PNC Financial Services Group Inc (PNC) 2012 Q3 法說會逐字稿

Good morning.

My name is Myra, 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.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session.

(Operator Instructions).

As a reminder, this call is being recorded.

I will now turn the call over to the Director of Investor Relations, Mr. Bill Callihan.

Sir, please go ahead.

Thank you, Myra, and good morning, everyone.

Welcome to today's conference call for The PNC Financial Services Group.

Participating on this call are PNC's Chairman and Chief Executive Officer, Jim Rohr, and Rick Johnson, Executive Vice President and Chief Financial officer.

Today's presentation contains forward-looking information.

Actual results and future events could differ, possibly materially, by those anticipated in our statement and from historical performance due to a variety of risks and other factors.

Information about such factors, as well as GAAP reconciliation and other information on non-GAAP financial measures we may discuss, is included in today's conference call, earnings release, related presentation material and in our 10-K, 10-Qs and 8-Ks and various other SEC filings and investor material.

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

These statements speak only as of October 16, 2012, and PNC undertakes no obligation to update them.

Now I'd like to turn the call over to Jim Rohr.

Thank you, Bill, and good morning, everyone, and thank you for joining us.

This was an outstanding quarter for PNC.

We earned $925 million in net income, or $1.64 per diluted common share.

Our strong overall performance was driven by our ability to increase the number of customers that we serve, grow loans and fees, resulting in higher revenue.

Total loans increased by $1.5 billion in the third quarter, primarily driven by commercial loan growth.

The majority came from new customers as utilization rates remained essentially unchanged.

As we expected, the rate of loan growth in the third quarter was slower than the first half of the year; however, for the first nine months of the year, loans have increased by almost $23 billion, or 14%, a strong gain.

Fee income of $1.7 billion was up 23% compared to $1.4 billion the same quarter a year ago.

We sold some of our Visa stock during the quarter, which continued to -- contributed to the increase in this category.

But without the pretax gain of $137 million from the Visa sale, our non-interest income was up 13% from the same period a year ago and reflects higher quality as the overall client fee income remains strong.

Now, more than three quarters of our markets were above plan for the first nine months of the year.

Our southeastern markets are performing well and are above our expectations.

Taken together, our sales performance, along with the contributions from all of our employees, is basically driving these results.

Overall credit quality improved, and expenses were well-managed.

And Rick will cover these in greater detail.

At the quarter end, our balance sheet remained core funded with an 88% loan-to-deposit ratio, and we maintained a strong liquidity position.

And we continue to improve the quality of our capital.

We recently issued $480 million in preferred stock with a dividend rate of 5.38% -- 5 3/8%.

The offering was well received by the market.

And during the first nine months of the year, we redeemed a total of $1.8 billion in trust preferred securities that had an weighted average rate of more than 7%.

and obviously retaining these securities is lowering our funding costs.

And finally, our Tier 1 common capital ratio increased from the second quarter and is estimated to be 9.5% as of September 30.

Overall, I'm very pleased with these results.

Clearly 2012 is shaping up to be another strong year for PNC.

Now I'd like to spend a few moments talking about the performance of our business segments.

In all of my years in banking, I've never seen us grow the numbers of customers we serve as quickly as we are today.

Let me begin with Retail Banking.

We're looking to add customers, serve them efficiently -- sufficiently, and deepen our relationships with them through cross-selling.

We added more than 230,000 net organic checking relationships during the first nine months of the year.

Or on an annualized basis, organic checking accounts increased 4% during the same period.

That's twice as fast as the population growth rate in our footprint.

Additionally, we acquired 460,000 checking accounts through our acquisition of RBC Bank USA in the first quarter of the year.

In the third quarter, nearly 70% of our new checking accounts were relationship accounts as more customers are seeing the value of having deeper relationships with us as opposed to having just a free checking account.

As customer behaviors are changing, they want easy access to their money.

Reflecting that need, we deployed more than 1000 image-enabled ATMs through the end of September.

This is a key initiative in our efforts to lower our cost of business and enhance service.

We're also seeing significant growth in mobile deposit, such as using a smartphone to deposit a check.

We're now seeing approximately 8600 mobile deposits per day, up from 7000 since the last time we talked.

Since the beginning of the year, active online banking and active online bill payment increased organically by 12% and 7% respectively.

As more customers migrate to this channel, we should see greater customer retention, as well as cost efficiencies.

Our Corporate & Institutional Bank had a very good third quarter, driven by our focus on customer growth.

During the first nine months of the year, we've added approximately 775 new primary clients in corporate banking as we work to complete our buildout in the Southeast and leverage our regional president model.

While this rate of client growth is lower than what we saw in the past two years, the climate has become more competitive, and we remain focused on earning the appropriate risk-adjusted returns.

These new names are helping to drive loan originations, as well as fee growth.

Average loans in C&IB increased by more than $3 billion late quarter due to strong loan growth from new and existing client activity in corporate banking and real estate finance.

For the first nine months of the year, average loans grew by nearly $18 billion, an increase of 25%.

Treasury Management revenue year-to-date increased by 11% over last year, and capital markets revenue was up 4% during the same period.

Our Asset Management group saw good client growth and improved performance in the equity markets during the third quarter.

For the first nine months of the year, new primary clients were nearly 25% higher compared to the same period last year.

On a year-to-date basis, referral sales were up nearly 21% compared to the same period last year, reflecting strong activity from Retail and Corporate & Institutional Banking.

At the end of the third quarter, assets under administration increased to $222 billion, a 10% increase from the same time a year ago.

PNC Wealth Insight, our tool for wealth management customers, was recently honored by CIO magazine as an innovation that delivers a competitive advantage.

Wealth Insight provides an aggregated view of a customer's assets, even those not managed by PNC.

Clients can customize that view based on how they think about their money.

Approximately 10,000 customers have been given access to Wealth Insight, and the adoption rate now exceeds 70%.

Residential Mortgage saw strong loan production in the third quarter.

Originations were up 29% through the first nine months of the year over the same period last year, primarily driven by refinancing and HARP activity.

We continue to make strides to enhance our purchase originations, and as refinancing activity decreases, this will drive longer-term value for this business.

BlackRock will report its earnings tomorrow.

But overall, our businesses performed very well during the first nine months of the year, setting the stage for a strong full-year performance.

And now Rick will provide you with more detail about our third-quarter results.

Rick?

Thank you, Jim, and good morning, everyone.

Our third-quarter net income was $925 million or $1.64 per diluted common share.

This resulted in a return on average assets of 1.23% and a return on tangible common equity of 14.3%.

In my remarks today, I will focus on our loan growth and the favorable shift in our deposit mix; the impact of purchase accounting accretion on a net interest income and margin; our growth in quality fee income; our overall improvement in credit quality; and our disciplined expense, capital, and liquidity management.

As you can see on slide six, total loans increased by $1.5 billion or 1% on a linked quarter basis.

The primary driver was total commercial loan growth, which increased by $1 billion or 1% due to expanding relationships in the healthcare industry and commercial real estate.

On the consumer side, loan increased by nearly $400 million or 1% linked quarter.

Gains in indirect auto lending of $1.2 billion were partially offset by runoffs in residential real estate and lower education loans.

The growth in indirect auto loans included a portfolio purchased in September of approximately $500 million.

Now turning to liabilities, transaction deposits were up by $2.3 billion linked quarter, reflecting increases in both consumer and commercial liquidity.

Retail CDs declined by $1.2 billion due to the runoff of maturing accounts, and time deposits decreased by $1.7 billion, primarily reflecting lower euro dollar deposits.

Transaction deposits now account for 82% of total deposits, reflecting our strong customer focus, and our overall deposits remained stable linked quarter, resulting in a loan-to-deposit ratio of 88%.

Our Tier 1 common capital ratio improved by 20 basis points due to growth in retained earnings and is estimated to be 9.5% as of September 30, 2012.

Now let's turn to net interest income on slide seven.

Third-quarter net interest income was $2.4 billion, a decline of $127 million from last quarter, reflecting an expected decline in purchase accounting accretion as core net interest income remained relatively stable.

Purchase accounting accretion decreased by $98 million due to lower cash recoveries on impaired loans of $30 million, lower accretion on performing loans of $40 million and lower accretion on CDs of $30 million.

Going forward, we should not expect further material declines related to cash recoveries and CDs, and the decline related to performing loans should be marginally lower.

As you can see from the graph on slide seven, while overall net interest margin contracted by 26 basis points, on a linked quarter basis, the majority of this decline, or 16 basis points, was driven by the runoff of purchase accounting accretion.

In addition, core margin declined by 10 basis points -- 3 basis points of this decline coming from a $17 million charge in the third quarter on debt hedge and effectiveness and a 7 basis point core margin contraction.

Compared to the prior year quarter, net interest income increased $224 million, or 10%, due to strong growth in core net interest income, driven by strong organic loan growth, the RBC Bank acquisition, and a 6 basis points improvement in core net interest margin.

On a nine-month basis, our core net interest income is up $715 million, or 11%, due to strong growth in core net interest income, due to strong organic loan growth, and the impact of the RBC Bank acquisition as our NIM remained relatively stable at 3.93%.

Now looking ahead to the fourth quarter, we expect net interest income will remain stable as we anticipate an improvement in core net interest income will be partially offset by a $30 million to $35 million decline in purchase accounting accretion related to performing loans.

We also expect our core margin contraction to ease, possibly resulting in a stable core net interest margin from the third quarter to the fourth quarter.

As we said before, we expect purchase accounting accretion in 2013 of $650 million will be approximately $400 million less than the full-year 2012 accretion of approximately $1.050 billion.

Despite this decline, we expect total revenues in 2013 to exceed total revenues in 2012.

As you can see on slide eight, third-quarter non-interest income reflected strong performances in several feet categories.

Asset management fees were up $27 million, or 10%, on a link-quarter basis due to growth in primary clients, improvements in the equity markets, and fee income growth.

Consumer and corporate service fees remained stable compared to second-quarter results.

Residential mortgage banking fees were driven by higher origination activity and higher spreads.

These results were offset by lower hedge gains on mortgage servicing rights.

On mortgage repurchase activity, GSE demands continue to track expectations.

The $37 million recorded for the Residential Mortgage repurchase provisions in the third quarter reflects new origination activity and modest refinements to our life of the loan reserve estimates.

Service charges on deposits were up $8 million or 6% linked quarter due to increased customer activity.

Other fee income was higher, primarily due to pretax gain of $137 million on our sale of $5 million of our Visa common shares.

Our Visa holdings had increased in value by nearly 60% during the past 12 months, and we felt it was time to monetize some of this gain.

We continue to hold approximately 18 million shares of Visa Class B common stock with an estimated market value of more than $1 billion as of September 30, 2012.

These shares are recorded on our books at about $300 million, resulting in an unrecognized value of nearly $700 million pretax.

Another driver of other fee income in the third quarter was the increased value of hedges on deferred compensation obligations due to higher stock market prices.

These higher prices also resulted in a similar increase in personnel expenses.

Compared to the prior-year quarter, fee income increased $320 million, or 23%.

When the pretax gain for the sale of the Visa shares is excluded, fee income growth continues to be strong with an increase of $183 million, or 13%.

On a year-to-date basis, and despite the impact of the Durbin Amendment, our non-interest income grew 6% on the residential mortgage repurchase provisions, and these, again, are excluded.

As you can see at the bottom of the chart, the percentage of fee income to total revenue is moving from the high 30s to the lows 40s.

As we continue to cross-sell in our new markets, we expect to see the percentage increase as we continue to deepen our relationships with the growing number of customers we serve.

Turning to slide nine, total expenses were flat in the third quarter compared to the second.

In the third quarter, personnel expenses increased, partially due to the impact of higher equity markets and deferred compensation obligations.

As I mentioned earlier, the impact of the increase was hedged, and a gain was recorded in other non-interest income.

Personnel expenses also increased due to higher business volumes and revenues in Residential Mortgage, Retail, and Corporate Banking.

Other expense declined primarily as a result of higher additions to legal reserves in the prior quarter.

Our core expenses for the third quarter and year-to-date increased compared to the same period a year ago, primarily due to operating expenses related to the RBC Bank and several factors, which include costs to comply with mortgage foreclosure-related consent decrees, and OREO-related costs.

We also continue to invest in our businesses during this period, especially in our newer markets.

Third-quarter integration costs of $35 million, or $0.04 per share, were lower than prior quarter and lower than expected due to the timing of integration expenses.

Looking ahead, we expect integration costs of approximately $51 million in the fourth quarter.

We had non-cash charges of $95 million or $0.12 per share in the third quarter related to redeeming nearly $1 billion in trust-preferred securities.

In the fourth quarter, we expect possible non-cash charges of $67 million assuming a retention in remarketing of approximately $500 million in hybrid capital with a current all-in funding cost of 12%.

If we complete the planned re-marketing process, we will need to replace this funding with bank holding company debt in the near future.

Turning to our continuous improvement targets in 2012, we are looking to exceed a total of $550 million in annualized cost savings at legacy PNC and in integration savings at RBC Bank.

We have identified more than 600 initiatives to deliver these savings goals, capturing more than $417 million in estimated year-to-date savings.

This gives us confidence that we will exceed our cost-saving targets.

Our effective tax rate for the third quarter was 23.6%.

As you know, this rate is generally lower than the statutory rate, primarily due to the tax credits we received from our investments in low income housing partnerships and other tax-exempt investments.

Now overall credit quality continued to improve in the third quarter with the linked quarter declines in nonperforming assets and overall delinquencies.

Our nonperforming assets and net charge-offs results would have been lower, except this quarter in accordance with regulatory guidance, we classified certain accruing consumer loans post-Chapter 7 bankruptcy as nonperforming loans and charts the loan balance down to the value of the collateral.

As a result, NPLs and charge-offs were higher by $112 million and $83 million, respectively.

We also added $50 million to the provision and to our allowance for loan losses during the quarter to provide for these risks.

Approximately 90% of these loans were current on their payments as of the end of the third quarter.

As a result, we expect to see recoveries on these loans.

As expected, our provision for the third quarter was $228 million, was in the range of $150 million to $250 million, and we expect the same in the fourth quarter.

Overall, we expect continued improvement in asset quality in the fourth quarter as well.

Turning to slide 11, our Tier 1 common ratio at the end of the third quarter is estimated to be 9.5%, up 20 basis points from the second quarter, primarily due to retained earnings.

Our capital priorities for 2012 remained the same, and we continue to maintain strong bank and parent company liquidity.

PNC's goal is to be within a Basel III Tier 1 common ratio range of 8% to 8.5% by year-end 2013 without the benefit of phase-ins.

We believe we are well-positioned to reach this goal.

As Jim mentioned, we recently issued another $480 million in preferred stock.

This brings our overall preferred position to $3.6 billion of qualifying capital under Basel III.

This brings us to within $1 billion of our goal of $4.6 billion, or 1.5% of the Tier 1 capital structure.

As we get more clarity about the new Basel III rules and progress with our model development, we will increase our capital disclosures.

Overall, this was a strong quarter for PNC, and with that, I will hand it back to Jim.

Thank you, Rick.

Overall, we believe our focus on attracting new customers, growing revenue, and effectively managing expenses and capital represents a winning formula for creating long-term shareholder value.

Our third-quarter performance reflects these factors, and we believe the full-year reported performance will also be strong.

As we look ahead, we've clearly positioned the firm for a low interest rate environment and modest economic growth.

Now we would like to have a better environment than that, but nonetheless, we have not completed our 2013 budget process.

We believe our recent trends in customer, loan, and fee income growth will allow us to increase revenue on a year-over-year basis.

Combined with our demonstrated ability to successfully manage our risks and costs, this gives me confidence that PNC is positioned to have another good year in 2013.

And with that, we would be pleased to take your questions.

Myra, if you would give our participants instructions, please.

(Operator Instructions).

Scott Siefers, Sandler O'Neill.

Rick, just had a couple of questions on the margin.

You gave some pretty good color on the fourth-quarter expectations.

Wondering if you can just speak at a top level about some of the puts and takes from a core basis here.

I noticed the yields on most of the categories of the loan portfolio were down, in some cases substantially.

I imagine that is mostly the purchase accounting adjustments, but just I'm curious to what kind of pricing pressures you're seeing out there on the asset side.

And then on the funding side, you alluded to potentially some additional TruPS redemptions.

So any comments you can make about further lowering your overall funding costs.

And I guess along those lines, I noticed the cost of your retail CDs jumped up in the third quarter.

Just curious what was going on there, and then if you can speak to overall deposit cost expectations, as well?

Okay.

That's quite a bit, Scott.

Thank you.

Sorry.

That's all right.

Let's start with the assets, yield on assets.

Obviously, as I mentioned, we'll continue to see a decline in the purchase accounting accretion on performing loans.

Last quarter that was about a $40 million decline from second to third.

We think that will be about a $30 million to $35 million decline from the third quarter to fourth quarter.

So obviously, that's going to have an impact on the yields.

If you think of the core yields, this quarter we saw loan yields come down about 14 basis points.

That was a pretty severe movement for us relative to prior quarters.

I expect, depending on the mix of business we put on, what happened between the second and third quarters we did put on a lot of municipal business.

We did put on a lot of business through our conduit, which tend to run with lower yields in the rate of portfolio.

So you saw the yields drop there, although it's very good business, and we're quite pleased with it.

We don't see the yields dropping as much in the fourth quarter, but again, I think that will depend very much on the mix of business that we put on.

On the securities portfolio, we're running down about $1 billion a month; that's about $3 billion a quarter.

As that runs off, we replace about a 3.3% asset with about a 2.3% asset as we bring on our residential mortgage-backed securities.

A little bit of a mixshift there as well as we're not trying to take long-dated positions with our security portfolio.

We're keeping it very short dated.

And so we may give up a little bit of earnings to do on that, but we don't believe it's appropriate to put our capital at risk.

In terms of reduced funding costs, clearly the TruPS we have exercised already this year, about $1.8 billion plus the $500 million we will do in the fourth quarter, is going to continue to reduce funding costs.

In fact, that is one of the reasons why I'm so confident that the contraction in the margin will ease in the fourth quarter relative to the second and third quarter, simply because we're going to get back a lot on the TruPS funding costs that we have there.

So I think the borrowing costs continue to decline.

I think the CDs are done.

We finished that in the second quarter.

There's not a lot more to do on the CD front, but clearly we can continue to do further on the borrowing front.

The retail CDs, Scott, that was a correction of an error in the second quarter.

We had a $20 million adjustment on our yield year-to-date, which caused the second quarter to look much lower than the third quarter.

If you adjusted for that, you'd probably have pretty flat yields in CDs over the three quarters from second, third -- first, second and third.

And then also on the deposit side, as I mentioned, I think really not a lot of room right now.

I think on the CD side, we will continue to evaluate it or on overall deposit costs, but I think they've pretty much repriced them in.

One of the things, Scott is that -- one of the things we're not doing is we are not putting long-dated mortgages on our balance sheet.

As Rick said, we're remaining short.

We don't think you're getting paid to take risk -- take that kind of long-dated risk in this interest rate environment.

So that's one thing that you might see other banks doing and going out the yield curve either in the securities book or even more so in booking residential mortgages on their balance sheet.

It is just something that we don't think that's the right risk to be taking this time.

Makes sense.

Okay.

Rick, I had a bunch of little ones in there, but I definitely appreciate the color.

Okay.

Great.

Next question, please.

Ken Usdin, Jefferies & Company.

I was wondering if, first, if you could walk us through the proportion of the expense base that today in the third quarter is still related to environmental costs.

And both in the expense side and I guess, also, we know the repurchase number was still a little bit higher than what you had been talking about, so if you can also just put that into context for us.

So all things related to environmental cost drag on the current numbers.

Yes, happy to.

We didn't have a lot of litigation in the quarter.

I think there was about $13 million in total litigation costs.

We ended up with about $45 million related to the mortgage foreclosure activity, and that was a little bit elevated in the quarter, up from normal levels of about $30 million a quarter.

And then the last item would have been the OREO costs, which came in at about $35 million for the quarter.

Okay.

And then the put back was $37 million, but you guys have been talking $5 million to $10 million go forward.

Is this a true-up, or is this a change relative to that prior outlook?

Well, we provided -- it is an update.

We provided one for the originations in the quarter, which would've been about $5 million, and then we had a true-up of the reserve that we had.

Obviously, less than a 10% adjustment in the total reserve as we just -- more information, as we're making our estimates.

What I've been very pleased with is the fact that what we have been expecting from Fannie and Freddie is exactly what is happening.

We appeared to hit a peak of demand in the month of May, and it's been coming down since.

The month of September was the lowest cost month we have had since February.

So not that any one month makes a trend, but I'd say that everything we're seeing on the GSEs is just as we expected.

Okay, great.

And my second question, just related to the outlook for overall revenue growth in 2013, so we know about the purchase accounting delta, I was wondering if you could just, first of all, give us the kind of base for whatever core stuff or non-core stuff you're excluding from when you consider growth over.

That would be helpful, I think, to understand.

And then two, if you can just help us understand the components of NI versus fees in terms of getting to growth in 2013.

Thanks.

2013.

Well, that's correct.

The total revenue guidance we are giving you is that reported revenues next year will exceed reported revenues this year.

So all-in to all-in, Rick, like no teaseouts from the --?

We're not adjusting for anything.

That's pretty specific guidance for next year already, so.

But we've given that already.

Well, yes, we've given that already.

So we'll update that to some extent when we get to the Goldman conference in December when we start talking about 2013, after we get the budget done.

Yes, I think the questions are just coming in on relative to the slightly lower than expected NII starting point, if that does, in fact, change the overall.

That's the questions that are coming in today.

In my comments today, I re-upped that guidance for you to say that total revenue 2013 will exclude total revenue of 2012 --

Exceed.

Exceed.

That's what I said, yes.

Okay, great.

Got it.

Thanks very much.

Next question, please.

Erika Penala, Bank of America/Merrill Lynch.

I just wanted to follow up on some of the expense questions that were asked.

Rick, the way you walked us through the environmental expenses, if I take out the TruPS charges and the integration charges from this year, sorry, rather this quarter, you have an expense base of $2.52 billion.

And if you take out the mortgage foreclosure charges and the OREO charges, that's an expense base of $2.4 billion.

So clearly those expenses aren't going to go to $0 next year.

But in that $2.4 billion core number, could you give us a sense of how much the core -- or rather, legacy PNC expenses will grow under your revenue scenario next year and how much you can save out of RBC?

Well, we've said before that we will take the $150 million that we have planned to save this year in RBC and on a full-year basis that will be $230 million next year.

So that's been out there.

We're still comfortable with that.

We haven't given any other guidance on expenses for next year, so I really can't give that today.

Okay.

And a follow up on Scott's question with regard to the movements in core versus purchase accounting accretion.

Of the 45 basis points decline in C&I yields and the 52 basis points decline in CRE yields, could you give us a sense of what percentage was attributed to lower purchase accounting accretion?

Yes, basically core loan yields in total were down about 14 basis points in the quarter.

So if you back out all your purchase accounting accretion, the second-quarter loan yield was 4.21%, and the third-quarter loan yield was 4.07%.

So that was a decline of 14 basis points that I mentioned before, yes.

Okay.

And just another follow-up question.

In terms of your revenue expectations for next year, what are you assuming in terms of loan growth?

And I know, Jim, that you've talked a lot about how corporates are apprehensive are borrowing more ahead of the fiscal cliff in the election.

Getting past those data points or those events, do you think that demand will come back to what we saw in the first half of the year next year?

We're still planning for a very low interest rate environment and very modest economic growth.

I think that's the only way you can actually do any forecasting in this environment.

So we've talked to all of our customers and the customers, as I mentioned, we hear the exact same thing as you mentioned, that they are nervous about taxes; they're nervous about healthcare costs; they're nervous about the fiscal cliff.

So you'll see them not borrowing and I think the utilization rate to being flat again, and this is years now where it's been flat.

Where people are spending money on -- they are spending money on things that generate economies right off the bat -- efficiency.

But we're really just not seeing people plunking down a lot of dough to expand their business and build plants and hire a lot of people because of the environmental factors that we have.

Now, we've been in this mode for quite some time.

It's improved -- if it's improved some, of course, it's better than it was in 2008 and 2009 and 2010.

But when you look at the reluctance to have a big increase, I think it causes you to just remain very cautious about what your planning is.

Now, to take the other side of that, if we can somehow build confidence in the economy, there's so much money sitting on the sidelines -- not just large corporations, but small companies.

Small businesses have a lot of cash.

80% of small businesses never borrow.

So there could be a nice lift if we could build confidence back into the economy.

Got it.

Thank you for taking my questions.

Thank you.

Next question, please.

Betsy Graseck, Morgan Stanley.

Ms. Graseck, your line is open.

(Operator Instructions) Unfortunately, we're unable to hear you.

(Operator Instructions).

Why don't we go to the next person and then come back.

Paul Miller, FBR.

Thank you very much.

Guys, can you go back a little bit to the mortgage-backed securities -- your securities portfolio?

And you mentioned that you're replacing 3.3% yielding assets with 2.3% yielding assets.

What type of mixshift is that?

Because I think most people are looking at that low-end being at 1.6%, 1.7%.

Can you just explain that a little bit?

Well, we're running off about $1 billion of residential mortgage-backed securities at eight months, which is about a $3 million run-off in the quarter.

The average yield in the overall securities book, I think, is about 3.4%, 3.3%.

And we're buying basically 15-year mortgages is where we're at in mortgage-backed securities, and we're picking them up at about 2.35%.

And what's -- on the 15-year mortgages, the duration is going to be what?

Around five years, four years?

Typically what we're trying to keep our portfolio overall is around a three-year average.

So yes, you could be getting into the four-year and then running down over time.

So yes, that sounds about right.

And then on loan demand -- I know a lot of people are asking about loan demand -- is there different geographic experiences?

Like I know you guys are down in South, you are just getting there, and everybody is all hyped up about the Southeast and the housing recovery down there.

Are you seeing more demand down there, or you are just not really established yet down there?

Now, as we've said, the Southeast is outperforming our expectations, but it's early days for us there.

We're just getting started.

So in terms of moving the overall numbers in the Southeast, we won't do that this year.

It's been an interesting year.

And what's happened, and not only to ourselves but across the industry and in particular to ourselves, we've added a lot of customers, and we have added customers with new loans.

But if you look at the loan balances, it's somewhat inconsistent with the number of customers we've added.

So, as I mentioned in the presentation, we've added almost 800 new commercial and C&IB and Institutional Bank customers.

A lot of those are new loan customers, and 75% of our markets are over plan.

And so they've had great sales years, but the balances in the third quarter didn't move up as rapidly as you might expect, and it's partially because America continues to delever.

So you see volumes picking up, which is good news, and you see consumer sales, retail sales picking up.

And so you see more credit card activity, but you don't see more credit card outstandings.

And you see more activity with adding customers with home equity lines, but yet, home equity line outstandings go down.

So we're just -- as a country, we're seeing the continued deleveraging of the economy.

But the good news is we're able to add customers at a pace that exceeds the deleveraging without just booking mortgage loans on the books in order to make up for the lost NII.

Okay.

Hey, guys, thank you very much.

Sure.

Thank you.

Next question, please.

(Operator Instructions).

Mike Turner, Compass Point.

Just really a follow-up to the earlier questions, more on new loan yields.

I notice that C&I has been where most of the growth has come from.

If I back out your accretion income, it is kind of rough, but I get a core loan yield of maybe 430-ish.

Where would you say loans, replacement yields are?

On average, I know there's multiple products going in there, but where would you say the replacement yields are coming on on new originations?

Well, spreads are anywhere from, as I'm looking at the sheet, 200 to 400 basis points, depending on the product mix.

Some of the products in the assets-based lending would get as high as 500.

So it really depends on the mix.

Middle-market spreads have been 200 over LIBOR, which is still it's lower than it was, but it's down about 30 basis points from a year ago.

But still a good spread for that business for a good quality credit.

And not -- it sounds like a little bit more competition from prior quarter, but not a -- I mean, how would you characterize the change from last quarter on those origination yields?

I think there's competition everywhere.

As long as you're going to have 7000 banks, you're going to have plenty of competition.

And different people are more aggressive in different markets, so there is clearly competition.

One of the things that's interesting to me is that we see people going out 15 and 25 years with loans.

And I just find that to be something that is taking a risk profile that we're not willing to do.

So the competition on spreads has come in some, but it's not as onerous as you might think.

On some of the duration, we've seen some pretty remarkable terms.

Okay.

Thanks.

That's very helpful.

Next question, please.

Chris Mutascio, Stifel Nicolaus.

Rick, depending on the timing of the trust preferred redemption -- I don't know what the timing is in the fourth quarter -- what is that going to save you in terms of the interest expense for fourth quarter?

I think that is an instrument we call in December.

Yes.

So I don't think you'll see much in the fourth quarter, but you'll certainly see the benefit into the new year.

Okay.

So then your dollar margin --

So the benefit I was referring to in the fourth quarter is what we actually exercised in the third quarter.

How late was that in the quarter?

That was kind of mid-quarter.

Mid-quarter, yes.

And how much would that benefit be, specifically?

It would be about $10 million to $12 million.

Okay.

So if you are looking at accretable yield being down another $13 million in fourth quarter, offset a little by a $12 million improvement from the previous trust preferreds being paid, you're going to see core NII dollar growth in the quarter, despite the fact your security yields are falling and loan yields are falling?

Is that just going to be from organic balance sheet growth?

Yes, that's right.

You've got about four factors that are driving that.

One is we did make this purchase of the auto portfolio, which was late in the quarter.

We purchased that in September.

So you are going to get about $12 million of NII off of that.

You've got some -- the wholesale funding, which is about 12 basis points.

And then I mentioned before that during the quarter, we had a $17 million charge in the third quarter related to a swap hedging debt and the ineffectiveness of that hedge, which we don't expect to repeat.

So collectively, those are going to add about $40 million to core NII in the quarter.

And all other things being equal, we expect the rest will be flat.

That's great.

Thanks for the color.

Okay.

Thank you.

Next question, please.

I'm showing no further questions.

Okay.

Well, thank you very much for joining us this morning.

We certainly appreciate that.

We believe this is another very good quarter for PNC and look forward to a good fourth quarter, as well.

Thank you.

Thank you.

Thank you, ladies and gentlemen.

This concludes today's conference call.

You may now disconnect.

Have a good day.