KeyCorp (KEY) 2009 Q3 法說會逐字稿

Good morning and welcome to KeyCorp's 2009 third quarter earnings results conference call.

This call is being recorded.

At this time I would like to turn the call over to the Chairman and Chief Executive Officer, Mr Henry Meyer.

Mr Meyer, please go ahead, sir.

Thank you, Operator.

Good morning and welcome to KeyCorp's third quarter 2009 earnings conference call.

Joining me in today's presentation is our CFO Jeff Weeden, and available for the Q&A portion of our call our Vice Chairs, Beth Mooney and Peter Hancock,, and Chief Risk Officer Chuck Hyle, and our Treasurer, Joe Vayda.

Slide two is our forward-looking disclosure statement.

It covers our presentation materials and comments, as well as the question and answer segment of our call today.

Now if you turn to slide three.

Today we announced a net loss from continuing operations attributable to Key common shareholders of $422 million or $0.50 per common share.

While our results continue to be impacted by the difficult operating environment, we believe the aggressive actions we've taken to address credit quality, strengthen capital and liquidity and reshape our business mix position us to meet the challenges posed by the current environment and to emerge as a more competitive Company as the economy rebounds.

We are encouraged that the pace of deterioration in the economy appears to have slowed.

However, we remain conservative on our outlook and expect conditions to remain challenging into next year.

One of our primary areas of focus has been on building and maintaining a strong balance sheet.

In August, we completed a series of capital raises and exchanges that in total have generated approximately $2.4 billion of new Tier 1 common equity.

At September 30, 2009, our Tier 1 common equity ratio was a strong 7.63% and our Tier 1 risk-based capital ratio was also a strong 12.61%.

During the third quarter, we continued to build our loan loss reserve by taking a $733 million loan loss provision, which exceeded our net charge-offs by $146 million.

At the end of the quarter, our allowance for loan losses was $2.5 billion and represented 4% of total loans.

We have strengthened our liquidity and funding positions over the past year by reducing our reliance on wholesale funding and increasing the portion of earning assets invested in highly liquid securities.

Average deposits were up 6% from the year ago period with growth in both community banking and the national banking group.

Proactively addressing credit quality continues as one of our top priorities.

In the third quarter we saw an increase in nonperforming assets, but at a slower pace than in recent quarters and most of that increase was attributable to the commercial real estate portfolio.

In the third quarter we continued to take aggressive steps to reduce exposure to our commercial real estate and institutional portfolios through the sale of selected assets.

Jeff will discuss the actions taken in his remarks and comment on the marks taken on the various assets during the third quarter.

While we continue to make progress on reducing exposures in targeted portfolios, we expect that credit quality trends will likely remain under pressure until we see meaningful improvement in the economy.

Another priority has been continuing to sharpen our focus on our relationship businesses by investing in those areas where we can be most competitive and exiting businesses that have not generated appropriate risk adjusted returns.

In community banking, we have installed new technology to improve the client experience and we have continued our multi-year investment in our 14 state branch network.

We've opened 32 branches in eight markets in 2009 and will have completed approximately 160 branch renovations by the end of the year.

These investments have further enhanced our competitive position and improve service quality.

As I mentioned before, Business Week recognized Key as the top rated bank, 11th overall in its Customer Service Champs survey for 2009.

I'm also very pleased that last month, KeyBanc was awarded an outstanding rating for the Community Reinvestment Act for serving the needs of low and moderate income communities.

Key is the only national bank among the 50 largest to be rated outstanding by the OCC seven review periods in a row dating back to when the act was created in the mid 1970s.

Executing on our relationship strategies has also required us to make some difficult decisions to exit certain businesses.

Earlier this month, we announced that we were exiting the government guaranteed education lending business.

This followed our earlier actions to exit private student lending.

Key will continue to serve the education segment by leveraging our strength and payment processing and liquidity management.

In our equipment leasing business, we have realigned our resources with our most profitable business segments and will cease conducting business in both the commercial vehicle and office equipment leasing markets.

And we continue to make progress on Keyvolution, which is our corporate-wide initiative designed to simplify internal processes and improve both client service and speed to market.

Slide four shows the opportunity that Keyvolution represents over the next couple of years.

Initiatives that have already been implemented will result in an annualized cost savings run rate of $121 million, with an additional $60 million in flight.

There are approximately $76 million in one-time costs and investments, including severance, associated with these savings opportunities.

We have identified additional targeted Keyvolution benefits of $119 million to $194 million, which, along with other implemented or in flight initiatives, will produce total annualized run rate cost savings of $300 million to $375 million, with a significant portion captured over the next two years and the full run rate achieved in 2012.

We continue to make progress on the initiatives that we have discussed last quarter around sales force realignment and call center consolidation.

Recent actions include strengthening our procurement organization and leveraging the work that has been done in the community bank to develop robust sales tools and disciplines that can be used throughout the Company.

In a procurement area, we are managing demand more effectively and improving our purchasing practices, while building deeper, more strategic relationships with our vendors.

Cost savings will be derived in partnership with vendors who can help us identify ways of conducting business more efficiently and effectively and provide pricing benefits available through scale.

Keyvolution remains a critical component of our strategy to improve profitability by streamlining our processes to improve responsiveness and efficiency.

Now I'll turn the call over to Jeff Weeden for a review of our financial results.

Jeff?

Thank you, Henry.

Slide five provides a summary of the Company's third quarter 2009 results from continuing operations.

Unless otherwise noted, our comments today will be with regard to our continuing operations, which exclude our educational lending activities which Henry commented on earlier.

For the third quarter, the Company incurred a net loss of $0.50 per common share.

Earnings continued to be impacted by elevated credit costs as we continue to work our way through the current credit cycle.

I'll comment in a moment on the credit quality as we review our asset quality slides.

In addition, we incurred negative marks which impacted noninterest income and costs related to certain holdings tied to commercial real estate during the third quarter.

Some of these marks relate to CMBS bonds held in our trading account and carried at market values of approximately 44% of face value.

The remaining carrying value is now down to $45 million.

We also have investments with remaining carrying values of approximately $138 million in our Funds Management Group within the real estate capital line of business.

These investments, which represent direct as well as our portion of funds which we are co-manage -- which we co-manage, are now carried at approximately 60% of our original investment.

While not listed here as a significant item, we incurred an increase in other real estate owned expense in the third quarter as we sold or aggressively marked down our holdings in these areas.

And we incurred a noncash charge of $45 million during the third quarter related to impairment of intangible assets other than goodwill within our equipment finance line of business.

This charge is the result of our recent decision to cease lending in certain equipment leasing markets.

Turning to slide six, for the third quarter of 2009 the Company's taxable equivalent net interest income adjusted for early terminations of certain leverage lease financing arrangements was $613 million compared with $591 million in the previous quarter.

The adjusted net interest margin was 2.87% for the third quarter, up 10 basis points from the second quarter of this year.

The Company benefited from an improved funding mix and pricing on interest bearing liabilities during the third quarter.

We expect this trend to continue into the fourth quarter as we experience additional maturities in our CD book and repricing to current market-rates, which will benefit the net interest margin.

Turning to slide seven, during the third quarter, the Company experienced a $3.9 billion decrease in average total loan balances compared to the second quarter of 2009 and a $7.7 billion decline compared to the third quarter of 2008.

The decline in average balances reflects the soft demand for credit on the part of commercial customers due to the weak economic conditions and continuing paydowns on our portfolios.

The trend we experienced appears to be consistent with Fed data we reviewed which shows that consumers and businesses are continuing to delever.

We have also identified on this slide our exit portfolios, which we have updated for certain leasing portfolios and the educational lending portfolio which was moved to discontinued operations.

Compared to the third quarter of 2008, the average balance of our exit portfolios, including discontinued operations, has declined $2.8 billion.

Also, in the appendix of today's materials, we have included for your review additional information with respect to the exit portfolios, including net charge-offs and nonperforming loans by portfolio.

Turning to slide eight.

Average deposits were up $600 million from the second quarter and increased $5.7 billion from the same period one year ago.

With respect to the individual deposit categories, we continued to see increases in DDA balances given the low rate environment and the safety these accounts offer commercial clients.

In addition, we began to see money shifting back into NOW and MMDA deposits as higher rate CDs originated in 2008 matured and current CD rates looked less attractive to clients.

As mentioned earlier, we expect to see this trend with CD balances coming down in coming quarters as repricing of this portfolio continues.

This should continue to benefit the net interest margin.

Turning to slide nine.

Over the past four quarters, the Company's liquidity position has significantly improved.

As discussed on the prior two slides, the Company has experienced a significant shift in its balance sheet with loans declining and deposits increasing.

The Company has used this increased liquidity to grow its investment portfolio and reduce its wholesale borrowings.

Over the past four quarters, the Company's average balance in investment securities has increased from $8.9 billion to $17.4 billion and our borrowed funds position has declined by almost $9 billion.

As can be seen on this slide, our average balance loan to deposit ratio improved to 103% during the third quarter of 2009 from 126% one year ago.

We have also included in this ratio the loans from discontinued operations as we believe this is a more conservative way to view the ratio.

Turning to slide ten.

Our nonperforming loans stood at $2.3 billion at September 30, 2009, and our nonperforming assets were $2.8 billion.

Nonperforming loans were up $105 million from the second quarter and nonperforming assets increased $251 million.

As shown in the summary of changes in nonperforming loans on page 28 of the earnings release today, the net in flow of nonperforming loans slowed when compared to the prior two quarters and we received more payments on NPLs in the third quarter than the first quarter and second quarters combined.

During the third quarter, we continued to aggressively deal with our problem assets.

At the end of the quarter we had $304 million of nonperforming loans in a held for sale category with many of these contracted for sale as of September 30th and subsequently closed during October.

Overall, nonperforming loans are carried at 76% of their original face value and nonperforming loans held for sale are being carried at 67% of original face.

With respect to other real estate owned, we sold a number of properties during the third quarter and we took additional marks on the remaining portfolio.

At September 30, 2009, we are carrying other real estate owned and other nonperforming assets at approximately 52% of their original face values.

Turning to slide 11, net charge-offs in the third quarter remained elevated at $587 million or 3.59% of average total loans, which was up from $502 million or 2.93% experienced in the second quarter of 2009.

While net charge-offs in almost all loan categories remained elevated, the increase in the second quarter -- from the second quarter was largely due to continued weakness in the commercial real estate construction portfolio.

We also continued to build reserves during the third quarter; however at a slower pace than the prior several quarters.

At September 30, 2009, our reserve balances stood at approximately $2.5 billion and represented 4.0% of total loans and 109% of nonperforming loans.

Slide 12 is a snapshot of our commercial real estate portfolio at September 30, 2009, with a comparison to the second quarter of this year.

We have additional information with respect to our commercial real estate portfolio located in the appendix of today's materials.

As shown on this slide, our total outstanding balances declined in all categories of CRE during the third quarter compared to June 30, 2009, while we experienced an increase in nonperforming loans and net charge-offs compared to the second quarter.

As we have been commenting on for several quarters now, we continue to see negative migration within the retail properties category, with nonperforming assets eclipsing 10% of outstanding balances as of September 30, 2009.

At the same time, we saw a decrease in nonperforming loans within the residential properties category and we have significantly reduced risk in this portfolio over the past two years, as can be seen on the next slide.

Since the first quarter of 2008, we have reduced our residential properties exposure by over $2.1 billion, or almost 60%, to $1.5 billion at September 30, 2009.

Also shown on this slide are the reductions achieved in California and Florida exposures, two states which experienced significant downturns in the residential real estate market early in the cycle.

The shaded portions of the bars represent the nonperforming loans within the totals.

And finally, turning to our capital ratios on slide 14, at September 30, 2009 our tangible common equity to tangible asset ratio was 7.58% and as Henry commented on earlier in his remarks, our Tier 1 common equity ratio was 7.63% and our total -- and our Tier 1 risk-based capital ratio was 12.61%.

All of our capital ratios remain strong and along with the Company's improved liquidity, positions us well to continue to attack the current credit cycle, dealing with the challenges ahead and being able to serve the clients' needs -- our clients' needs in the future.

That concludes our remarks and now I'll turn the call back over to the Operator to provide instructions for the Q&A segment of our call.

Operator?

(Operator Instructions) And we'll go first to Craig Siegenthaler with Credit Suisse.

Thanks and good morning.

Good morning.

Just a few questions here.

First on the nonperforming loan roll forward in the press release page 28, I'm looking at the inflow of NPLs which only declined modestly which means the NPL growth acceleration was really caused by an increase in payments and disposition.

How easy is the current run rate, about $300 million, to reoccur in the fourth quarter, because it actually picked up a lot sequentially.

Well, certainly, Chuck can comment on this.

This is Jeff Weeden, but Chuck will comment on this too.

But I think we've seen improved liquidity in the -- in the market that happened during the second quarter.

It started in the second quarter and really continued into the third quarter.

It remains to be seen, obviously, how that liquidity continues on with all the rest of the assets that are obviously out there from other institutions as well as the FDIC, but we are remain positive that -- that liquidity will be there.

It's a question obviously then of price and we have been moving forward to sell a number of these loans, as well as working with our clients and some, of course, what's coming in on payments are payments from clients that also occurred during the -- during the current quarter.

As to whether that remains, we've got to see kind of how the economy continues to progress here and while we're very, very cautious on it, the tone is better, but it's not what we would call back to a normal at this point in time.

I think Jeff has covered it well, that the tone has definitely improved quarter-over-quarter and we're saying that really in a wider, slightly wider range of assets as well, both straight ins loan sales as well as OREO sales.

So not a great, not a torrent, but certainly an improved flow over the last quarter or so.

And then actually just looking at your CF&A segment, really your C&I segment, I'm wondering what drove the pick up in NPLs in the second quarter and then which continued to be, this levels really flat in the third quarter.

I was wondering if there was several large loans in the second quarter balance and if you look at it on a W-9 C filing basis the growth was actually higher in the second quarter than than I think you guys reported here, so I'm wondering if there's anything kind of unusual in that second quarter results which could have came out.

Well, part of what you would see, I think, in the CF&A total and if you're looking at the FR Y-9, also look at the equipment, what's classified here as commercial lease financing, that may be also driving part of what you're looking at there.

So it's broken out as a separate line item here.

I think the other comment I would make is that there were a couple of names in the institutional side that we referenced in the second quarter, several around the media space and one or two other areas, pretty isolated, but that drove part of the second quarter and the third quarter number we took advantage of liquidity in the corporate loan market and sold probably about $160 plus million out of the corporate portfolio that were either NPL or heading towards NPL and we took the opportunity to clean those up, probably at an average price, weighted average price north of $0.85 on the dollar.

Great.

Thanks for taking my questions.

And our next question comes from Brian Foran with Goldman Sachs.

Good morning.

Good morning.

As we think about pre-provision outlook, and I'm sorry if I missed any of this in the beginning, but can you just touch on three line items which would be whether this OREO expense is kind of a new run rate or artificially elevated, the trust and investment services line item, why that was down and if we should expect it to go further down or grow going forward and then third, what we should look for to make investment banking and cap markets turn back into a positive revenue contributor, is it commercial real estate prices or what needs to happen to kind of stabilize those losses?

Okay, well with respect to ORE expenses we were, I think, very aggressive here in the third quarter.

We went through and we moved a lot of property.

If you look at the overall amount, I guess referring one other item back to that -- that flow on page 28, we had $94 million of property that was moved to ORE out of nonperforming loans in the current quarter and yet if you look above on that same page you'll see that net other real estate owned actually declined in the current quarter from $171 million to $147 million in the prior quarter, so we -- we were very aggressive on dealing with other real estate in the third quarter.

Now, as part of that of course you saw other real estate expense increase to $51 million during the third quarter and that was up $36 million from the second quarter and also $46 million from the prior year.

I think in terms of -- of what that run rate is, it's going to be elevated from where it was in the second quarter.

I'm not sure I can predict exactly where it will be in the fourth quarter, but it will be higher, obviously, than what it was a year ago just because we are now seeing some liquidity in the marketplace and continue to move that property on through.

And it will be a while before it will actually decline back down to perhaps that $5 million level, which is where we were in 2008.

So that's going to be some time.

With respect to the trust and investment services income, if you look at page 24 of our press release, you'll see in there that -- that actually the institutional asset management and custody fees were up in the current quarter.

Personal asset management custody fees were down, but the biggest decline was really on the brokerage commissions and fee income and that's going to be driven a lot by the community bank and some of our Key investment services sales.

So those were softer here in the third quarter, but again, that's the higher margin businesses that we're going to have are going to be on the -- the other two line items that I talked about.

And I guess the outlook is that assets under management actually showed improvement with the overall market here in the third quarter, so the prospects for the fourth quarter are improved in that particular area.

And then the last area that you talked about and asked about was the investment banking and capital markets related income.

We did have significant marks that we took in the current quarter.

There were about $58 million in marks that went through in the current quarter.

There's $20 million for CMBS bonds, there was another $26 million with respect to the funds management area with respect to certain real estate investments and then an additional $12 million that was for reserves on customer derivative positions and those were resulting from just credit migration.

There was a reserve that was built, not actually incurred losses in that particular area.

I think that in talking with, and Peter can comment on this, but in talking with our people in the institutional bank, they feel better about the pipeline with respect to M&A related fees at this particular point in time and I think the outlook, at least, looks more positive than what it was in the third quarter.

Peter, anything else you'd add to that?

No, I think that you hit the highlights.

And if I could sneak in one follow-up.

The high cost CD book added end of last year, can you just kind of remind us what the margin opportunity might be there and how much of that is in the third quarter run rate versus how much would start to come through in the fourth quarter?

Well, I think you -- you saw the improvement in the third quarter from the second quarter.

The improvement in the margin was approximately 10 basis points and we have heavy flows of maturities that continue into the fourth quarter, the first and the second quarter of next year.

So we believe we still have opportunities for repricing of that particular book during the next three quarters.

I would estimate at this particular point in time that the direction of the margin is for improvement and it could be similar to the magnitude of improvement that we experienced here in the third quarter compared to the second for the fourth.

Thank you, that's very helpful.

And our next questions will come from Todd Hagerman with Collins Stewart.

Good morning, everybody.

Just a couple questions in terms of the commercial real estate portfolio.

Chuck, I was just wondering if you could just talk a little bit more about the asset disposition here in the third quarter as it relates to the commercial real estate, particularly the retail, multifamily, any restructurings that may have come through in the quarter.

And then if you have any comments or thoughts in terms of the prospects for the regulatory guidance coming through on the CRE restructuring how that may affect you guys and kind of how you're thinking about restructuring and disposition going forward on the CRE book?

Let me try to take the first one first.

I think generally speaking, the breaking commercial real estate portfolio down into pieces, as Jeff said in his comments, the residential part given its reduced size is showing better numbers and a reduction in NPLs, et cetera.

The retail side is, I think, still a little bit of an open question and largely tied to the economy and how the economy progresses over the next couple of quarters.

While we've shown a bit of an uptick in NPLs and charge-offs in -- in retail, we're modestly encouraged by the delinquency numbers, which have stayed pretty flat, and again as I've said in previous calls, the retail portfolio is more highly correlated to the residential markets and therefore, we've seen somewhat more weakness in the four states that have been hardest hit on the residential side, namely Florida, Nevada, Arizona, and California.

But we think that, I wouldn't call it necessarily turning the corner, but I do think we've seen a little bit of modest improvement in the early stage side on retail.

Multi-family is a sector that we continue to believe will have relatively modest loss content in it, but clearly there are higher NPLs and some migration there.

Again, highly correlated to the four states that I mentioned earlier.

But absorption rates continue to be decent in most parts of the country and while concessions abound, I think the general view is this is more of a timing issue, I think, than an ultimate loss situation.

Office is always a laggard and not a huge portfolio for us.

A large portion, 30% plus percent, is in medical office building, which we think currently is performing well and we expect to continue to perform well.

So I think in general we, as we said earlier, we -- I don't want to make this sound too optimistic because there's still a lot of uncertainty out there and it's certainly true to say that the real estate fundamentals across most markets certainly haven't improved and remain challenged.

And again, the economy is going to be a major factor in how the rest of this portfolio performs over time.

So that's a -- that's a broad brush description of where we see the commercial real estate portfolio.

As far as where the regulators are, we don't really have a lot of information at this point.

Certainly they have -- there have been public statements by the regulators that they are very focused on commercial real estate, but in terms of what impact, how they might change what they're doing is still very much an open question as far as we're concerned.

Okay.

And just to follow-up on that, in the quarter itself, I mean, have you seen or begun to -- to do anything more in terms of restructuring your own existing portfolio?

Was that a meaningful part of the quarter or is that something you're -- you're thinking more about going forward?

Well, we've been thinking about it a lot for a long time and I think as we said on the second quarter call, we had restructured something like $2.3 billion of commitments in real estate across all aspects of our real estate portfolio and that program continues in earnest, particularly as certain loans construction is complete and there's not a strong take-out market.

So as we've said in the past, we have a program whereby we re-underwrite those loans based on appropriate underwriting standards.

These are not TDRs, these are not distressed deals, but often require developers or others to put in more equity.

We also get improved returns in terms of interest rates and appropriate LTVs and that program has continued.

We've done something like another $900 million during the third quarter and we will continue to do that on the basis of that -- the underlying property is a bankable and appropriate property.

If it's not, it goes NPL and we deal with it in other ways.

We've done very little in terms of TDRs to date, although clearly our expectation is that number may migrate up a bit over the next couple quarters.

So just to clarify the roughly $900 million in the third quarter, that generally is all performing or categorized as performing?

Absolutely.

It would have to be, otherwise it would be -- go into the TDR column.

Right.

Thanks very much.

And we'll now go to Anand Krishnan with Fore Research & Management.

Hi, good morning.

I had a clarification question on the reserve (inaudible).

So you mentioned the carrying values of your nonperforming loans there at like $0.76.

Then your REO is at like $0.52 and loans held for sale that are nonperforming $0.67 and still your coverage ratio is like over 100.

So I'm just trying to see how you think about reserving and provisions on a go forward basis given that your troubled assets are already substantially carried below par.

And is that a function of you expecting things to weaken over the next 12 months, because those are carried forward, the losses that you expect to take over the next 12 months.

So if you can share your thoughts on how you think about this that would be helpful, thanks.

Well, this is Jeff Weeden.

Certainly the reserve build up, of course, is a process that we go through that not only identifies the nonperforming, but it also goes through the performing portfolio and each of the credit grades that are out there will have certain degrees of loss given default in all of our probabilities and so it's a pretty elaborate process that we end up going through.

I think your observations are good in the sense that you see what we have already taken in the form of losses against those particular nonperformers.

The reserve also looks at a number of different factors.

Now, with respect to how we look at reserves and provisions going forward, I think we've covered a lot of ground at this particular point in time and what you saw in the third quarter were actually the amount of reserves in excess, provision in excess of charge-offs is down from what it was in both the -- in the last three quarters.

And so the expectation as we've gone further into the credit cycle here and we start to see some leveling off of some of the nonperformers, as well as looking at those that are loans 30 to 89 day past due and 90 day past due credits, we would expect to see that given where we are in the cycle, there would be probably far less need for reserve build on a go forward basis, but it still remains to be seen, obviously, as to where the economy goes and so we remain cautious but that the picture is better in that regard.

Thanks, that's pretty helpful and I had one more final clarification question related to the investment banking capital market activity.

You mentioned 20 million related to CMBS marks.

Generally, the third quarter performance on the CMBS side has been positive for the most part, so I'm curious as to why that it's been a negative impact on CMBS for US?

Well, that's a good observation.

It has been as a general rule.

The particular bonds that the pieces that we ended up holding in that portfolio were downgraded late in the quarter by the rating agencies and as a result of that we ended up taking marks on those particular bonds.

I -- I would add that these bonds were highly rated initially, but also highly illiquid, so it was very hard to get an accurate read on them at the end of the second quarter.

So I think that helps explain the -- the third quarter mark that was basically using matrix pricing based on rating and the rating changed significantly with very little trading activity.

Thanks, good luck.

And next is Paul Miller with FBR Capital Markets.

Yes, thank you very much.

Just to change subjects here a little bit on loan demand.

I mean, loans looked like it declined about $5 billion in the quarter and they declined about $10 billion over the last year and I know some of that is related to the discontinued operations as you exit some of these portfolios, but are you seeing any loan demand out there, especially from the small business, middle market business class and -- and should we continue to see this line item decline outside of this continued operations?

Yes, Paul.

This is Beth Mooney and I would give you a view of what we're seeing in our community banking markets, which is this is at the point in the cycle where small businesses and middle market companies tend to be very conservative.

The duration of the economic downturn, people are being incredibly cautious about expanding capital investments, plant and equipment and as you can see in the general build up in noninterest bearing, which has been heavily in our commercial customer base, borrowers tend to remain very, very liquid.

So I would say that there's still much caution in the existing client base about expanding their borrowings or debt, as well as very, very little new loan demand.

So I would say that this is the point in the cycle where businesses are not prepared to expand their borrowing capacity and as we see some economic growth potentially as we go into 2010, I think we would hope for increased demand, but right now it is very, very weak.

And I guess -- will you continue to grow your securities portfolio to offset that loan drop off?

Well, certainly to the extent that we have liquidity continuing to come at us with loans paying down and deposits coming in to the -- to the Company, we will deploy those funds in the investment portfolio, but we'll also look at other forms as we have debt maturities that come up, we just simply won't replace the debt as it matures.

Okay, thank you very much.

And we'll now go to David George with Baird.

Good morning guys.

Thanks for taking the question.

I was going to ask about the securities book, but it looks like you just answered that.

Can you talk about, Henry, your appetite for FDIC deals going forward?

Yes, we continue to look at opportunities.

We've been very clear that the opportunities that we're interested in are in footprint, in markets that we're currently in and we have looked at some deals and we just haven't, in this environment, found that right opportunity.

I am a little bit discouraged, I guess, which way is the glass, half full or half empty, but the vast majority of the 99 banks that have been taken over have not been in our footprint states, so there hasn't been a lot of opportunity but we are actively interested.

Okay, appreciate it guys, thanks.

(Operator Instructions) And our next questions comes from Gerard Cassidy, RBC Capital.

Thank you.

Hi, guys.

The question has to do with the decision to move the student loan into discontinued operations versus the other exit portfolio businesses.

What's the factors that you used to do that and should we expect, for example, the marine business or the commercial leasing business to be moved into discontinued operations at a later date?

Gerard, this is Jeff Weeden.

From an accounting -- it's a strictly an accounting bright line that we have to look at with respect to the student lending.

We are out of the student lending, both on the private side as well as the government guaranteed side of the equation.

So we're no longer in that "business" from an origination standpoint.

With respect to the other portfolios and you brought up marine, we still make marine loans through our branch network.

So if we have customers that come in and they want to buy a boat, we will finance a boat.

And so the distinction really gets into are we making those particular types of loans someplace?

Just like on the leasing area, we're in the leasing business.

Leasing is a major part of this Company and will be going forward.

I think what you have to look at though are certain sublines of business that we're out of at this particular point in time within the various areas.

That's what the distinction happens to be from an accounting standpoint.

Thank you.

And then just quickly on the commercial real estate construction charge-offs that you took in the quarter, what type of properties were they mostly in and were they in those four states that you referenced as being the weaker states due to the housing markets?

Yes, Gerard, this is Chuck.

That's the appropriate way to look at it.

I think in -- in the retail side I would -- I would estimate that in those four states we've got about 25%, 27% of the portfolio and in terms of charge-offs and NPLs, it would be the -- the opposite of that, the inverse of that, closer to 70% plus would be in those four states.

So there's definitely a correlation there.

Same in multi-family.

Again, largely driven by residential characteristics and the economies and so that's very much the trend that we would see there.

Thank you.

We'll now go to Ken Usdin with Banc of America-Merrill Lynch.

Hi, its Ian Foley for Ken Usdin, how's it going?

Good.

Good.

I just wanted to kind of -- have you guys given an explicit timeline just kind of how you're planning to put the liquidity to work over the next couple quarters and kind of what loan to security makeup you see the balance sheet having longer term?

Well, we haven't specifically given targets with respect to the loan and security makeup of the organization.

We are deploying the liquidity cautiously is what I would say.

We continue to make investments in the or put money to work in the investment portfolio.

But we also are mindful too of -- of looking at both sides of the balance sheet, the deposit side as well as the asset side.

And I think as we go through this we're being perhaps more on the bringing rates down on our CD book.

We're remaining cautious to see what ends up taking place there over time.

So far we've been very encouraged by the fact that the money seems to be flowing back into the NOW and MMDA accounts, but we'll continue to monitor that.

And of course, as you know, with the FDIC's unlimited deposits on transaction accounts for commercial customers, we have to see how that all evolves over the foreseeable future.

Got you.

Sounds good.

Thanks.

And our next question comes from Mike Holton with The Boston Company.

Hi, good morning.

I just wanted to see if you guys would clarify a couple things you talked around a little bit.

On credit quality, tell me if this is the wrong interpretation.

Net charge-offs and NPA, especially net charge-offs, should continue to go up maybe a little less than previously, but they will go up and you guys will likely continue to build reserves in Q4, although there's a chance it could be less than Q3.

Would that be a correct interpretation?

Well, Mike, it's difficult to say exactly where that will end up because we -- we've basically talked about the fact that you could have an increase in nonperformers, which may result in an increase in reserves.

But you have to look at the overall migration of the portfolio and we're seeing better signs in certain parts of the book, so it's difficult at this particular time to say how much, if any, the reserve will change in the fourth quarter, but certainly we are getting further into the cycle here and there's less overall need, from our perspective, of a reserve build.

Okay.

But you do think charge-offs will increase from Q3 levels, the question would be magnitude?

I would say that charge-offs will remain at the elevated level and it means that that's a possibility that you just outlined.

Okay, thanks.

And we'll now go to [Matt Vernell] with Wells Fargo.

Good morning.

Thanks for taking my call.

I know that -- I know that account fees don't make a large percentage of your noninterest revenue, but I'm wondering if you can update us on any actions you have taken or may consider taking in the future relative to overdraft fees or some of the other regulatory plans that have been floating around Washington to -- that might negatively impact noninterest income.

Matt, this is Beth Mooney.

Yes, we have been very mindful of the moves that several of the peers have made in their assessment of specifically overdraft fees as well as the current regulatory environment and we have certainly are poised to do what's appropriate in our marketplaces and take guidance from peers, as well as the regulators.

Would have an impact, obviously, in terms of lessening certain fee categories, but we have not given any specific guidance at this time to that magnitude.

And I think you're -- this is Jeff Weeden.

I think you're correct in the sense that deposit service charges are not a large number for us and part of what's depressed some of our deposit service charges here too are the high levels of -- of transaction accounts that we have on the corporate side of the equation.

So those particular balances or fees are offset from an account analysis perspective and so that's also depressed it a little bit as they have used balances rather than paying hard dollar charges at this time even in a low rate environment.

And I guess just to follow-up, is there -- what's your sense of the pushback that you might get from regulators if you -- as you look to offset those -- those, I guess, non-discretionary fees with discretionary fees, specifically to the account fees side of things.

Matt, I would say that you would always balance appropriate disclosures and we are not necessarily looking at any changes we would make to the overdraft policies or anything like that to look to offset those in other fee categories.

That would not be the linkage we would make.

Great.

Thanks very much.

And next is Bob Patten with Morgan Keegan.

Good morning, everybody.

Good morning.

Following up on Paul Miller's question before to Beth, if you look at your average line borrowings at this time in this cycle versus historical even to your best customers, what would you estimate the percentage of line outstandings right now versus historical?

We see a relative increase in our home equity portfolio in terms of average line outstandings, so we've seen some increase over the time in terms of outstandings and in our commercial book it has been relatively constant, slightly up but constant.

So constant with historical, Beth?

Yes.

All right..

Where do you think growth will come from both in terms of geography and in terms of industry type when the economy starts to resume again if you look at your portfolio?

Bob, I would say given the markets we serve that we would have the opportunity in my mind for both by industry as well as by market growth opportunities across our footprint.

We have not seen any particular anomalies in any of our particular markets other than manufacturing in our Great Lakes market.

So I would tell you as I look out at 2010 and 2011 as the economy begins to recover that there would be geographic diversity in terms of growth opportunities both for types of loans and in our markets.

Okay and then last, I mean, obviously with all of the excess liquidity the Company is building and the securities portfolio, if we get loan growth what would you say for every dollar of securities that you swap into loans the difference in spread is?

Oh, I think at this particular point in time that's -- it's going to depend on when the -- when the growth comes back.

Right now, obviously, we're getting very good spreads off of -- off of loan volume and activity, so there should be an overall pick up and it's not just on the loan, we look at it from a total customer relationship perspective.

So I think Henry commented on we're building relationships here, so we're trying to do not just the loan but do other activities with each and -- each of our clients and build that long-term relationship.

But there would be some degree of pick up, obviously, because what's you're talking about doing is going out of a triple A rated government sponsored entity type of a security into something that would be less than triple A rated, obviously, from a -- from a client perspective.

Yes, but the spread has to be somewhat 3%, 3%, 3.5% pick up, wouldn't it be?

Well, most of our investments that we've put on -- obviously, if -- if you're talking about it coming out of short-term, which is 25 basis points, it would be well over 300 basis points pick up.

If you're talking about coming out of the investment portfolio, it's probably far less than 300 basis points pick up.

Okay, thanks.

We'll take a follow-up question from Brian Foran with Goldman Sachs.

Going back to the paydowns and the NTA sales and the comments about improved liquidity, can you just kind of give us a sense, is there certain geographies or certain property types.

Where are you seeing the investor demand come back to a level that's a little bit more palatable that is making you sell some of these loans?

This is Chuck Hyle.

I would say the overriding characteristic is underlying cash flow on the real estate side.

I think things like residential land and A&D and things like that is with conversely no improvement in liquidity there, but if -- if it's a multi-family project or something that has at least reasonable cash flow and the prospect of reasonable cash flow we're seeing some liquidity there.

And then as I said earlier, we're seeing some increased liquidity in the secondary corporate loan market as well.

Thank you.

We had some fore plan loans to pay down.

Yes.

Yes.

The paydown, yes, exactly.

And with no further questions, I'd like to turn the conference back over to Mr.

Henry Meyer for any additional or closing remarks.

Again, we thank you for taking time from your schedule to participate in our call today.

If you have any questions, follow-ups that you'd like to discuss, based on some of the comments that we've made, please don't hesitate to call Vern Patterson, Key's Head of Investor Relations at 216-689-0520.

That concludes our remarks.

I hope everyone has a great day.

Again, ladies and gentlemen, that does conclude today's conference.

We thank you for your participation.