Huntington Bancshares Inc (HBAN) 2022 Q2 法說會逐字稿

Greetings, and welcome to the Huntington Bancshares Second Quarter Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Mr. Tim Sedabres, Director of Investor Relations. Thank you. You may begin.

Thank you, operator. Welcome, everyone, and good morning. Copies of the slides we'll be reviewing today can be found on the Investor Relations section of our website, www.huntington.com. As a reminder, this call is being recorded, and a replay will be available starting about 1 hour from the close of the call. Our presenters today are Steve Steinour, Chairman, President and CEO; and Zach Wasserman, Chief Financial Officer. Rich Pohle, Chief Credit Officer, will join us for the Q&A.

As noted on Slide 2, today's discussion, including the Q&A portion, will contain forward-looking statements. Such statements are based on information and assumptions available at this time and are subject to changes, risks and uncertainties, which may cause actual results to differ materially. We assume no obligation to update such statements. For a complete discussion of risks and uncertainties, please refer to this slide and material filed with the SEC, including our most recent Forms 10-K, 10-Q and 8-K filings.

With that, let me now turn it over to Steve.

Thanks, Tim. Good morning, and welcome. Thank you for joining the call today. Our outstanding second quarter results reflect momentum across the bank as we completed the integration of TCF. While 2022 continues to bring its own set of unique challenges, our businesses are performing very well. Overall, the companies in our markets are in good shape and continue to evidence demand for loans to support business investment and expansion. Consumers are generally maintaining liquidity. Much of the government and municipal stimulus funds are yet to be invested. Importantly, Huntington and the banking industry remain very well positioned to withstand the current volatility.

Now on to Slide 4. First, our performance in the second quarter was exceptional, with record net income and PPNR. Our focused execution is driving these robust results and leading returns. Loan growth continued in the quarter as we saw higher balances in nearly every portfolio across our commercial and consumer businesses. Higher loan growth paired with the benefit from higher interest rates contributed to expanded net interest income.

Second, we're pleased to deliver average deposit growth quarter-over-quarter in our commercial and consumer businesses. The focus remains on growing primary bank relationships while maintaining a disciplined deposit pricing strategy. Third, we achieved our target for core expenses below the $1 billion level as we completed the TCF cost synergy program. Fourth, we delivered on our medium-term financial goals this quarter earlier than previously guided. Finally, we posted record low net charge-offs this quarter and overall credit quality remains exceptional. This reflects our disciplined approach to customer selection and our aggregate moderate-to-low risk appetite through the cycle. While we acknowledge the potential for uncertainty, to date, we are not seeing substantive areas of concern within our loan portfolios.

On Slide 5, let me share more detail on our second quarter performance. Robust loan growth, higher net interest income and expense reductions supported our record PPNR, which increased 17% from the prior quarter. Average loan balances, excluding PPP, grew 10% on an annualized basis and are tracking to our expectations. While growing deposits, we are maintaining deposit pricing discipline in the face of a rising rate environment.

We were also honored to be once again recognized by J.D. Power for the #1 mobile app amongst regional banks. This marks the fourth consecutive year earning the top rank.

Last month, we announced the formation of an enterprise-wide payments organization led by a dedicated payments executive. This initiative reflects our strategic priority to accelerate our payments capabilities, expand the services we provide to our customers and drive additional fee revenues.

In May, we announced the acquisition of Torana, now known as Huntington Choice Pay, which is a payment business focused on providing business to consumer payment services. On the commercial side, we continue to see traction in our treasury management initiatives with revenues growing 12% annualized this quarter.

On the consumer side, we launched an enhanced cash back credit card offering late in the first quarter and results so far have exceeded our expectations. We are driving organic growth opportunities by providing enhanced product offerings to the TCF customer base and growing share of wallet.

We completed the acquisition of Capstone last month, which adds a top-tier middle market investment bank and advisory firm bolstering our capital markets capabilities. We are pleased with the early contribution from our new colleagues who added $4 million of capital market fees in the last 2 weeks of the quarter post closing. Looking forward, we see significant revenue synergies within our customer base as well.

Turning to Slide 6. We extended our track record of modeled credit outperformance in the recent CCAR stress test results. This year's process included the acquired TCF loan portfolios and the results did not materially change our model performance relative to peers. This highlighted the robust credit strength of Huntington's balance sheet, which has continued to outperform peer median benchmarks in every CCAR cycle since 2015.

Finally, I want to highlight the accomplishments of the TCF combination. It's been just over a year since we closed on the acquisition. And since then, we've delivered on the commitments we shared at announcement. We closed quickly in under 6 months and converted systems just 4 months later. We delivered the cost synergies earlier than guided. The pace of digital investment spend has doubled from the prior run rate, accelerating our digital initiatives. We've delivered leading financial performance, which is evident in our results this quarter. Finally, we are capturing incremental opportunities from the addition of key markets and capabilities through our revenue synergy initiatives.

Over the past year, we've added over 50 revenue-producing colleagues in Minnesota and Colorado to support wealth management, business banking, middle market and specialty banking. The middle market teams in the Twin Cities and Denver are growing relationships, increasing loans and deposit production. We're also seeing increased productivity from the acquired branches and a positive reception to the Huntington product offerings and customer service experience. Our business banking expansion in the Twin Cities and Denver is also showing substantial momentum, where we are pleased to have already achieved a top 5 ranking for SBA lending in both markets.

We've seen early traction from our wealth management launch in the Twin Cities with AUM building year-to-date. As a result of this success, we've replicated that approach in Denver, and we've hired an experienced leader and other new colleagues to build out our capabilities.

As for our inventory and equipment finance businesses, the teams continue to capitalize on the opportunities to harness the combined scale to better serve our clients. Today, we are the seventh largest bank-owned national platform, and I expect that ranking to increase based on the momentum we are experiencing. These initiatives are ongoing, and we expect them to contribute to our growth over multiple years. We are well positioned to grow shareholder value.

Zach, over to you to provide more detail on our financial performance.

Thanks, Steve, and good morning, everyone. Slide 8 provides highlights of our second quarter results. We reported earnings per common share of $0.35. Adjusted for notable items, earnings per common share were $0.36. Return on tangible common equity, or ROTCE, came in at 19.9% for the quarter. Adjusted for notable items, ROTCE was 20.6%. We were pleased to see sustained momentum in our loan balances with total loans increasing by $2.8 billion and excluding PPP, loans increased by $3.3 billion.

Total average deposits also increased with growth in both consumer and commercial balances. Pre-provision net revenue expanded sequentially and grew 17% from last quarter. Consistent with our plan, we reduced core expenses below our target of $1 billion, driven by the realization of cost synergies. Credit quality was exceptional, with record low net charge-offs of 3 basis points and nonperforming assets reduced to 59 basis points.

Slide 9 shows our continued trajectory of PPNR expansion. We see 2022 coming together quite well as we drive sustainable profitability and highlight the earnings power of the company, supported by our organic growth initiatives and harnessing the benefits from the TCF acquisition. We remain committed to our long track record of managing to positive operating leverage with disciplined expense management, even as we continue to invest in the business.

Turning to Slide 10. Average loan balances increased 2.5% quarter-over-quarter, totaling $113.9 billion. Excluding PPP, total loan balances increased $3.3 billion or 3%, driven by commercial and consumer loans. Within commercial, excluding PPP, average loans increased by $2 billion or 3.3% from the prior quarter. These results were supported by broad-based demand across commercial lending that is driving robust new production.

Line utilization remained relatively stable during the quarter on a core C&I basis, while we saw higher balances within our inventory finance business. Commercial growth was led by middle market, corporate and specialty banking, which collectively increased by $746 million during the quarter.

Asset Finance contributed meaningfully with balances higher by $497 million. Inventory finance continues to rebuild towards a more normalized level with average balances up $383 million during the quarter. Commercial real estate balances also increased by $213 million. Auto dealer floor plan balances were relatively stable, increasing by $45 million as supply chain constraints continue to dampen inventory levels.

In Consumer, growth was led by residential mortgage, which increased by $1 billion, driven by slower prepays and higher mix of on-balance sheet loan production. We also saw steady growth in RV/Marine and indirect auto. Average home equity balances declined by $41 million. However, we were pleased to see end-of-period balance growth, driven by robust new production of first-lien refinance products.

Turning to Slide 11. We delivered average deposit growth of $2.1 billion. Deposit growth was led by commercial, with deposits up $2.1 billion, while consumer balances increased by $500 million from the prior quarter. This growth reflects our initiatives to drive primary bank relationships and new customer acquisition across the bank. We remain disciplined on deposit pricing with our total cost of deposits coming in at just 7 basis points for the second quarter.

On Slide 12, we reported another quarter of sequential expansion of both net interest income and NIM. Core net interest income, excluding PPP and purchase accounting accretion, increased by $125 million or 11% to $1.244 billion. Consistent with our prior guidance, net interest margin increased driven by higher earning asset yields as a result of our asset sensitivity position and lower Fed cash balances.

Slide 13 highlights Huntington's deposit pricing discipline. We have a long history of managing through cycles, and we believe our deposit base today is even stronger than it was starting the last tightening cycle. For the second quarter, we have seen little change to our average cost of deposits, given the timing of rapid Fed rate moves occurring later in the quarter. That said, we are remaining dynamic in this environment. We are managing the portfolio at a very granular and segmented level, client by client in many cases to ensure pricing discipline and growing the primary bank relationships to bring lower-cost operational deposits.

Turning to Slide 14. We are managing the balance sheet in order to position ourselves to benefit from higher expected rates in the short term while also being judicious on managing possible downside rate risks over the longer term. We continued to execute on our hedging strategy during the second quarter and increased our downside protection by executing a net $3.3 billion of received fixed swaps. Our expectation is to continue to add to this hedging program during the third quarter. Additionally, we are managing the securities portfolio to both capture the benefit from higher rates over time as well as protect capital. We increased the proportion of securities and held to maturity during the quarter and our reinvesting securities portfolio cash flows at rates well above portfolio yields.

Moving to Slide 15. Noninterest income was $485 million, up $41 million year-over-year and down $14 million from last quarter. We saw record activity within our capital markets business during the quarter, which drove revenues up $12 million from prior quarter. Additionally, we saw expansion in our cards and payments revenues and deposit service charges.

Fee revenues were impacted this quarter by lower gain on sale from SBA loan sales as we sold less balances in the second quarter compared to the prior quarter. Recall, we restarted our normal SBA loan sales earlier this year. And while loan production remains robust, this quarter's gain on sale is generally aligned to our go-forward expectations.

Fees were also impacted by a decline in mortgage banking as volumes continue to normalize from the exceptionally strong levels seen last year and due to lower saleable spreads. While we are pleased with the sales and client engagement traction in our Wealth Management business, we saw lower overall revenues as market-based AUM changes outweighed continued momentum in net asset flows.

Moving on to Slide 16. Noninterest expense declined $35 million from the prior quarter. Excluding notable items, core expenses declined by $13 million to $994 million as we completed the cost savings from the acquisition and achieved our targeted expense level. Our efficiency ratio, which is an outcome of our revenue drivers and expense management activities, came in at 57% on a reported basis and adjusted for notable items was 56% for the quarter, in line with our medium-term target.

Slide 17 recaps our capital position. Common equity Tier 1 ended the quarter at 9.1% and within our target operating range of 9% to 10%. As we go forward, our capital priorities remain unchanged with our first priority to fund organic loan growth. Our expectation is that given the strong sustained levels of loan growth, buybacks will be de minimis, if any, for the remainder of the year.

With the robust return on equity we are generating, we expect to be able to fund this organic growth and see capital ratios move higher over the balance of 2022. Our tangible common equity ratio, or TCE, declined to 5.8%, as a result of AOCI marks on the securities portfolio. Recall, this is an accounting construct that temporarily reduces equity as value marks are taken and then reverses over time and this does not impact our regulatory capital ratios. Our TCE ratio, excluding the AOCI impact has been relatively stable near 7% level. Finally, our dividend yield remains #1 in our peer group at 5%.

On Slide 18, credit quality continues to perform very well. As mentioned, net charge-offs were a record low of 3 basis points, benefiting from another quarter of net recoveries in commercial portfolios and continued stability in consumer credit quality. Nonperforming assets declined from the previous quarter and have reduced each of the last 4 quarters. We also saw lower criticized loans, which have improved both from the prior quarter and prior year. Allowance for credit losses was flat at 1.87% of total loans, reflecting a conservative reserve posture, given the heightened economic uncertainty even as our internal portfolio metrics show stability.

We are proud to report on Slide 19 that we have achieved our medium-term goals. Since sharing these targets, we have been intently focused on executing on our commitments and managing dynamically through the changing environment. We have been guiding that we were -- as expected reflect these goals by the second half of 2022. We have now achieved these results 1 quarter ahead of schedule. This performance represents the earnings power of the franchise. The TCF acquisition bolstered many of these areas and allowed us to gain incremental scale and profitability, as Steve mentioned earlier. And the incremental growth momentum is only just the beginning. As we stand today, we believe our return on capital is compelling compared to our peer set and demonstrates the financial rigor with which we operate that is focused on creating fundamental value for shareholders.

Finally, turning to Slide 20. Let me update our outlook. Our guidance assumes the consensus economic outlook through 2022, and it incorporates the rate curve as of the end of June. Our loan growth outlook remains unchanged. As a result of our balance sheet growth and the rate curve outlook, we are again revising guidance higher for net interest income. We now expect core net interest income on a dollar basis, excluding PPP and purchase accounting accretion, to grow in the high teens to low 20s percent range.

In fee income, we continue to expect growth between low and mid-single digits for the fourth quarter on a year-over-year basis. We are continuing to see encouraging trends in our payments, capital markets and wealth and advisory businesses. As we shared previously, our guidance incorporates the normalization of mortgage banking revenues and the fair play enhancements we are making over the course of the second half of the year.

Note, our guidance fully captures the expected benefits of our Capstone Partners and Torana acquisitions, which closed in the second quarter. On expenses, we are pleased to have completed the cost savings program. We are balancing continued momentum in the business and strong revenue growth with the uncertainty around the near-term macro outlook and inflationary pressures that are affecting the economy.

The strong revenue performance of the business will drive a degree of associated compensation expenses in addition to targeted investments to support key growth initiatives. Hence, our expectation is for core expenses, excluding Capstone Partners and Torana to grow at a modest level for the balance of 2022. Additionally, Capstone and Torana will add incremental expenses of approximately $25 million beginning in the third quarter run rate. Finally, given our continued exceptional credit performance, we are revising our full year net charge-offs down to less than 15 basis points from approximately 20 basis points previously.

That concludes our opening remarks. Tim, let's open up the call for Q&A, please.

Thanks, Zach. Operator, we will now take questions. (Operator Instructions)

(Operator Instructions) Our first question comes from John Pancari with Evercore.

I want to see if you could maybe comment on your deposit growth expectation? How you're thinking about the ability to grow deposits here and possibly the makeup of that growth? I know you didn't include that in your formal guidance. So maybe if you could just kind of help us think about how we should model the growth.

Absolutely. Thanks, John. This is Zach. I'll take that one. I think just taking it to back, we were pleased to see the deposits continue to expand in the second quarter, as we talked about in the prepared remarks, we guided that we would have that expectation and we were pleased to see it come through and be delivered. The outlook going forward continues to be for modest growth. Commercial growing faster. Consumer might be flat to down a bit. The environment is clearly volatile here with the rate moves we've seen out of late, but that's the traction we're seeing and so far it's corroborated here just in the first few weeks of July.

The focus we've got is really deepening, engagement with our clients growing, core operating count certainly within the commercial business, primary bank relationships broadly across the franchise and really balancing that growth with pricing over time, clearly, but that's the growth we've got for now.

Okay. And then related to that, maybe could you just elaborate a bit on your deposit beta expectations in terms of how they begin to -- how they could trend in the back half (technical difficulty) your terminal beta ultimately?

Yes. I'll take that one again as well. So thus far in the cycle, it's been pretty limited in terms of pricing changes that we've seen come through. As we highlighted in the prepared remarks, average deposit cost for Q2 just 4 basis points higher than Q1, so very low. That represents less than 10% beta.

With that being said, clearly, the rate moves happened late in the quarter in May and then more in June and given the forecast for July, we do expect Q3 and Q4 to be higher. As we take a step back and just think about this cycle, it's clearly changing and there are factors that are driving beta to be higher than with the last rate hiking cycle. We started from a lower starting point. Asset growth continues to be pretty strong here across the industry, and these multiple more than 25 basis point rate moves that are happening in quick succession are clearly up factors for beta.

With that being said, we do think more to -- to continue to recognize the level of excess liquidity across the entire industry at this point is quite high. And inflation itself tends to increase balances over time as that filters into wages and corporate revenues. Taking it to back still very early in the cycle. Our posture is to be very, very disciplined and manage this with a lot of rigor at a very detailed level as we noted before and with that primary bank focus. And I think everything we're seeing thus far and the incremental forecasting that we do on a monthly basis continues to corroborate that we are on the trend that we were expecting.

Our next question comes from Betsy Graseck with Morgan Stanley.

I wanted to just get a sense on how you're thinking about the buyback resumption, what the parameters would be and what you're looking at to turn that back on?

Yes. Thanks for the question. This is Zach. I'll take that as well. As we talked about in the prepared remarks for Q2, we didn't do any buybacks given the Capstone acquisition closing. And I think as we think about the next several set of quarters, our capital priorities are really guided by our overall priority sets and first and foremost to fund organic growth and given the strong ROE that we get on the organic loans we're bringing in, that's our top priority. That's where we intended, and are really pleased to be able to allocate the capital. Even as we also manage capital ratios upward here, trending towards the year-end.

It's a little too early to call what happens in 2023. And as we get closer, we'll have a better view of what the plan might be at that point. But I think you'll see us tick capital ratios up here sequentially and deploy it to the loan growth for the foreseeable future.

Okay. And then you talked a bit already about the credit and what's going on with the corporate side. Could you give us a sense on the consumer book, what you're seeing? Is there any differentiation at all between either FICO bands, income bands or whether or not you're housing, you're a homeowner or a renter? Any dynamics there would be helpful.

Betsy, it's Rich. I can take that one. On the consumer side, we see, as we've talked about in some of the previous calls, just a little bit of increasing in the delinquencies just in many respects because they've been running at such artificially low levels given the deferral business -- deferrals in 2020 and the stimulus in 2021. I would say in general, though, those books are performing very well. We have maintained our FICO disciplines across the board. And with increasing auto pricing and increasing home rates, we've also done a good job of keeping the loan to values constant or coming down. So we feel very good about where the consumer book is positioned right now.

Betsy, this is Steve. We put the -- we publish our auto lending every quarter. So you see new lending at super prime, it just hasn't deviated more than 5 or 10 points and has generally drifted upwards over the last 12 years. And we're super prime on the home side as well. And then the RV/Marine is an average just over 800 like an 810 FICO. All of this is very low default frequency, default expectation and it's all secured. So we feel very good about the consumer book as a whole.

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

So for Zach, somewhat of a theoretical question. So if we look at the balance sheet, the loan-to-deposit ratio is low, which is keeping deposit betas very low at the moment. You're hedging to stabilize loan yields. When we think about incremental loan beta versus incremental deposit beta, this is for you and the industry, are we basically setting up where as we look out to 2023, the full year NIM could be higher in 2023, just mechanically over 2022. But at some point, we should expect your quarter-over-quarter NIM to start trending down through the year as deposit betas ultimately catch up?

Well, first of all, thanks for serving me a theoretical question. I'd love to take those. Appreciate you doing that. Look, I think that our outlook in best forecast that I see is for continued NIM expansion over the next few quarters. And if you sort of stretch the forecast out, if you use the forward yield curve as guidance, that continues out into the middle part of 2023, then starts to stabilize.

My forecast doesn't show contraction of anything material, just more of bouncing a lot on flat line as you get kind of further out into time. Obviously, you noted in your question that I quipped about it, it is a little theoretical, so you start to forecast on forecast on forecast and you go little too far. But that's the expectation that we've got.

And in response to John's question, I just want to understand your answer. You said you thought your deposit beta could be higher this cycle than the prior cycle, is that right?

No, that's not what I said. I think generally continue to be tracking around the same level at the last cycle. I think it's -- the beta sort of trends over time. That was the point I was trying to make. Initially in the early stages of the cycle, it's quite low. And that's certainly what we saw in the second quarter less than 10% beta in the second quarter. I think the beta will accelerate as the rate environment and cycle continues. But in totality on a cumulative basis, still seeing generally the same kind of trends and outlooks as we had seen in the last cycle.

Okay, got it. And then for Steve. So there's quite a bit of talk about companies onshoring supply chains, right, back to the U.S. I'm curious what you're seeing on the ground? I'm not really talking about the Intel plant, but beyond that, is this something that you're starting to see or is this just really a talking point at this point?

Steven, it's occurring. It's been occurring. I think, if anything, what we're even seeing this year with China shutdown episodically with COVID, it's just reinforcing. So it's supply chain nearshore or onshore and we're getting some of that benefit here in the Midwest and I suspect probably in the Southeast Southwest as well. I think that's going to continue.

The supply chains have gotten better in some industries, but still in most are a problem. And that level of investment required is reflected in our equipment finance results. We've had a -- we had a record second quarter and expect to have a very strong second half. Usually, our second half is better than the first half. So the teams are seeing a lot of investment. Reshoring is certainly a meaningful portion of it.

And the other thing I just, this is Zach just to tack on, the other kind of secular phenomenon that I do think it's going to be a tailwind for the industry broadly for the commercial banking space. The investment in property plant equipment to deal with labor supply constraints, which aren't going away anytime soon and are really driving significant corporate level investments in automation technology and things of that nature.

Our next question comes from the line of Ken Usdin with Jefferies.

Noticing the strong loan growth this quarter overall and keeping the guide for the year, as I put through the slide deck, I noticed that the originations on some of the consumer buckets are understandably smaller than they had been. I just want to ask you to flush out again, as you think forward about commercial growth versus consumer growth, are there any changes you guys are making in either underwriting criteria or what you want to put on the books? And how do you expect commercial versus consumer growth to look going forward overall?

Sure. This is Zach. I'll take that, and I'll see if my colleagues want to tack on throughout the course of answering your question. Generally, as I noted -- you noted in your question, we continue to expect high single-digit loan growth by Q4. We're actually running above that level right now. Q2 was about a 10% annualized kind of makes sense, which gives us the opportunity to optimize our capital allocation and really dial in the long-term return of the asset growth as we go throughout the balance of this year which we feel really good about to be in that position.

The nature of the growth going forward will be pretty similar to what we've seen in the first half of this year, that is commercial led, driven by production and consumer growing but slower. And I think it's corroborated by what we're seeing in the -- particularly the commercial loan pipelines up. I don't think we mentioned a 9% quarter-over-quarter, 33% year-over-year in our late-stage commercial pipeline. So notwithstanding the economic headlines, our clients are still investing there's still opportunity to grow.

On the consumer side, we're going to see slower growth in residential mortgage than we saw in the first half as we go into the second half and auto and RV/Marine should continue to contribute, although at a kind of a slower level. So I think perhaps a modest shift toward commercial but generally pretty similar to the nature of growth we saw in the first half.

Ken, I'll just tack on a little bit. With mortgage rates up, refi volumes down, you see in the mortgage numbers everywhere. But -- so some of the home lending, at least on the mortgage side, will be maybe partially offset with [Q1]. But the consumer side, I think, will tend to be a little less robust than it has been. At the same time, the sheer scale and the opportunities we have in these national businesses with TCF are really extraordinary.

So the inventory finances is like to number 2 to one of the big 4 nationally, and that just has great upside for us as supply chains get worked out. We've talked before about all the floor plan, that's almost a $2 billion number for us as it normalizes. So there's opportunity a bit in the utilization rate changes. We saw a little bit of that in the second quarter. There's a lot of opportunity in utilization rate changes. But the growth dynamics here in these national businesses and new markets are very, very good.

We've got over 50 new business colleagues in Minnesota and Colorado, as I mentioned earlier, and that activity is bearing fruit and will continue to be a source of growth for us as well. So very well positioned. Zach gave you the close in pipeline as of a contemporary week, but the total commercial pipeline almost doubled what it was a year ago. So a lot of opportunity in front of us.

Great. And then just one more follow-up, just drill that into auto. Just some peers -- and this isn't new, some peers are saying that things are getting tougher on spreads and have pulled away. You guys tend to get that premium to the market. And just with the changing dynamics going on in terms of residual values and new versus used mix, can you just talk about some of the dynamics there in terms of the ability to continue to produce and originate at the same level and how you're expecting credit to act as well underneath?

The credit, we think will have a very consistent performance because we've been so disciplined for more than a decade. So we don't expect to see any significant credit issues emerging out of auto or RV/Marine for that matter because that's an 810-plus average FICO. So very, very low default frequencies. And that drives more than valuation -- used car valuation or other equivalent metrics, much more to our business line than it has the most because we just -- frankly, we just don't have that many repossessions.

As we think about the business going forward, there's always a lag as rates rise in terms of getting pricing at a typical level and there's always a benefit as rates fall. So we're dynamically pricing. We're actually -- we don't focus on market share. It's about return and risk, and we'll continue to do that. But we've been in this business for almost 3 quarters of a century, has performed very, very well for us, and we expect it will continue to do so.

Our next question comes from Ebrahim Poonawala with Bank of America.

Just wanted to follow up on your expense guide. 2-part question. One, as we think about your strategic target, 56% efficiency ratio, just talk to us in terms of areas of investments as we look forward from here and where you're flexing expenses in terms of savings and whether there is a case to be made that the efficiency ratio normalized for whatever rate backdrop could be structurally lower than your current target?

Yes. Thanks for the question. There's a lot to unpack in expenses. So you gave me the opportunity to do that. I think now that we have delivered the cost synergies fully and it's in the run rate. We're back to managing expenses on an ongoing basis as the business grows and with a goal toward continuing to drive positive operating leverage and modulating expenses relative to revenue.

While we self-fund the key investments in our strategic initiatives to sustain them, and those are not changed from what we've had before. We continue to build out key commercial capabilities, build our critical fee businesses and payments, capital markets, wealth and I think continue to build terrific digital and overall product capabilities within our consumer and business banking function.

So those are the priorities. We'll keep investing in them align with clearly what Steve was just mentioning in terms of the terrific momentum we have in the TCF expansion opportunities. The efficiency ratio is an outcome, frankly. And our goal is really in the end, drive PPNR and just continue to expand profitability over time. With that being said, I do think efficiency ratio could very well trend lower here just given where the rate environment is going, and we'll see where that goes.

And I guess just a separate question on -- in your slide deck, Slide 35, you talked about digital engagement or originations, both consumer, commercial deposit originations seem to have peaked a few quarters ago and declined. Just wondering if anything to read in there and talk to us in terms of the investments you're making on the digital side from a client onboarding acquisition perspective?

Yes. So I think in terms of the investments we're making in digital just will continue, and it's all about channel development, internal process efficiency. And we've got -- as we have had in the past, a series of interesting new product developments that are on our road map that I won't steal the thunder on now, but you'll see them come through into the market over time as we launch them.

We're always throttling the dials of where we're directing our marketing funding. And that changes the mix of online versus off-line account acquisition over time. But in the end, it's all about driving the most value ultimately from the accounts in terms of depth of relationship and ultimately customer lifetime value. So and we feel really good where that is trending, frankly.

Our next question comes from the line of John Arfstrom with RBC Capital Markets.

Zach, a theoretical question for you, Zach. Do you feel like there's an upper limit on your margin. I've covered your company for a long time and I always think like 350-ish gets a little bit toppy on your margin. But is it possible to see similar types of sequential jumps in the margin if we get another 75 basis points next week? Or is there something in your business mix that would prevent them?

If you see the room here, you're seeing a lot of heads nodding and pleasured with your questions, so thanks for asking it. I mean I think, look, the reality is that there is no top. It's a function of where the interest rate environment goes, right? And I think it can go higher.

With that being said, I think, realistically, what you're seeing kind of the realistic range is right for the foreseeable future. And certainly, as we do our modeling based on the yield curve where it is right now, we see continued expansion, as I mentioned in one of the questions earlier for the next few quarters and then beginning to flatten out as you get into kind of the middle part of '23 and beyond, again based on the trajectory of the yield curve right now.

Okay. And then, Steve, a question for you, acquisition appetite. It's probably an annoying question, but you've done some fee businesses and I think you've done well with those. You've done well with TCF. You did fine with FirstMerit. Any interest at all in depositories? Or is that just off the table, given the regulatory environment?

We have a lot of opportunity to achieve with TCF. So our expectation is just to continue to focus on that. And if there is some ancillary fee businesses that help us in payments or wealth or capital markets, those would be of interest to us. But we've got a lot of upside going forward over the next couple of years.

And I don't know how to think about the regulatory environment for us. We got approved in record time the last time with TCF, and we had the same experience with FirstMerit and that should be some indication of our standing. And DFAST would be another indication of the outperformance every time above median is a reflection of the quality of the portfolio. So we're CRA outstanding and have been. So all of that suggests we're able to do things if we choose to, but our focus will continue to be drive the revenue opportunity from the TCF combination.

Our next question comes from the line of David Long with Raymond James.

The expected pre-pandemic Day 1 CECL reserve was lower -- much lower for legacy Huntington and even much lower for TCF than legacy Huntington given its shorter duration loan portfolio than your current reserve level. So with the economic forecast at very healthy levels here, just wanted to see why maybe your reserve today is higher than where it was pre pandemic?

The prepayment, I think you have to go back. I mean that's over 2 years ago. So it's a point in time. This is always a point in time. The portfolio has -- mix has shifted over time as well. We had a big oil and gas portfolio that was part of CECL Day 1 that's here not anymore. We've got more real estate today than we had back then. So a lot of it is a function of just the makeup of the portfolio. And as we're sitting here today, we're looking potentially in a recession.

I think if you went back to January of 2020, you didn't have that on the horizon, potentially near term. So it's a combination of everything. The mechanics of CECL is you look at it every quarter and you run your models and you make subjective adjustments where do you think the models might be of not capturing everything. And as we sit here at the end of the second quarter, we had come down for 6 consecutive quarters prior to this one, and I just thought it was time to take a little bit of a pause and see where things shake out. So it's a quarter-by-quarter analysis we do. And it's really hard to go back to CECL Day 1 and say this is a goal or an objective to get there.

And then Steve, you mentioned or talked a little bit about some of the revenue synergies with TCF and I sense your excitement there. But is there any way you can put numbers behind it, either in incremental loan growth with any of the categories or level of dollars of revenue that you think can be created?

Well, we haven't given guidance along those lines, David, but you're hearing us allude to it in terms of equipment finance, inventory finance, the reference -- as stated TCF didn't do SBA lending in Colorado or Minnesota. In fact, they didn't do C&I lending or small business lending in Colorado. So you get a lot -- for that matter lot in either market. So there's a lot of investment that has been made that early on is producing, and I think just gets bigger and better as we scale those businesses in those markets. And then we are a force in Michigan. We are having great growth in Michigan. And we're now able to run a full set of plays in Chicago. So you have those combinations of regional markets, our equipment finance #7 nationally, I think will be better than that on a relative position by the end of the year based on the volumes we see. So we've got a lot of synergy that's been achieved. And we've been emphasizing OCR.

We have a much better product set on both the consumer and commercial side, and that emphasis will continue to translate into revenue growth in capital markets, card and other businesses, the fee businesses for us, treasury management, et cetera, as we go forward. We'll give some thought to try to mention that over time for you and others. But at this point, we haven't done so.

Our next question is from Erika Najarian with UBS.

Just kind of follow-up question on how yields -- the yield trajectory. Zach, the increase in AFS yields was particularly eye-popping. Was that just a function of the starting point of 165 is just so low or was there anything sort of more onetime in nature there? And additionally, I noticed that C&I yields were only up 5 bps in the quarter. And I'm wondering if you expect that loan beta to accelerate over the next few quarters?

Yes. Nothing unusual in the first category you talked about. I think we're just seeing that continued trend through and certainly in our securities portfolio broadly really benefiting from expanding yields and just the reinvestment of the cash flows. Overall, broadly speaking across the loan categories, we're seeing nice trends in new money yield with gross yields really benefiting as the yield curve is expanding here.

The environment is still competitive. And so it's still a factor, but we're seeing new money rates expand in almost every major product line across the board, around 30 bps to the sense overall from Q1 to Q2. And I think that the average rate increase in Q2 versus Q1 was relatively modest. I think we're going to see coming through related to your C&I question in Q3 is more just given, again, the timing of the rate moves and the moves and so for late in the quarter versus what we'll see on average for Q3.

And just a follow-up question. Clearly, the market has priced in -- started to price in a mild downturn, some sort of downturn over the near term. Could you remind us when you printed an ACL ratio of 222 in 2020, what kind of unemployment rate were you assuming then? And if we think about a mild downturn over the next 6 to 12 months, how much more will your ACL ratio climb from what seems to already be a pretty nice level of 187?

Yes. I mean as it relates to where we were a couple of years ago, I'd have to go back and dig that out. I would just say that we use multiple scenarios and each one is going to have embedded assumptions around GDP and unemployment. So -- and those are going to run a pretty wide range. But it's the mix, the weighted average of all those that would if we could track down but...

This is Zach, just to tack on. I would not draw sort of a direct correlation in that way. I think there's just too many other factors that go into it. And I think that it's not even necessarily the case that it would go up. I think it really depends on, I think, what the trajectory is and what the outlook is across the various scenarios also clearly the depth and duration of any economic softening is the most important factor of that.

And I think the other thing that you have to look at is the with CECL, it's really hard to predict where the actual level of reserves is going to go because not only is that a function of the portfolio, but it's also a function of loan growth. So you've got to build that in.

So this quarter, we kept the ACL coverage flat, but the dollars, the allowance built because of the loan growth we experienced. So there's a few moving pieces in there. But I would say entering into a potential downturn with a position of strength, we would think would mitigate any large increases going forward.

Our next question comes from Scott Siefers with Piper Sandler.

I was hoping you might be able to sort of update your thoughts on the revenue contributions from Capstone and Torana. And I know you had the $4 million contribution from Capstone in the second quarter. I think the disclosures you offered previously on that one in particular, were based on prior year's performance. So just any updated thoughts now that they're officially under the umbrella?

Yes. So thanks for the question, Scott. And just we couldn't be more pleased about closing both of those acquisitions. Torana is relatively small. Capstone is a very scaled business, as we've talked about. And just what an amazing fit for our capital markets business and not only bring on a great run rate, but the opportunity to expand that business within the Huntington franchise is really, really significant. So we're thrilled about it.

At this point, our current forecasts are around that same kind of run rate here over the next couple of quarters. And I think we'll see the synergies start to manifest as we get out further into time, but really excited about that. I think Torana over time will grow, a relatively small impact in this year.

So Scott, I think Zach gave you like a $100 million 3-year average revenue.

Correct.

And that's the reference point to your question. I would tell you they have a very good pipeline for the third quarter, and they had a good second quarter. And as we integrate and bring them into our customer base, we know them and we've worked together. This is a really good cultural fit. We'll look to grow revenues off that base.

I think it's around the $30 million run rate is roughly we're at.

Okay. You said $30 million run rate?

Third quarter. Yes.

Third quarter. Perfect.

Our final question comes from David Konrad with KBW.

Actually, Erika already asked my question. So I guess, we're all wrapped up.

Well, we know you've had a busy morning. So thank you very much for joining us today. It was just a tremendous quarter for us in Huntington. We're obviously pleased with the results, but we're also pleased with the momentum that we have going into the third quarter, coming off of record net income and PPNR growth.

We're well positioned, we believe, to manage through the current uncertain economic outlook. We remain committed to and are confident of our ability to continue driving value for our shareholders. Just as a reminder, the Board executives and our colleagues are a top 10 shareholder collectively, reflecting our strong alignment with shareholders. So thank you for your interest and support today and have a great one.

This concludes today's conference. You may disconnect your lines at this time, and we thank you for your participation.