James C. Leonard
Executive Vice President and Chief Financial Officer at Fifth Third Bancorp
Thank you, Tim, and thanks all of you for joining us today. Our third quarter results were once again strong despite the market headwinds. We continued to strengthen our capital and liquidity levels ahead of pending regulations, while also managing our business very efficiently. We achieved an adjusted efficiency ratio below 55%, reflecting ongoing expense discipline throughout the bank and the continued diversification and resilience of our fee revenue streams.
Net interest income of approximately $1.45 billion decreased 1% sequentially. Our NII and NIM results reflect our proactive and continued defensive positioning, given the uncertain economic and regulatory environments. Our short-term investments, which primarily represent our cash held at the Fed, increased $5 billion on an average basis and increased $8 billion on an end-of-period basis to $19 billion. This increased level of cash was the primary driver of our 12 basis point NIM decline. Adjusted non-interest income increased 1% compared to the year-ago quarter, driven by growth in capital markets and deposit service charge revenue, partially offset by a decrease in mortgage revenue, driven primarily by lower origination volumes. Our ability to produce strong capital markets revenue in a volatile market has become a key distinction for Fifth Third compared to many peers. Adjusted non-interest expense increased just 2% compared to the year-ago quarter, reflecting growth in compensation and benefits, occupancy and technology expenses, partially offset by continued expense discipline across the Company.
Moving to the balance sheet, total average portfolio loans and leases decreased 1% sequentially due to softening customer demand and our RWA optimization efforts. Average C&I balances decreased 2% sequentially. As Tim mentioned, clients remain cautious with respect to their growth plans. Consequently, production was muted in corporate banking. Also, average CRE balances decreased 1% compared to the prior quarter. The period-end commercial revolver utilization rate of 36% increased 1% compared to last quarter, partially due to our exit of certain lower-returning unused commercial commitments. On a sequential basis, total corporate banking commitments and unused commitments decreased 3% and 4% respectively, while total middle market commitments and unused commitments increased 5% and 7% respectively. This trend highlights our capital optimization efforts, while we continue to grow share in the middle market.
Average total consumer portfolio loan and lease balances decreased 1% sequentially due to our intentional decline in indirect auto and the overall slowdown in residential mortgage originations, given the rate environment, partially offset by growth from Dividend Finance. Our card balances increased just 1% this quarter, reflecting our conservative risk culture and focus on transactors. Balances have increased 3% relative to the year-ago quarter, compared to 11% for the industry.
Average total deposits increased 3% sequentially, as increases in CDs and interest checking balances were partially offset by a decline in demand deposits, given the mix shift we have seen for several quarters. DDAs as a percent of core deposits were 28% for the quarter compared to 30% in the prior quarter. The 2 point decline was primarily due to the strong deposit growth in the denominator that Tim highlighted from our net new relationship growth in both consumer and commercial, which are obviously skewed to interest-bearing products in this environment. As a result, we added more than $4 billion in core deposits during the quarter, the most since the fourth quarter of 2021. Additionally, the DDA migration continued to show signs of deceleration this quarter and marked the smallest dollar decline in DDA balances since the onset of the rate hiking cycle. By segment, average consumer deposits increased 2% sequentially and commercial deposits increased 4%, while wealth and asset management deposits declined 2%, reflecting clients' alternative investment options. As a result of our balance sheet positioning and success adding new deposits, we achieved a loan to core deposit ratio of 74% at quarter-end, which should be one of the best, if not the best, compared to our regional peers. We also achieved full Category 1 LCR compliance at 118% at quarter-end.
Moving to credit, as Tim mentioned, credit has remained resilient. The net charge-off ratio of 41 basis points increased 12 basis points compared to the prior quarter as we expected, reflecting two credits which had been fully reserved. Early-stage delinquencies decreased 7% compared to the prior quarter, while loans 90 days past due of just 2 basis points were a record low for Fifth Third. Non-performing loans decreased 9%. This quarter marked the lowest inflows of commercial NPLs since the second quarter of 2022.
From an overall credit management perspective, we have continually improved the granularity and diversification of our loan portfolios through a focus on generating and maintaining high-quality relationships. As many of you know, we tightened underwriting standards during COVID, which limited our growth but improved the stability of our balance sheet. In consumer, we have focused on lending to homeowners, which is a segment less impacted by inflationary pressures and have maintained conservative underwriting policies.
In commercial, we have maintained the lowest overall CRE concentration as a percent of total loans relative to peers for many years. Our criticized non-performing and delinquent CRE loans have all improved sequentially and remain very well-behaved. And within that, the same is true for our office exposures. For instance, criticized office loans represented just 5.4% of total office CRE, which improved 180 basis points sequentially. Additionally, we have zero delinquencies and zero charge-offs. We also decreased loan balances by 8% in the office book without any loan sales. These credit quality metrics are significantly better than peers who have reported their office exposure so far this quarter. While credit quality in the office portfolio has remained very strong and we continue to believe the overall impact on Fifth Third will be limited, we nevertheless continue to watch it closely, given the environment.
Our Shared National Credit portfolio also remains very strong from a credit quality perspective with criticized assets, non-performing loans and net charge-offs consistently lower than the overall commercial portfolio across a multi-year period. Our credit resilience highlights our proactive risk culture. We continue to closely monitor all exposures where inflation and higher rates may cause stress throughout the entire portfolio, as well as the fallout from the ongoing labor strike in the auto manufacturing sector where we think our exposures are very manageable.
Moving to the ACL, our reserves decreased $5 million, but the coverage ratio increased 3 basis points sequentially to 2.11%, as the impact of lower period-end loans was offset by a slightly worse overall base case economic outlook. As you know, we incorporate Moody's macroeconomic scenarios when evaluating our allowance. Both the Moody's base scenario and the downside scenario used for the third quarter ACL assume a slightly worse average unemployment rate compared to the prior quarter. We maintained our scenario weightings of 80% to the base and 10% to each the upside and downside scenarios.
Moving to capital, our CET1 ratio increased 31 basis points sequentially, ending the quarter at 9.8%. Our capital position reflects our ability to build capital quickly through our strong earnings generation, combined with the impact of our RWA diet. Our tangible book value per share excluding AOCI increased 10% compared to the year-ago quarter. We continue to expect improvement in our unrealized securities losses, resulting in approximately 35% of our current loss position accreting back into equity by the end of 2025 and approximately two-thirds by 2020, assuming the forward curve plays out. Looking-forward, we expect to build capital at an accelerated pace, given our RWA optimization initiatives and our continued deferment of share buybacks. We anticipate accreting capital such that our CET1 ratio ends this year above 10%.
Moving to our current outlook, we expect fourth quarter average total loan balances to decline 2% to 3% sequentially with consumer loans down 2% and commercial loans down 3%. This reflects our overall cautious economic outlook, combined with one more quarter of our RWA diet, as we are responding quickly to higher risk-adjusted return thresholds throughout the bank, considering the economic and regulatory environments. We'd expect average deposits to be up slightly on a sequential basis. Within that, we expect core deposits to increase 1% due to our multi-year investments in the franchise to add households and primary commercial relationships, along with the benefit from seasonality. While we continue to expect modest migration from DDA into interest-bearing products in a higher for longer interest rate environment, specifically for the fourth quarter, we expect the mix of DDA to core deposits to remain relatively stable, given those seasonal benefits.
Shifting to the income statement, we expect fourth quarter NII to be down approximately 1% to 2% sequentially due to the continued impacts of the balance sheet dynamics I mentioned. Our NII guidance assumes no additional rate hikes and a cumulative beta, which includes CDs and excludes DDAs, of 55% by the fourth quarter. Excluding brokered deposits that we have been using as a replacement for other wholesale funding, given the pricing considerations, our cumulative beta expectation continues to be 53%. This outlook translates to total interest-bearing deposit costs increasing 15 basis points to 20 basis points in the fourth quarter.
Our guidance assumes that our securities portfolio balances remain relatively stable through year-end. As a byproduct of our strong deposit growth, combined with our loan outlook and stable securities balances, we expect to hold closer to $20 billion in cash and cash equivalents by year-end. Given these balance trends, we expect our loan to core deposit ratio to continue to move lower through the end of the year, which will keep Fifth Third in a strong liquidity position in anticipation of more stringent regulatory requirements, including remaining compliant with the full Category 1 LCR.
We expect fourth quarter adjusted non-interest income to increase 1% to 2% compared to the third quarter. We expect revenues to remain resilient across most captions, driven by our multi-year focus on growing a diverse portfolio of fee businesses that should perform well in different economic environments. We expect fourth quarter TRA revenue of $22 million compared to $46 million in the fourth quarter of 2022. We expect fourth quarter adjusted non-interest expenses to be stable to up 1% compared to the third quarter. Our guidance excludes the pending FDIC special assessment, which we currently estimate at $208 million for Fifth Third.
With respect to credit quality, we expect fourth quarter net charge-offs to be 30 basis points to 35 basis points. We do expect to gradually normalize from here. We continue to believe that are through-the-cycle annual charge-offs will be in the 35 basis point to 45 basis point range, given the credit risk profile of the bank. Given our reduced loan outlook, we expect the change in the ACL for the fourth quarter to be stable to up $25 million, assuming no significant changes in the underlying Moody's economic scenarios. This considers production from dividend finance of around $700 million in the fourth quarter, which as you know, carries a higher reserve level of around 9%.
In summary, with our proactive balance sheet management, disciplined credit risk management and commitment to delivering strong performance through the cycle, we believe we are well positioned to meet the proposed regulatory requirements, while continuing to generate long-term value for our shareholders.
With that, let me turn it over to Chris to open the call up for Q&A.
