Regions Financial Q1 2022 Earnings Call Transcript

Quartr
Provided by Quartr
April 22, 2022

There are 15 speakers on the call.

Operator

Good morning, and welcome to the Regions Financial Corporation's Quarterly Earnings Call. My name is Jomarya, and I will be your operator for today's call. I would like to remind everyone that all participant phone lines have been placed on listen only. And answer session. I will now turn the call over to Dana Nolan to begin.

Speaker 1

Thank you, Jamaria. Welcome to Regions' Q1 2022 earnings call. John and David will provide high level commentary regarding the quarter. Earnings documents, which include our forward looking statement disclaimer and non GAAP information, are available in the Investor Relations section at our website. These disclosures cover our presentation materials, prepared comments and Q and A.

Speaker 1

I will now turn the call over to John.

Speaker 2

Thank you, Dana, and good morning, everyone. We appreciate you joining our call today. We're very pleased with our Q1 results. Early this morning, we reported earnings of $524,000,000 resulting in earnings per share of $0.55 Despite the challenging geopolitical backdrop and elevated inflation, we remain optimistic about 2022. We have a strong balance sheet positioned to withstand an array of economic conditions.

Speaker 2

Business customers for the most part Have adapted and are prospering in the new operating environment. New loan commitments and pipelines remain strong and utilization rates continue to increase. The consumer remains healthy. Net population migration inflows in our markets remain robust And the majority of our footprint has returned to equal or better than pre pandemic employment levels. Asset quality remains strong, reversing all credit related metrics improving in the quarter and net charge offs remain below historical levels.

Speaker 2

The integration of Sabal, Interbank and ClearSite are progressing as planned and we're excited about their growing contributions. Additionally, we continue to make investments in talent and technology to support strategic growth initiatives. We kicked off 2022 with a strong start and expect to continue building on that momentum. We have a solid strategic plan, an outstanding team and a proven track record of successful execution. Now, Dave will provide you with some select highlights regarding the quarter.

Speaker 3

Thank you, John. Let's start with the balance sheet. Average loans grew 1.5%, while ending loans grew 2% during the quarter. Average business loans increased 3%, reflecting broad based growth in corporate, middle market and real estate lending across our diversified and specialized portfolios. While still below pre pandemic levels, commercial loan volume utilization Levels ended the quarter at approximately 43.9%, increasing 160 basis points over the prior quarter.

Speaker 3

Loan production also remained strong, linked quarter commitments up approximately $1,600,000,000 Average consumer loans declined 1% as increases in mortgage and other consumer were offset by declines in other categories. Within other consumer, interbank loans grew approximately 2% compared to the 4th quarter. Looking forward, we expect full year 2022 Average loan balances to grow 4% to 5% compared to 2021. And excluding PPP loans And consumer exit portfolios, we expect full year average loan balances to grow 9% to 10%. So let's turn to deposits.

Speaker 3

Although the pace of deposit growth has slowed, balances continued to increase seasonally this quarter to new record levels. Average consumer and wealth management deposits increased compared to the 4th quarter, while corporate deposits remained relatively stable. We are continuing to analyze our deposit base and pandemic related deposit increases. Approximately 35% of the increase $15,000,000,000 is expected to be more stable with behavior similar to our core consumer deposit book. This segment is historically quite granular and generally rate insensitive and therefore can be relied to support longer term asset growth through the rate cycle.

Speaker 3

The remaining 65% of the deposit increases Is a mixture of commercial and other customer types that are expected to be more rate sensitive or that we are less certain about their long term behavior. We assume this segment may have all in beta of roughly 70%. This elevated beta assumption includes relationship repricing And some balance is shifting from non interest to interest bearing categories. It also reflects a range of 5 to $10,000,000,000 of balance reduction attributable to tightening monetary policy. The combination of these segments And our legacy deposit base represents significant upside for us as rates increase.

Speaker 3

So let's shift to net interest income and margin. Net interest income was stable quarter over quarter. Excluding reduced contributions from PPP, net interest income grew 2%, benefiting from solid loan growth And rising interest rates. Net interest income from PPP loans decreased $27,000,000 from the prior quarter and will be less of a contributor going forward. Approximately 93% of estimated PPP fees have been recognized.

Speaker 3

Cash averaged $27,000,000,000 during the quarter and when combined with PPP, reduced 1st quarter's reported margin by 58 basis points. Our adjusted margin was 3.43 percent, higher by 9 basis points versus the 4th quarter. The path where net interest income enters the 2nd quarter was strong momentum from both balance sheet growth and higher interest rates. Excluding PPP, average loan balances grew 2% in the Q1 and a similar amount of growth is expected next quarter. Roughly $1,500,000,000 of securities were also added late in the quarter, further benefiting future periods.

Speaker 3

The recent run up in rates has certainly validated our decision to wait to deploy into securities. And while not included in Current outlook, additional securities would provide incremental benefit. Higher short and long term interest rates Provided additional lift to net interest income in the Q1 and these benefits are expected to expand in the coming quarters. Total net interest income is projected to increase 5% to 7% in the 2nd quarter and is expected to accelerate throughout the year Such that the 4th quarter net interest income is expected to be approximately 15% higher Then our Q1. Regions balance sheet is positioned to benefit meaningfully from higher interest rates.

Speaker 3

Over the first 100 basis points of rate tightening, each 25 basis point increase in the federal funds rate is projected to add between And $80,000,000 over a full 12 month period. This benefit is supported by a large proportion of Stable deposit funding and a significant amount of earning assets held in cash, which compares favorably to the industry overall. Over a longer horizon, a more normal interest rate environment or roughly a 2.5% Fed funds rate will support our net interest Margin goal of approximately 3.75%. While we have purposefully retained leverage Higher interest rates during a period of low rates, we will attempt to manage a more normal interest rate risk profile as interest rate environment normalizes. The Fed's aggressive path for interest rates gives us the opportunity to protect NII at attractive levels.

Speaker 3

We have begun this process by adding $4,700,000,000 year to date of forward starting received fixed swaps And a $1,500,000,000 of spot starting securities. This represents approximately 30% of the total hedging amount needed This cycle. Now let's take a look at fee revenue and expense. Adjusted non interest income decreased 5% from the prior Primarily due to reduced HR asset valuations as well as lower capital markets and card and ATM fees. Within Capital Markets, M and A advisory activity was muted by seasonality as well as the timing of transactions.

Speaker 3

Pipelines remain robust, but some deals have been pushed to later in the year. Additionally, Debt and real estate capital markets were impacted by uncertainty surrounding rates, geopolitical tensions and volatility in credit spreads. However, we are seeing some stabilization in the loan and fixed income markets and anticipate conditions will improve in coming quarters. Further, the reduction in real estate capital markets activity was offset by the addition of Sabal Capital Partners for the full quarter. Similar to the corporate fixed income market, refinance demand has been softer than expected In our agency multifamily finance business, as investors assess a significant move in interest rates.

Speaker 3

We continue to expect Capital Markets to generate quarterly revenue of $90,000,000 to $110,000,000 excluding the impact of CVA and DVA. While we expect to be near the lower end of the range next quarter, we expect activity to in the second half of the year. Card and ATM fees reflect seasonally lower interchange on both debit and credit cards. In addition, Debit card fees were further impacted by fewer days in the quarter. Mortgage income remained relatively stable and included approximately $12,000,000 in gains associated with previously repurchased Ginnie Mae loans sold during the quarter.

Speaker 3

While mortgage is anticipated to decline relative to 2021, it is still expected to remain a key contributor to fee revenue. Wealth management income also remained stable this quarter despite elevated market volatility. Service charges were also stable during the quarter despite seasonal declines in NSF and overdraft related fees. The first phase of previously announced NSF and overdraft policy changes were effective at the end of the first quarter and the remaining changes will be implemented over the 2nd and third quarters. These changes when combined with the previously implemented changes Are expected to result in full year 2022 service charges of approximately $600,000,000 And full year 2023 service charges of approximately $575,000,000 We expect 2022 adjusted total revenue to be up 4.5% to 5.5% compared to the prior year, driven primarily by growth in net interest income.

Speaker 3

This growth includes the impact of lower PPP related revenue and the anticipated impact of NSF and overdraft changes. So let's move on to non interest expense. Adjusted non interest expenses decreased 4% in the quarter, driven by lower salaries and benefits expense and professional and legal fees. Salaries and benefits decreased 5%, primarily due to lower incentive compensation Despite higher payroll taxes and 401 expense, salaries and benefits also include the favorable impact of lower HR asset valuations. Professional and legal fees decreased significantly as elevated fees associated with our bolt on M and A activity in the 4th quarter did not repeat.

Speaker 3

We will continue to We manage expenses while investing in technology, products and people to grow our business. As a result, our core expense base will grow. We expect 2022 adjusted non interest expenses to be up 3% to 4% compared to 2021. Importantly, this includes the full year impact of recent acquisitions as well as anticipated inflationary impacts. We remain committed to generating positive operating leverage in 2022.

Speaker 3

Overall, credit performance remains strong. Annualized net charge offs increased 1 basis point to 21 basis points. Non performing loans continue to improve during the quarter and remain below pre pandemic levels at just 37 basis Our allowance for credit losses decreased 12 basis points to 1.67 percent of total loans, While the allowance as a percentage of non performing loans increased 97 percentage points to 4.46 The decline in the allowance reflects ongoing improvement in asset quality and continued resolution of pandemic issues, partially offset by loan growth and general economic volatility associated primarily with inflation And geopolitical unrest. The allowance reduction resulted in a net $36,000,000 benefit to the provision. We expect credit losses to slowly begin to normalize in the back half of twenty twenty two and currently expect full year net charge offs to be in the 20 to 30 basis point range.

Speaker 3

With respect to capital, we ended the quarter with our common equity Tier 1 ratio modestly lower at an estimated 9.4 percent and we expect to maintain it near the midpoint of our 9.25 to 9.75 percent operating range. So wrapping up on the next slide, our updated 2022 expectations, which we've already addressed. I do want to point out that these expectations do not include any additional security purchases. So that certainly provides the opportunity for incremental benefit. In closing, as John mentioned, we began 2022 with great momentum.

Speaker 3

And despite geopolitical tensions and market uncertainty, we remain well positioned for growth as the economic recovery continues. Pre tax pre provision income remains strong. Expenses are well controlled. Credit risk is relatively benign. Capital and liquidity are solid and we are optimistic about the pace of the economic recovery in our markets.

Speaker 3

With that, we're happy to take your questions.

Operator

Thank you. The floor is now open for questions. We'll pause for just a moment to compile the Q and A roster. Your first question comes from the line of Ryan Nash with Goldman Sachs. Please proceed with your

Speaker 4

Hey, good morning, John. Good morning, David.

Speaker 5

Good morning, Ron.

Speaker 6

I was hoping maybe

Speaker 4

you could talk about expectations For deposit growth, which came in better than expected and particularly as it pertains to the surge deposits. Maybe just how you're thinking about the trade off between keeping some of these deposits and the potential for a higher beta. And I think David you highlighted a Potential for a $5,000,000,000 to $10,000,000,000 reduction. Can you maybe just clarify how much you expect for these to stick around and what it means for deposit growth?

Speaker 3

Sure. So we were we had expected that $5,000,000,000 to $10,000,000,000 of deposits to start flowing out in 1st quarter, we maintained some pretty conservative deposit assumptions. But if you look at the growth and where it came from, it was in our consumer book. We continue to grow accounts and continue to be have a high level of primacy with our retail customers. And so our deposit base is our competitive advantage and it's been that way for a long time and we're looking To leverage that as we get into this higher rate environment, as you think about the surge deposits, We have a third of those that we think are going to be fairly similar to our legacy deposits in terms of beta, price insensitive.

Speaker 3

Then we have the other third on the other end, we think are much higher beta 80% to 100% beta. Those are corporate deposits that are you could characterize those as non operational deposits that are probably going to look for a better home or A higher rate, as time goes by. We'll see what happens after this next rate increase, but we've expected that To either reprice or really flow out of the bank. And then you have in the middle, which is another third, deposits that are Stimulus receiving deposits, small business type deposits, that one's a little harder to predict. We do have a higher beta on it, not as high as the second group, but any event, If we're wrong on the 5% to 10%, it's likely that we've maintained our deposits at a higher level.

Speaker 3

And over time, if we see that, Then that gives us a little more comfort to be able to take some of our excess cash that we have some $26,000,000,000 sitting on the balance sheet to deploy that into the securities book. But our guidance that we're giving you does not have that deployed intentionally.

Speaker 4

Got it. And if we could dig a little bit into the new hedging program. So David, I don't know if Darren's in the room. I guess you guys were the masters of adding swaps in a timely manner last cycle and now you've begun this new program. So I think the market is having a little bit of trouble understanding why banks are adding swaps at this part of the cycle and I think all of us understand.

Speaker 4

So can you maybe just talk about Thoughts regarding locking in here, particularly using forward starters. And I think you talked about another 10 to Can you maybe just talk about pacing and why this is the right decision at this point in the cycle for Regent? Thanks.

Speaker 2

I'll go

Speaker 3

ahead and start and then Darren is here and he can add to it. But you hit on a key word and that is forward starting. And so what we're trying to do is get our margin to the optimum level and then layer So if you look at where we put the first, call it, dollars 4,700,000,000 in, That's at a received fixed rate of 2.32. Those are largely going to be effective for 2024. So we intentionally had them forward starting because we believe there's risk at that point in the cycle That actually rates could go the other way and we want to be able to protect that.

Speaker 3

If we're wrong and it happens to not reverse and go lower, then we haven't lost We haven't given up any of our net interest income or margin at that point. These are all 5 year duration just like they were last cycle. And so when you do it forward starting, you can take advantage of pricing. They're not all that expensive to get into and we're not giving up our asset Today, that's important. We are becoming and maintain our sensitivity.

Speaker 3

And if you on the Comments just a minute ago, the way we're structured in the balance sheet is to benefit in particular at the back end such that our NII in the 4th quarter should be up 10% from the Q1. And it's just the nature of how our sensitivity, is structured at this point in time. Darren, anything you want to add to that?

Speaker 7

The only thing I would add is, David said it well. Page 8 of the deck just This really shows the path of the net interest margin, which really underscores what David is saying. We're going to enjoy nice margin expansion as the Fed Is tightening policy, but we have a very disciplined approach to manage that exposure as rates push higher. As David said, The probability of a downturn at some point if the Fed has to push higher increases over time, and so we want to be cognizant of that. And As we get delivered those higher rates, put in that protection and really manage the downside risk in those out years.

Speaker 4

Thank you both for all the color.

Speaker 3

Thank you.

Operator

Your next question will come from the line of Christopher Barr with Wells Fargo, please proceed with your question.

Speaker 8

Good morning.

Speaker 7

Good morning.

Speaker 9

So other banks Seem to be spending their rate driven incremental net interest income or at least some of it, whereas you've kept your 2022 cost guidance unchanged. So why do you think that is? And with this higher NII outlook, how confident are you that you can expand on your positive operating leverage this year, next year.

Speaker 3

Well, kind of leveraging the comments just before, The way we structured the balance sheet, our NII will be growing nicely in the throughout the year, but are really strong in the Q4, which sets up a Really strong 2023. We're still asset sensitive through that time period. And so we should have a nice Tailwind in terms of revenue growth. We prided ourselves on being able to control our cost. We did a good job this quarter.

Speaker 3

There is that HR valuation asset that benefited us by $14,000,000 So you need to add that back to kind of get us level set. But In any event, we continue to leverage our continuous improvement program To stay focused on how we get better every day and how we can leverage technology and process improvement so that we can keep our costs down Because we are taking our savings and reinvesting those savings in things like digital, talent, continuing to hire people so that we can grow. We had mentioned that the vast majority of our growth and expenses this year are Related to the 3 acquisitions that we closed in the Q4 of 2021. So, we've had a little bit of inflation we've had to deal with. And so, we're continuing to work at all levels to try and keep our costs under control and Generate positive operating leverage, which we believe we will have in 2022.

Speaker 3

We didn't have it this quarter, but we will when you get to, when you look at the whole year And expect to have that going forward in 2023.

Speaker 5

Thank you.

Operator

Your next question will come from the line of Gerard Cassidy with RBC. Please proceed with your question.

Speaker 10

Good morning, Gerard. Good morning, David.

Speaker 2

Hey, good morning, Gerard.

Speaker 10

David, in the slide deck, Slide 6, you give us the difference in the net interest margins based upon What's weighing down your margin today with the PPP loans and the excess cash? Can you share with us on the The excess cash portion, where does the Fed funds rate need to go where you're not going to need to have that bullet point anymore because it will match Your reported margin?

Speaker 3

Well, it really gets back to the deposit expectations. So, we've maintained This excess cash to be prepared to the extent the surge deposits do seek other alternatives and we have to pay that out. Also, we're getting a 100% beta on the cash while we wait, but being patient has benefited us. Putting that into the securities book earlier would have really cost us. We did put a little bit of that to work this quarter, $1,500,000,000 of that at about a $2.80,000,000 carry.

Speaker 3

If we were to do it today, it'd be even higher And so in the 3.5% range. So I think it's important for us to understand what the surge deposit flows are going to do relative to what the Fed Rate movements are going to be and I think over a fairly short period of time, our cash will get down to our normalized level, which is a 1,000,000,000 $2,000,000,000 and then we won't have to have the this disclosure. And of course, PPP will run off

Speaker 10

And then as a follow-up, especially talking to you with your background as an accountant, Can you share with us your thoughts about AOCI? We all understand it's an accounting issue and it's only for the securities portfolio. Obviously, you, similar to your peers, had a big negative number this quarter, which took down tangible book value per share and book value per share, again, similar to your So you're not standing out. But at what point does it become an issue for banks? And again, I know it doesn't go through your CET1 ratio like it does for the advanced But do we have to ever get concerned about it if it keeps on, you know, the AOC and I keeps on getting larger on the negative side?

Speaker 3

So I'll try to answer this without getting upset. I think that count I

Speaker 10

didn't ask you about CECL.

Speaker 3

So you've hit on 2 of them there, 4 accounting standards relative to what we're doing. But in any event, we have to file a gap. So OCI does not the change in OCI relative to securities gains doesn't affect our thinking whatsoever. We manage the company based on regulatory cap our capital based on the regulatory rules and for Category 4 banks Like regions and most of our peers, that's excluded from the regulatory calculation. Importantly, It's also excluded from the rating agencies.

Speaker 3

So they carve out the change in OCI relative to securities, not pension or other things, but And what's frustrating about it is that, nobody talks about measuring the fair value of our deposit base, which is where the cash came from to go buy the securities. And so we're marking one element of a balance sheet through capital And that's just not how we manage the company. And so it's really irrelevant. It's done because it's easy to do. We can go get a quote.

Speaker 3

But the fair value of the deposits in particular for regions because of the primacy, because of the granularity, the fair value of our deposits are shooting through the roof. You just don't see that manifest itself on the balance sheet. You will see it manifest itself in growing NII and net interest margin. This is the time period we've been waiting for, for rates to rise. So the fact that OCI is working against tangible book value, we could care less.

Speaker 10

Very good. Appreciate the insights.

Speaker 3

Could not care less.

Operator

Your next question will come from the line Erika Najarian with UBS. Please proceed with your question.

Speaker 11

Hi, good morning.

Speaker 2

Good morning, Erika.

Speaker 11

My first question is a follow-up to Ryan's questioning. The way you wrote out Slide 14, it seems like your NII I guide, includes both a $5,000,000,000 to $10,000,000,000 potential attrition of deposits and 70% data. I guess I'm asking if that's if I'm reading that correctly, isn't it Shouldn't be one or the other. In other words, if they stick around, it might have a 70% data. Does that make sense?

Speaker 3

Yes, yes. Don't duplicate that. The $5,000,000 to $10,000,000 is baked into the $70,000,000

Speaker 12

If we're

Speaker 3

wrong, our beta will be lower. Thus far as I mentioned on Ryan's question, we thought deposits, These particular $5,000,000,000 to $10,000,000,000 worth of deposits would start flowing out in the Q1. They did not. We still think that's going to happen. Perhaps it's just delayed a little bit waiting for the next move, which we believe is going to be 50 basis points by the way in May.

Speaker 3

And we think those With our largely corporate non operational deposits are going to seek a higher return than we're willing to pay. And they're probably going to move off the balance sheet in that case. So this really doesn't This is not going to be a big deal to us. We've been planning for it all along.

Speaker 11

Got it. And As we think about your NII guide, David, what type of earning asset growth did we assume? Again, it goes back to the deposit question, right, because your outlook has felt very conservative since you first put it out. But What interest asset growth range should we assume lies underneath this NII guide?

Speaker 3

Yes. So you have Take the pieces and look at it. So there's not an appreciable change there. We've got 2 things working. 1, we ought to have pretty good Loan growth, as we mentioned, ex PPP and runoff portfolios, that's 9% to 10% growth in the loan balances, but within we've got the $5,000,000,000 to $10,000,000,000 of deposits going the other way and so the cash will come down.

Speaker 3

So, It's not as much of an earning asset change as it is mix and what the carry, what the yield is on the net assets We do have the earning assets that we do have. And so, we should see our margin continuing to increase. We're trying to give you the guide by telling you that, by the time we get to the Q4, our NII is 15% higher than where we are today. Kind of cutting to the chase because there's a lot of moving parts there.

Speaker 11

No. Understood. Thanks, David.

Operator

Your next question will come from the line of Peter Winter with Wedbush Securities. Please proceed with your question.

Speaker 6

Good morning. I wanted to ask about EnerBank. The economic environment has changed Quite a bit since you guys acquired them. And I was wondering, have your views changed at all with regards To the loan outlook from EnerBank or any consideration maybe further tightening the underwriting standards given a much higher rate environment?

Speaker 3

No, we're very bullish on Interbank. We're excited about the fact that we closed that in the Q4. If you look at our growth Interbank, this quarter, it was 2%. Obviously, if you annualize that at 8%, which is below the guide that we gave you and The big driver there is seasonality. So it's the this Q1 is the low watermark for them.

Speaker 3

You'll see that This is a prime book. We're really excited about the carry that we can get there and the margin. We are ahead of schedule on where we thought we would be. And so, Peter, absolutely not. We are looking to that To be a good component of our growth and again, we feel good about the credit quality, in particular being paid for the risk that we're taking And a nice return for our shareholders on the capital deployed in that book.

Speaker 6

Got it. And then If I could just ask about the capital management strategies going forward just between bolt on acquisitions and which have really increased profitability versus I saw yesterday you've got the $2,500,000,000 buyback. The question is how aggressive will you be or is it Being opportunistic and just want to have that authorization in place.

Speaker 3

Sure. So let's go back through the how we think about Capital deployment. 1st and foremost, our capital is there for organic growth is to support our business. As I mentioned, ex PPP and runoff, we got loans growing 9% to 10 That's where we want our capital to go first and foremost. The second is we want to make sure we pay an appropriate dividend to our shareholders.

Speaker 3

Our guide is 35% to 45% of earnings, in the form of a dividend. So as earnings grow, so will the dividend. We didn't think about non bank acquisitions and the 3 we closed in the 4th quarter are great examples. We have a whole team continuing to look and work with our 3 business segment leaders on how we can provide Products and services that we don't have to our customers. So we'll continue to do that.

Speaker 3

And then we use share repurchase CCAR and how we think about risk in our book. Of course, we just filed our CCAR submission in April. We'll hear back in the end of June, on that. And yes, we did ask the Board and received approval for $2,500,000,000 share repurchase program over the next couple of years. The control factor there, Peter, is CET1 that needs to be in the range of 25 to 9.75.

Speaker 3

That's what our risk profile tells us. We need to have CET1 in that range. We're targeting the middle of it at 9.5. And so we won't buy shares back if it takes us outside of our operating range, even if The price were right, which is where you're going opportunistically. I think that's just to help us manage our capital at the optimum level because that informs the denominator of our return on capital calculation, which we think is critically important to our shareholders.

Operator

Great.

Speaker 6

I'm really helpful. And just one housekeeping, just how much was the credit interest recovery this quarter in net interest income?

Speaker 3

I didn't commit that to memory. Hold on just a minute, I'll tell you. No, that's not the number he's asking. Peter will get that to you.

Speaker 6

Okay.

Speaker 3

You're talking about the impact to NII, right? Yes. Interest Recovery and NII. Yes, that we'll look somebody will look that up. We'll get to you in a minute.

Speaker 6

Thanks, David. Thanks for taking the questions.

Operator

Your next question will come from the line of Matt O'Connor with Deutsche Bank. Please proceed with your question.

Speaker 5

Good morning. You did mention earlier about some consideration in your reserves for inflation. And I do want to ask, you always talk about your average account size being a bit smaller than some of your peers. And I guess logic would have it that, that customer base might be a little more impacted by inflation, by rising energy gas prices. And just wondering what you're seeing in

Speaker 2

Just say, so far not a lot of change. Generally speaking, our customer base, as we look at deposit balances and the impact of COVID and relief dollars on customer deposit balances, we saw on average even in the lowest balance segment, about a 30% increase And 30% to 40% increase in pre pandemic deposit balances and we are still seeing customers Maintain that level of excess liquidity as evidenced by the fact that our deposit balances actually grew quarter over quarter. We do are aware of the impact of inflation or the likely impact of inflation on Our customer base, it is a more mass market customer base as we've talked about before, about 60% of Our consumer deposit customers are in the mass market. So, there will be some impact and we're certainly watching for that, but we haven't seen it yet.

Speaker 5

Okay, that's helpful. And then I guess the on the other side of the loan book, and the commercial side, you had a big drop in non The drop in the criticized assets, was that anything specific like a couple of borrowers or sectors or It has been improving for some time, but it's gotten quite low.

Speaker 2

Yes. No, I think it's broad based and we Continue to see improvement in credit quality across the book, a reduction in criticized loans, classified loans and non performing assets. And I think it reflects the work that our teams have continued to do, working with our customers closely to evaluate the Our portfolios to exit certain relationships, portfolios and businesses where we feel like that we Our, see increased amounts of risk or we're not getting an appropriate return. If I had to point to any business where, Businesses, portfolios where we saw improvement, it would be restaurant as we continue to work out of that portfolio and hotel as the economy

Speaker 5

Thank you.

Operator

Your next question will come from the line of Ken Usdin with Jefferies. Please proceed with your question.

Speaker 8

Good morning, Ken. Hey, good morning. Hi, everybody. So Joe, just a follow-up on the fee side. Now that you're getting close to the implementation of Your changes to the deposit products and you're continuing to reiterate your service charges expectations for 2022 and 2023.

Speaker 8

Service charges are actually probably better than people expected in the Q1. So just wanted to kind of get your updated views on your confidence that you've got the Right outlook and as you start to put the products in place like what are your early takeaways from the continuation of that view?

Speaker 3

Yes. So, our service charge were a little better than anticipated. I will say that we put in some changes at the end of the first You'll see more change coming in the second and third. So it's too early to change our guidance that we gave you. Last quarter, we reiterated this quarter, which was $600,000,000 for service charges In 2022 and 575 in the next year.

Speaker 3

As we go through and see what the impact is for these changes, We'll update that, whichever way it might go and we'll probably have a better feel For the year 2022 next earnings call. But right now, it's probably too early to change.

Speaker 8

Yes, understood. Okay. And then one just follow-up on credit. Just following up on Matt's question about your provisioning thoughts, but you just talk about as you talked about normalization of losses starting to happen towards the back half of the year, what parts of the portfolio are you expecting to see Charge offs increase in 1st and what areas are you just noticing that potential change in terms of delinquencies and loss rates? Thanks David.

Speaker 3

Well, I think that, we lowered our range 20 to 30 basis points as we think about risk going forward. There's certainly the consumer on the consumer side of the house, there's been a lot of stimulus money. I think we feel pretty good about the consumer, but that's an area we need to watch closely to see what that starts to move First, the second piece of that would be small business. I think, small business is an area that probably has On a relative basis, incremental risk, the issue is we're just not seeing any of that right now. John had mentioned all of our asset quality indicators Getting better.

Speaker 3

We believe our normalized loss rate is likely to be lower than our history, Because of our de risking that we just mentioned in our whole credit book. So, we feel pretty good about that. I think the leverage book, we want to watch closely as well, as we see rates increasing and What kind of pressure might that put on the leverage portfolios? So those would be 2 or 3 that we watch.

Speaker 5

Great. Thank you.

Speaker 3

I do want to get back, Peter, you asked about the recovery that was in NII, it's $4,000,000 this quarter. I want to close that out.

Operator

Your next question will come from the line of John Pancari with Evercore ISI. Please proceed with your question.

Speaker 12

Good morning, John. Good morning. On the expense side, I want to see if I can kind of I asked the opposite of Chris Spar's question earlier. Wondering what type of expense flexibility You may have if revenue the revenue backdrop comes in weaker than expected this year. And Do you still think that you're implying about 150 basis points of positive operating leverage in your guidance?

Speaker 12

Is that sustainable If the revenue backdrop gets tougher.

Speaker 3

Well, so you saw a pretty good quarter this quarter. Again, make sure you add back $14,000,000 on the HR to get level set there. The reason we were down is because our revenue Down in certain areas like capital markets, that has a tendency to be more variable in terms of the costs relative to the revenue. Things like M and A, if you don't have M and A transactions and you don't have the compensation that goes with the deal. So it Depends where the revenue challenges come from, John.

Speaker 3

If we're seeing it in places like that, And then we should have lower compensation mortgage. If we don't have the mortgage production that we think, then you're going to see lower compensation for that as well. So we do have some mechanism to take care of revenue if it's lower than we thought. Now a big driver of our change and we've changed, I guess, 2 times now, our revenue outlook has been because of the rate environment And just more carry there. So, if we have if we don't get the rate The forward implied at March 31, which is what's baked into our guidance, Then we're probably going to have lower incentive compensation.

Speaker 3

So there are puts and takes there. We still feel confident with The operating leverage number that you just mentioned, that's exactly what's baked into our guidance. And we will We are committed to having operating leverage over time.

Speaker 12

Okay. Thanks, David. That's helpful. And then on the loan side, as you look at the remainder of the year in terms of Overall growth drivers, where do you see the strongest loan generation coming out of Both on the commercial side and the consumer side,

Speaker 2

what are the biggest drivers of growth

Speaker 12

over the remainder of this year as you look at the economic backdrop?

Speaker 2

Yes, John, this This is John Turner. Our growth in the last quarter and frankly over the last, I guess, 2 or 3 quarters Has been broad based across all three segments. So, we're experiencing growth in our corporate banking business, our middle market commercial business And our real estate business, we're seeing customers access lines of credit and increasing rates to both rebuild inventories and to Adjust to increasing costs associated with inventory. So obviously, increases in line utilization are both inventory and cost driven. We're also seeing Some CapEx, which I'm excited about across a number of different industries.

Speaker 2

Customers are investing in expansion activities. Some of it is for modernization And recognition of a much tighter labor market, in Alabama, unemployment is 2.9%, in Georgia, it's 3 point 1% Florida and Tennessee is 3.2%. So we're in full employment across some very good markets. And As a result, customers are looking for ways to modernize and to continue to borrow. Growth in the portfolio has come in healthcare, has come in transportation, It's coming in our technology and defense sectors and asset based lending.

Speaker 2

In the real estate business, we've seen some growth At HomeBuilder, as markets are again continuing to expand as a result of consistent in migration of people, Also seeing some growth in our Real Estate Investment Trust business, which has been an important portfolio for us and a really Highly performing portfolio. So we are optimistic about our ability to continue to grow through the balance of the year and would expect that growth to be fairly broad based.

Speaker 12

Got it. All right, John. Thank you. Thank you.

Operator

Your next question will come from the line of Betsy Graseck with Morgan Stanley. Please Proceed with your question.

Speaker 13

Hi, good morning. Hi. Hey. Hey. I had a couple of questions.

Speaker 13

One is, I just want to make sure I understand how you are positioning yourself for this surge deposit Activity that you outlined on Slide 5. I know you put the expected beta of 40 to 60 for the mid Stable mid beta and 80 to 100 for the least stable higher beta. Is that your indication to us of What you think it would take to retain these deposits and would you go after them or Are you saying, look, we think it would retain this and we're not going to go after them or it depends on how it progresses. Could you just give us some color on that?

Speaker 3

I think if you looked at the if you're on that Page 5, let's start with the right hand side. Those are the higher beta 80% to 100% Characterize those as non operational corporate deposits. These are deposits that are parked here That probably are going to seek a better avenue, a better yield than we're willing to pay for. So you could expect those, to most likely move off the balance sheet first. When you get to the middle, Which is at 40 to 60 beta.

Speaker 3

Those are accounts that had stimulus or small business accounts with A disproportionate amount of cash in their accounts that we think will normalize over time. I think you'll see a little bit of both. You'll see some of that Move off the balance sheet, you'll see some of that where we'll pay a higher price. But at the end of the day, we're going to have to monitor that. We have The rate committee, this is what they do every month.

Speaker 3

They meet to try to figure out what we should pay. As you know, our deposit beta Was among the lowest of the peer group. We expect that to be true going forward because of our granular High primacy deposit base. So that one has that middle $13,000,000,000 is something we're going to have to watch closely to see whether it stays on and if it does, what will it cost us. There is going to be an avenue for both of these That is in the middle column in the right.

Speaker 3

For our balance sheet opportunities where we'll move those out of the bank, but we'll be able to have a Fee associated with that, that will help compensate us a little bit, won't cover what we're earning today, or likely earning as rates move But nonetheless, it will be a bit of a carry for us going forward.

Speaker 13

Okay. And Since we're looking for 100 bps up in 2Q, right, in May June 50 each, we should start to see some of this Search deposit exit in 2Q, shouldn't we or do I have that wrong?

Speaker 3

Yes. No, I think you're exactly right. I think, Again, when it's 25 basis points that may have been different 50, if you're a large corporation that has non operational deposits, You're going to be moving pretty quickly. So, again, we expected the $5,000,000,000 to $10,000,000,000 that we talked about to move off in the Q1. It did not.

Speaker 3

Now our corporate deposits were about flat on an average basis. We do expect that after this 50 basis points for that start happening. So yes, you would expect deposits to be down in the Q2 as a result of that.

Speaker 13

Okay. And then just two other things. One is, What factors will drive you to shift your excess cash to securities? Are you going to be Waiting to get through like 80% of the Fed funds rate hikes to assess and then redeploy or are you going to be redeploying along the way?

Speaker 3

Well, I think, we've redeployed some. So, we put a $1,500,000 to work, this last quarter, As spreads continue to actually gap out a bit, things like, CMBS, Agency CMBS It was a good place for us. I guess, we put at, what $280,000,000 was $1,500,000,000 If we were to do that today, it'd be closer to 3.5%. So, it's kind of a little bit of a game. We need to just Watch and see what the rate environment will give us.

Speaker 3

We do have some cash we can put to work. If our Beta assumptions are better than we'll have that much more cash to deploy over time. Now our guidance we're giving you doesn't have that Does not have that baked into the guidance, but using the spot securities and the forward starting swaps, All that's baked into our hedging strategy that we're trying to put in place so that we can protect a really nice margin, that we think we can get to over time and Giving you that guidance on one of our slides, Slide 8. And I think in Our prerecorded message, we think we can push you up to 3.75 with a 2.50 Fed funds. So that'd be quite nice for us.

Speaker 13

Okay. And last question is just on, you had the AOCI hit. I know Gerard spoke about that with you earlier on the call. The long end of the curve obviously is up since March 31. So should we expect Like for the DV01 hit in this quarter would be similar to last quarter for Like DV01 move or are some of these hedging strategies that you indicated earlier changing that?

Speaker 13

And I'm really asking what we need to take into consideration as we think through to 2Q with this rate back up what the AOCI had could be?

Speaker 3

Yes. So my first point would be to ignore it and you don't have to do the math and go on to something else. But if you want to track it for whatever reason that you have, I would expect it to probably negatively impact us, but not to the tune of what it did this past quarter, Partially because of what we're lagging into right now and frankly the change in the long end isn't going to be as we don't think be as severe as it was this quarter. So Good luck with your math.

Speaker 13

So those hedging strategies you talked about earlier Help you on that front, is that accurate statement or not?

Speaker 3

That's right.

Speaker 13

All right. Thanks.

Operator

Your final question will come from the line of Bill Carcache with Wolfe Research. Please proceed with your question.

Speaker 2

Thank you. Good morning.

Speaker 14

Hey, good morning. Thank you for taking my questions. Following up on your response to Both Gerard and Betsy, I appreciate your comments around how it doesn't make any fundamental economic sense to mark securities to fair value on the left hand side of your balance Without also marking the deposits to fair value on the right side and so fundamentally available for sale OCI hits are nothing more than accounting noise. But how would you respond to the idea that in the recession bank stocks are going to trade down to tangible book value? And so while it may not matter fundamentally from a Practical perspective, is it something that investors tend to care about?

Speaker 3

Yes. So, this whole concept of tangible book value came about in the recession. To the extent we have a recession, the rate environment is actually going to go the other way and securities are going to be worth that much more. And so, again, I think you if you want to mark the entire balance sheet to fair value, That would be reasonable, especially in trying times, where you're trying to figure out what true The true fair value of net assets are for a given company. But, the total concept to tangible book value, my opinion, is really Not a going concern issue, it's a failure notion.

Speaker 3

It's a I'm going out of business, what might I get as a shareholder if we liquidate everything. And the biggest issue I have with OCI is you're marking one element of the entire balance sheet. Securities, you're not market loans, you're not market deposits or anything else. So you're not getting a very good understanding of what true tangible book value is In any rate scenario, but I realize I'm in the minority and people just do are going to do what they want, but in a recession, It actually goes the other way because the rates will be down.

Speaker 14

Understood. Yes, that makes sense.

Speaker 12

You guys have

Speaker 14

exhibited prowess in protecting your margin I guess is there anything that could lead you to ever consider wanting to protect that tangible book or maybe It is a focus of investors maybe introducing the cost of tangible book value ex the available for sale. It might be something And that people focus on because I guess with the passage of time, those marks would not be realized if you held the securities to maturity.

Speaker 3

Yes. I don't again, we don't use this To manage our bank at all, we don't use it for capital, we don't use for rating agencies. So to put it in held to maturity, where we don't have to have a mark, All that does is restrict our ability to manage the portfolio, the way we want. And so We don't see any need for that. We do realize there are some people, for whatever reason that this is important.

Speaker 3

And all I'm And is go calculate the fair value of our deposits, which will be in our 10 Q coming up and just add that in as you're thinking about Tangible book value and then we at least have a better idea of what it is.

Speaker 14

Understood. Thank you for taking my questions.

Speaker 2

Thank you very much. I think that's all the questions we had. So thank you all for your time today. Thanks for your interest in Regions. Have a great weekend.

Operator

This concludes today's conference call. You may now disconnect.

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Earnings Conference Call
Regions Financial Q1 2022
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