Comerica Inc (CMA) 2007 Q2 法說會逐字稿

At this time, I would like to welcome everyone to the Comerica second quarter 2007 earnings conference call.

(OPERATOR INSTRUCTIONS)

Thank you, Ms.

Persons you may begin your conference.

Thank you.

Good morning and welcome to Comerica second quarter 2007 earnings conference call.

This is Darlene Persons, Director of Investor Relations; I am here with Ralph Babb, Chairman; Beth Acton, Chief Financial Officer; and Dale Greene, Chief Credit Officer.

A copy of our earnings release, financial statements and supplemental information is available in the Edgar section of the SEC's website as well as on our website.

Before we get started I would like to remind you that this conference call contains forward-looking statements and in that regard, you should be mindful of the risks and uncertainties that can cause future results to vary from expectations.

I refer you to the Safe Harbor statement contained in the earnings release issued today which I incorporate into this call as well as our filings with the SEC.

Now, I'll turn the call over to Ralph.

Thank you.

Good morning.

Our second quarter financial results released this morning reflect the continued execution of our strategy.

We had good loan growth, particularly in our high growth markets and the second quarter net interest margin of 3.76% was in line with our full year 2007 expectations.

Fee income growth also was evident in the second quarter.

Expenses in the second quarter remained well controlled, even as we continued to ramp up our banking center expansion program and relocate our corporate headquarters to Texas.

On an annualized basis average loaned increased 7% led by growth of 13% in the Western market excluding the Financial Services Division and 8% growth in the Texas market with the Midwest market up about 3%.

We continue to proactively manage our credit risk.

Our strong credit culture and the enhanced risk management tools and processes we have put in place contributed to our solid credit quality in the second quarter.

Net credit related charge-offs remained relatively low, despite the continued weakness in the Michigan economy.

Credit quality in the Western and Texas markets remain strong.

Dale will review credit quality trends in more detail, including the performance of our automotive, commercial Real Estate, and consumer portfolios, which we have continued to monitor closely.

We are still on pace to open about 30 banking centers in 2007.

We opened 12 new banking centers in the first half.

We expect to open about 18 more banking centers by year-end, all of them in our high growth markets.

It is important to note that our banking centers expansion program is not just a retail strategy.

It is a strategy that focuses on serving all of Comerica's lines of business.

The deposit environment in the second quarter remain competitive, particularly in the Midwest, while total average core deposits were unchanged in the second quarter, excluding the Financial Services Division, we grew deposits in technology and life sciences, personal banking, and small business banking.

We have obtained more than $1 billion in new deposits from our new banking centers since beginning our expansion program in late 2004.

As the California housing market continued its slowdown, non-interest bearing deposits in our Financial Services Division decreased accordingly from the first quarter.

We expect to announce the site of our new corporate headquarters in Dallas, Texas shortly.

We still expect expense for the headquarters relocation to be 15 to $20 million over a three year period.

As we have stated previously, we believe the decision to relocate our headquarters will position our company in a more central location with greater accessibility to all of our markets.

The additional resources in these high growth markets should lead to accelerated growth for Comerica.

Our brand recognition continues to be very high in Michigan.

A State where we have one of the largest retail distribution networks and a strong leadership position as a business bank.

The Michigan leadership team has done a great job reaffirming our Company's strong committment to Detroit and the State.

In Texas, we have increased our outreach activities to customers and prospects, although we have had a presence in Texas for nearly 20 years, there has been a very positive response to our move which continues to be on schedule.

We repurchased 3.5 million shares in the second quarter or 2% of shares outstanding at March 31.

Our Capital Management Program combined with our attractive dividend payout enables us to deliver solid returns to our shareholders.

We expect to continue to be an active capital manager going forward.

Looking at the second half of the year, we anticipate continued loan growth, particularly in our fastest growing markets, a stable margin, solid credit quality, and controlled expenses.

At this time, I'd like to turn the call over to Beth.

Thanks, Ralph.

As I review our second quarter results, I will be referring to slides that we have prepared that provide additional detail on our earnings.

Turning to slide three, we outlined the major components of our second quarter results compared to prior periods.

Today, we reported second quarter 2007 earnings per share from continuing operations of $1.25 compared to $1.19 in the first quarter.

Turning to slide four and an overview of the financial highlights from the quarter.

As Ralph indicated, we're pleased with the continued loan growth we're achieving in our growth markets.

On an annualized basis average loans excluding the Financial Services Division increased 7% led by a 13% increase in the West, followed by Texas loan growth of 8%, and Midwest growth of 3%, both of which rebounded from the first quarter.

The net interest margin of 3.76% in the second quarter was consistent with our full year expectations.

Credit quality remains solid, both non-performing assets and net credit related charge-offs showed only modest increases from very low levels.

Provision for loan losses was slightly more than charge-offs at 36 million for the second quarter compared to 23 million in the first quarter.

We continued to carefully control expenses.

Non-interest expenses increased only $4 million including about 2 million of costs related to our corporate headquarters relocation to Dallas.

We continued a high level of share repurchase activity in the second quarter by repurchasing 3.5 million shares as we work to bring our capital ratios within our target ranges.

As outlined on slide five, net interest income grew moderately in the second quarter in conjunction with loan growth while the net interest margin of 3.76% remained within range we've experienced for a number of quarters.

Loan yields and deposit rates paid were stable, however the 6 basis point decline in the margin from the first quarter reflected a change in funding mix which is largely attributed to strong loan growth combined with a decline in non-interest bearing deposits.

Maturities of interest rate swaps which carried a negative spread provided a 3 basis point lift to the net interest margin.

Slide six shows non-interest income levels over the past several quarters.

Second quarter non-interest income reflected positive trends in fee income with increases noted in service charges on deposit accounts, bank card fees, foreign exchange income, and commercial lending fees.

Non-interest income in the second quarter included 6 million in income from principal investing and warrants compared to 4 million in losses in the first quarter.

Also included in non-interest income in the second quarter was an increase in deferred compensation asset returns of 5 million which was offset by the increase in the liability to the officers which is reported in salaries expense.

Moving to the balance sheet and slide seven, compared to the prior year, average loans excluding the Financial Services Division increased 3 billion or 7%.

We are continuing to make progress toward our goal of achieving more geographic balance with the Texas, Florida, and Western markets accounting for 48% of total loans compared to 46% a year ago.

Slide eight provides detail on line of business loan growth excluding the Financial Services Division.

All commercial business lines experienced growth in the second quarter compared to the same period last year, even as we continue to reduce our automotive supplier exposure.

Also, commercial Real Estate loan growth rates have slowed and actually declined in the Midwest market.

The middle market, global corporate banking, national dealer services, and small business banking portfolios showed growth in each of our major markets.

The second quarter increase in specialty businesses compared to the prior year was centered in the energy portfolio which grew 228 million and the technology and life sciences portfolio which grew 366 million.

On a linked quarter basis, average loans excluding the Financial Services Division increased 886 million to 48.2 billion due to increases in middle market banking, 234 million, global corporate banking, 216 million, private banking, 113 million, and technology and life sciences, 107 million.

Now, Dale Greene, our Chief Credit Officer will discuss recent credit quality trends starting on slide nine.

Good morning.

Credit quality was solid in the quarter and as expected there was some deterioration in credit from the historically low levels we have reported over the last several quarters.

The provision for loan losses was $36 million, a $13 million increase from the first quarter due to the challenging economic conditions in Michigan, which are having an effect on the Real Estate development sector.

Our watch loans were 5.5% of total loans, a slight increase from the prior quarter, and non-performing assets remained at a historically low level of 53 basis points of total loans and foreclosed property.

During the quarter, $107 million in loans greater than $2 million were transferred to non-accrual status.

Of these transfers to non-accrual, $69 million were in the Midwest and by industry, Real Estate accounted for $57 million of these transfers to non-accrual, including $36 million in the Midwest market and one condo conversion project in San Diego for $21 million.

There were no new non-accrual transfers over $2 million from the automotive supplier segment.

There were two new loans over $10 million transferred to non-accrual, the San Diego Real Estate project and another Real Estate project located in Southeast Michigan.

Net credit related charge-offs were $30 million or 24 basis points of average total loans.

The charge-offs in the second quarter were concentrated in commercial Real Estate.

Also, charge-offs were taken in the second quarter on a single relationship involved in the gasoline delivery segment.

As you may recall in the first quarter, a charge-off related to this relationship was taken and additional reserves were established in anticipation of further potential losses which have now been realized.

Additional reserves for these two industry segments were established in this quarter.

We have not seen any material deterioration in any other sectors.

Recoveries were $13 million in the second quarter, down from the very strong level of $18 million in the first quarter.

Comerica's allowance for loan losses which I'll discuss further in a moment was 1.04% of total loans and 195% of non-performing assets.

Net credit related charge-offs for the first half of 2007 were 20 basis points.

This is consistent with our full year outlook which remains unchanged with net credit related charge-offs of about 20 basis points of average loans with provisioning modestly in excess of net credit related charge-offs.

Slide ten outlines the changes we made in our loan loss reserves in the second quarter.

Comerica's loan loss reserve is built credit by credit at the end of each quarter.

In addition, we are continuously reviewing the components of the reserve, analyzing risk rating migration within industries and geographies and conducting stress testing of various segments.

Again this quarter we increased the reserve allocated to our automotive supplier and commercial Real Estate portfolios due to the results of our stress testing analysis of these segments.

This was partially offset by a reduction in other industry segments, primarily air transportation and the entertainment industries due to improved results evidenced over a number of quarters.

In addition, we maintained an off balance sheet reserve for lending related commitments.

In the second quarter, we had a negative provision for credit losses on lending related commitments of $2 million, the same as the first quarter.

The negative provision was primarily due to an improvement in the trading price of the unfunded commitments for certain credits in our auto manufacturer portfolio.

I'd like to point out again that this is a very robust process that is periodically reviewed by third parties who bring best practices insight to the methodology.

Now, I'd like to address each of our major geographic markets beginning on slide 11.

As you know, the economic environment in Michigan has been tough, so it's no surprise that Midwest non-performing loans and net loan charge-offs have increased over the past several quarters.

As I mentioned a moment ago during the quarter in the Midwest market we transferred $69 million of loans greater than $2 million to non-accrual status, of which $36 million were in the Real Estate industry.

The remaining $33 million of in-flows were from a variety of industries such as services, non-automotive manufacturing, and wholesale trade, and none of these loans had balances of more than about $5 million.

As the graphs illustrate the credit metrics for the Midwest remain within acceptable parameters thus demonstrating our ability to successfully maintain solid credit quality in a difficult economic environment.

I attribute this to the fact that we have maintained conservative underwriting standards and exposure guidelines throughout the cycle.

Also, our strong credit culture and enhanced risk management tools have greatly assisted us in staying ahead of problems.

Moving to slide 12 in the Western and Texas Markets.

Overall, the Western market once again produced strong credit quality metrics in the second quarter.

As we have stated previously, the commercial Real Estate portfolio has seen a significant softening due to lower housing demand in the marketplace.

We are monitoring the portfolio closely and the issues continue to be manageable.

Credit quality in the Texas market was once again outstanding in the second quarter.

Key metrics are strong and stable in all our lines of business including Real Estate.

On slide 13, we provide a break down of our commercial Real Estate portfolio.

Almost two-thirds of the commercial Real Estate portfolio are primarily commercial mortgages from owner occupied properties of our middle market and small business customers.

The remaining one-third consists of our commercial Real Estate line of business.

This portfolio includes both local and national Real Estate developers primarily involved in residential development.

On slide 14, we provide a detailed break down by geography and product type of our commercial Real Estate line of business.

There is further detail provided in the appendix to these slides.

Our customer base consists of top tier developers with whom we've had longstanding relationships and as shown here on the left side of the slide, the portfolio is geographically diverse with the largest exposure located in our western market, primarily California.

From a project type perspective the portfolio was diverse and granular with a concentration in residential projects.

We have held firm to our conservative underwriting standards throughout the cycle including pre-sale requirements and limits on speculative building.

As I mentioned earlier, in this segment, we transferred $57 million in relationships over 2 million to non-performing loans.

This encompasses seven relationships, one in California and the remainder located in Michigan.

As a result of ongoing softness, we have increased our reserves for this segment.

Slide 15 provides an overview of our consumer loan portfolio which includes the consumer and residential mortgage loan categories on the balance sheet.

This portfolio is relatively small representing 8% of our total loans.

We have broken the portfolio down into three categories, the $1.8 billion in residential mortgages we hold on our balance sheet, are primarily associated with our private banking customers.

The residential mortgages we originate through our banking centers are typically sold to a third party.

Home equity lines and loans which are predominantly secured by second mortgages comprise 39% of the portfolio.

And finally, the other category at 17% includes automobile, personal watercraft, student and recreational vehicle loans.

We are not in the subprime mortgage business and the performance of our consumer portfolio has been relatively stable.

The residential mortgage portfolio continues to perform very well, and in fact, we have not had a charge-off in this portfolio in several years.

We have seen a slight increase in delinquencies on the revolving home equity lines and have increased reserves in the second quarter.

Turning to slide 16, we have outlined a few characteristics of our home equity portfolio.

Roughly three quarters of the portfolio consist of revolving home equity lines and the remaining one quarter are amortizing home equity loans.

These loans were originated by us as a part of a full service customer relationship.

The quality of the portfolio is reflected in the solid FICO and loan to value statistics.

Slide 17 provides detail on the recent performance of the automotive portfolio.

Our dealer business represents over two-thirds of the automotive outstandings and two-thirds of this portfolio is located in the Western market with two-thirds of the portfolio in dealerships selling foreign name plates.

As the majority of the portfolio is of a well secured floor plan nature we expect it will continue to perform well.

We have not experienced a significant loss in the dealer portfolio in many years.

Looking at our non-dealer automotive exposure which we continue to proactively manage to a lower level, outstandings have decreased 3% in the first five months of 2007, after declining 19% in 2006.

This portfolio now represents a little over 4% of our total loans.

Non-performing loans were down with no in-flows to non-accrual for the second consecutive quarter and we had a net recovery of $6 million in the second quarter.

We believe the performance of this portfolio has stabilized.

Now, I'll turn the call back over to Beth.

Thanks, Dale.

Slide 18 details average deposits by line of business.

Total average core deposits excluding the Financial Services Division of 31.7 billion were unchanged in the second quarter.

Average retail bank deposits were up 1% in the quarter as personal banking deposits increased 118 million and small business banking deposits increased 40 million.

Within the business bank, technology and life sciences reported the largest increase with 159 million increase in average deposits.

On a geographic basis, excluding the Financial Services Division, annualized average deposits in the second quarter when compared to the first quarter were up 5% in the West.

Competition for bank deposits remains strong and while standard pricing rates remained stable, promotional rate offerings intensified.

As yield curve improved later in the quarter, customers started to shift into higher yielding, longer maturity time deposits.

Non-interest bearing deposits account for almost 28% of our average total deposits.

These deposits declined in the second quarter.

This was due to a decrease in Financial Services Division deposits which I'll discuss in a moment as well as a decrease in our commercial deposits as our customers utilize the cash in their businesses or transferred idle balances to investment options with higher returns, for example, Comerica Securities.

On slide 19, we provide an update to our Financial Services Division business.

In line with the continued cooling of the California housing market and the lack of a seasonal rebound in the second quarter, non-interest bearing deposits decreased 173 million in the second quarter.

Interest bearing deposits which bear interest at competitive rates were unchanged.

Related average loan balances were essentially flat while customer service expense was down 3 million from the previous quarter.

The level of non-interest bearing deposits in our Financial Services Division are impacted by many factors including interest rates, the competitive environment, the volume of mortgage applications, home sales, and home prices.

While California home prices have held up relatively well, the home sales and refinance metrics have posted mixed results for the last several months, thus we remain cautious.

Our outlook for the Financial Services Division is that deposits will continue to trend lower for the remainder of the year, therefore we expect full year 2007 average non-interest bearing deposits of 3.2 billion.

This is a modest reduction from our previous outlook and is in line with the expectation that the housing market will remain relatively depressed.

We also expect that average loans will continue to fluctuate with the level of non-interest bearing deposits.

Slide 20 provides an update on the progress of our banking center expansion.

Our target is to open about 30 new banking centers in 2007, up from 25 in 2006.

We plan to open about 18 more banking centers in the remainder of 2007, all of them in our high growth markets.

Deposits attributed to our new banking centers now total over $1.1 billion in June, up from 860 million in March.

These new deposits are well distributed with 54% generated by the retail bank, 33% by the business bank, and 13% by wealth and institutional management.

We continue to meet our target of having our new banking centers accretive within 18 months.

We expect about 60 million in new banking center expenses for full year 2007 up from about 30 million for the full year 2006.

Slide 21 updates our expectations for the full year 2007 compared to full year 2006.

Our outlook has not changed significantly.

We continue to anticipate average total loan growth for the year to be in the mid to high single digit range, excluding Financial Services Division loans.

Growth in the Western and Texas markets is expected to be low double digits with the Midwest remaining flat in light of the continuing challenging economy.

The average full year net interest margin is expected to be about 3.75%.

We continue to believe that the Federal Reserve will not change rates this year.

Our net interest margin outlook has decreased slightly in light of the second quarter decline in non-interest bearing deposits.

Our outlook for credit quality as well as non-interest income and non-interest expenses remains unchanged.

The outlook for non-interest expenses reflects the accelerated banking center expansion program and costs associated with moving the headquarters to Dallas which we expect to be about $10 million for the full year 2007 with close to 8 million expected to be incurred in the third quarter.

We will continue our strategy of active Capital management.

We expect our share repurchase for the year to be about 9 million shares up from 6.7 million shares in 2006.

In sum, we believe we have good loan demand in our growth markets and expect that solid credit quality we've experienced over the last several quarters will continue.

Furthermore, we remain diligent in controlling expenses as we ramp up our banking center expansion program and relocate our headquarters.

Now, we would be happy to answer any questions that you may have.

(OPERATOR INSTRUCTIONS) Your first question comes from the line of Gary Townsend from Friedman, Billings, Ramsey.

Good morning, Gary.

Good morning, Ralph, how are you?

Good, how are you?

Hello to everyone else too.

Good morning.

There was a bit of a political dust off after the announcement of your headquarters move.

Could you just update us on any impact on the bank from a practical standpoint?

As I mentioned earlier, Gary, the Michigan team has done an excellent job here in the Michigan market and I believe the market now understands that our committment to this market has really not changed from the standpoint of both from a customer contact standpoint as well as from our involvement in the community and I think now that has moved very well.

We have not seen any significant losses of business.

Competitively, the market there could change once Banc of America completes its acquisition of LaSalle.

How do you see that impacting your business?

Banc of America, we compete with in California and Texas and is a very good competitor and as you know, we've had numerous different competitors in this market as well over the years and would expect the competitive environment to continue.

Dale, the management of credit seems to be, continues to be quite excellent, particularly in light of other competitors that seem to be struggling in that same market.

What's the, let me call it special sauce that seems to be working better for Comerica than others?

What have you done differently that you could describe in a brief way?

I'm not sure I could describe anything in a brief way, and I don't actually know what everybody else does.

I tell you, it's just a lot of different things, Gary.

We have a very well defined process of credit quality review meetings.

We move things quickly to our work out area when that's deemed to be appropriate.

We take advantage of the secondary market as we can.

We've been in this market a long time so we understand auto, we understand Real Estate, we know the developers we deal with, so it's just a number of different things but primarily it's just working this stuff all the time.

We just moved a Senior Manager from a Real Estate area to our work out area to assist us on that side, so it's just a lot of different things.

There isn't any one sort of special way we go about it.

And Beth finally, do you feel capital constrained at all from a standpoint of share repurchases?

You know, as you saw, we repurchased 6.9 million shares in the first half indicating 9 million shares for the full year, and that's significantly up from '06 so we're continuing despite using our investment dollars for our banking center expansion, we still are able to return significant amounts of capital back to shareholders.

So I think the plan we laid out for this year, 9 million shares indicates that.

Thank you.

Thank you.

Thanks, Gary.

Your next question comes from the line of Steven Alexopoulos with JPMorgan.

Hi, it's Steve Alexopoulos from JPMorgan.

Good morning, Steve.

Couple of questions.

One, it looks like about two-thirds of the loan growth came from a 600 million increase in the shared national credits.

Could you give some color on that?

Yes.

This is Dale Greene.

I'd be happy to talk a little bit about that.

That will quarter to quarter vary obviously depending on the level of activity.

I'd say a couple of things about that.

We, the credit performance of that particular sector certainly in the last several quarters has been outstanding, that continues to be the case.

I'd also point out to you that it's not concentrated in any one business unit or one geography.

That it is across the board and most of our businesses, middle market, large corporate and so fourth certainly energy would be another piece of that, so it's just one way we have of dealing with our growth.

We clearly look to develop additional business as part of that strategy so we want a full relationship, and frankly, it's been a successful strategy in terms of reciprocity when we want to lay off exposure, I think you need to be in a market doing that so we're very comfortable with what we've been able to achieve there.

Maybe I just need to clarify that.

When you give your guidance for loan growth, when you say mid to high single digit, in that you're including that you're going to be increasing the exposure to share national credits; is that right?

Well, it would be part of our strategy, so certainly, we're not going to back away from our involvement in shared national credits.

It's clearly a key component of our growth and given the size of our book and our Company, it does fit very well with how we expect to grow.

Okay, so the loan growth I guess was much lower if you exclude those loans.

And Steve to reinforce what Dale said, that can vary by quarter.

The prior quarter only 15% of the growth was into mix.

Right.

And we have many relationships in what I would call the larger customers and as Dale mentioned, which are across all of our business groups, those supply additional business throughout as well, and we look for that relationship longer term or we will exit at some point.

But in essence, these are loans that you're participating in from other institutions?

That's true although I will also say that we've increased our share of lead positions somewhat over the last few quarters and clearly when we can do that, that's an important tactic for us.

Okay, next question for Beth.

With the increase in the loan deposit ratio now it's at 113%, one, how high are you going to let that go and two, do you think you're running a risk that you might reach a point you need to go out there and aggressively raise deposits?

I'd make a couple comments.

One is the absolute level where we are today is really quite well behaved from a historic standpoint, we've been at actually much higher levels at peak growth periods in the past and relative to our peers, again, we fall pretty much in the middle of the pack in terms of how we look.

Having said that, deposit growth is an important element of our strategy.

That's part of the new banking center expansion is part of deposit growth.

We've brought a real focus as part of fine tuning our incentive plans to focus more on deposits so there is a strategic focus on deposit raising, and that will continue.

But you're comfortable in that drifting up from here?

I am.

Okay.

And just a real quick question.

What benefit did the swaps provide to the margin this quarter?

Three basis points.

Okay.

Thanks a lot.

Thank you.

Your next question comes from the line of Mike Mayo with Deutsche Bank.

Good morning.

Good morning, Mike.

I guess part of Huntington's quarter related to them proactively reappraising their collateral for loans, so I guess the question is have you done that, are you planning on doing anything like that, and I'm obviously referring to the Michigan market.

Yes.

Let me try that one.

I'm sure you're specifically referring to commercial Real Estate, particularly in Michigan or Southeast Michigan.

We have very specific underwriting and monitoring policies as it relates to commercial Real Estate.

We will go back and seek new appraisals if we see deterioration, slower absorption, and so fourth.

Obviously as we see that and we have seen that in the last few quarters, we go back, obtain new appraisals, and act accordingly, oftentimes requiring an increase in interest reserves as well as remargining maybe some additional equity or additional guarantee, so we do do that but it's based on a deal by deal analysis.

Well, have you gone back to a certain region and said you know what, with what's going on in these markets maybe we should take a second look?

Right.

We do a couple of things too.

We obviously stress test particularly the auto and the commercial Real Estate portfolios to assess changes in rates, changes in employment, changes in a number of factors and see how that plays out within the portfolio and that gives us some pretty good leading indicators of where there are pockets or issues and that allows us to drill down into those.

We have pretty specific tools that get into the various relationships and loans that we make, so we do, we're on top of those.

We know very clearly where the issues are and in all cases as we see negative migration, we do a number of things including reevaluating the value of our collateral.

I made a phone call to some people selling homes in Michigan, and they just gave me some price points, like in some cases down one-third and to accept that trickles up.

I'm not sure that's captured every stress test or anything like that, just walking around anecdotally again, with several phone calls it seems like wouldn't that be a trigger ?

Well we're very aware from a numbers perspective, we're very aware of the decline in values in residential Real Estate here over the last three, four, five, six quarters whatever you want to pick, and because of that and other things we are very much on top of these projects and clearly go back when it makes sense and seek new valuations.

And I think to reiterate what Dale says as part of his review of the slides is as a part of the stress testing in keeping on top of the dynamics in the market, we did actually add additional reserves for Michigan commercial Real Estate as well as related to the home equity lines of credit, so, on the personal side, so that is a very active process as part of our reserving process.

What percent of your loans would be a commercial Real Estate related for residential development?

Well, if you look at just Southeast Michigan in one of the slides we showed we had about 800 million in the line of business within Michigan and I would say 200 to 300 million of that might be directly related to residential development in Southeast Michigan.

And then last question.

Your reserves to loans at 1% is below some of your peers.

Do you ever think about increasing that some?

Well, again, we have a very defined, and have had for some time a very defined process that a lot of folks look at both internally and externally and it's driven by a lot of discipline, et cetera around it, so based on that review and it's deal by deal, we established those reserves, we, as I said before stress test portfolios and do a number of other things all of which are embedded in our reserving process and therefore, we think the reserves are appropriate based on all of that.

Thank you.

Thank you.

Your next question comes from the line of Lori Appelbaum, Goldman Sachs.

If you could comment further on the decline in on interest bearing deposits, it seems as though, excluding FSD, the drop was more noticeable this quarter than in other periods and you mentioned the more active management of cash by your customers.

Is there any other factor that may be leading to the acceleration trend this quarter, especially possibly the headquarters move?

When you look at demand deposits declining this quarter, you're right.

They were a little lower, a bigger decline in this quarter.

Part of it was FSD as you've mentioned.

On others though if you look at it, it was really across a number of our geographic areas and centered on the commercial customers, drawing down balances, using them in their business and also in some instances, moving some of that liquidity to higher yielding opportunities including Comerica Securities.

We've seen a significant increase in the last several quarters particularly from our commercial customers in putting liquidity into higher yielding investment options there.

So if you look at the Midwest, you asked a specific question about was this a reaction related to headquarters move.

Actually in retail and wealth management, our deposits were up in Michigan.

We did see some decline in in the commercial customers but again, a lot of that drawing down for their businesses or putting it into higher yielding alternatives.

My second question is related to the credit outlook for 20 basis points of credit losses in the second half.

That's in line with charge-offs than the first half and there is a little bit of deterioration experienced in Michigan, so Dale, if you could provide us with your thoughts on how you can maintain stable charge-off trends in the back half, and if there's a little bit of deterioration in the portfolio in Michigan.

Well, my view of it is that we have recognized to date the key issues, the key products we have and are actively working those whether it be through secondary market activities or just our normal work out activity.

Clearly it will be a challenge, we know that but we've been there and done that before.

I think our level of recoveries will still be pretty good.

We beefed up our work out area rather substantially to provide additional support there, so -- and most of the stuff that I would worry about in Real Estate in Southeast Michigan, we still have a strong guarantor support, strong developer support which is really helping us so -- and as you can see, auto is really at least for the moment stable, so I think, and there really aren't any other segments that we see today that are particularly bothersome so it's really Real Estate and we think we've got our arms around it and based on that I think we're comfortable as we sit today with the outlook we've provided.

Okay, thanks.

Yes.

Thank you.

Your next question comes from the line of Manuel Ramirez from KBW.

Hi, good morning.

Good morning.

How are you doing?

Good.

Two things.

One is the comment that Dale made about San Diego condo conversion loan woke me up out here.

I was wondering if you could give me a little, give us a little more information about the nature of that and then maybe the reserves you set aside just for market color more than anything since it's relatively insignificant in the scheme of your whole portfolio.

And then secondly on your share buybacks it seems like the pace of the second half of the year is slower.

Does that just reflect you getting closer to your capital targets laid out earlier this year?

Thanks.

Well, let me take the San Diego project.

It's one developer.

It's actually two companion projects that sit right next to each other so it's virtually one project because it was all purchased at the same time back in 2005.

It was really a rehab, if you will, of a multi-family project that had good support by the developer and the developer had a number of other projects in Southern California.

The market has slowed up substantially particularly in the San Diego market, particularly in condo conversions and all of its projects therefore are strained, and it's becoming more difficult for that developer to support the project.

So given where we are today with that and given that it will take some time to work through it and given that we will most likely deplete the interest reserves and probably won't be able to replenish those any time soon from the developer, we thought it was prudent to move it to non-performer.

We have set up reserves based on our assessment of the value.

That's one where we've gone back in and looked at values, done appraisals, walked the property and so forth, and it's now by definition in our special assets area for collection.

How much equity would a developer have had in something like this and when was the project initiated?

It was initiated in the middle of 2005 and he probably, I would have had 15 to 20% equity but I would have to go back and look specifically at this project but that would have been probably what he would have had in there.

Thanks.

On the buyback question, as you know, we introduced kind of refined capital guidelines in January of this year.

We're making progress as of the end of June to get within the range.

We were a little at the high end or slightly above the revised range.

The outlook of 9 million shares for this year will put us more into the middle of the range which is more a desirable place to be than where we were before, and additionally, we monitor liquidity at the holding company to ensure that we're not borrowing short-term to fund long term repurchases of shares, so we monitor and have maintained a certain level, a modest level of liquidity at the holding company.

So capital ratios, holding company, liquidity all kind of come together to say that it looks about 9 million shares, but again, I would reinforce that's up significantly from the prior year.

Perfect.

Thank you very much.

Thank you.

Your next question comes from the line of Heather Wolf with Merrill Lynch.

Hi.

Good morning.

Just a quick question on California.

I know there's some other banks that are seeing some problems in the inland empire.

Do you guys have any exposure there and are you seeing issues?

We have exposure there.

It's fairly granular from a number of different types of projects, typically single family and some multi-family.

We're not seeing any issues there, absorptions are a little slower, we know that, we see that, but there's still positive absorption on the projects and again there's good developer support so at this point in time those projects seem to be performing well.

Okay, and Beth, can you remind us what you're expecting in terms of hedge gains for the rest of the year?

Well, we have 800 million of swaps coming off in the third quarter and 800 million of swaps maturing in the fourth quarter.

Those both carry about 200 basis points of underwater impact on net interest income presently.

And then also, Dale, on again back to credit, I'm wondering if you can address kind of the pipeline for recoveries?

I know they weren't as high this quarter as they were last, but they were still pretty robust, do you think you can continue that for the next few quarters?

I hope so.

Obviously, it's a function among other things of charge-offs taken and charge-offs over the last few years have been lower, but we've also got a very aggressive program to look at what I guess I call them cold cases, old charge-offs that we go back and really work hard, but I think for us to achieve this level of recovery it will be a challenge.

Every time I say that we manage to find things and see recoveries at higher levels than I had anticipated, so, but I would say that recoveries will probably be slightly less than what we've seen here but it's sort of hard to tell because there's so many different factors.

Okay, and are the recoveries coming more from sell downs in the secondary market or are they just loans that are coming back on?

In the past, there's been some of that, sales in the secondary market which have been a component of our recoveries.

Most of them, certainly lately have come just through aggressive work outs of credits.

We put loans on non-accrual and charge-off and we think it makes a lot of sense to do so based on our collateral valuations and often types what happens is the collateral valuations, we tend to have said, well, maybe we're a little conservative and we tend to get recoveries.

We work them very hard and we have a very aggressive program and our work out officers are incented for achieving recoveries and that's a key component of our success as well.

One last follow-up on the secondary market sell downs.

Have you seen a shift in the liquidity or the demand for the sell downs and have you been as active in the secondary market this quarter as you have in previous quarters?

We didn't really do anything this quarter in the secondary market.

I don't see a shift or a slowdown, I think there's at least as much, if not more, liquidity there as there has been and we get approached, I get calls all the time from folks looking to acquire distressed assets.

So we're always examining that, we're opportunistic, if it makes sense based on our assessment of values we'll go after it.

The second quarter we did not think that made any sense so we didn't have any activity there.

Thanks very much.

Your final question comes from the line of Andrew Marquardt with Fox-Pitt Kelton.

Good morning, guys.

Good morning, Andrew.

Can you remind us what you're expecting for normalized net charge-offs over a cycle and what the peak could be?

Well, we have said from time to time, we have gone out and said we're looking over the cycle at maybe 30 to 40, 35 to 45 basis points, something like that from time to time, we said in the past that a peak might be in the 70 basis points or 75, but with a lot of the changes we put in place and a lot of the tools out I'm not so sure those numbers will still hold.

I think we're going to do better than that, clearly to date in a very very tough Michigan economy which people I don't think fully always appreciate how difficult it is and still a lot of our business here and given the results we've achieved I think we can probably definitely do better than what we've said just based on our experience, but there's a lot of variables there, obviously.

Thank you.

Thank you.

I would now like to turn the call back over to the leader for the closing remarks.

This is Ralph Babb.

I would like to thank all of you for joining us on the call today and your continued interest in Comerica.

Everyone have a good day.

This concludes today's conference.

You may now disconnect.