The PNC Financial Services Group Q2 2024 Earnings Call Transcript

Quartr
Provided by Quartr
July 16, 2024

There are 15 speakers on the call.

Operator

Greetings and welcome to the P&C Financial Services Group Second Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Brian Gill.

Operator

Thank you, Brian. You may begin.

Speaker 1

Well, good morning, and welcome to today's conference call for the P&C Financial Services Group. I am Brian Gill, the Director of Investor Relations for P&C and participating on this call are P&C's Chairman and CEO, Bill Demchak and Rob Reilly, Executive Vice President and CFO. Today's presentation contains forward looking information. Cautionary statements about this information as well as reconciliations of non GAAP measures are included in today's earnings release materials as well as our SEC filings and other investor materials. These are all available on our corporate website, pnc.com, under Investor Relations.

Speaker 1

These statements speak only as of July 16, 2024 and P and C undertakes no obligation to update them. Now, I'd like to turn the call over to Bill.

Speaker 2

Thank you, Brian, and good morning, everyone. As you've seen, we had a strong second quarter and we generated $1,500,000,000 in net income or $3.39 diluted earnings per share. Our results included a gain on a portion of our Visa Class B shares, which was substantially offset by other items in the quarter, including a securities repositioning. Rob is going to provide more details on that Visa gain financial results and outlook in a second, but I'll highlight a few items. First off, net interest income has moved past its trough and both NII and NIM grew in the quarter.

Speaker 2

And by the way, this would have occurred independent of the $10,000,000 impact that we got from the securities repositioning. Importantly, we are on a growth trajectory towards expected record NII in 2025. We continue to add new customers and see strong business momentum across our franchise, particularly in the new and expansion markets. DDA growth accelerated in our branches and we continue to add new corporate and commercial banking clients above historical rates. In our retail business, we launched our 1st new credit card in several years, PNC Cash Unlimited, a highly competitive card that offers 2 percent back on all purchases.

Speaker 2

We plan to launch several new cards in the months and the year ahead. Average deposits held relatively flat to the Q1 levels, a little bit ahead of our expectations. And our expenses remained well controlled and we generated positive operating leverage during the Q2. Rob is going to touch on this in a minute, but we have increased our continuous improvement program target for 20 24 as expense discipline remains a top priority. The credit environment continues to play out as we've expected, including an increase in charge offs within the CRE office portfolio, where we remain adequately reserved.

Speaker 2

Outside of CRE office, credit quality remains relatively stable. Finally, we further strengthened our capital levels during the quarter. Our strong balance sheet allows us to continue supporting our customers and communities, investing in our business and people and delivering returns for shareholders. Our financial strength capital buffer at the regulatory minimum of 2 point 5%. And importantly, for the 2nd year in a row, PNC has had the lowest start to trough capital depletion in our peer group, further demonstrating our best in class resiliency.

Speaker 2

With this in mind, our board recently approved an increase in our quarterly stock dividend by $0.05 In summary, we delivered strong results in the 2nd quarter and are well positioned to drive further growth and expansion into 2025 beyond. Before I turn it over to Rob, as always, I just want to thank our employees for everything they do for our company and our customers. And with that, I'll turn it over to Rob to take you through the quarter. Rob?

Speaker 3

Thanks, Bill and good morning everyone. Our balance sheet is on Slide 4 and is presented on an average linked quarter basis. Loans of $320,000,000,000 were stable, investment securities increased $6,000,000,000 or 4% and our cash balances at the Federal Reserve were $41,000,000,000 a decrease of $7,000,000,000 or 15% primarily reflecting the deployment of cash into higher yielding securities. Deposit balances averaged $417,000,000,000 a decline of $3,000,000,000 or less than one percent due to a seasonal decline in corporate balances. Borrowed funds increased $2,000,000,000 or 2% and were 15% of total liabilities.

Speaker 3

At quarter end AOCI was negative $7,400,000,000 and improved $600,000,000 compared with March 31. Our tangible book value increased $89.12 per common share, a 4% increase linked quarter and a 15% increase compared to the same period a year ago. We remain well capitalized and our estimated CET1 ratio increased to 10.2% as of June 30. Regarding the Basel III endgame, we expect the inclusion of AOCI in the final rule and our CET1 ratio with the impact of AOCI would be 8.7%. And while we recognize the likelihood of changes to certain other aspects of the Basel III Endgame NPR, under the currently proposed capital rules, our estimated fully phased and expanded risk based CET1 ratio would be approximately 8.4%.

Speaker 3

We continue to be well positioned with capital flexibility. We returned roughly $700,000,000 of capital to shareholders during the quarter, which included $600,000,000 in common dividends and $100,000,000 of share repurchases. And as Bill just mentioned, our board recently approved a 0.05 dollars increase to our quarterly cash dividend on common stock raising the dividend to $1.60 per share. Our recent CCAR results underscore the strength of our balance sheet and as previously announced, our current stress capital buffer remains at the regulatory

Speaker 4

minimum of 2.5% for the 4 quarter period beginning in October 2024.

Speaker 3

Slide 5 shows our loans in more detail. Compared to the Q1, average loan balances were stable. Commercial loans were essentially flat as utilization remains well below both the pre pandemic historical average of roughly 55% and the Q2 2023 level of 52.5%. Importantly, we continue to grow customer relationships and C and IB loan commitments increased during the Q2. Although the direction of the near term economy remains uncertain, CapEx to sales levels and inventory growth rates remain below historical averages, both of which are typically leading indicators of eventual commercial loan growth.

Speaker 3

Average consumer loans declined approximately $600,000,000 or less than 1% driven by lower residential real estate and home equity loan balances. And the yield on total loans increased 4 basis points to 6.05% in the 2nd quarter. Slide 6 details our investment security and swap portfolios. Average investment securities of $141,000,000,000 increased $6,000,000,000 or 4 percent reflecting the deployment of excess liquidity into higher yielding securities, primarily U. S.

Speaker 3

Treasuries. The securities portfolio yield increased 22 basis points to 2.84% driven by higher rates on new purchases. As of June 30, the securities portfolio duration was 3.5 years. During the second quarter, our forward starting swaps increased to $18,000,000,000 With the addition of these swaps, we've locked in a portion of our fixed rate asset repricing through 2025 at a level that is approximately 300 basis points higher than maturities. The total weighted average received fixed rate of our swap portfolio including the forward starters increased 83 basis points to 3.13% and the duration of the portfolio is 2.2 years.

Speaker 3

Slide 7 highlights the securities repositioning we executed during the Q2. We sold securities with a book value of $4,300,000,000 and a market value of $3,800,000,000 We recognized a $497,000,000 loss on the sale and reinvested the $3,800,000,000 of proceeds into securities with yields approximately 400 basis points higher than the securities sold. The repositioning is expected to benefit our net interest income by $80,000,000 in 2024 with roughly $10,000,000 of that being realized in the Q2. And the estimated earn back period for this transaction is less than 4 years. Turning to Slide 8, we expect considerable runoff of low yielding securities and swaps through the end of 2026 which will allow us to continue to reinvest into higher yielding assets providing a meaningful benefit to net interest income.

Speaker 3

Accumulated other comprehensive income improved to negative $7,400,000,000 on June 30 compared to negative $8,000,000,000 on March 31. The improvement was primarily due to the securities repositioning. AOCI will continue to accrete back as our securities and swaps mature resulting in further growth to tangible book value. Slide 9 covers our deposits in more detail. Average deposits declined $3,000,000,000 or 1% reflecting seasonally lower corporate balances.

Speaker 3

Regarding mix, consolidated non interest bearing deposits were 23% of total deposits in the 2nd quarter down less than 1 percentage point from the 1st Additionally, average non interest bearing deposits had the smallest dollar decline in the Q2 of 2024 since the Fed began raising rates in 2022, which gives us confidence that the non interest bearing portion of our deposits had largely stabilized. And our rate paid on interest bearing deposits increased by only 1 basis point during the Q2 to 2.61%. We believe our rate paid on deposits is approaching its peak level, but we do expect some potential drift higher as interest rates remain elevated. Turning to the income statement and as Bill mentioned, there were several significant items in the quarter and I want to provide a bit more detail. Taken together these significant items have a minimal impact to our earnings per share totaling to a net EPS benefit of $0.09 As we previously disclosed, we participated in the Visa exchange program allowing us to monetize 50% of our Visa Class B1 shares and convert our remaining holdings to 1,800,000 Visa Class B2 shares.

Speaker 3

Through the exchange we recognized a $754,000,000 pre tax gain. In addition, we had significant items that occurred in the Q2 that largely offset the gain and they are as follows. 1st, as I mentioned earlier, we repositioned a portion of our securities portfolio and through the sale of certain low yielding securities recognized a $497,000,000 loss. 2nd, we recorded a negative $116,000,000 Visa derivative fair value adjustment associated with Visa Class B2 shares primarily related to the extension of anticipated litigation resolution. And lastly, we recognized $120,000,000 P&C Foundation contribution expense.

Speaker 3

The foundation supports our communities in early childhood education. Turning to Slide 11, we highlight our income statement trends. 2nd quarter net income was $1,500,000,000 or $3.39 per share. Total revenue of $5,400,000,000 increased $266,000,000 or 5% compared to the Q1 of 2024. Net interest income grew by $38,000,000 or 1% in the 2nd quarter.

Speaker 3

Notably this is the first time NII has increased in 6 quarters marking the beginning of an expected upward trajectory. And our net interest margin was 2.6%, an increase of 3 basis points. Non interest income increased $228,000,000 or 12% and included $141,000,000 of the significant items I previously detailed. Non interest expense of $3,400,000,000 increased $23,000,000 or 1% and included the $120,000,000 foundation contribution expense. Notably, we generated positive operating leverage in both the linked quarter and year over year comparisons.

Speaker 3

Provision was $235,000,000 in the 2nd quarter reflecting portfolio activity and our effective tax rate was 18.8%. Turning to Slide 12, we highlight our revenue trends. 2nd quarter revenue was up $266,000,000 or 5% driven by higher non interest income and net interest income. Net interest income of $3,300,000,000 increased $38,000,000 or 1% driven by higher yields on interest earning assets. Fee income was $1,800,000,000 and increased $31,000,000 or 2% linked quarter.

Speaker 3

Looking at the detail, asset management and brokerage non interest income was stable linked quarter and as a benefit of higher average equity markets was offset by lower annuity sales due to elevated 1st quarter activity. Capital markets and advisory fees increased $13,000,000 or 5% driven by higher M and A advisory activity and loan syndications partially offset by lower underwriting fees. Card and cash management increased $35,000,000 or 5% reflecting seasonally higher consumer transaction volumes and higher treasury management fees. Mortgage revenue declined $16,000,000 or 11% primarily due to lower residential mortgage activity. Other non interest income of $332,000,000 increased to $197,000,000 and included $141,000,000 related to this quarter's significant items.

Speaker 3

Turning to Slide 13, our non interest expense of $3,400,000,000 was well controlled increasing by only $23,000,000 or 1%. Expenses for the 2nd quarter included the Q1 of 2024 included $130,000,000 FDIC special assessment. Importantly, non interest expense excluding the foundation contribution declined $135,000,000 or 4% compared with the Q2 of 2023. Notably personnel declined as a result of the workforce reduction actions we took last year. As Bill mentioned, we remain diligent in our continuous improvement efforts.

Speaker 3

At the beginning of the year, we set a continuous improvement program goal of 4 $25,000,000 Recently, we've identified initiatives that support increasing our CIP by an additional $25,000,000 raising our full year target to $450,000,000 As you know this program funds a significant portion of our ongoing business and technology investments. Our credit metrics are presented on Slide 14. Non performing loans increased $123,000,000 or 5% linked quarter primarily driven by an individual secured loan within our asset based lending business. Total delinquencies of $1,300,000,000 were stable with March 31. Net loan charge offs were $262,000,000 in the 2nd quarter and included $106,000,000 of net charge offs related to our CRE office portfolio.

Speaker 3

And our annualized net charge offs average loans ratio was 33 basis points. Our allowance for credit losses totaled $5,400,000,000 or 1.7 percent of total loans on June 30, stable with March 31. Slide 15 provides more detail on our CRE office credit metrics. CRE office NPLs were stable in the 2nd quarter as charge offs and pay downs offset inflows to non performing loans. And the migration of criticized loans to non performing status is an expected outcome as we work to resolve the challenges inherent to this portfolio.

Speaker 3

As expected, net loan charge offs within the CRE office portfolio increased and totaled $106,000,000 in the Q2. Ultimately, we expect additional charge offs on this portfolio, the size of which will vary quarter to quarter given the nature of the loans. As of June 30, our reserves on the office portfolio were 10.3% of total office loans and inside of that 15.5% on the multi tenant portfolio. Accordingly, we believe we're adequately reserved. Importantly, we continue to manage our exposure down and as a result our balance has declined 4% or approximately $300,000,000 linked quarter.

Speaker 3

In summary, P and C posted a solid Q2 2024 and we're well positioned for the second half of the year. Regarding our view of the overall economy, we're expecting continued economic growth in the second half of the year, resulting in real GDP growth of approximately 2% in 2024 and unemployment to increase modestly to slightly above 4% by year end. We expect the Fed to cut rates 2 times in 2024 with a 25 basis point decrease in September and another in December. Looking at the Q3 of 2024 compared to the Q2 of 2024, we expect average loans to be stable, net interest income to be up 1% to 2%, fee income to be up 1% to 2%, other non interest income to be in the range of $150,000,000 $200,000,000 excluding Visa and securities activity. We expect core non interest expense to be up 3% to 4%.

Speaker 3

We expect 3rd quarter net charge offs to be between $250,000,000 $300,000,000 Regarding our full year guidance, for ease of comparability to prior guidance, we exclude the Q1 FDIC special assessment as well as the Q2 Visa gain and other significant items. Considering our reported first half operating results, 3rd quarter expectations and current economic forecasts, our full year 2024 guidance is as follows. For the full year 2024 compared to full year 2023, we expect average loans to be down less than 1 percent, which equates to nominal loan growth in the second half of twenty twenty four. We recognize the potential for greater loan growth and should that occur, it will be accretive to our full year average. Despite lower expected loan volumes, we expect full year NII to be at the better end of our previous expectations or down approximately 4%.

Speaker 3

We expect our securities repositioning and better than expected deposit dynamics to offset the impact of the lower than expected loan volume. We expect non interest income to be up 3% to 5%, slightly lower than our previous guidance due to continued softness in mortgage activity and to a lesser extent loan related capital markets fees. As a result, total revenue is expected to be down 1% to 2% and inside the range of our previous guidance. We now expect core non interest expense to be down approximately 1% versus our previous guidance of stable in part due to our increased CIP target. And we expect our effective tax rate to be approximately 18.5%.

Speaker 3

With that, Bill and I are ready to take your questions.

Operator

Thank you. We will now be conducting a question and answer session. Our first questions come from the line of Betsy Graseck with Morgan Stanley. Please proceed with your questions.

Speaker 5

Hi, good morning.

Speaker 3

Hey, good morning, Betsy.

Speaker 5

So on NII, I know you guided to the upper end of the range, even though you've got slower loan growth clearly due to your NIM improving, at least that's one driver, there's others as well. I just wanted to understand how you're thinking about the securities restructuring from here. Is this something that you would consider continuing or is it we should look at it as a one off from using the Visa gains? And I ask just from the context of trying to think through NIM trajectory from here? Thanks.

Speaker 2

You should think of it as a one off. I mean, you never say never and I don't know what the future holds, but practically at this point we don't have to do any restructuring on anything to hit that stated goal of the 25 record NII.

Speaker 4

Yes, we

Speaker 3

don't have any plans to do that.

Speaker 5

Okay, great. And then could you speak to how you're thinking about deposit pricing and levels? I mean, clearly, there was tax related outflows and things like that this quarter. And with loan growth being muted, should we be anticipating deposits stable to down or are you going to be out there trying to get deposit growth? Just again asking from the context of how we should think about deposit pricing as we work through our models.

Speaker 5

Thanks so much.

Speaker 3

Yes, sure. Sure, Betsy. I would say the short answer to that is stable to down is our expectation with an emphasis on stable. Things have really stabilized year over year, as you know. So our So our expectation is some downward drift, but not anywhere near the level that we've seen in the last couple of years.

Speaker 5

Got it. All right. Thanks so much. Appreciate it.

Speaker 6

Sure.

Operator

Thank you. Our next questions come from the line of John Pancari with Evercore ISI. Please proceed with your questions.

Speaker 7

Good morning. Hey, John. On your NII outlook, it's good to hear the NII inflection and confidence there. Excluding the $70,000,000 benefit from the securities repositioning in the back half of this year, I mean, it appears that the underlying NII run rate for the back half was guided a bit lower. Is that mainly loan growth that's the driver?

Speaker 7

I mean, if you could just talk through that a little bit in terms of the factors impacting that run rate?

Speaker 3

Well, I can't

Speaker 2

Rob and I are staring at each other. It wasn't if you backed out the restructuring, the guide would still be higher. And we did that

Speaker 7

while

Speaker 2

muting our loan growth assumption. And we did that because we kind of just got tired of saying that, hey, loan growth is going to come at some point. So we took it out of the forecast. If it shows up, we'll benefit like everybody else.

Speaker 3

I think that's an important point. That's a big difference in this quarter. We changed our guidance for average loans to be up 1% or approximately 1% for the year, John. So as you can see now down less than 1%. We don't control that.

Speaker 3

There's a basis for some loan growth in the second half of the year, but the important point is we've taken it out of our guidance and our NII improves to the better end of the previous guidance, not just due to the securities restructuring, but also the positive deposit dynamics and so forth. Okay.

Speaker 7

All right. Thanks for the clarification. That helps. And then just separately on the capital front, clearly the AOCI benefit from the securities repositioning is certainly noted. How does that how do you feel now in terms of the pace of buybacks as you look out just given where you stand now on CET1 and from a fully phased in?

Speaker 7

How does that make you feel about the pace of buybacks here? Could it remain at the $100,000,000 pace per quarter or possibly accelerate?

Speaker 3

Yes. I mean, right now, we're on pace and we continue to we expect to continue the pace that we've been on for the 1st couple of quarters. And as you know, the new rules are still in flux. So there's not finalization there. And then beyond that, I think a driver will be what happens with loan growth, which would be a factor in terms of that being our highest and best use of our capital.

Speaker 3

But that will be a factor in terms of deciding on buybacks. But the important part is that we are buying back shares.

Speaker 2

Yes. I think John just on buybacks. I mean at some point I got to believe loan growth comes back. But to the extent it doesn't we're generating a lot of capital obviously, in excess of our dividend and we'll face that question if we're not using that capital for loan growth, should we accelerate deployment and buybacks? We're not there yet, but that happens down the road if loan growth doesn't materialize because we're generating a lot of capital.

Speaker 7

Got it. Okay, that's helpful. Thanks, Bill.

Operator

Thank you. Our next questions come from the line of Erika Najarian with UBS. Please proceed with your questions.

Speaker 8

Hi, good morning. Good morning. Going back to Slide 9, I presume that the stabilization in deposit rates paid, which is quite notable as part of the upgrade of the core NII guide even without the restructuring. And you answered Rob Betsy's question, I gather on a balances standpoint. But perhaps give us a sense on how you think deposit rate paid will trend from here and maybe under the scenario of rates staying where we are versus the scenario of what the forward curve is pricing and how quickly you may be able to reprice?

Speaker 3

Yes, sure. Our plan so Slide 9 is a good slide and it clearly shows a decline in the increase of the rate paid. The short answer to one of your questions there is, we do expect the rates made for rate paid to drift up a little bit. But in contrast, more like a handful of basis points versus the contrast to the previous quarters where you see 60 or 50 and even 30 in the recent quarters. So it slowed down considerably.

Speaker 3

That's our expectation in the short term, Erica. When we get into rate cuts, we'll see, we'll be able to move pretty quickly on the high rates paid on commercial and wealth. But we still do have these interest bearing consumer deposits that are below market that will grind higher. So that's something that we've talked about before and just something that we'll need to keep our eye on.

Speaker 8

Got it. And my second question is it refers back to Slide 6 in terms of the forward starters. When I look back at your 10 Q disclosure, it seems like you're largely neutral to interest rates. And I know that you and Bill have talked a lot about the different factors that drive the inflection point in the Nike swoosh. I'm wondering if the addition of the $18,000,000,000 in forward starters with the receive fix of $431,000,000 does that impact the magnitude of the swoosh for the for 20 25?

Speaker 2

That's a good

Speaker 3

question. Well, my answer to that would not necessarily be the magnitude, but the certainty. So essentially what we've done is locked in some of the swoosh.

Speaker 2

Yes. Probably 50 basis points ago. One of the issues of course when everybody talks about fixed rate asset repricing is what does it reprice to? And of course, therefore, we are exposed to whatever that 5 year rate is a year into out. And those forward starting swaps simply but a very opportunistic point locked in materially higher rates than where we are today.

Speaker 2

Just to Rob's point, that just locks in the certainty of what we'll be able to produce on a go forward basis.

Speaker 8

No, got it. And Bill, I think that's such a good point because I think when people are thinking of fixed asset repricing, sometimes they miss think about the $525,000,000 as opposed to whatever. It could be at $4,000,000 right, by the end of next year and to that to your point, you've locked in the certainty. Okay. Thank you.

Operator

Thank you. Our next questions come from the line of Scott Siefers with Piper Sandler. Please proceed with your questions.

Speaker 9

Good morning, everyone. Thanks for taking the question. Rob, I was hoping you could maybe touch on sort of major fee components in light of the softer expectation. I mean, it sounds like it's just a or mostly a function of mortgage, which sort of is what it is. Yes.

Speaker 9

Just curious to hear sort of what do you think is going well? What will need heavy lift, that kind of thing?

Speaker 3

Yes. It's mostly a refinement, Scott. So for the full year guide around the fees, we lowered our expectations of increase, as you know, from up 4% to 6% to down up 3% to 5%. So still up and a small shift, most of that coming from continued softness in mortgage, which we expect to be on the continue in the balance half or second half of the year, a little bit less than what we were expecting. To a lesser extent tied to the reduced loan guidance, we do have loan related fees within our Capital Markets segment, think loan syndication.

Speaker 3

So generally speaking, if there's fewer loans, there'll be fewer loan syndication fees. So that's just a direct correlation there to that guide. And again, we could see loan growth and if that's the case, then those fees would come back. But that's the general thinking. Everything else on schedule, so to speak.

Speaker 9

Okay, perfect. Thank you, Rob. And then I wanted to ask a little bit of a kind of fine pointed one on loan growth. I think Bill in your sort of prepared remarks, you noted the introduction of your first new credit card in a while as well as plans to introduce more. Can you sort of contextualize your aspirations for that business and the sort of the path to get there over time?

Speaker 2

Yes. I mean basically we want to have our fair share of consumer lending products with the clients we serve in our traditional DDA and other products and we don't today. We're there in home equity. We're probably close in mortgage. We're under penetrated in auto and in card.

Speaker 2

And in card in particular, we just haven't had good offerings. We've had steel technology. We've had slow. We weren't we need to improve and it's an opportunity for us.

Speaker 9

Okay. All right. Perfect. All right. Thank you guys very much.

Operator

Thank you. Our next question comes from the line of Ebrahim Poonawala with Bank of America. Please proceed with your questions.

Speaker 10

Good morning.

Speaker 3

Good morning.

Speaker 10

I guess maybe Rob just it looks like you've locked in a lot of asset repricing. As we think about where the NIM should normalize relative to the 2.6, Give us a sense, I mean, you probably have this number. Do we hit 3% at some point next year in terms of what the normalized rate would be? And can we get to a 3% plus NIM next year even with maybe 4 or 5 rate cuts?

Speaker 3

Sure. So we don't necessarily provide NIM guidance because there's more an outcome than anything. But to answer your question, we've operated in, call it, a normal environment at a 3% NIM margin. So if we definitely expect to go up into 25%. If we approach those levels, it won't be like we haven't been there before.

Speaker 3

So it's reasonable.

Speaker 10

Got it. And just one quick one on credit quality. I think I heard Bill say not a whole lot ex CRE office, But give us a sense if you're seeing any cracks within the C and I customer base from the prolonged period of like just higher for longer rates. Just how do you handicap the risk of a downturn or a recession over the coming months or the next year?

Speaker 3

Yes. So when we take a look at our total reserves and our total portfolio, CRE office aside, things are pretty stable. Maybe on quarter to quarter basis, consumers a little bit better, commercial non CRE is a little bit worse, but not bad. So definitely some more movements, some downgrades reflecting the higher rates, slower economic activity in our commercial book, but no patterns or any themes to point out.

Speaker 10

Got it. And outlook for reserves are stable from 2Q?

Speaker 3

Reserves are stable, yes.

Speaker 6

Got it. Thank you. Sure.

Operator

Thank you. Our next questions come from the line of Bill Quiricoci with Wolfe Research. Please proceed with your questions.

Speaker 11

Thanks. Good morning, Bill and Rob. Following up on your NIM and NII commentary, is there a point as we start to get cuts where you would start to worry that those rate cuts would potentially begin to negate some of the repricing benefit? And then separately, amid the debate over whether the curve is going to steepen or flatten depending on the outcome of the election, Maybe could you just give us a little bit of perspective on how P and C is positioned for either a flatter or a steeper yield curve environment?

Speaker 2

Sure. We're largely indifferent. I mean, it's a very, very margin we benefit when the Fed puts rates from a floating rate standpoint. Of course, we're exposed to the steepness of the curve because that plays into how we reprice maturing fixed rate assets. And that's a variable.

Speaker 2

It's a variable for us. It's variable for everybody. It's one of the reasons we've locked some of it in. My own belief in our positioning is such that even though we would expect the Fed to cut here, I think in the end somewhat sticky inflation, the fact that deficits matter it's going to cause the curve to steepen out. So we lost some of it in.

Speaker 2

I don't feel terribly worried about the need to lock the rest of it in. I just think we're in a good place. We're going to do fine.

Speaker 11

Okay. That's helpful. And then on the asset quality side, Slide 14 shows that steady upward trajectory in NPLs, but the reserve rate is relatively stable to down slightly as you mentioned. And so it looks like the loss content that you see in the portfolio is stable. It's certainly not rising despite the rising NPLs.

Speaker 11

Maybe could you speak a little bit to that? And are there any implications of loan repricing that you are concerned about? For example, would you expect any impact on the credit performance of your customers as their loans begin to reset to higher rates?

Speaker 2

Maybe just quickly the movement from particularly in office CRE, right, from criticized to non performing related reserving and charge offs is ongoing as we've expected. That's the natural progression of that cycle. Nothing's changed. We're not surprised by anything. We're reserved for it.

Speaker 2

Credit quality of Corporate America as it relates to at what point do the people who have locked in fixed rates at low rates start to have to pay more. Ultimately, the margin is going to impact the way we rate somebody. I think about multifamily as an example where higher rates have hurt coverage ratios. It's not going to cause losses, but it's caused us to downgrade that asset class simply because the excess isn't there. And I think that will flow through to Corporate America over a period of time as well.

Speaker 2

But I'm not particularly worried about it.

Speaker 3

And I'll just add to that. Our reserves are adequate. The increase in the non CRE NPLs in commercial really was one single large credit that is in our business credit fully secured loan. So

Speaker 2

Not in the U. S.

Speaker 3

So it's doesn't have a lot of loss content.

Speaker 11

Understood. Thanks, Bill and Robert. Bill, if I could squeeze in one last for you. I wanted to get your thoughts on the FedNow Instant Payment Services, which has been getting some attention. Is there a fee opportunity there?

Speaker 11

I guess, what level of engagement are you seeing from P and C customers? Do you see potential for lower cost instant digital payments, disintermediating debit? It would just be helpful to hear your thoughts on the overall risks versus potential benefits of that to P&C?

Speaker 2

I don't think that now has any impact on P&C, to be honest with you. We've been active with real time payments in the clearinghouse and the use cases, all the ones you can think about from insurers who want to pay real time claims in a disaster through to certain payroll capabilities through to Zelle for example. And FedNow doesn't add or subtract anything to that opportunity. The challenge you have with real time payments both at the clearinghouse and FedNow at the Fed is they are not networks. They are a real to move money.

Speaker 2

And the distinction between that is a network has very clear rules Who's responsible for items that don't transmit the right way? Who's responsible for fraud? Who's responsible for returns? On and on and on. And neither of those 2 networks purposely were built

Speaker 4

sorry, neither of those 2 payments were built purposely for bill to payment. They're just not for that use purpose, they're for moving money, which is very true. So I don't think long term has much of an impact to be honest with you.

Speaker 11

Thank you for taking my questions.

Operator

Thank you. Our next questions come from the line of Ken Usdin with Jefferies. Please proceed with your questions.

Speaker 12

Hey, thanks a lot. Good morning. You guys gave us that great table last December with the repricing of fixed assets through 2025. And I'm just wondering, how much carry forward will there also be through 2026? Do we should we think about that kind of ratably?

Speaker 12

Obviously, it's been 6 months since you gave us that slide, but just wondering just how that rolls as we look further ahead? Thanks.

Speaker 3

Well, Tim, we're going to refrain from 26 guidance on the call here today. But it will continue to increase. But the real change in the dynamic occurs obviously in the first and second quarter of 'twenty five and then grows from

Speaker 4

there.

Speaker 12

Okay. Yes. That's why I'm asking the building blocks question as opposed to

Operator

an iron question. Sure.

Speaker 9

Sure.

Operator

Sure.

Speaker 12

Okay. Understood. And then on the expenses, so you guys have been doing a great job holding the line. And I just wanted to ask like it looks like there's a pretty decent ramp baked into the second half on expenses. And I'm just wondering like what influences that because it seems like expenses will be growing faster than revenues in the second half, so or certainly faster than fees.

Speaker 12

So can you just walk through, is that conservatism? Are there some catch up on investments that you're making? Any context on that? Thanks, Rob.

Speaker 3

Yes, sure, sure. Now we've outperformed on the first half, no doubt about it, and we feel great about that. And that's one of the reasons why we increased our CIP goal and also increased our guidance for the full year expenses. In the Q3, it doesn't all happen uniformly. In the Q3, we do have some investments coming online, technology investments coming online that brings some depreciation expense.

Speaker 3

We've got an additional day, those sorts of things. So it's all part of the plan. It's just expenses don't fall uniformly throughout the year.

Speaker 12

Okay, got it. And then obviously as that plays forward and if NII is better next year, you can also afford more cost growth, but we'll hear about that later?

Speaker 3

Yes, that's right.

Speaker 13

Got it. Thank you.

Operator

Sure. Thank you. Our next question has come from the line of Mike Mayo with Wells Fargo. Please proceed with your questions.

Speaker 13

Hi. Similar to some of the others, maybe this is like the game of Jeopardy. I think the answer is you have continued improvement program with expense savings going from $425,000,000 up to 450,000,000 dollars You have securities repositioning that's giving you a boost to NII for the rest of this year. And you have fixed asset repricing that helps your security yield go up by 400 basis points, your forward payment slots go up 180 basis points and a little bit some other things. So the answer is all those things are going in the right direction, yet you still have a guide for negative operating leverage for this year.

Speaker 13

So I guess what is the question? Or why is that? Or you can't eke it out? Or

Speaker 3

Sure. So no, no,

Speaker 13

the question And why should yes, go ahead.

Speaker 3

Yes. So just to keep with your jeopardy approach there, the question would be what's loan growth going to be in the second half? Okay. That's helpful.

Speaker 13

Yes. So what's going on Bill, you were very adamant, 3 quarters ago about loan growth. And look, if you get NII and your range even without getting loan growth, I think people would rather take that than not. But we're hearing all the capital the biggest capital market players are just gushing with their expectations that this is a big capital markets recovery. The world's back, everything's else.

Speaker 13

H-eight data actually showed a little bit better. I think you might have underperformed the H-eight data this quarter on loan growth. So is it A, that you're just being more prudent and conservative and you're not seeing the pricing that you want? Or B, your mix is just a little bit differently? Or C, maybe your team is not executing quite as

Speaker 7

well as you'd like them to do?

Speaker 2

I think you're trying to read into this too hard. Look, we're basically on H8, maybe a little soft on consumer because their card book didn't grow. When C and I comes back, traditionally we'll do better. We've been actually adding DAT. They're just not drawing it.

Speaker 2

We're winning clients. All we did Mike was this whole notion of if we're giving guidance on the expectation and some crystal ball that says there's going to be loan growth when thus far we don't see evidence of it. We just took it out. If it shows up then it's additive to everything we do. And we certainly aren't underperforming.

Speaker 2

We're winning clients at a pace that we never have. So it's literally this notion of when do they draw on lines and we just quit. We got tired of talking about it. When they do it, we'll benefit and it will add to all of those numbers that you're looking at.

Speaker 13

And any meat on those bones about customer acquisition? You did mention 51% loan utilization. That seems like pretty low level versus 53% a year ago and 55% historical. So I guess that would back up what you're saying, but how much you're growing loans, you expanded to so many MSAs and implemented teams and did all that stuff that helps sometimes

Speaker 7

and other times doesn't help as much?

Speaker 2

Yes. I don't Ron, do you know DHE numbers?

Speaker 3

No, I don't know off the top of my head.

Speaker 2

We've grown exposures and we've won clients at a pace well beyond new markets, but overall well beyond what we've managed to do historically. We ought to and we will produce some of those metrics for you. Yes.

Speaker 3

No, that's all good. And just to add to that, Mike, CapEx sales, as we said in our opening comments, CapEx sales ratios are low, inventory levels are low. So there's just there's a lot pointing to loan growth. It's just we don't control it.

Speaker 7

And just last follow-up

Speaker 13

on that because Bill you've been around for a while and Rob, the disconnect between what we're hearing and seeing in the capital markets and that activity picking up versus the still subdued loan growth, as you say, CapEx and inventory are low. It just seems CEO confidence is up, people are ready to do all sorts of things, yet when the rubber meets the road with you guys, you're just seeing it that

Speaker 2

much? You're trying to isolate us and we're not isolated. I would happily tell you loan growth is going to be 2%, which is what all our peers are going to say. And if they hit 2%, if we hit 2% or sorry, if they hit 2%, then we'll hit 2%. Or maybe a little better.

Speaker 2

Yes. I just we don't see anything suggesting that's going to happen. So maybe I mean what would you rather have us do here put in our forecast a we hope this happens number or just give you numbers that we know are going to happen?

Speaker 13

No, I understand. Under promise to never deliver is what you try to do. It's just in the past you said at this stage of the cycle and historically you've seen loan growth come back. So it sounds like this cycle might be a little bit different, might not be?

Speaker 2

Yes, I think I've spent a lot of time pondering this, Mike. I don't look at the margin, it's got to be that the cost of holding inventory, right, just the cost of that drawn revolver is big time on the radar of corporates who are managing their own profitability. If you can run the lower inventory, your interest rates go way down when Fed funds is 5.25%. So I think that's part of it. I think this whole uncertainty as we come up into the election on what's it going to look like from a regulatory basis, what am I allowed to invest in, am I going to get it approved, All of that, there's a lot of pent up energy behind that and we'll see.

Speaker 2

But I don't know. And it literally was this thing of rather than keep guessing and wishing, if it happens, it's a great outcome. But we don't need to rely on it.

Speaker 13

Got it. Okay. Thank you.

Operator

Thank you. Our next questions come from the line of Matt O'Connor with Deutsche Bank. Please proceed with your questions.

Speaker 6

Good morning. Bill, I haven't heard you guys talk too much about credit card. You mentioned a new product and some more coming and just thoughts on kind of the strategy for card going forward and the target customer and then any interest in acquiring portfolios, which is not really been on the radar in the past? Thanks.

Speaker 2

Yes. We're not going to acquire portfolios. The product that we have historically offered our existing clients and the service levels, websites, processing that went along with it were less than what we aspire to. We have an ability to get higher penetration with our existing clients offer them better products have better technology. Historically, we prioritize tech investments inside of our core retail space.

Speaker 2

So think online mobile real time. And we just haven't put the same energy although about a year ago we started to into what we do in credit card. Some of that is service technology, ease for customers, application all of that stuff. Some of it is just getting better, at approvals. And we're not going to change our credit box, but we're missing a lot of clients who are in that credit box because we make it too hard for

Speaker 3

them. Yes. We're in simple terms. We're just under penetrated relative to industry averages, nothing hugely aspirational other than just to have our fair share.

Speaker 6

Yes. That makes sense. And then just separately, I think you still have half of your original Visa stake. And what's kind of the plan on that? And I assume that's in the $750,000,000 range mark to market for Visa, net of hedges and stuff like that.

Speaker 6

But just frame what's left and the timing of it? Thanks.

Speaker 3

I'm sorry, I missed the front part of that question.

Speaker 2

Visa, Visa.

Speaker 13

Just the remaining

Speaker 3

Visa and What happens with the back half, so the 50% that we did not have the ability to monetize. Well, Visa controls that schedule. Some of it's reliant on the litigation resolution and some of it's reliant on the schedule they've laid out, which is sort of a multiyear exchange. So we'll just continue to monitor it.

Speaker 6

Okay. Thank you.

Operator

Thank you. Our next questions come from the line of Gerard Cassidy with RBC Capital Markets. Please proceed with

Speaker 4

your questions.

Speaker 14

Hi, Bill. Hi, Rob.

Operator

Hey, Gerard. Hello.

Speaker 14

You guys have a good fortune of having insights into the commercial real estate business through Midland, your CMBS servicer. Can you give us some insights and color on what Midland is seeing in terms of their pipeline of increased special servicing, which of course I know has higher revenue, but more importantly, maybe directionally shows us where credit is heading?

Speaker 3

Yes, that's a good question, Gerard. Ironically, their special servicing balances actually went down in the quarter, which is a little bit of a head scratcher. We don't think that's necessarily indicative of a trend. We do expect it to continue to go up. But from the start, and I think you've asked this question before, it's been much, much slower in terms of those increases, those balances and you would have expected.

Speaker 2

Yes. And there I went through forecast on sort of expectations on maturity bubbles and property types and we don't expect that balance. It's not going to grow at the pace that intuitively you might have thought of.

Speaker 3

Yes. And that we thought a year ago.

Speaker 2

Yes. Because things are getting cured. They're getting sold off pretty quickly. There's for things that are really bad, there's still a lot of capital in the market. So they're turning it faster than perhaps we would have thought.

Speaker 14

Are they seeing any change in the product? Is it still primarily commercial office or is it moving into any of the product areas?

Speaker 3

It's mostly office.

Speaker 14

Got it. Okay. Yes. Yes.

Speaker 2

It's interesting. It's all of the above for all of the historical reasons. So it's still a little retail. There's hotels that will show up in there. There's multifamily that is in the multifamily that went to Freddie Fannie and then increasingly it's office and the bubble down the road looks more like office.

Speaker 14

Got it. And then just on your commercial real estate in the Slide 15, you give us obviously good detail and you've always told us about this multi tenant office is the issue. It looks like obviously with 52% criticized, how far are you along in analyzing or reviewing that portfolio? Are you completely through it and now it's going the second time or any color there?

Speaker 2

I mean we're We've analyzed it. I mean we're completely through it every quarter. I mean a couple of things. I don't know we put this out there, but there's actually not that many loans. So we don't have thousands of small loans.

Speaker 2

These are typically larger loans. And so we've gone asset by asset. And as anything gets close to being troubled, we look at 3 different appraisals, one of which is our own self generated using more extreme negative assumptions than what you might get from a commercial appraiser. We use higher vacancy rates, higher interest rates, longer time to lease up, higher to rehab, all that other stuff in our valuation. So we go through this.

Speaker 2

We know all the properties. We keep looking at them. We know what's going to happen to them. We know the timelines. Look, it's not a great outcome, but there's nothing in there that I think is going to surprise us.

Speaker 14

Very good. And just one last one on this, Bill. Geographically, are you guys finding certain parts of the country weaker than others? I know there's a lot of talk about the big urban markets, Class B and C buildings. How about from your vantage point, what are you guys saying geographically?

Speaker 2

It's not it's property by property, right? You could be in a lousy city, but be in the right place and do fine. So I just don't know that it matters.

Speaker 14

Got it. Okay.

Speaker 3

As it relates to our portfolio for sure.

Speaker 14

Yes. Got it. Okay. Thank you, guys.

Speaker 6

Sure.

Operator

Thank you. There are no further questions at this time. I would now like to turn the floor back over

Speaker 4

to Brian Gill for

Speaker 1

closing comments. Well, thank you all for joining our call this morning. And if you have any phone calls, feel free to reach out to the Ira team and we'd be happy to jump on a call with you.

Speaker 2

Thanks, everybody.

Speaker 3

Thank you.

Operator

Thank you. This does conclude today's teleconference. We appreciate your participation. You may disconnect your lines at this time. Enjoy the rest of your day.

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Earnings Conference Call
The PNC Financial Services Group Q2 2024
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