you, we cannot predict exactly what will happen. We have worked very hard to achieve the net interest income growth we have maintained in a no hike environment over the past several years. We will see what the future brings, as it seems to change daily. If we experience three or four rate hikes, could we reach mid to high single-digit percentage growth rates for net interest income? The calculations suggest it is possible. However, this will depend on organic loan growth, closing our GE portfolios that we have discussed, and the timing and frequency of the hikes.

On the efficiency guide for full-year 2016 at the upper end of your 55% to 59% range, you noted that for the full year 2015, you were at 57.8%. And I'm wondering if you could walk us through the puts and takes, in terms of operating leverage staying flat? And also to follow up with John's question, how many interest rate hikes is that upper end of the 55% to 59% range on efficiency embedded?

So in terms of puts and takes and 2015 versus 2016, we're still in an elevated time for what I would describe as compliance risk management, technology including cyber-related spend. We're still in an elevated time of product development and sort of offensive related spend. And so, I think that that's part of what guides us to this higher end for the time being. One notable difference in 2016 versus 2015, I'm not sure if anybody else has focused on this in their calls, but we also have this new incremental FDIC insurance surcharge, every bank over $10 billion in assets. And that's worth $480 million pre-tax to Wells Fargo for its partial year impact in 2016. So we're all going to have something like that for the next year or two while that works its way through. So I would think about that. And that begins I think in Q2 of 2016. And then, if it's enacted in its current form which it's anticipated to be. So if we have two or three moves in 2016 by the Fed and if they happen ratably throughout the course of the year, that incremental revenue will have a beneficial impact on the efficiency ratio. But I don't know that it drives us below the middle of the range. So I think the range is still appropriate. We'll probably focus more on that and the other targets that we give you in our May Investor Day. There's a little bit of time between now and then to really set the course for the next couple of years that reflect the environment, that reflect the balance sheet structure that we have, that reflect our expense profile. But I still feel like it's appropriate to think about the higher end of the range, so the 57% to 59% for this year, unless it rates really, really begin to move which seems hard to imagine sitting here at this moment.

And Erika, how we think about expenses around here is that we're pretty tight-fisted when it comes to making sure that the expenses, the investments we do make have shareholder benefits to them. As John mentioned, defensive, offensive, we're spending a lot of money in compliance, cyber, and on the other hand, we're spending also a lot of money on items and issues and things that create convenience for customers, mobile payments, and a whole bunch of other things. And we always try to take a long-term view. But there's a lot of discussion that takes place about managing expenses and making sure that the investments we're making do have a long-term payoff for us.

Does the decision by one of your large competitors to pass the 25 basis point increase through to their commercial depositors influence at all how you guys view the degree to which you and others in the industry will benefit from higher rates?

It depends. Our wholesale teams, along with the various customer segment relationship teams, provide unique insights into the actions of our competitors. Some banks seem to be more proactive in raising deposit rates. In the wholesale space, we're focusing on competing through service and product offerings. We're addressing multiple aspects, and there’s also pricing for certain balances to consider. Some deposits hold more value than others from a liquidity standpoint, and some relationships carry more weight. We're highly aware of what we need to do to maintain these relationships and reward customers where we have significant engagement and activities.

We've been through this before. And we try to stay really focused, Bill, on customer and providing them great value. And I think what John is saying and what we're all saying is, there is value to the entire relationship. There is value to the products we have and services and surely deposit pricing is one of those value items. But it's not a standalone item.

Yes. One observation I have is that some of the feedback I've received suggests that customers who are most sensitive to deposit pricing tend to have deposits with the lowest liquidity value to Wells Fargo. As a result, it can sometimes be easier to see those customers leave.

Yes. As John mentioned, we are a highly diversified company. We provide lending to various sectors of the economy, including farmers, ranchers, and oil and gas, with 2% of our loans in that area, as well as commercial real estate and the middle market. Therefore, certain companies may be affected more than others due to their respective operations. I can definitely understand why Fastenal, a Midwestern company that I know well and regard highly, is experiencing some challenges and expressing their concerns. This aligns with their product mix.

My observation is that for those selling to the energy extraction or processing sectors, this year has been challenging and will likely continue to be difficult. I would be surprised if those orders only decreased by 25%. More generally, as it reflects in our customer activity, companies heavily reliant on exports were negatively impacted early and significantly due to the strength of the dollar over the last couple of years. As John mentioned, the overall market isn't strong, and enthusiasm is lacking. However, we have seen growth in our commercial loan portfolios, indicating that businesses are still active. Much of this growth comes from us taking business from competitors, but a significant portion involves companies borrowing money for purchases. I don't view this as a manufacturing recession, although I understand the concerns of manufacturers who export everything and are trying to sell in dollars, as that poses a greater financial challenge.

Actually, Mike, it's a great question. I think back to 1985 or the early 1980s when I led the workout group. At that time, I saw our Denver-based energy business closely. Since then, we’ve experienced a few cycles, and this current one is different in several ways. First, the U.S. economy is more diversified, meaning the communities impacted by energy are also more varied. This isn’t true for every community, but it's something we observe. Secondly, companies have reacted much more swiftly this time compared to previous recessions, where there was often more hope for higher prices or a recovery before taking action. This time, they responded quickly. Additionally, the way companies finance themselves has changed, with more private equity and subordinated debt alongside bank debt. These are notable differences. Finally, the global supply and demand mismatch is quite narrow, with about 93 million barrels produced daily and around 92 million consumed. Demand appears to be continuing to grow. I’m not saying this will solve the issue quickly. The Saudis and Russians are producing aggressively, and tight oil production in the U.S. adds to the situation, but there are indeed differences. Our team that manages this portfolio has experienced many of these cycles, and each one is unique.

So to summarize, we think it's appropriate for the risk that we have embedded in the portfolio, the prices that we're living with today and can imagine into the future. The important focus of the models is how do we manage them on a customer by customer basis, developing a full understanding of how each customer is performing within their business environments. We remain in close touch and are actively managing that part of the portfolio.

We have some of the most skilled people, 250 or so folks who have been in this industry a long time, and we're really focused on this. But also, we need to step back and look at the entirety of our portfolio, especially given that 36% of our loans are in residential real estate, which can have a bigger impact on the overall health of our balance sheet. We have a very diversified portfolio and we need to keep that perspective.

Switching gears a bit, can you give us an update on how you feel about your capital plans for 2016, especially in relation to the stress tests?

Yes. We feel very confident about our capital levels and the adequacy of our strategies. We're committed to managing our CET1 ratio within a comfortable range above the regulatory minimums and providing value to our shareholders through both dividends and repurchases. As we navigate through 2016, we'll maintain a strong capital position to support our growth and meet our regulatory obligations.

We want to assure our investors that our long-term strategy remains focused on strengthening our balance sheet and generating sustainable returns through responsible risk management. We're grateful for the continued support and confidence of our shareholders.

Well, thank you for joining us. I want to thank all of our team members who serve one in three customers across the United States and so much appreciate all they do. Thank you for joining us and we'll see you in 90 days, three months from now. Bye, bye.