James J. Herzog
Senior Executive Vice President, Chief Financial Officer at Comerica
Thanks, Curt, and good morning, everyone.
Turning to Slide 5. Our strategic actions and shift to optimization caused average loans and commitments to decline. The exit of mortgage banker finance is progressing as expected, and contributed to almost half of the reduction in average balances. We still expect the exit to be substantially complete by year-end. Declines in equity fund services were largely concentrated in non-relationship customers, but we remain committed to this important business. Lower utilization within general middle-market reduce balances, reflecting softening loan demand in this elevated rate environment. Ongoing funding of multi-family and industrial construction projects continue to drive higher commercial real estate utilization, but we saw an inflection in commitment growth as we strategically managed pipeline and origination volume. The floating nature of our commercial loan portfolio benefited from rising rates as loan yields continued to climb to 6.34% in the third quarter.
Slide 6 demonstrates our successful deposit generation. Average deposit balances increased 2.4%, exceeding expectations and HA trends as we added new deposits and won back customer balances that diversified earlier in the year. In fact, corporate banking in middle-market California both closed the quarter in line with their early March balances after experiencing more concentrated diversification in Q1.
As expected, non-interest bearing deposits trended down at a decelerating rate with the lowest balance decline in the last four quarters. Considering that modest reduction, our deposit mix was more impacted by growth in the denominator, with success in winning interest-bearing deposits. We continue to view our deposit mix as a competitive advantage, providing a more stable and cost-effective funding source than our peers.
Industry efforts to enhance liquidity drove competition. And when combined with a higher rate environment, deposit costs increases to 290 basis points, resulting in a cumulative beta of 55%. In recent weeks, deposit betas have been moderating and we intend to remain nimble on our relationship pricing approach, so we are able to balance customer needs with profitability targets, while closely monitoring the market. With an even lower percentage of uninsured deposits, the operating nature of our accounts and an enviable customer base, we believe our strong deposit profile is now even more attractive.
I showed in Slide 7 our effective liquidity strategy and strong deposit growth allowed us to absorb all of our contractual wholesale funding maturities this quarter. We expect to continue to utilize excess cash to further reduce wholesale funding in the coming quarters. Our loan-to-deposit ratio continue to trend favorably closing at 80% for the quarter. With significant liquidity capacity and very light remaining unsecured funding maturities, we have flexibility to manage funding needs and are better positioned to prioritize high-return growth in 2024.
Period-end balances in our securities portfolio on Slide 8 declined $1.1 billion, with pay downs, maturities and a $710 million negative mark-to-market adjustment. Although we have nominal treasury maturities remaining in 2023, larger scheduled maturities and anticipated securities repayments over the next two years are projected to benefit net interest income and AOCI. Altogether, we project a 25% improvement in unrealized securities losses over the next two years. This estimated burn-off is sensitive to the dynamic rate environment and length in the quarter end.
However, since our portfolio is pledged to enhance our liquidity position, we do not anticipate any need to sell securities and therefore, unrealized losses should not impact income. Overall, our security strategy remains unchanged as we stopped reinvesting over a year ago and we maintain our entire portfolio as available for sale, providing full transparency and management flexibility. We will continue to closely monitor final regulatory rules to consider the impact on our security strategy as we consider the need for future compliance.
Turning to Slide 9. Net interest income decreased $20 million to $601 million, but outperformed expectations. We were encouraged by the lower pace of decline in net interest income as we move closer to what we believe may soon be an inflection point. Competitive deposit pricing and lower loan balances offset the benefits of loan yields and reduced wholesale funding balances. With the strategic management of our interest rate sensitivity, rates have phenomenally impacted income and we remained effectively asset neutral
As shown on Slide 10, successful execution of our interest rate strategy and the current composition of our balance sheet favorably positioned us with minimal negative exposure to a gradual 100 basis points or 50 basis points on average decline in interest rates. By strategically managing our swap and securities portfolios, while considering balance sheet dynamics, we intend to maintain our insulated position over time.
Credit quality remains very strong as highlighted on Slide 11. Following three consecutive quarters of net recoveries, we observed modest net charge-offs of $6 million. As expected, credit migration continued with greater concentration in businesses with more relative exposure to elevated rates and inflationary pressures, including commercial, real estate, leveraged loans and technology and life sciences. While the economic forecast improved slightly from the prior quarter, the outlook remained uncertain, which when coupled with lower loan balances which impacted loan mix, contributed to an increase in our allowance for credit losses to 1.38% of total loans. Notably, non-accrual loans declined for the sixth consecutive quarter and then close to non accruals of $14 million also declined. Consistent with our proven credit discipline, we continue to closely monitor our portfolio and expect further migration to remain manageable.
On Slide 12, non-interest income of $295 million was our third highest quarter on record, following our second highest quarter in 2Q. Deferred compensation, which was fully offset in expenses reduced $7 million, contributing to most of the non-interest income decline. Softer derivative activity more than offset increased loan syndication fees, pressure and capital markets revenue. Fiduciary income was negatively impacted by annual fees received in the prior quarter. Movement in the rate curve benefited risk management hedge income, but will vary in the future based on the rate environment and the position of our hedging portfolio. Growth in non-interest income continues to enhance our overall revenue profile and capital efficiency over time.
Expenses on Slide 13 increased $20 million. Salaries and benefits were up $9 million and $8 million of that increase was in temporary labor due to staff augmentation, advancing technology and wealth management initiatives. Outside processing increased $7 million, driven by certain vendor terms that are sensitive to interest rates and our trust platform conversion. Other expenses benefited from large modernization credits from the sale of real estate, offset by increased litigation and regulatory-related expenses, consulting fees and operational losses.
We believe we in the industry are in a period of calibration, as we balance the profitability and risk management impacts from the first quarter disruption, with strategic investments critical for future growth. We remain committed to managing an efficient organization and are assessing opportunities to offset some of these pressures so that we may continue to deliver strong returns over time.
Slide 14 highlights our solid capital position. Capital generation from profitability and lower loan balances drove our CET1 ratio further above our target to an estimated 10.79%. Our third quarter tangible common equity ratio of 4.62% includes a negative 502 basis point impact from AOCI. Higher rates increased unrealized losses in our securities and swap portfolios, driving a more negative impact than the prior quarter. Based on the September 30 forward curve, we anticipate approximately a 37% reduction in our unrealized losses by the end of 2025. Although the proposed capital changes do not apply to us based on our asset size, we favor a conservative approach to capital management and feel it is prudent to remain mindful of the regulations as they evolve.
Our outlook for 2023 is on Slide 15, and assumes no significant change in the economic environment. We project full-year 2023 average loan growth of 7%, which would be our highest annual loan growth rate in a decade. The strategic exit of mortgage banker finance and increased selectivity is expected to continue to impact fourth quarter balances. Our projected full-year average deposit decline of 13% improved over prior expectations, with the success in winning new deposits and bringing back customer balances.
With the exception of the impact from our mortgage banker finance exit and utilizing excess cash to modestly reduce the maturing broker deposits, we expect deposits to remain relatively flat in the fourth quarter. Our outlook does not assume a significant benefit from seasonality, but if we did see a return to more normal fourth quarter seasonal patterns that may provide more upside than projected, We still expect another record year of net interest income in 2023, growing 1% to 2% over last year's record results.
Competitive deposit pricing, continued deposit mix change, and a modest decline in loans are expected to drive a 5% to 6% reduction in fourth quarter net interest income. Although short-term rates are expected to remain high through year end, our asset sensitivity position is designed to protect our profitability by minimizing the negative impact of rates when they decline. Credit quality remained very strong, and we expect continued migration to be manageable. We forecast full-year and fourth quarter annualized net charge offs to remain below our normal 20 basis point to 40 basis point range. Non-interest income has exceeded expectations for the first three quarters, and we project full-year growth of 9% over 2022.
Benefits from non-customer income from FHLB dividends are expected to continue, but at declining rates as we repay maturing advances. Risk management income is expected to eventually reduce over time with rates and our swap position. For the fourth quarter, non-risk income is expected to decline 3% to 4%, largely driven by a reduction in capital markets income considering market dynamics and increased selectivity. Non-interest expenses are expected to increase approximately 11% year-over-year, with 3% of that growth attributed to higher 2023 pension expense and almost 2% due to higher FDIC expense.
Fourth quarter expenses are projected to increase 3%, as we observed pressures related to investments in technology and risk management in addition to third quarter modernization gains that are not expected to repeat. While we are not offering 2024 guidance, we are mindful of the need to mitigate expense pressures as we recognize the new funding paradigm in the industry. These pressures are largely concentrated in the need for selective ongoing strategic investments, in addition to investments to further enhance risk management and regulatory compliance.
We are in the process of evaluating cost reduction opportunities, with the objective of keeping 2024 costs only modestly higher than 2023. This assumes no change in pension expense, which will be determined largely by year-end rates and market performance. Prudent expense management remains a priority as we work to balance our expense base commensurate with our earnings power. Strong profitability is expected to further grow our capital position in excess of our 10% target. Share repurchases remain paused, considering the ongoing volatility within unrealized AOCI losses and subject to further regulatory clarity.
In all, it was a solid quarter of a strong deposits, liquidity fee income and credit. We believe we are in great shape as we look to finish out the year and prepare for 2024.
Now, I'll turn the call back to Curt.
