First Republic Bank (FRC) 2014 Q2 法說會逐字稿

Greetings, and welcome to the First Republic Bank's second-quarter 2014 earnings conference call. (Operator Instructions).

I would now like to turn the call over to Dianne Snedaker, Executive Vice President and Chief Marketing Officer. Please go ahead.

Thank you, and welcome to First Republic Bank's second-quarter 2014 conference call. Speaking today it will be Jim Herbert, the Bank's Chairman and Chief Executive Officer; Katherine August-deWilde, President; Mike Selfridge, Chief Operating Officer; Willis Newton, Chief Financial Officer; and Mike Roffler, Deputy Chief Financial Officer.

Before I had the call over to Jim, please note that we may make forward-looking statements during today's call that are subject to risks, uncertainties, and assumptions. In addition, some of our discussion may include non-GAAP financial measures.

For a more complete discussion of the risks and uncertainties that could cause actual results to differ materially from any forward-looking statements and reconciliations of non-GAAP financial measures, see the bank's FDIC filings, including the Form 8-K filed today, all available on the Bank's website.

And now, I'd like to turn the call over to Jim Herbert.

Thank you, Diane, and thanks to everyone for joining our call today. This was a very solid quarter, and we're quite pleased with the results. We'll cover the quarter in more detail in a minute, but I'd like to depart a bit from our usual format. Let me take just a couple of minutes to talk about the significant additional investments we're making to address new and heightened regulatory standards, and to discuss our business model.

Through a wide range of macro and microeconomic conditions, and in highly competitive markets, First Republic has been quite successful and continuously profitable for over 29 years. The key to this long-term stability and success has been a very simple business model, springing from a core culture that emphasizes credit quality, carefully managed asset liability matching, strong capital at all times, lack of operational silos, and a focus on exceptional client service delivered by a very tight and long-standing culture.

As you all know, institutions with over $50 billion in assets are required to operate under significantly heightened regulatory and compliance standards. We currently anticipate that our four-quarter-ending moving average assets will reach this $50 billion mark about the end of 2015, or roughly six quarters from now. Our work to meet these standards is well along, and is also very ongoing.

This includes initiatives to enhance systems and procedures in many areas such as enterprise risk management, BSA/AML, capital and liquidity stress testing, compliance, resolution planning, and the still-pending liquidity coverage ratio. In terms of our expenses, as reflected by our core efficiency ratio, we currently anticipate that these incremental expenses will translate over time into an adjusted range of 59% to 62% efficiency ratio for at least a while.

Based on current estimates, we hope to be able to bring the efficiency ratio back down to 60% or below, sometime in 2016. This will occur as some of the initial costs of these investments plateau and we reach a new, somewhat elevated, expense run rate. The expense level as a result of these initiatives will be commensurate with the asset size and risk profile of First Republic. These enhancements, we believe, will make us stronger institution, while not fundamentally changing our core client service model.

Let me talk about the model for a moment. The reason we believe we can successfully integrate these additional safeguards is the fundamental simplicity of our business model. When people think about larger institutions, they almost automatically assume a much greater complexity. With First Republic this is, in fact, not the case. For example, First Republic does not have a bank holding company. First Republic has only four operating subsidiaries. We have an extraordinarily simple corporate structure.

First Republic also services far fewer accounts and relationships than other banks of a similar size. For example, we maintain our approximately 275,000 deposit accounts in the entire Bank. Based on public data, this number of accounts is equal to less than 20% of the number of accounts at banks of a similar size. Having fewer accounts provides us with an opportunity for much better individual account oversight and better client service.

Other examples of the simple nature of our business model are the many activities we don't engage in. For instance, we don't do proprietary trading. We don't do Internet deposit gathering. We don't do subprime lending. We have no leverage lending, no credit derivatives, no foreign subsidiaries or cross-jurisdictional activities, et cetera. These are just a few of the over 30 additional activities in which many larger banks engage, but in which First Republic does not.

Another key hallmark of our business model is its long-term consistency of operations. For example, our business model today versus 10 years ago: the loan geography 10 years ago was San Francisco, New York, and Los Angeles accounting for about 76% of our total loans. Today, these same markets account for 80% of our loans -- virtually unchanged. 10 years ago, home loans and HELOCs totaled about 65% of our loans. Today they total 62%, virtually unchanged in a decade. 10 years ago, our average loan to value ratio on single family loans was at 58%. Today they are 61%.

Our borrowers' FICO score 10 years ago was 744. Today it is 762, virtually unchanged in a decade. 10 years ago, our funding mix consisted of deposits, 78%. Today they are 84%; even stronger. Tier 1 leverage ratio 10 years ago was 7.1%. Today it is 9.7%; even stronger.

Importantly -- and Katherine will speak more about this in a moment -- loan sales have been a consistent component of how we have managed the bank since it was founded. This approach is also changed. In fact, this recent quarter was our largest loan sale quarter ever.

We have operated for decades in a very consistent and deliberate manner, with very little change in our core model. What has changed, however, is the competitive landscape of the banking industry. The banking industry is substantially more concentrated today than it was 10 years ago.

For instance, America's four largest retail banks -- Citi, JPMorgan, BofA, and Wells -- today have $8 trillion in assets, controlling a staggering 54% of all banking assets in the entire country. 10 years ago, these same four banks had only a 36% concentration.

For perspective, First Republic has approximately 0.33% of such banking assets. However, First Republic successfully provides competition to these four giants every day by providing superior, highly coordinated, relationship-based service that results in a high level of client satisfaction and loyalty. As an example, First Republic's Net Promoter score, which measures client loyalty, is twice as strong as the banking industry as a whole.

In summary, First Republic is closing in on an important milestone, as we prepare to operate as a $50 billion-plus institution. We are very systematically enhancing our infrastructure and systems so that we will not only meet the heightened regulatory standards, but also allow us to continue to operate successfully. We are guided in this process by a business model and a deeply established corporate culture that is uncomplicated, highly coordinated, without silos, and which delivers extraordinary client service, one client at a time.

Now let me turn the call over to Katherine.

Thank you, Jim. I'd like to run through some key numbers for the second quarter and then talk about loan volume, loan sales, and wealth management. Core revenues were up 17% year-over-year. Core earnings per share were $0.69, up 8% year-over-year. Loan volume increased this quarter to $4.7 billion, and our loan pipeline continues to be strong. Overall, our franchise continues to perform well.

Credit quality is very strong. Nonperforming assets remain low, and only 11 basis points of total assets. Net charge-offs for the quarter were less than 1 basis point. Importantly, we continue to underwrite very high-quality loans without any adverse credit migration. The weighted average loan to value on new single-family loans was 61% for the quarter. The weighted average loan to value on new multifamily and commercial real estate loans was only 51% this quarter.

Significantly, purchase activity remains strong in all of our markets. Home purchases for the second quarter accounted for fully 65% of our single-family originations, the highest percentage in many years. Elevated home purchase activity illustrates the vibrancy of real estate in our markets. Many homes continue to sell with multiple offers. Our differentiated service model is particularly effective in purchase markets.

Let me state briefly about our record volume of loan sales for the quarter. For 29 years, we have consistently sold many of our home loans into the secondary market. We retain the client relationships and have an opportunity to cross-sell other products, including deposits, business banking, and wealth management. In the second quarter, we continued to take advantage of the strong demand for our loans by selling $1.3 billion of home loans into the secondary market.

We plan to remain active in the secondary market to help us manage our asset growth while improving our asset liability matching. This is particularly valuable as we prepare for an eventual rise in interest rates.

We would note that for the first half of the year, on an annualized basis, unpaid principal loan balances, excluding loans held for sale, were 13%; more slowly than our historical rate.

The second quarter is often our largest quarter of loan growth. This is usually driven by strong spring sales. We would note that the growth rate of average loan balances, as disclosed in our quarterly earnings releases, has declined each quarter for the past four quarters. Based on current estimates, we expect growth in unpaid principal loan balances, excluding loans held for sale, to be approximately 11% to 13% for the full year.

Private wealth management had another strong quarter. Revenues are up 28% compared to the same quarter a year ago. Assets under management were up 34% year-over-year. For the quarter, more than 60% of the growth came from net client inflows. Clients continue to be attracted to our open architecture solutions, which are customized to meet their needs. Overall, we are very pleased with this quarter's results.

Now I will turn the call over to Mike Selfridge.

Thank you, Katherine. We continue to be very well-capitalized. Our Tier 1 leverage ratio remains strong, at 9.7%. Our Tier 1 common equity ratio also remains strong, at 10.9%. Book value per common share was up 14% from last year to $26.82. Total deposits were $35 billion; and, importantly, checking now represents 53% of total deposits.

We are pleased to have achieved a decline in our cost of deposits during the quarter, down from 21 to 19 basis points. Our business banking franchise continues to develop nicely. It is centered on our existing core business banking verticals, where we follow our satisfied individual clients to the businesses they manage or the nonprofits they influence. And the strategy continues to be successful.

As Jim said, we continue to build and invest substantially in our compliance and enterprise risk management systems and capabilities. We are pleased to have strengthened our management team with the additions of two senior executives -- Bill Ward and Gaye Erkan. Bill Ward, Chief BSA/AML Officer, is a very experienced executive, and he will lead a number of strategic initiatives. As Co-Chief Risk Officer and Chief Investment Officer, Gaye Erkan further strengthens our ongoing proactive enterprise risk management and investment functions.

In terms of asset liability management, we took certain actions during the quarter to manage interest rate risk. On the asset side, as Katherine mentioned, we sold a significant number of longer-duration loans. And with respect to our non-deposit funding, our $5.5 billion of fixed-rate term FHLB advances are laddered, and have a remaining life of approximately 3 years.

Also during the quarter, we successfully entered the investment-grade term debt markets, raising $400 million in a five-year, fixed-rate, unsecured note offering which further extends our liabilities in the face of potential rising interest rates. We were extremely pleased with the robust demand of this offering, which subsequently has traded even tighter than the issuance rate.

First Republic's core markets continue to perform very well. In particular, economic activity in the San Francisco Bay area remains strong, mainly due to the innovation economy, where first Republic has many long-standing relationships.

Now let me turn the call over to Willis Newton.

Thank you, Mike. I would like to talk about net interest margin, our high-quality liquid asset portfolio, and purchase accounting.

Our core net interest margin remained consistent with the prior quarter, declining 1 basis point to 3.16%. Our contractual loan yield declined 3 basis points this quarter, which was partially offset by a 2 basis point decline in deposit costs, as Mike just mentioned.

We believe NIM will continue to be under modest pressure for the next few quarters, as new loan originations continue to have slightly lower rates than our current average loan portfolio yield. As we discussed on our last-quarter call, we are systematically building a high-quality liquid asset portfolio in accordance with the proposed LCR rules. This is progressing as planned.

Now that we have completed four years since divestiture, I would like to summarize our purchase accounting. We started with $760 million of loan discounts and have accreted three-quarters of this amount. We had $144 million of liability premiums. Most of this amount has been recognized as income.

As an offset, we had $127 million of intangible assets to be amortized, and we have experienced two-thirds of this amount. These purchase accounting entries have gone as expected, and are now contributing a diminishing amount to our earnings.

The remaining net purchase accounting income will increase our book value per share by about $0.59 over the next few years.

Now I'd like to turn the call over to Mike Roffler.

Thanks, Willis. I would like to cover our loan-loss reserve and provide a bit more detail about our expense levels. During the second quarter, we (technical difficulty) $22 million to our loan-loss reserve due to growth and loans outstanding, particularly business loans, as we've seen utilization rates on our business lines increase during the quarter, which we view as a good sign of economic activity in our markets.

This provision brought the total reserve to $181 million at quarter-end, approximately 56 basis points of loans originated since our independence, which does include an unallocated reserve. We would expect that our loan-loss reserve will be in the range of 55 to 60 basis points on newly originated loans over time.

Now let me turn to expenses. Our core efficiency ratio was 56.3% this quarter, which is improved slightly from the first quarter. Expenses were up 2.4% from the prior quarter, due largely to higher professional fees and information system costs related to regulatory initiatives. As Jim mentioned, we are accelerating the strengthening of our infrastructure as we get closer to becoming a $50 billion institution.

This will have associated expenses, some of which are permanent and ongoing, and some of which are near-term. The increase in future expenses is primarily around compensation related to additional employees, information systems, consulting, and other professional fees. We have already added staff, and will continue to do so for the rest of 2014, and next year, to meet these higher standards.

Based on current estimates, this higher level of staffing, technology costs, along with the elevated consulting fees, will result in a near-term increase to our efficiency ratio in the range of 60% to 62%, beginning this quarter, and likely last until the end of 2015. We expect the efficiency ratio to peak in the first quarter of 2015, given the seasonal nature of payroll taxes. Based on current estimates, we think the efficiency ratio could return to a range below 60% in 2016.

Now I'd like to turn the call back to Jim.

Thank you, Mike. Thank you, all. We are very pleased with the way the model is performing at this time. We are willing to take questions.

And why don't we open it up, operator, for questions? Thank you very much.

(Operator Instructions). Steven Alexopoulos, JPMorgan.

Maybe I'll start -- maybe to follow up on Mike's comments with the efficiency ratio going above 60%. Mike, it's probably helpful for us if you could talk about where you see the run rate of actual operating expense going, from $223 million this quarter. Where should we expect that to trend, near-term?

So, we do think that starting in the third quarter, we'll head towards around 60% or little bit above that range. So using the current revenues of the quarter, that math is probably around $15 million or so, maybe a little bit more.

Okay. And Mike, that big of a jump over a quarterly basis, is that additional headcount of these people you're hiring? Is this professional fees, as you bring in consultants?

Yes, so it's in a couple of places, Steve. It's in headcount, where we're bringing in additional staffing. There is some consulting that is -- some of that is going to be near-term for the next several quarters; and it gets replaced a little bit, over time, by headcount. And there also is a little bit of technology cost as we're investing in systems for various other regulatory initiatives.

Got you, okay. And I wanted to follow up on Katherine's comments for the -- I think you said unpaid principal loan growth in the 11% to 13% range. I don't know if that number was right, but what exactly was that? Was that full-year loan growth you were guiding to?

That's full-year loan growth, yes. Full-year loan growth of unpaid principal balance, yes; and it excludes loans held for sale.

Right. So, Katherine, if we think about where the originations have been trending, I guess that implies a material step-up in loan sales for the year. Is that correct?

As we always have, we expect to use the secondary market loan sales to manage our loan growth, and our balance sheet growth, for the next several growers.

Is this a function of just more customer preference for fixed rates, so you're selling more? Or is this a balance sheet management, just to sell more loans? What's underlying this?

It's both things. It's a function of preference for higher duration loans, and it's also management of the balance sheet.

Okay. And maybe just one final question. The refi originations stayed a lot stronger than I was expecting. What's driving refi volumes here? I can't imagine people haven't refied to take advantage of lower rates yet, so just wondering what's driving that at this point. Thanks.

There are always some people who didn't refi before, or people who are refinancing because they are renovating their homes or taking cash out, or other reasons. There's a variety of reasons they may do that. But you're right -- it is surprising. And if someone has refinanced recently, we don't expect them to refinance again unless they are doing something new to the house.

Okay. Thanks for the color.

Erika Najarian, Bank of America.

Just asking the other side of Steve's question. I noticed that you, Mike, answered his expense question based on this quarter or last quarter's revenue run rate. As we think about the near-term 60% to 62% efficiency ratio, can we just ask what your revenue assumptions are? Or are you just annualizing your run rate for revenues this quarter?

So, some of the revenues will be driven by a couple of parts of the business. One will be the loan growth that Katherine spoke to, along with wealth management fee income; and then this $15 million to $20 million increase in expenses, factored all in, leads us to that 60% -- to low 60% range in efficiency.

Okay. So just to clarify, both sides of the equation -- both the numerator and denominator in that target are dynamic. It's not just accounting for higher expenses; it's also accounting for better revenues.

That's absolutely correct.

Okay. And, Jim, you've talked about -- your growth trajectory has suggested that you would hit the $50 billion when you were planning to. I guess I'm just wondering, were you surprised at what you needed to do to get to that level? I think that we're all a little bit surprised as to the level of investments that you have to make when crossing that threshold.

The answer is yes, a little bit. The speed of getting there has a lot to do with the cost of getting there. We're looking at this -- so we have about a year and a half, basically. And this is a four-quarter moving average, so -- and we are very anxious to stay ahead of it, as opposed to get behind it. And so that forces us, or encourages us, to invest more rapidly in some of the systems procedure. And we're trying to front-load the people aspect of it, as well, to make sure they are on board; that we've got the right people; that they are working together as a team when we're ready to run this.

It isn't just about getting there; it's about running it. And so we're trying to anticipate regulatory needs as much as we can, in addition to just responding. We've found generally, over the years, that investing in advance is very valuable.

Got it. And just to take a step back -- thank you for all the detail that you've provided in terms of how you believe your efficiency ratio is trending. But if the industry doesn't get any help from interest rates, is the message there that being a $50 billion bank comes with something like a 500 basis point tax on efficiency, on your natural efficiency ratio? (multiple speakers)

We really can't speak to other institutions. Our experience is that there is a component, as Mike said, of getting there, and there's a component of operating there. We are clearly more clear at this stage on getting there than we are on operating, because we haven't been there yet. Any time you have an inflection upwards on expenditures around a particular moment in time, or an event, you're always going to get a component of short-term and long-term investing. And we're experiencing that around this one.

Okay. Just one more, if I could sneak one in. If I were looking in a very long-term earnings trajectory for this firm -- you've mentioned, prior to today, that you were comfortable operating between 55% to 59%. I guess even beyond 2016, is the message that you would need rates to get to this lower end of that 55% to 59%? Because of the cost of running, as you mentioned, will obviously be in the run rate?

The 55% to 59% is probably going to end up landing at a somewhat higher level, but hopefully not much. And that is an estimate without really substantial benefit from a rate rise; some, but not much.

Got it. Okay, thanks for all the answers.

Ken Zerbe, Morgan Stanley.

I'm just going to keep pressing on this expense issue. Jim, if you could just help us understand -- what changed? What happened? Because it feels like last quarter, things were fine. And I think at times you had addressed that you were spending to comply with the $50 billion asset crossing.

But it's almost like something very material happened, in terms of your thinking, in terms of what you've been asked to do, that led to such a dramatic shift from last quarter to this quarter in terms of what the ultimate regulatory expense is going to be. Can you just help us understand what that was?

I think there's a difference, Ken. I appreciate the question. I don't mind it at all. I think that the real question here is not so much what changed in the overall needs, but our speed with which we decided to get at it. The liquidity stress testing, stress testing itself, enterprise risk management review, and getting it up to speed -- we've front-loaded a lot of those by bringing some people in to get us moving on them quite quickly.

The other thing that happens is that the regulators do not wait until you are $50 billion to impose some of this guidance on you. And in respecting their process as we do, they basically will give you guidance and counsel along the way on what they're expecting, with greater clarity as you get closer. That has helped, actually, to illuminate for us to where we need to be.

I would hasten to add, we don't find any of this particularly threatening. It's just work that needs to get done, and systems and procedures that need to be improved. You can stretch it out, or you can get it out -- you can establish those new procedures and systems and personnel level quickly. We have chosen to do the latter.

Okay. Well, that helps a little bit. Second question for you, just in terms of provision expense. You've obviously had very good loan growth in the past, but without a corresponding increase in provision to the magnitude that we saw it this quarter.

Is it because -- I heard a mention about C&I. Is it just simply because C&I carries much higher than, say, the 55 to 60 basis point reserve allocation? And as we see better C&I, we're going to see even -- I'm just trying to get a sense of why it was as high as it was.

Ken, I think you're on the right direction. Obviously the business lending does come into the process through at higher than the 55 to 60, compared to the home loan, which is much less than that. So given the increase in utilization that occurred in business lines -- and it did help increase the outstandings during the quarter -- that led to higher provision levels, given that little bit of change in mix that occurred compared to what you may have seen in prior periods.

So on a go-forward basis, if you are at 50 basis points reserve today, we should eventually blend up to 55 to 60?

That's right.

Okay, thank you.

And, Ken, I would point you to a table in our press release that splits out our portfolio between the old loans that don't really have much allowance on them, and the new loans that we have to provide as we grow that portfolio. That is currently at 56 basis points, which is right in the middle of our 50 to 60 range overall.

All right, thank you.

Ryan Nash, Goldman Sachs.

Just to follow up on the last question that Ken asked, I'm just trying to make sure I understood it right. In terms of getting to the 55 to 60, should we expect that to happen over the next couple of quarters, or is this something that's more longer-term oriented?

Probably next year, six quarters, something like that. As Willis just mentioned, as the acquired loans continue to decline, and the new loans become a bigger portion of the total, we'll get closer to the 55 to 60.

Got it. And then in terms of the actual dollar amount of expenses that you talked about, as we think about the much longer-term of the 2015 or so, how much of that do you actually think stays in the run rate as we get into 2016? And is there a timing element -- is there -- between when you're actually spending the money versus when it actually hits the financials?

I would say that much of that 15 to 20 increase that we're going to see here in the near-term likely continues into the future 2015 numbers. Some of it is going to be we use consultants today that are going to be replaced by permanent staffing as we build up over time.

Okay. And then, Jim, you gave some color on what this reinvestment program entails. But can you just give us a little more context in terms of what program specifically you're investing in? Where do you feel that you don't have the -- where are the areas where regulators felt you didn't have the right infrastructure? And how long is maybe the timeframe on each of those?

Well, let me start with the fact that there are no places where we don't have the right infrastructure in terms of the enterprise risk management, stress testing, et cetera. It's us responding to what we believe we're going to need, and to indications of some of the greater clarity that we're going to need. The places that we are spending most of the money are enhancing our AML/BSA area, enhancing enterprise risk management.

For instance, give you an example there. Or let me give you a stress test liquidity example. Our stress testing, in terms of liquidity, we run three or four scenarios. The guidance for a larger institution is eight or nine scenarios. So we have to build up to that, and that takes a considerable additional database and quantitative capability. It also takes an ongoing reporting capability that we have, but needs to be enhanced.

So, the -- and, obviously, we're also a big mortgage lender. And QM has imposed upon us a considerable number of additional reporting and issuance guidelines in the mortgage area. So it's not all about $50 billion; it's also about the new rules of the mortgage field. So there's a wide range of things. The list, quite frankly, is quite long.

But most of the -- we're doing a form of all of these, and we're basically enhancing in every single case. There is nothing in the list that is brand-new -- unless, Mike, I'm missing something. There's really nothing that's brand-new. We're enhancing across the board. But this isn't about $50 billion. Just stand back for a second.

One of the reasons you all have invested in us, or your clients have -- and we've run it well over the long time is -- we think ahead. And this is ahead. And we need to be not a $50 billion bank; we need to be an extremely well-run $60 billion bank, and thereafter. And we intend to be as equally good in the future as we have been in the past. And that means investing heavily and spending properly at the right time. This is the right time.

Got it. Thanks for taking my question.

Casey Haire, Jefferies.

So, question on the LCR bill -- Willis, it sounded as though you guys were steadily making progress. I think you had mentioned you wanted to get to $1 billion by year-end. I'm just curious how -- if you are -- where are you on that timeline, or towards that $1 billion goal? And how could that be -- how could you be making progress with the securities yields actually climbing slightly on the quarter, if you are building your HQLA?

The HQLA investment portfolio for the quarter increased from about $300 million to about $600 million. And you're right, we are systematically building that over the year towards $1 billion. We have plenty of cash right now. And so that, I would remind you, is a high-quality liquid asset as well.

Okay. Did you guys buy it at the end of the quarter? Because I'm just struggling to see if you are -- at HQLA, I assume comes at like a 2% yield, and you have the securities yield going up 2 bps on the quarter. It just seems -- unless you are investing pretty aggressively someplace else, I'm trying to figure out how you can get securities yields going up if it's getting more HQLA concentration.

We're not investing anywhere else at all. And it's really just a case of moving out of cash and into HQLA. And the HQLA yield [composite] has been about 2%, roughly.

Casey, this is Mike. There is some buying that would have occurred later in the quarter. And, again, the large part of the securities portfolio hasn't changed. It still continues to be the held-to-maturity municipal portfolio. There's some small securities, like the Federal Home Loan Bank, that also will impact the yield from quarter to quarter, depending on their dividend rate, which was pretty good this quarter.

Got you. Okay. And then, apologies if I missed this, did you guys provide any color on -- in terms of where gain on sale margins are, early on in the third quarter here?

In the second quarter, they were about 1.13%. What they will be in the future is subject to two things: one, how strong the market is, and the demand for loans in general in the securitization market; and, second, what the coupons are on the loans we put out, as well as the duration.

So we don't know what will happen this quarter, but we will plan to sell loans. We get a very wide range of bids. We put out a packet, and we make it 8 to 10 bids, and there's usually a bit of competition. But what they will be, we will have to let you know next quarter.

Got you, okay. And then just lastly, the multifamily originations were down a little bit. We've seen some of the multifamilies players talk pretty constructively about loan growth this quarter. I'm just curious, why the lower production level for this quarter -- for you guys this quarter.

I think it's just a matter of what our clients are doing at the moment, and I don't think it was material.

Okay, thank you.

Dave Rochester, Deutsche Bank.

Back on your investment plan, I was just wondering if you anticipated any of the ramp-up of the processes and systems that have any kind of an impact on the growth of the franchise overall, as you are going through this over the next year and change. Are you expecting any kind of distraction for people internally? Is that impacting at all your slower loan growth guidance?

Actually, no it's not, David. I appreciate that question because, in fact, as you heard throughout the call, it's easy to get distracted entirely with the expense issue. The franchise is firing on every cylinder. The real issue, in terms of asset growth, is managing in kind of a modest way towards $50 billion, coordinating that with our timing in terms of our enhancements. And to the extent that we have client demand for loans, client inflow into wealth management, deposit flows -- to be perfectly frank, we've never seen it better.

Great, thanks. And just one other question on the non-interest-bearing growth. That was very strong in this quarter. Can you just give a little more color on what drove that -- if there were any lumpy deposits in there, and maybe what the breakdown was between business customers and high-net-worth customers? Thanks.

So, the deposit split, Dave, at the end of the quarter is about 50-50 between business and consumer. And I think we, as Jim just said, we've seen good client activity, which led to the growth you saw in deposits during the quarter.

Any large deposits come through that could have boosted that? It was pretty strong growth.

Not particularly. It was our typical client mix, with no particular change in client mix. There has been, over the last several quarters, a slight tilt to a bit more business deposits.

All right, great. Thanks.

Joe Morford, RBC Capital Markets.

First, I guess just following up on Casey's question, can you just talk a little bit more about the changes you saw in the secondary market in the second quarter that enabled you to sell a much greater volume of loans and at higher margins as well? And clarify expectations going forward with this slower portfolio growth -- should we expect similar gains in this range of around $15 million a quarter?

In terms of the opportunity to sell loans in the secondary market, we saw considerable demand. We put out quite a few packages, and we had aggressive competition for those packages. We -- it was a plan. We thought the market would be strong, and we had a plan to sell loans to manage growth.

We have a plan to sell loans in the third quarter and the fourth quarter. What the price is is not determinable right now, and it will depend on what the appetite is, and what the coupons are on those loans.

So I don't mean to be vague about it, but it's something we don't normally know from quarter to quarter, because it is a market, and the market speaks.

Right. No, I understand. I guess the other question -- the commercial business originations were very encouraging this quarter. Can you quantify the increase in the utilization rate you saw and talked about? As well as, just in general, talk about any other drivers to the current strength there.

Sure. The drivers continue to be our same business verticals, as Mike Selfridge talked about. And utilization rates have been running sort of 31%, 32%, and they ticked up to around 36%, given some strong activity that we've seen in the markets and among our client base.

Would you say that's just increased confidence among borrowers, or anything else?

Yes, I think so.

Okay. Great. Thanks, Mike.

Lana Chan, RBC Capital Markets.

It's Lana Chan from BMO Capital Markets. On the expenses, when I look at -- just in terms of your guidance with the efficiency ratio and building in the infrastructure for the regulation, I guess how do you give us comfort that the 59% to 62% is the right level for a size bank that's crossing CCAR? When I look at other banks that are CCAR, their expense ratio as a percent of average assets, the median is about 3%. I don't know if you've looked at it that way.

Lana, we are aware that people have said that 3% for an institution like that. We believe that our corporate structure helps us -- being this simple business model, not many operating subsidiaries, not having systems that were migrated over many acquisitions. So it's a bit simpler for us to get at data. So we think that the increase we talked about is a reasonable estimate today. But regulations obviously evolve, also.

I think we commented the number of accounts for a bank our size is much lower than you would expect for an institutional of $45 billion. And all of that helps us, and gives us some confidence that the expense level increase we're talking about is a reasonable estimate today.

Okay. Thank you. And just another follow-up on the LCR. As you continue to build the securities to potentially comply with LCR, should we expect the securities yields to start being under some pressure? Again, just following up on the previous question, seems like highly liquid assets -- or high-quality liquid assets would be coming in at much lower securities yields.

Lana, this is Willis. I think that's clearly right. One of the reasons why we're not buying a lot of assets today is we think that there might be better opportunities for higher yields in the future. But we will be ramping up the portfolio in the interest rate environment that exists over time.

Okay. Thanks, Willis.

John Pancari, Evercore.

Along that securities yield question, what would a be fair, all-in, LCR compliant, blended securities yield -- let's say by the end of 2015 -- that you would expect, once you are finished with the HQLA build?

Probably -- end of 2015 of course is speculative on rates. But ignoring that for a minute, I would guess it's around -- in today's rate environment -- around 1%, 1.25%, something like that.

Okay. And I guess what I was getting at is the blended yield for the entire securities portfolio. I'm just trying to -- kind of along the line of Lana's questions that if the overall securities portfolio yield should be pressured as you dial up the HQLA, is it fair to assume that the overall blended yield for your bond book is in the ballpark of, I don't know, maybe upper 4s?

That's actually a much tougher question. Can we get back to you on that? Because I don't want to do that on the cuff here.

No, that's fine. That's fine. (multiple speakers)

We need to look at size blending as well as rate, okay?

That's fine. Okay. And then back to the loan growth. The 11% to 13% year-over-year guidance, that is on average balances, correct?

No. That's on quarter-end balances; quarter-to-quarter, and year-to-year.

Okay, okay, right. And so does that -- as we're just trying to look at the numbers here -- does that imply that end-of-period balances from here through the rest of the year, they should continue to grow, but at a slower pace -- is it fair to assume that is a high-single-digit type of pace?

We expect to continue to grow loan balances. What we were guiding you to was 11% to 13% year-over-year loan growth rate.

Okay. I'm just trying to get and see how this will actually play out through the quarters. And then to get a little bit more of that color behind the driver of the reduced outlook there, if I understand it correctly, so you're going to continue to push portfolios like the commercial portfolio, but step up sales in the resi book, correct?

We're going to step up sales in the resi book. Yes, that's correct. We're going to plan (multiple speakers).

Okay, okay. And that is purely going off of your commentary before, particularly what Jim had just mentioned, that's mainly as you're targeting the glide path towards that $50 billion target. This isn't anything that is regulatory-driven, in terms of the Bank of being told to slow the pace of your growth.

It's exactly what Jim said -- to manage the flight path to that four quarters of $50 billion. We want to do it well; we want to do it carefully; and we can manage our loan growth to help us make that objective.

Okay. All right. And then lastly, sorry to hop around, but back to the margin. I'm sorry if you already gave color on it. But how does the securities yield outlook, as well as the impact on loan yields, play into your overall view on the margin in coming quarters?

Well, the margin is going to be under pressure, as the deposits are about as low as they can get. And we also did the $400 million of investment-grade, five-year, unsecured notes. We will have to absorb that for a full quarter. But the loan yield is coming in relatively consistent to where our average loans portfolio yield is. So there will be a little pressure from continuing low rates on loans, and a little bit also from the other two factors I just mentioned.

Okay. All right, thank you.

Aaron Deer, Sandler O'Neill.

Most of my questions have been answered. I just have two quick follow-ups. One is, Mike Roffler, if -- I might've missed it, but did you give the utilization rates on the C&I book? And if so, can you give us that, and where it was last quarter and a year ago?

Yes, so on our lines, it's about 36% this quarter. It has been hovering around 32% last quarter; and similarly, I think, around that range last year.

Okay. And then, Willis, you mentioned that the purchase accounting impacts, you're still looking for that to have an effect over the next few years. I think there's somewhere around $180 million left on the loan book, in terms of discount that remains.

At this point, is what's left going to just bleed off at a steady pace? Or do you still expect it to be more front-loaded than with some tail extending into that third year?

It all depends on when those loans pay off. And they've been paying off -- in this low rate environment, they've been paying off a little more rapidly than we might have thought. My guess is that it's going to trail off, and then become a very insignificant part of our financial results after about three years.

Okay. All right.

It's $0.05 to $0.06 a quarter right now.

Okay, great. Thank you.

Paul Miller, FBR Capital.

On the 1.3 -- if you said this, I missed it -- on the $1.3 billion, was that all that you sold into the market? Was that a mixture of legacy and brand-new stuff, or was that mainly brand-new stuff that you originated in the quarter?

It was a mixture of legacy and brand-new. And I don't have the breakdown between them.

Okay, but most of it was long-duration type stuff, I guess, right? 20-year plus?

We sold 30s, 15, 10s, and 7s.

Okay. And -- you've been living with it for well north of a year. Wells Fargo has been -- or I should say a big competitor has been very competitive in the market. How are you able to compete with that type of competition, where they just have a huge appetite for these type of loans?

We compete quite effectively against larger banks, primarily by delivering a higher level of very personalized service. We also compete particularly well when it is a purchase market. Realtors like us. They trust that we will close the loans. Our commitments mean something in all of our markets. And our relationship managers work very closely with their clients. Their clients like us, and refer their colleagues and friends to us.

And the professionals in the -- the real estate professionals, the CPAs and lawyers -- are happy to refer their clients to us, and that's how we succeed.

Have you seen the same struggles that the conforming market has seen in the purchase world as in the jumbo world? I know the jumbo has a different dynamic, but it just seems like the overall purchase market is not as strong as a lot of analysts like myself thought it would be, on the conforming side. But how has it been so far on the jumbo side?

Well, on the conforming side, we tend to sell loans one by one to Fannie Mae. And we make a loan, we lock it in, and we sell it. And so that's how we deal with that; we don't see any problem doing that. So I'm not sure I understand your question.

Well, I guess the question is, on the overall market, the purchase market is probably at the same level it was 25 years ago. Are you seeing the same dynamics in the jumbo market as the conforming players are seeing in the purchase markets, on a macro sense?

We are in very strong markets, with a very active purchase market and a tremendous amount of activity. There's new construction in all of our markets and it's a very vibrant market, so we are seeing an awful lot of business.

Thank you very much.

The market is strong. Okay.

Thank you very much. Bye.

Tim Coffey, FIG Partners.

With the new expenses related to all the items you've mentioned already, are you anticipating a slowdown in any investments in the wealth management unit?

We are not seeing a slowdown in wealth management. Our wealth management growth was strong, as I think I mentioned. 60% of the growth was from net new client inflow, so we are seeing good demand.

Great. And what about investments in that unit?

There was a bit of investment in that unit that is in our plan, and that's in the numbers. And, obviously, as we grow the investment management business, we need to always make sure we not only keep up with, but get ahead of, what our clients need for their reporting and for proper trading and other systems.

All right.

And we feel very comfortable with our plan there.

Okay, thank you. And then you earlier mentioned the deposits growth this quarter was kind of just an average quarter. Are you anticipating that's going to continue, going forward?

I guess what I'm asking is, do you anticipate there will be any kind of extraordinary seasonality like there has been in the past year or two?

No, probably not. The seasonality in the enterprise is the second quarter is a stronger purchase market for home loans, as Katherine indicated. Fourth quarter of the year sometimes is stronger for things closing at the end of the year -- deals, et cetera. But there is less -- the first quarter is the slowest quarter, usually. So that pattern of seasonality has reasserted itself. Last year it was a little off. If you look at this year's volume so far and you compare it to 2012, for instance, the seasonality is about the same.

Okay. Those were all my questions. Thank you.

John Moran, Macquarie.

Just a real quick -- two quick follow-ups, actually, and then one bigger-picture question on the competitive dynamic. I just want to make sure I'm crystal clear on the loan growth guidance for the full year. That was 11% to 13% on a year-over-year basis, but looking at quarter-end, right?

Yes, that is correct.

Okay, great, thanks. And then second follow-up was just with respect to the utilization rates. I know 36% this quarter; 31% to 32%, kind of hovering there the last year or so. What was that running, pre-crisis? Or if it's mean reverting, what does it mean revert to?

I don't have that right with me, so we'll have to get back to you. I think we're more focused on what it is today, I think, than back then.

Got it, yes. But if it did -- I guess up to the point is, if it jumped from 32% to 36% drives a big increase in [LLP], and we mean revert somewhat faster than what we expect, maybe that provision, 55 to 60 basis points needs to get there quicker, is I guess what I'm driving at. But happy to take that one off-line.

And then the last one, with the Home Loan Bank in Chicago exploring a possible conduit structure, and some of the mortgage REITs getting access to low-cost funding with I suppose really an implicit backing of the Federal Government, do you guys have thoughts on how that may impact the competitive environment in the core jumbo product? Or is it just way too early to tell?

It's way too early to tell. Anytime there are people who want to buy loans we're happy about that, because it increases our opportunities to sell them when we want to.

Got it. Thanks very much.

Julianna Balicka, KBW.

I have a couple of questions. One, to follow up on the wealth management segment, last quarter you said the efficiency ratio in that segment was running at a 20% margin; 80% efficiency. Has that stayed steady and what was (technical difficulty) the outlook? How quickly are you going to improve the margin there?

The margin last quarter was not quite 20%, and our goal is to get it to 20%. And we're doing a good job in that direction.

So, what was the margin last quarter, and why should we expect a 20% margin?

Julianna, I would -- the first-quarter margin is impacted, just like our results are, by some of the seasonality in the compensation line. So the first half of the year is probably running in the low teens to 13%. And we'd hope over time that it gets closer to 20% as we continue to invest in the business. Over the past few years, when we think a longer term, 20% is a good place for us to be.

And given the strong growth that you've had in the wealth management assets in revenues this quarter, how should we think about ongoing growth in those assets for the rest of the year, and next year?

Growth in wealth management assets comes from two things: client net inflows and the market. So we can't comment on the market, but we expect to continue to be able to bring in net new clients.

So, at a similar pace, or should we be looking for slowdown from the net client inflows? Something a little bit more tangible?

I can't really comment on what client -- how much client inflow there will be. We are optimistic, but we really can't look ahead that clearly to tell you how much will come in, nor can we tell you what the market will be.

Okay. And then to follow up back on the loan growth questions, the 11% to 13% EOP-to-EOP 2014 loan growth -- A, that's the newly originated portfolio as opposed to -- does that include the runoff of your buyout portfolio? Or is that just the newly originated loans?

That is total growth loans (multiple speakers) held for sale.

Net or ex?

Excluding loans held for sale (multiple speakers). Net loans.

And underlying that 11% to 13%, what is your outlook for origination growth year-over-year?

2013 was a particularly strong year because we had a considerable amount of refinancing; refinancing in home loans, single-family loans, all kinds of loans, as you could imagine. Those are down, because people did a lot of the refinancing they were going to do. So it's more of a purchase market, so we expect more a year like we had in 2012, in terms of origination.

In 2012, you had total originations -- let me double check -- $15.5 billion. So we should be looking at similar levels for the next couple of years, then?

In a range, approximately, you are correct.

And to get to your 11% to 13%, then, should we be thinking more of that as coming from higher level of pre-pays runoffs? Or is more of that coming from a significantly higher level of loans that you're going to sell?

It comes from loans that we plan to sell, as well as our runoff.

And is your runoff higher this quarter than it was last quarter? Is there any change there?

No, there's not much change. And of course if rates go up, the runoff will slow, as well. But on balance we are looking at that target of 11% to 13%, to manage loan growth to that level. And we have a number of tools to do that.

Okay. Thank you.

I will now turn the call back over to Jim Herbert for closing remarks.

Okay. Thank you all very much. We appreciate it. We understand that we put out some new information. We're glad to share it with you. And we look forward to actually a good quarter coming up, with the impact of the expenses as we indicated. Thank you all very much.

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