PNC Financial Services Group Inc (PNC) 2009 Q3 法說會逐字稿

Good morning.

My name is Shawn, and I will be your conference operator today.

At this time, I would like to welcome everyone to the PNC Financial Services Group earnings conference call.

(Operator Instructions) Thank you.

Mr.

Callahan, you may begin your conference.

Thank you.

Good morning, everyone, and welcome to today's conference call for the PNC Financial Services Group.

Participating on our call this morning will be PNC's Chairman and Chief Executive Officer, Jim Rohr, and Rick Johnson, Executive Vice President and Chief Financial Officer.

The following statements contain forward-looking information.

Actual results and future events could differ possibly materially from those that we anticipate in our statements, and from our historical performance due to a variety of factors.

Those factors include items described in today's conference call, press release and related materials and in most of our -- and our most recent 10-K and 10-Q filings, and other various SEC filings available on our corporate website.

These statements speak only as of October 22, 2009 and PNC undertakes no obligation to update them.

We also provide details of reconciliations to GAAP and non-GAAP financial measures we may discuss.

These details may be found in today's conference call, press release, and our financial supplement in our presentation slides and appendix and in various SEC reports and other documents.

These are all available on our corporate website, PNC.com in the Investor Relations section.

And I would now like to turn the call over to Jim Rohr.

Thank you, Bill.

Good morning, and thank you for joining us today.

In these challenging times I am very pleased with the performance of our business model.

In the third quarter we had strong revenue performance, reduced costs, and we continued most importantly to grow clients.

We also began to see signs the rate of credit deterioration has eased.

Thinking about the economy, certainly appears that the economy has stabilized.

While we expect unemployment to continue to increase through year-end, we are seeing some signs of tangible recovery.

When we look at our balance sheet, we believe it is well-positioned.

In the third quarter we further increased our capital, and we strengthened our loan loss reserves.

e're very pleased with our deposit franchise.

We remain core funded, with a loan to deposit ratio of 87% as of September 30th.

Our bank liquidity is excellent, and we have been able to access markets in order to fund our holding company obligations.

Our revenue and expense performance for the quarter resulted in pre-tax pre-provision earnings of $1.7 billion, well in excess of our credit costs of approximately $900 million.

These are encouraging signs, but also encouraging is that the pace of our credit quality deterioration may have eased.

As a result, PNC reported third quarter earnings of $559 million or $1.00 per common diluted share.

In the quarter the impact of the TARP preferred dividends was $95 million or $0.21 per share.

Year-to-date earnings were $1.3 billion or $2.17 per common diluted share.

And this is a very solid performance performance we believe, and I am very pleased with our results.

It is important to note we have been profitable in every quarter since the economic downturn began in the middle of 2007, other than the fourth quarter of 2008.

And only then because of the conforming provision we took for National City that quarter.

Turning to our customers, we continue to see strong product sales activity in the third quarter.

Our client retention trends are strong in all markets, as reflected in our solid revenue performance.

We see meaningful product sales opportunities in legacy National City markets.

nd results should continue to improve as we complete the customer conversions.

In Retail Banking, our focus is to win in the payment space, and in the third quarter checking account relationships grew by 4% on annualized basis.

Active online banking increased by 12% annualized, and online bill payment customers rose by 16% annualized.

This growth was driven in part by investments in our brand, and innovative products such as virtual wallet.

Those gains excluded the impact of the required divesture of 61 branches with $4 billion in deposits that we completed by early September.

Corporate and institutional banking had a strong third quarter as lower credit costs benefited the results.

We saw good results, as we are increasing cross-selling of our products and services to legacy National City customers.

And we continue to be a leader in serving our business clients.

Through the first nine months, PNC again ranked first nationally in the number of traditional middle market loans indications arranged.

Our Asset Management Group which includes wealth management saw its assets under management increase to $104 billion at September 30th, as a result of higher equity market values and improved net flows.

Client retention and satisfaction rights continue to be strong, and the business pipeline for the fourth quarter is accelerating.

Residential margin banking performed well in the third quarter, primarily driven by lower expenses.

In November, we will rebrand our mortgage business as PNC Mortgage.

And this is more than a name change.

Instead it reflects the strategy of a new leadership we put in place at the beginning of the year.

PNC Mortgage will be a top ten retail mortgage lender, offering mortgage products as a means to deepen customer relationships consistent with our moderate risk profile.

This line of business also provides high quality assets for investment.

Turning to Global Investment Services, asset based fees increased in line with the improvements in the equity markets and client growth.

We are seeing the benefits from expense reduction efforts that were initiated in previous quarters.

And Global Investment Services continues to have a strong sales pipeline, and I am pleased with the relative performance of this business.

BlackRock you saw, reported a quarterly profit of more than $300 million in the third quarter.

Rallies of equity and fixed income markets, along with improved investor sentiments drove the improved results.

BlackRock also announced that its pending acquisition of Barclays Global Investors is on target to close on December 1st.

This will provide PNC with additional capital upon closing, assuming BlackRock's current stock price.

A distressed asset portfolio is focused on maximizing the value of our distressed loans.

We made good progress in disclosing -- in disposing of foreclosed assets through the sale of more than 1,200 properties in the third quarter, bringing the total number of properties disposed to almost 4,200 for the first nine months of the year.

Turning to credit availability, PNC remains committed to meeting the credit needs of qualified customers.

Through the end of the third quarter, refinances under the Home Affordable Refinance Program totaled $242 million.

Our servicing unit sent out more than 60,000 workout packages to troubled borrowers under the Home Affordable Modification Program.

On the commercial side we continue to reach out to small businesses and corporations.

Despite slow demand, we originated more than $900 million in small business loans in just the third quarter.

And we continue to be a leader in loan syndications, arranging more than $9 billion in business loans for the first nine months of the year.

Now let me turn to the integration of National City.

I am very pleased with our efforts here, particularly the teamwork we're seeing from our legacy National City and PNC colleagues.

Together our employees are working very hard on this integration, and I appreciate their ongoing efforts and their enthusiasm.

We are just a few weeks away from our first wave of customer conversions, which is will involve National City business and consumer customers in western Pennsylvania, eastern Ohio, and Florida.

Customers in those areas have been contacted, and provided with the details on how their accounts will be converted to PNC products and services.

And we conducted successful mock conversions in September and October.

The remaining customer conversion waves will run through June 2010, six months faster than our original estimate, and our goal is a seamless transition for customers.

And I believe we will reach that mark, given the investments we are making and our solid preparation.

The tremendous leverage we expected from this transaction is having a positive effect on our results.

One of the reasons is, that we're well on our way to achieving our cost savings goal.

On annualized basis we have already captured more than $800 million in cost savings against our two year goal of $1.2 billion.

And we're confident that we will exceed that $1.2 billion at this point.

The acquisition of National City was accretive to our year-to-date earnings, and we expect it to be accretive for the full-year.

Let me turn to the balance sheet.

Critical to our success is transitioning to a higher quality balance sheet, and we made significant progress towards that in the first nine months of the year.

We believe our balance sheet is shown on slide 4 is well-positioned and continues to differentiate us.

The size of our balance sheet has declined since the end of the second quarter.

We reduced high cost deposits, completed required brands divestitures and have seen loans decline due to reduced originations as well as lower utilization levels, paydowns and charge-offs.

However, our balance sheet reflects improved funding which Rick will discuss in a couple of minutes.

On the deposit side total deposits are down $9 billion since year-end.

However, the mix is important.

We continue to grow our core deposit relationships.

In the first three quarters of the year our transaction deposits increased by $11 billion.

Those gains were more than offset by the reduction of our higher rate brokered and retail CDs.

Now the greatest challenge we see is on the asset side.

Loan to bank continues to be soft across the country, although the opportunities we do see are providing much better returns for the risks we are taking.

As a result, loans decreased by almost $15 billion since year-end, despite originating more than $83 billion of loans and commitments through the first nine months of 2009.

And with the combination of PNC and National City, we have a large client base and more than $16 billion in annualized revenues.

In the third quarter our ability to grow revenue and effectively manage expenses continued to generate pre-tax preprovision earnings that more than covered our credit costs.

On a year-to-date basis, revenue was nearly $12 billion.

Our pretax pre-provision earnings of $4.5 billion were more than $1.6 billion above our credit costs, providing a solid contribution to the increase in our capital ratios.

In the third quarter we delivered $4 billion in revenue, and we continued to focus on expense control.

For the quarter our noninterest expenses of nearly $2.4 billion were down 10% on a linked quarter basis.

By continuing to manage the revenue expense relationship effectively, our pretax pre-provision earnings for the quarter were $1.7 billion, or $750 million more than the cost of credit.

Now Rick will provide you with more detail around our third quarter results beginning with our revenue performance.

Rick?

Thank you, Jim.

And good morning, everyone.

I am going to focus on the key drivers of revenue and expense, our loan book and reserve levels, the repositioning of our securities portfolio and our capital growth.

I will also provide you with some additional guidance around the sustainability of our strong third quarter performance.

Let me begin with net interest income which was 55% of total revenue.

Our balance sheet produced net interest income of more than $2.2 billion, which was up slightly from the second quarter.

The ongoing transitioning of the balance sheet resulted in a net interest margin of 3.76%, 16 basis points higher than last quarter.

The largest benefit to our net interest income was on the funding side, where the deposit rate declined from 1.25% in the second quarter, to 1.04% in the third quarter as we continue to reprice our deposit funding base.

And the rate on borrowed funds declined 40 basis points due to debt maturities.

We expect the funding rate to continue to improve in the fourth quarter, given that we have about $7 billion of higher rate CDs maturing, that we believe we can reprice at much lower rates while retaining a large part of the core relationship based accounts.

In addition, the balance sheet as of the end of the third quarter, was highly asset sensitive with a duration of equity of negative two years, giving us substantial opportunities to invest in the future.

Noninterest income of $1.8 billion represented 45% of total revenue, and was also up slightly from the second quarter.

These sources of revenue are primarily customer related, and remain high quality and diversified.

As expected, residential mortgage fees were down linked quarter ,driven by less refinancing activity as mortgage rates increased.

Looking ahead to the fourth quarter, we would expect net interest income to be relatively flat.

And our net interest margin to improve as we capture the remaining benefit from repricing our high cost deposits.

And redeploying some of the balance sheet liquidity into securities portfolio.

We would also expect client-related noninterest income to continue to improve as equity markets have improved, and we integrate our product offerings.

Let me take a moment to talk about our focus on expense management.

As Jim said, our third quarter noninterest expenses of nearly $2.4 billion were down 10% linked quarter.

Excluding the FDIC special assessment in the second quarter, the reversal of a portion of the charge for the Visa indemnification and ongoing integration costs, expenses were down $44 million on a linked quarter basis, reflecting additional integration savings of $60 million, bringing the total savings for the quarter to $200 million.

And year-to-date savings related to the acquisition to more than $460 million.

The right side of the chart highlights some of the actions we have taken to achieve our integration cost savings, and reflects our focus on continuous improvement that is an integral part of our corporate culture.

As we look ahead to the fourth quarter, we would expect savings to exceed $660 million, well in excess of our 2009 goal of $600 million.

We remain confident that we will exceed our $1.2 billion annualized cost savings target by mid 2011.

We're in the process of finalizing the 2010 budget now.

And given our progress to date, I expect to raise our cost savings target in January of 2010.

In the current economy, clearly the focus is on credit quality, so let's take a look at our loan portfolio on slide 8.

Our loan portfolio represents only 59% of our total assets which is at the lower end of the peer group.

Now let me begin with our core portfolio, which excludes our distressed assets.

Overall, the core portfolio of $141 billion is diverse, relatively balanced with 41% from consumer lending, and 59% from commercial lending.

It is primarily in our geographic markets, and the majority is collateralized.

Our core commercial portfolio of more than $62 billion, is primarily comprised of diversified middle market relationships in our region.

It is well-balanced, with no concentrations in any one sector.

The two largest sectors are manufacturing and retail, with a combined total of $20 billion.

Both are holding up relatively well in the current economy.

The greatest pressure we saw in the third quarter was in the financial services sector, where NPLs increased by $140 million driven by two large nonbank credits.

We have already sold 50% of one of these exposures at $0.90 on the dollar.

Our exposure to commercial real estate sector of 9% of total assets is among the lowest concentration in our peer group.

When you exclude the $3.2 billion of residential construction loans and our distressed portfolio, our core real estate outstandings of $21 billion is only 13% of our total loan portfolio.

This core portfolio includes $8 billion of commercial mortgages which are performing well.

The remaining core commercial real estate book of $13 billion is primarily real estate projects with average outstandings of less than $10 million per loan, that are well diversified in terms of asset classes and geography.

While the environment remains challenging, and we expect further losses in this book, we believe they will be manageable for the following reasons.

First, we don't see the over building as we did in previous cycles.

Second, we believe the underwriting for legacy PNC was more rigorous than many of our peers.

And, third, our acquired loans have been marked and are well reserved.

Now let's take a look at the consumer side.

Core home equity loans and residential real estate make up more than 71% of our consumer -- core consumer lending portfolio.

The remainder of $16.5 billion is primarily comprised of education loans, credit card, and auto loans.

And all are performing as expected in this environment.

Both our core home equity and core residential mortgage portfolios are relatively high quality, and overall are performing well, especially in comparison to many of our peers.

Net charge-offs for core home equity loans were 52 basis points in the quarter.

And in the same period they were 50 basis points for core residential mortgage loans.

Now turning to our distressed assets, this portfolio had $19.7 billion of loans at the end of the third quarter.

And page 19 of our financial supplement describes the makeup of this portfolio.

The distressed portfolio includes $7.8 billion of impaired loans, that were marked down by 37% at September 30.

In other words, when the allowance for loan losses of more than $900 million associated with these loans, this segment is included.

The entire distressed portfolio is being carried at about 75% of the outstanding balance.

The goal of our distressed loans is straight forward.

We to want optimized the economic value of these assets, and I am confident with the tools and the talent to meet this objective.

And so far, the loans assigned to this segment are performing as we expected.

Now let me summarize our credit -- total credit book and it's performance.

First, overall past due loans appear to be stabilizing.

And while nonperforming loans were up in the third quarter, the growth rate is lower than the previous quarters.

Second, as expected, we continued to see stress in commercial real estate, and the mortgage sectors, but the pace of the deterioration has been manageable.

Third, net charge-offs in the third quarter are down 18% to $650 million, compared to the linked quarter charge-offs of $795 million.

Our allowance for loan losses is $4.8 billion, or nearly 3% of total loans versus a current annualized charge off rate of 1.59%.

Even still we expect to continue to add to reserves in the fourth quarter, as we project our fourth quarter provision to look similar to the third quarter.

And fourth, the fair value marks in our impaired loans stand at $6.6 billion at the end of the quarter.

This is 37% of impaired loans outstanding.

This means we have a total of $11.4 billion, or nearly 7% of our loans outstandings in reserves and fair value marks.

We believe this loss coverage is substantial and appropriate.

Slide 9 looks at our investment securities portfolio.

This $54 billion portfolio represented 20% of our balance sheet at the end of the third quarter.

Our goal is to have the securities portfolio that consists of high quality, well diversified assets.

Since the end of 2008, we have made considerable progress in reducing the risk of this portfolio.

We have enhanced our investments and lower risk asset classes by increasing our purchasing of Treasuries and government agency securities.

Where opportunities existed to sell non-agency securities at a gain to cover the cost of our OTTI charges, we did.

We also saw improvements in credit related OTTI charges from $55 million in the second quarter to $129 million in the third quarter, and we expect this trend of improvement to continue.

We have stated before that the underlying assets and the portfolio are high quality.

The unrealized pretax losses this portfolio improved by $1.6 billion in the third quarter.

And has improved by $3.2 billion from year-end, primarily due to better market conditions in both agency and non-agency securities.

As you can see, we are recapturing a substantial portion of the market valuations, and this has a positive impact on tangible common equity.

And we continue to see capital as a key differentiator and effective capital management as an integral part of our business model.

Since year end 2008 we have increased common equity by $3.5 billion to $21 billion, due to retained earnings, and the reduction of the marks a securities portfolio.

As shown on slide 10 we have strengthened our capital ratios throughout the year.

As of September 30th, Tier 1 common ratio was an estimated 5.5% ,and our Tier 1 risk based capital ratio was 10.8% estimated.

These increases have been driven primarily by growing retained earnings and reductions in risk weighted assets.

Now, keep in mind that these ratios already reflect the impaired loan marks of approximately $6.6 billion as of the end of the third quarter.

The losses related to these marks are behind us.

We see further enhancements to these ratios on the horizon.

First, we expect fourth quarter results will again be a accretive to capital.

Second, unless loan demand strengthens, I think we will have modest balance sheet contraction reducing risk weighted assets.

And third, in addition to executing our business model if the BlackRock BGI transition closes this year, we would expect a significant after tax gain of over $700 million based on the current BlackRock share price, which would add an additional 30 basis points to our Tier 1 ratios.

Our position on TARP repayment has not changed.

Our plan is to repay TARP as soon as appropriate, and in a shareholder friendly manner subject to approval by our banking regulators.

As you can see, we're building capital that should allow us to achieve this objective.

As I said before, our goal is simply to execute on our business model.

As you can see, we're making strong progress on each step in our plan.

And with that, I will hand it back to Jim.

Thank you, Rick.

Slide 11 is a score card we use to measure our progress as we integrate National City, and apply PNC's business model to our new franchise.

You saw this at the Barclays presentation.

These goals are not new.

Instead, these goals represent where we were prior to the recession, and prior to our acquisition of National City.

And they reflect our efforts as we work to transition our balance sheet and position the Company for future growth, which we were prior to either one of those items.

As evidenced by our third quarter performance, I believe we're making good progress against these targets.

We now have a large client base, and more than $16 billion in annualized revenues.

And we believe there are three reasons why we can build on these opportunities.

First, as Rick disclosed and discussed with the marks we have taken on the impaired loans, we believe our credit costs will decline faster than others as the economy begins to recover.

Our third quarter results indicate the rate of credit deterioration has eased.

Second, we expect to exceed the $1.2 billion in annualized integration expense savings.

We made significant progress in the third quarter, and we're confident that we can achieve that objective.

Finally, the acquisition of National City provides us with a larger distribution platform for cross-selling our products and services.

And we have just begun to see increased revenue across the franchise in the third quarter.

Looking ahead, improving markets should further enhance income from our fee-based businesses.

And our assets sensitive balance sheet provides us with a great deal of flexibility.

Our return on assets in the third quarter was 0.81%, making our year-to-date ROA 0.62%.

We obviously have higher aspirations than that.

And as the economy recovers, and once we're able to repay TARP, I believe we should be able to deliver returns consistent with our historical performance in excess of 1.3% on assets.

Now, as I reflect on the first nine months of this year, I am very pleased with how we performed during this difficult economy.

Our proven business model continues to demonstrates its effectiveness.

Clearly, we have an established framework for success.

The economy is beginning to show signs of stabilization.

And we're seeing signs that the pace of credit quality deterioration may be easing.

The acquisition of National City continues to exceed our expectations, and we're ready to begin the first wave of the client conversions early next month.

We have got a very strong team, and we're focused on execution.

Clearly, we believe our enterprise will create tremendous opportunities for shareholder value as we continue to build a great Company.

With that, we're pleased to take your questions.

Operator, could you give our participants the instructions, please?

(Operator Instructions)

Your first question comes from Paul Miller with FBR Capital Markets.

Yes.

Thank you very much.

Can you go into a little bit more detail about your NIM.

It was a very strong NIM, and very strong growth.

And I believe you guided to relatively flat NIM growth.

But what exactly are the benefits coming through on the Nat City purchase accounting marks?

I think the street has been very confused about what exactly the accretion is, and do we have to back anything out going into next year?

I know you said it should be strong going into next quarter, but what about 2010?

Can we expect this same type of performance from the NIM?

Or was some of it backed out because of accretion impact will be lower?

I think we're actually getting more benefit than the purchase accounting attributes to us.

Because when we did the marks on the deposits, so there's about a 2% mark.

We're actually repricing all of those below 1.8%.

So, we're actually doing better than those marks.

But we're also repricing a lot of PNC retail CDs as well, probably coming down in the fourth quarter from an average of 3% down to again less than 1.8%.

So we're not giving guidance going forward, but I will say we have a substantial number of deposits which will also reprice in 2010.

So, yes, I do expect the benefit to continue.

Okay.

And can you real quick address the marks?

What is your average marks?

I don't know if you disclose it or not in your nonperforming asset portfolio.

When you moved that stuff in, what is the overall portfolio on the on the marks?

And then what was the new stuff you brought in?

What type of marks did you put on it?

We have approximately $6.6 billion of marks on the impaired loans we have.

That brings that overall balance down to about $11 billion in total.

So it would be about $17 million pre the marks.

And on the rest of the portfolio, we got $4.8 billion worth of allowance.

If you add the two together, you get close to 7% of loss coverage on our total credit exposure.

I meant more in the sense of your nonperforming assets.

Like when it goes from delinquent into your NPA, that's where the bulk of the charge-offs are coming from, am I correct?

And most companies are telling us they're marking them somewhere between $0.65 and $0.75.

And I was just wondering, what is the overall marks inside that nonperforming assets portfolio, and what was the new stuff that came in this quarter?

When a loan goes to nonperformings, you don't take a mark on it.

You would set aside a reserve for it, but you wouldn't take a mark on it.

So it's a - there is a whole range of different types of nonperforming assets, whether they're collateralized or uncollateralized.

So when it goes into OREO or the impaired portfolio that we took on when we bought National City, those are the marks that Rick is talking about in the impaired portfolio.

Okay.

I am just saying most banks have told us like our NPAs are marked down like to $0.65 on the dollar, either be it the reserves set aside for it or not.

I am just wondering I guess, if you have those similar type of numbers?

If not, I can take it off line.

I think if I understand what you're trying to get to.

On our nonperforming loans we have specific reserves of approximately 25%.

Okay.

That's it.

Okay.

Yes.

Thank you very much, gentlemen.

Next question, please.

Your next question comes from Mike Mayo with CLSA.

Good morning, Mike.

Just first, as far as TARP, you're still a TARP bank.

What are you thinking about there, and what would be the financial impact if you were to pay back TARP?

How do you think about that?

Well, we're not in a rush to pay back TARP simply because although the recession is technically over, it doesn't feel like the recession is over.

And we expect the housing prices and unemployment to continue and increase, and housing prices to continue to decline somewhat.

So we're still relatively conservative in terms of the economy, although we have seen some stabilization for sure.

I think the issue for us is to pay it back over a reasonable period of time.

I would expect we will be beginning conversations with the regulators to pay it back perhaps over the next 15 months.

And I think we'll do it in a shareholder-friendly manner.

We built these capital ratios up, and we will continue to do so as Rick mentioned.

If you look at the Tier 1 ratio that many peers were able to reduce their capital ratio to, when they paid it back, that was around 9%.

We're at 10.8 right now.

When we get the BlackRock gain that will be worth 30 basis points taking us over 11 on presuming it closes on December 1st as scheduled.

And we expect to be continuing to build our capital ratios in the quarter.

The balance sheet continues to reduce.

We got a $20 billion distressed book that we have approximately $2 billion worth of capital supporting that.

We wouldn't expect that to be around forever.

So I think we'll be able to pay it back in a shareholder-friendly manner without having to do a some huge capital raise like other people have had to do.

I think we'll be really conservative in that.

And so is it a matter of you deciding when you want to pay it back, or you need the approval?

Of course you need the approval.

Of course you need the approval.

I am sorry I left that out.

I shouldn't.

And then separately the HAMP program.

How -- like what percentage of your mortgage loans have modified, and how is that impacting some of the delinquency or charge-off data?

It is a small percentage.

It is a small percentage.

I would guess it is a small percentage of our charge-off data as well.

It is.

Next question, please.

Your next question comes from the line of Betsy Graseck with Morgan Stanley.

Good morning, Betsy.

Hi, good morning.

Just on the question regarding HAMP.

I think the concern that some folks in the industry have is that the recidivism is not very good.

And that shadow inventory in housing is building, and this is going to hit banks and your institution as you move into 2010.

I am just wondering if you can give us some color as to the modifications that you have done so far to date?

How those have been going?

I am sure you are watching them very closely.

Could you give us some color as to how you expect to deal with borrowers who might not be able to make the payments long-term?

And give us some sense as to what you can potentially do to manage through that process.

Sure, Betsy.

We have done about 9,000 modifications so far.

And about 4,000 of those have been under HAMP.

And the others non-HAMP type programs.

It is an impact on about $1.7 billion overall of loans that we have.

But you're right.

I think there is a question around how successful are those going to be over time.

Our rate is in terms of success is pretty consistent with the industry.

I think the industry is about 54% or right around that same level.

You're absolutely right.

I think over time, as we work through here, that we'll be more assets, certainly moving into the OREO portfolio.

And that's why we have been very active in terms of selling them out, and have sold out over 4, 200 properties year-to-date.

So we have been building up resources there to be prepared for exactly what you're anticipating.

And does your reserve reflect expectations with regard to people who can make it or not make it through these type of programs?

Yes.

Okay.

That's great.

Thanks.

Next question, please?

And your next question comes from Ed Najarian with ISI Group.

Good morning, guys.

I have two questions.

First, Rick, in prior quarters you were laying out the dollar amount of the accretable yield from the purchased accounting marks, back through net interest income.

Can you give us that number for the third quarter, and remind us again what it was in the second quarter?

Yes, in the second quarter I gave you a number related to deposits in particular of about $253 million.

Okay.

That number is down about $60 million, Ed.

But again, all of that value is coming to us through the repricing of the deposits.

So that accretable yield number is down about $60 million from $253 million in 2Q?

The deposit piece, that's correct, yes.

And again, all of that comes back to us because we've repriced those CDs at rates below the 2% mark that created that purchase accounting accretion.

So the loan numbers haven't changed dramatically at all.

Weren't you previously given us a bigger number that I guess included the asset side and the deposit side?

We were, Ed but we got too much confusion I think in our discussions about how people should treat those.

And the bottom line is, we're able to grow the margin because we're able to actually achieve those values, and the detail wasn't adding any help to the story.

I guess the message you're giving us is to sort of forget about that old line of thinking, and just go with your new view in terms of sort of a stable or up margin?

Yes..

I think you saw the margin go up 16 basis points from the second to the third quarter.

I think you can expect similar improvement going from the third to the fourth.

If you would turn, Ed, and I know it is a busy morning, but on page 5 of the supplement, it describes really how the funding costs have come down on the deposit side, and that's very consistent with Rick's comments.

We took the purchase accounting mark to 2%.

And now we rewriting them at 180 and 170, so we're actually getting more than the accretion.

We're realizing more than the accretion.

Okay.

Alright, then my second question just has to do with the $314 million that you have classified as other noninterest income.

I think there was a line in there, I can't find it right now, but talked something about net asset valuation improvements included in that number.

I guess if you could maybe give us some context on that number, and if there were anything that you would regard as nonrecurring gains within that number?

It is very well diversified.

I think you see some modest private equity gains, I am talking less than $20 million.

Some modest trading gains, number like 30.

So you just asset values BOLI income, which we have every quarter improving in value, modest amounts of gains on sales distributed across five or six books, so and nothing there substantial, Ed.

I think what you are seeing -- we also had -- we did have one item which was the BlackRock gain, and the fact they did raise capital in anticipation of the BGI deal, so we had 29 million on that.

But these are relatively small, very diversified.

I think what you saw in the second and third quarters is a pretty stable performance that you can continue to expect.

So it is not unrealistic, Rick, in your mind to think about that line item being in the $300 million range in future quarters.

That's correct.

Thank you.

Your next question is from Moshe Orenbuch with Credit Suisse.

Thanks.Good morning.

Can you talk a little bit about the kinds of securities you're adding, what the tenor of that is?

And you did mention that the balance sheet was still asset sensitive.

Can you talk about the degree of asset sensitivity?

We're buying primarily agencies and Treasuries, and we're buying very short dated.

I think we feel at the moment it is important to keep liquidity, and stay asset sensitive at the time.

We think as we get into the new year, I think as unemployment might be peaks, the economy starts to come back a little bit, the government stops buying assets off the market in terms of both residential mortgages as well as Treasuries, and they finish up their programs, then we think maybe rates will go a bit higher, and we'll have an opportunity to invest a little longer term.

And also just keeping a lot of liquidity.

I think we -- it's just important at this moment.

We think the economy has started to improve.

But we want to be cautious, not to be overly confident about where the economy goes at this stage, so we're investing in very short dated assets.

Okay.

Thanks.

Your next question comes from David Konrad with KBW.

Hello, David.

Hey, good morning.

My questions were asked and answered.

Thank you.

Thank you.

Your next question comes from Heather Wolf with UBS.

Hello, Heather.

Hi, good morning.

I am sorry if I missed this.

But can you guys tell us of the $1.7 billion in loan mods what dollar value is carried under nonaccruing, and what's carried under accruing?

Heather, let me call you back.

I think we have to take that off line.

I am not sure we have that level of detail here this morning.

Okay.

And then just a quick follow-up on Ed's question.

Can you explain to us why we -- some of us may have been sort of thinking about the purchase accounting accretion wrong?

Are those -- I think you had told us as of the second quarter that you had accrued $1.1 billion.

Should we think about that as sort of staying in your lending revenues going forward, or are we thinking about it wrong?

Well actually, we accrued $1.1 billion over the first two quarters, but the second quarter was much lower than the first.

It was actually down by 130.

And again I would say that the third quarter will be down again.

But it is all driven by deposit accretion, and all that deposit accretion is being captured through the repricing of the CD portfolios at National City.

Okay.

Bill, I will follow up with you on that one as well.

Thanks so much.

I appreciate it.

(Operator Instructions)

Your next question --

I think if I could, one of the things that's important is that when we talk about accretion, people perceive that it is accounting.

I think what we're saying is, that the cash being received and paid out, is now in a -- the benefit of it, because of the declining rates, and the way we have been able to manage our funding costs, is in excess of the accounting assumption that we made at the beginning of the year.

So the realization is very real in terms of cash, lower cash expense for our deposits.

So that's why I think Rick has pointed out, it is just in the system now, because we have recognizing in a very real way in the marketplace.

Our next question, please.

Yes.

Your next question comes from Gerard Cassidy with RBC Capital Markets.

Hi, Gerard.

Good morning, guys.

Good morning.

Can you give us some color on the National City business that used to be called the rest of NAT City, meaning it wasn't the First Franklin, or real estate lending, but it was their core basic business in the midwestern part of the United States.

How is that doing in view of the recession?

nd are you seeing any early signs of it starting to stabilize and improve assuming that it got hit by the recession?

I think there is a number of ways to look at National City.

As you know, we tried to acquire National City a number of times because of the core business that they had.

The deposit business of National City has done extraordinarily well this year.

They have raised the transaction accounts dramatically over the course of the first nine months.

I think they increased demand deposits by $3.5 billion in the first four or five months, so the deposit business is very good.

I would say that generally speaking, if you look at their home equity book has been very good.

Their commercial loans have worked out well, given the economic environment.

But when you look at what National City did in its various silos that caused significant problems, you had one part of the company which, for example, in the core business was cutting back its exposure to the big 3.

So that on a combined basis today we're less than $50 million to the big 3.

But on the other hand, they originated and bought $9 billion of brokered home equity from around the country.

That obviously has done poorly, and that's a big part of our impaired book.

And then they acquired two banks in Florida.

And clearly the assets, the timing on that was very, very difficult.

That became a big part of our impaired book.

So I think when you look at the core business of National City, it is doing very well.

And the issue for us is to eliminate the subprime as you brought up, the subprime, the brokered home equity and some of the ancillary activities they got into.

And I think that's what we're doing.

We were able to take charges and reserves, $12.5 billion, I believe it was at the close of the transaction, and move those issues or the losses on those issues up front.

And I think that's coming home now.

The other thing is, that because they were so siloed, they really didn't cross-sell products at all.

For example, at PNC we cross-sell eight times as many dollars per customer of Capital Markets customers -- Capital Markets revenue as they did, three times in the Treasury Management space.

The Treasury Management has already taken off, and the Capital Markets will come along.

We're starting to see signs of it.

Working as a team is something that National City didn't do as well as they might have, and they are now.

There is a lot of opportunity there.

Have you guys put incentive plans in place to encourage the National City folks to cross-sell these pockets?

Yes.

You're exactly right.

I mean that was the big issue.

The lenders were paid to be lenders, and were paid only on a lending basis and not paid or rewarded in anyway to cross-sell other products.

And so whether it is workplace banking, whether it is -- they didn't really refer anybody to the private bank.

We have basically changed that, and they have really come on board operating as a team extraordinarily well.

Speaking of lending, your loan portfolio obviously similar to the industry is shrinking, because of the economic conditions in the country.

Historically it takes awhile, though we know Washington is complaining that the banks aren't lending.

They don't -- I guess realize banks are in the business to lend, and you guys would like to lend more if the demand was there.

When do you see loan demand coming back?

Is it something that you could -- assuming the U.S.

economy is expanding in 2010 and we're back into a growth mode?

You won't see a lot of expansion in the economy unless you do see expansion in the credit space.

So I think there is a few things that has to happen.

I think the consumer has to be more confident in their position.

I think stable environment, whether it be governmental or economic, I think is very important before the consumer starts buying again.

You've seen this savings rates go from 1% where they were for twenty years to last time I saw was 6.7% in a month.

And so they're paying down their credit cards, paying down their home equity loans and they're saving money.

So we have to get back to a stable position there.

And I think you have just started to see corporations start to spend money on capital expenditures.

Whether that's a blip, or whether that's sustained.

And then of course, the stimulus money hopefully will come in next year which causes people to spend money, capital money.

So those kinds of things would incent borrowing as well.

We would love to see borrowing come back.

I don't see it turning around in the immediate future.

But hopefully the economy turns around next year, you will see it on demand next year.

Utilization rates are from what I can tell an all time low for utilization of credit facilities, so if the economy starts to come back, I think that could change in a hurry.

You mentioned that on the credit deterioration, some of the credits in the finance space were drivers of credit deterioration in quarter.

You also I think said that you sold one of those credits at $0.90 on the dollar.

On page 10, was the credit that was sold, was it the number one or number two credit that was listed there as your largest nonperforming asset?

Yes, it is the number one credit.

We knocked that exposure in half.

And the finally, just trying to take a stab at the accretion from the purchase accounting.

Is it safe to look at it that because you guys were assuming the 2% cost of funds, and now cost of funds is less, that the initial estimate was too low, and you're getting additional benefit now from the purchase accounting because the cost of funds are lower than the 2%?

Well, the initial estimate was done as of 12-31-08, so as of the end of last year, and rates have come down obviously since then, so we have been able to do better.

Deposit rates come down, a lot less competition today than the end of the year, so deposit rates are down.

The real -- the thing I think people also might not be picking up on.

We're repricing all the PNC CDs.

And we didn't have marks on those, and we're dropping those from 3% down to under 2%, so there is that additional value coming in there as well.

I see.

So if you would have.

again I know rates were a lot different in the market was different when you guys made these assumptions, if you would have assumed 1.8% on the deposit side, for example, then the initial assumption on accretion would have been greater back in '08.

Is that correct?

If that were the market environment then, that's correct, yes.

Okay.

Great.

Thank you.

But we still would not have estimated the total benefit from the lower rates, because we wouldn't have marked the PNC book.

Yes.

True.

Okay.

Thank you.

Your next question comes from Keith Horowitz with Citigroup.

Hey, guys.

Sorry for another national revenue question, but if you look just on the cash.

If you look at 3Q over 3Q, and kind of do a pro forma margin, pro forma national revenue, your national revenue growth is up 10% year-over-year, your balance sheet is down 7% year-over-year in terms of earning assets, and it implies your margin is up 55 basis points from like a 322 to 376.

So maybe you should forget about talking from the perspective of accretion, just talk about why would the combined margin of two companies be up about 50 basis points year-over-year?

That's clearly something I was missing in terms of modeling the earnings power.

We would of thought Nat's revenue would be running a lot lower.

Well I think if you take a look at page 5, it is easy.

Look at the cost of funds.

It has come down dramatically, even since the beginning of the year, the cost of funds has come down, the borrowed funds and the deposit rates, deposits overall down to 1%.

And we haven't to be a lot of comparisons actually to the prior year, because we're kind of a much bigger and very different Company, but you can see even if you did that comparison, you can see the overall cost of funds coming down from 2.29%, down 90 basis points.

It is about as simple as that.

That increase and while the costs of assets is coming down, it's not as great.

I don't know how else to explain the margin increase, other than the fact that we're getting funds a lot cheaper than we were a year ago.

A lot cheaper than we have assumed at the end of the year.

Okay.

So you think this kind of level of margin of 375 is consistent with how your balance sheet is constructed?

I think it is.

I think we gave in guidance before, we do expect this to continue to go up, because we do expect another $7 billion of retail CDs and brokered CDs to roll off in the fourth quarter.

And we'll be able to reprice those a at below the rates which we have them marked, getting better cash on that side.

As well as a portion of that is PNC CDs which are accruing at 3%, and we'll reprice them below the 1.8 level.

Alright.

Thank you.

Your next question comes from Heather Wolf with UBS.

Thanks so much for taking a follow-up.

Just a quick question on the nonaccretable difference.

One of your peers started giving what the remainder is left in that.

Do you guys have that number?

The nonaccretable difference.

You're talking about the credit mark.

Right.

How much of the credit market have you used so far?

In the quarter we basically used about a $1 billion of that market.

I think last quarter, this quarter it is $6.6 billion.

Last quarter was about 7.5 something like that.

Okay.

And also can you talk about your guidance for lower provision in the context of the increase in nonperformers that you saw?

We actually said the provision would be consistent with the third quarter, so fourth quarter --

Apologies.

Apologies.

We didn't lower the estimate there.

What we did say is that we believe the growth in nonperformers should continue to come down.

Okay.

Wonderful.

Thank you.

Your next question comes from Rick Weiss with Janney.

Good morning.

I think following up a little bit with Heather's last question, can you talk a little bit about the relationship between net loan charge-offs and nonperforming assets?

I was a little surprised that when nonperforming assets did go up this quarter, but the charge-offs came down.

Why would that be?

The charge-offs are very asset specific, and they can be very volatile.

They'll bounce around a bit.

I think the trend you're really want to stare at there is the nonperforming, and watch to see that come down.

Keep in mind also that at National City we took about, what, $2.8 billion worth of reserves at the end of the year related to the portfolio.

At some point we're going to charge those off.

So the charge off number can be very misleading as to where our overall credit quality is headed.

Okay.

Got it.

Thank you.

All right.

Operator, are there any more questions?

There are no further questions at this time.

Okay.

Thank you very much, everyone.

We appreciate it.

We think it was a very good quarter given the environment we're in.

And I think it shows we're making a lot of progress on our plan.

So thank you very much for joining us this morning, and talk to you later if you have any questions.

Thank you.

Thank you all for participating in today's conference call.

You may now disconnect.