James C. Leonard
Executive Vice President and Chief Financial Officer at Fifth Third Bancorp
Thank you, Tim, and thank all of you for joining us today. Our first quarter results were solid, despite the market volatility during the quarter. We generated strong loan growth in both commercial and consumer categories, deployed excess liquidity into securities at attractive entry points and grew deposits. Expenses were once again well-controlled, but fees underperformed our January expectations due to the market environment. Improvements in credit quality resulted in an ACL ratio of 180 basis points compared to 185 basis points last quarter while an increase in loan balances resulted in the net $11 million increase to our credit reserves. Combined with another quarter muted net charge-offs, we had a $45 [Phonetic] million total provision for credit losses.
Moving to the income statement. Net interest income of approximately $1.2 billion was stable sequentially. Reported results were impacted by lower day count, lower PPP income, including a slowdown in forgiveness that resulted in $10 million less than expected PPP-related NII and the expected decline in residential mortgage balances from previous Ginnie Mae purchases. These detriments were offset by the benefit from the deployment of excess liquidity into securities, strong loan growth and the impact of higher market rates. Excluding PPP, NII increased 1% sequentially and 5% year-over-year.
Total reported non-interest income decreased 9% compared to the year ago quarter or 7% on an adjusted basis. Similar to peers, our results were impacted by lower capital markets revenue, primarily due to transaction delays as well as lower mortgage revenue in light of lower origination volumes and gain on sale margins, partially offset by improving MSR asset decay. We generated solid year-over-year fee growth in treasury management and wealth and asset management, where we produced net AUM inflows again this quarter. Consumer deposit fees were stable as our success generating household growth offset the continued decline in cumulative consumer fees as part of our Momentum Banking offering.
Non-interest expenses increased just 1% compared to the year ago quarter, reflecting continued discipline throughout the company. Compensation expenses were well-controlled, with the year-over-year increase reflecting the previously announced broad-based restricted equity awards, which will support the continuation of our strong employee retention. We also continue to invest in the ongoing modernization of our tech platforms. These items were partially offset by lower card and processing expense due to 2021's contract renegotiations. Adjusted expenses increased 2% sequentially, driven by the special equity award and the usual seasonal increase in compensation and benefits expense. Our expenses this quarter included a mark-to-market benefit associated with non-qualified deferred compensation plans of $12 million with a corresponding offset in securities losses.
Moving to the balance sheet. Total average portfolio loans and leases increased 4% sequentially. Average total consumer portfolio loans increased 2% compared to the prior quarter as strength in auto originations, combined with growth in residential mortgage was partially offset by declines in home equity and other consumer loan balances, primarily from GreenSky balance runoff. Average commercial portfolio loans and leases increased 5% compared to the prior quarter, primarily reflecting growth in C&I loans. Excluding PPP, average commercial loans increased 6% with C&I loans up 8%.
Commercial loan production remains strong and in line with our original expectations. Production was strongest in core middle market, which was well diversified geographically, which increased over 60% year-over-year. Our production and pipelines continued to reflect our strategic investments in talent and our successful geographic expansion as we sustained our record pace in adding new quality relationships during the first quarter. With muted payoffs and higher revolver utilization rates reflecting the capital market slowdown, period-end commercial loans, excluding PPP, increased 5% sequentially, and 13% compared to the year ago quarter. Over half of the sequential period-end growth was due to existing revolvers with a utilization rate increasing 2% to 35.5%.
Given the market opportunities in the first quarter, we began deploying excess cash to protect against the rising risk of an economic downturn. During the first quarter, we grew our securities portfolio of approximately $13 billion. On an average basis, securities increased $5 billion or 13% sequentially. As we have said over the past two years, our balance sheet positioning allowed us to remain patient and not grow the portfolio at historically low interest rates caused by the extraordinary Federal Reserve intervention. The past 90 days have absolutely validated our decision to patiently wait, but our actions this quarter and beyond will ensure our strong through-the-cycle performance under various rate scenarios over the long term.
Our investments continue to focus on adding duration and structure to the portfolio with stable and predictable cash flows. Consequently, our overall allocation to bullet and locked out structures increased from 59% to 64% at quarter end. Average other short-term investments, which includes our interest-bearing cash, decreased $6 billion, reflecting the growth in loans and securities, partially offset by continued core deposit growth. Compared to the year-ago quarter, average commercial transaction deposits increased 5% and average consumer transaction deposits increased 11%, reflecting our continued success growing consumer households. We once again added households in every market compared to last year, led by our key Southeast markets.
Moving to credit. As Greg mentioned, our credit performance this quarter was once again strong with NPAs at 47 basis points and net charge-offs at 12 basis points. We continue to closely monitor areas where inflation and higher rates may cause stress. As Greg also mentioned, we have deliberately reduced our highly monitored leveraged loan portfolio for this very reason, which is now below $3 billion in outstandings, while also significantly improving the quality of the portfolio.
Moving to the ACL. Our baseline scenario assumes the labor market remains stable with unemployment ending our three-year reasonable and supportable period at around 3.7%. We maintained our scenario weights of 60% to the base and 20% to the upside and downside scenarios. Our ACL build this quarter reflected strong loan growth and a worsening downside economic scenario partially offset by improvements in the credit risk profile of the loan portfolio, including a reduction in borrowers and prolonged distress. If the ACL were based 100% on the downside scenario, the ACL would be $1.1 billion higher.
If the ACL were 100% weighted to the baseline scenario, the reserve would be $236 million lower. While our base case expectations point to continued economic growth, there are several key risks factored into our downside scenario, including escalating geopolitical tensions, which could exacerbate existing inflationary pressures and further strain supply chains, pressures from the Fed's quantitative tightening or additional COVID variants, which could play out given the uncertain environment. Our March 31 allowance incorporates our best estimate of the economic environment.
Moving to capital. Our CET1 ratio ended the quarter at 9.3%, above our stated target of 9%. The decline in capital was primarily due to strong RWA growth in light of the robust organic business opportunities and securities purchases, combined with an 8 basis point impact from the CECL capital transition rule. We expect to close the acquisition of Dividend Finance in the second quarter, which will deploy approximately 30 basis points of capital. Our tangible book value per share, excluding AOCI, increased 1% during the quarter and 5% compared to the year ago quarter.
Moving to our current outlook, which includes the financial impacts from Dividend Finance. We expect full year average total loan growth between 5% and 6% compared to 2021, including the expected headwinds from PPP and the Ginnie Mae forbearance loans we added last year. Excluding these items, we expect total average loan growth of around 10%, reflecting strong pipelines, sales force additions, the Dividend and Provide acquisitions and stable commercial revolver utilization rates over the remainder of the year. This should result in commercial loan growth of 9% to 10% or 15% to 16%, excluding PPP.
We now expect total average consumer loans to be stable in 2022, reflecting our first quarter decision to lower auto loan production in order to enhance our returns on capital. We now expect around $8 billion in auto and specialty production for the full year, which will still result in double-digit growth in indirect consumer secured balances in 2022. Our outlook also assumes modest growth in other consumer loans, reflecting the benefits of Dividend Finance, partially offset by a 20% decline in GreenSky loans.
On a sequential basis, we expect second quarter average total loan growth of 2% to 3%, comprised of 3% to 4% commercial balance growth and stable consumer balances. We expect 5% to 6% average C&I growth in the second quarter, excluding PPP. We expect our average securities portfolio to increase approximately $10 billion in the second quarter, reflecting the full quarter impact of purchases made later in the first quarter combined with the assumption that we had [Phonetic] $2 billion in balances given the market opportunities we have seen through early April. We also assume $1 billion in additional securities growth in both the third and fourth quarter.
Given our outlook for earning asset growth combined with the implied forward curve as of April 1, we now expect full year NII to increase approximately 13% to 14%. It is worth noting that our outlook incorporates the impacts from the runoff of the PPP and Ginnie Mae portfolios, which result in a $220 million headwind this year. Excluding those portfolios, NII growth would exceed 18%. Our current outlook assumes stable to slight growth in deposit balances in 2022 compared to 2021 with continued strong growth in consumer deposits in the mid-single digits, offset by the expected runoff of nonoperational commercial deposits. We expect deposit betas of around 15% on the first 125 basis points of Fed rate hikes, the 25 basis points we saw in March, combined with another 50 basis points in both May and June.
While we remain confident in the quality of our deposit base, the rapid and aggressive policy responds by the Fed to curb inflation, including the potential for 10 rate hikes from March 2022 to March 2023 and aggressive Fed balance sheet reductions, we expect deposit betas of approximately 25% over the first 200 basis points this cycle compared to the mid-30s last cycle. The ultimate impact to NII of incremental rate hikes will be dependent on the timing and magnitude of interest rate movements, balance sheet management strategies, including securities growth and hedging transactions, and realized deposit betas.
For the second quarter, we expect NII to be up 11% to 13% sequentially, reflecting strong loan growth, the impact of securities purchases and the benefits of our asset-sensitive balance sheet. We expect adjusted non-interest income to be stable to down 1% in 2022 compared to our prior expectations of up 3% to 5%. This change is primarily driven by the change in our rate outlook. The single biggest line contributing to the change is deposit service charges, which is reflective of incremental earnings credits in light of the higher interest rate environment.
The rate environment has also impacted our outlook for mortgage revenue which we now expect to be down 10% or so in 2022 compared to 2021. We continue to expect strong, but slightly lower than January expectations in commercial banking fees and private equity income in 2022, provided resolutions of the temporary delays experienced in the first quarter occur. It is worth noting that even with the decline in expected fee income, primarily due to the interest rate environment, we expect total revenue to now be approximately $275 million more than our January guidance.
We expect second quarter adjusted non-interest income to be up 8% to 9% compared to the first quarter or down around 1% compared to the year ago quarter. We expect full year adjusted non-interest expense to be stable on a stand-alone basis or up 1% to 2%, including the impact of Dividend Finance compared to 2021, which is an improvement from our previous guidance of up 2% to 3%. We continue to strategically invest in our franchise, which should result in low double-digit growth in both technology and marketing expenses.
Our outlook also assumes we add 25 new branches, primarily in our high-growth Southeast markets. Our guidance also incorporates the minimum wage increase to $20 per hour that Tim mentioned. We expect these investments in our people, platforms and franchise to be partially offset by the savings from our process automation initiatives, reduced servicing expenses associated with the Ginnie Mae portfolio, a decline in leasing expense given our disposition of LaSalle Business Solutions, which was completed in April and our continued overall expense discipline throughout the company.
We expect total adjusted expenses in the second quarter to be down around 3% to 4% compared to the first quarter, which is up 2% compared to the year ago quarter due to the acquisitions of Provide and Dividend Finance or stable on a stand-alone basis. As a result, our full year 2022 total adjusted revenue growth is expected to significantly exceed the growth in expenses, resulting in nearly 3.5 points of improvement in the efficiency ratio. Our outlook for significantly delivering on our positive operating leverage commitment reflects our recent acquisitions, expense discipline and strong balance sheet management. It also considers the known revenue headwinds from PPP in our Ginnie Mae portfolio. We continue to expect second quarter and full year 2022 net charge-offs to be in the 20 basis points to 25 basis points range.
In summary, we continue to take actions to further strengthen our balance sheet positioning for this environment. We are deploying excess cash prudently into both loans and securities to support continued through-the-cycle outperformance and have a lot of momentum in our businesses to have a very successful 2022.
With that, let me turn it over to Chris to open the call up for Q&A.
