PNC Financial Services Group Inc (PNC) 2014 Q3 法說會逐字稿

Good morning, my name is Cyglin 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)

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 and good morning everyone.

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

Participating on this call is PNC's Chairman, President and Chief Executive Officer Bill Demchak, and Rob Reilly, Executive Vice President and Chief Financial Officer.

Today's presentation contains forward-looking information.

Our forward-looking statements regarding PNC's performance assume a continuation of the current economic trends and do not take into account the impact of potential legal and regulatory contingencies.

Actual results and future events could differ possibly materially from those anticipated in our statements 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 discuss is included in today's conference call, earnings release and related presentation materials and in our 10-K, 10-Q and various other SEC filings and investor materials.

These are all available on the corporate website, PNC.com, under investor relations.

These statements speak only as of October 15, 2014, and PNC undertakes no obligation to update them.

Now I would like to turn the call over to Bill Demchak.

Thanks, Bill, and good morning, everybody.

As you have seen this morning we reported net income of $1 billion, or $1.79 per diluted common share for the quarter with a return on average assets of 1.25%.

These results are very much in keeping with our expectations and our guidance.

You saw that we grew revenue in the quarter on the back of a 4% increase in fee income which overcame a slight decline in net interest income.

Loans are up slightly on an average basis but they are actually down quarter to quarter on a spot basis.

We continue to win new customers across our lines of business in the quarter and increasingly we are focusing on deepening relationships with existing customers through cross-sell.

Additionally we continue to manage expenses well and completed the actions to achieve our 2014 continuous improvement target ahead of schedule.

Credit quality continues to improve and we improved our capital position.

So as I said a couple of months ago, I am pleased with how we are executing against our strategic priorities and controlling the things that we can control in what is proving to be a challenging revenue environment.

Our third-quarter results, another quarter with $1 billion or more in net income, speak to the consistency of our approach.

Now having said that, I've spent quite a bit of time with a lot of you over the last couple of months and I know that many of you are turning your attention to 2015.

And while we are in the early days of our budgeting process -- and I am not going to give you specific guidance here -- but just looking at the economic and industry trends there are a few comments I will make about our outlook for the remainder of this year and for 2015 before I turn it over to Rob.

When we look in the next year we believe that we are going to get to continue to execute against our plans to grow fee income and control expenses.

While it is likely the credit provision will rise from the historically low levels of this year we believe credit charges will be well contained also.

The wildcard is obviously net interest income.

At issue is if, when and how much the Fed will raise rates next year.

And I'll tell you we currently forecast and are planning against a mid-year rate hike with funds getting to 1% by the end of the year.

This is somewhat less aggressive than the Fed's own rate plots but particularly after this morning it is much more aggressive than what is currently priced in the market.

I think at one point this morning futures actually had the Fed completely out of the market next year.

Now we have come back from that but we are obviously in a pretty volatile period of time for rates.

And rates are going to be the thing that largely drives our net interest income performance next year.

Now as in the past, we will look to give you more specific guidance at yearend but our early look ahead anticipates that the revenue environment is going to remain difficult for the industry until rates rise and that our opportunities lie in our ability to execute against our long-term strategic priorities.

Now with that I'll turn it over to Rob for a closer look at our third-quarter results and then we will take your questions.

Rob?

Thanks, Bill, and good morning, everyone.

Overall our third-quarter results were largely in line with our expectations and demonstrate our ability to execute on our strategic growth priorities.

As you know, the sustained low interest rate environment continues to affect our net interest income as it has for some time and for the reasons that Bill just mentioned.

However, we saw solid fee income growth this quarter that exceeded our expectations and more than offset the decline in net interest income, resulting in revenue growth on a linked-quarter basis.

Expenses remain well-controlled and credit quality was favorable.

Our B3 common capital ratios improved even after a $617 million in share buybacks and dividends in the third quarter.

Turning to our average balance sheet on slide 4, total assets increased by $7 billion, or 2% on a linked-quarter basis.

This increase was driven by higher deposits held with the Federal Reserve and to a lesser extent higher average loan balances.

Average commercial loans during the third quarter were up $913 million, or 1% from the second quarter and average consumer lending was down by $318 million, linked-quarter, as lower home equity residential mortgage and education loans more than offset increases on automobile lending.

Our third-quarter spot loan balances were essentially flat reflecting a higher level of loan activity late in the second quarter as well as overall slowing loan growth conditions in the third quarter.

Compared to the same quarter a year ago average loans increased by $9 billion, or 5%.

Importantly, we achieved this growth despite $1.5 billion in runoff of loans from our non-strategic assets portfolio during the same period.

Average investment securities decreased $1.9 billion, or 3% in the third quarter as net payments and maturities exceeded our investment activity.

For the reasons Bill outlined this is consistent with our view of the low opportunity cost of holding relatively lower balances in the current interest rate environment.

And lastly, our average interest-earning deposits with banks, primarily with the Federal Reserve, were $22 billion as of September 30, in large part due to satisfying the requirements of the liquidity coverage rules.

I will have more to say on that in a moment.

On the liability side, total average deposits increased by $3.9 billion, or 2% when compared to June 30, driven mostly by increases on the commercial side.

Compared to the same quarter a year ago total average deposits increased by $12 billion, or 6%.

In both periods we saw growth in demand and money market transaction deposits partially offset by lower retail CDs.

On an average basis total equity increased by $546 million, or 1% in the third quarter primarily due to growth in retained earnings.

This helped drive our capital ratios higher.

Our pro forma Basel III comment equity Tier 1 ratio, fully phased in and using the standardized approach, was estimated to be 10.1% as of September 30, a 10 basis point increase from the end of the second quarter.

As I mentioned, our balance sheet reflects our efforts to comply with the liquidity coverage standards and support loan growth.

For example, our average interest earnings deposits with banks in the third-quarter, which are primarily with the Federal Reserve, increased by $7.5 billion, or 51% and by $17.5 billion, or more than 375% compared to the same time a year ago.

Further, on the liability side we increased average total borrowings by $2.2 billion, or 5% linked-quarter.

As you know, on September 3 the Federal Reserve issued the final rules on the liquidity coverage ratio and PNC is subject to the full LCR approach.

Based on preliminary estimates we expect to be well above the 80% requirement using the month-end reporting methodology when it goes into effect on January 1, 2015.

Under our existing common stock repurchase authorization we purchased 4.2 million common shares for approximately $360 million during the third quarter.

Since the beginning of our current program, which as you know began in the second quarter of 2014, we have repurchased 6.8 million common shares representing approximately 40% of our approved total capital plan amount of $1.5 billion.

Finally, our tangible book value reached $59.24 per common share as of September 30, a 2% increase linked-quarter and a 14% increase compared to the same time a year ago.

Turning to our income statement on slide 5, net income was $1 billion, or $1.79 per diluted common share and our return on average assets was 1.25%.

Our third-quarter performance for net interest income and expenses was largely as we expected, while we exceeded expectations on fee income and provision.

As a result of our strong fee performance, total revenue increased by $31 million, or 1% linked-quarter.

Let me highlight a few items in our income statement.

Net interest income declined by $25 million, or 1% compared to the second quarter primarily attributable to lower earning asset yields and investment security balances as well as the impact of our higher liquidity position.

Purchase accounting accretion was essentially flat in the third quarter which was better than we expected due to higher than anticipated cash recoveries.

Noninterest income increased by $56 million, or 3% linked-quarter.

This performance is better than expected due to growth in asset management, corporate services and service charges on deposits.

Noninterest expense increased by $29 million, or 1% in the third quarter at the lower end of our guidance, as expenses continued to be well managed.

Importantly during the third quarter, we exceeded the full-year target of our continuous improvement program.

More on that later.

Finally, provision in the third quarter declined to $55 million due to continued overall positive credit trends.

Now let's discuss the key drivers of this performance in more detail.

Turning to net interest income on slide 6, total net interest income decreased by $25 million, or 1% for the reasons I just highlighted.

As I mentioned, purchase accounting accretion of $147 million was flat on a linked-quarter basis as cash recoveries were better than expected.

Core net interest income declined by $25 million due to lower earning asset yields and security balances.

Regarding purchase accounting, we were forecasting it to be down $300 million for the full-year 2014 compared to 2013.

With the higher than anticipated cash recoveries we experienced in the quarter we now expect it will be down for the full year approximately $275 million.

And while we're on the subject, for 2015 we continue to expect purchase accounting accretion to be down approximately $225 million for the full year compared to 2014.

Net interest margin declined 14 basis points linked-quarter.

Of that amount approximately 8 basis points was the result of our increased balances with the Federal Reserve resulting from an increase in customer deposits and lower security balances.

Approximately 4 basis points of the decline was due to spread compression and the remaining 2 basis points was due to specific LCR-related actions.

In terms of our interest rate sensitivity our balance sheet remains asset sensitive.

We recognize this will likely constrain our NII growth in the short term and as mentioned earlier we believe the opportunity costs of this position in the current interest rate environment is low.

Turning to noninterest income on slide 7, we saw strong fee income growth this quarter reflecting progress we continue to make against our strategic priorities.

Total noninterest income increased by $56 million, or 3% linked-quarter primarily driven by solid performance in our diversified businesses.

Asset management fees increased $49 million, or 14% on a linked-quarter basis.

As you know the asset management fee category reflects the combination of fees generated by our asset management business along with the earnings attributable to our interest in BlackRock.

While our asset management business performed well in the third quarter, the linked-quarter fee increase is related to the strong performance from BlackRock.

Compared to the same quarter of last year overall asset management fees were up $81 million, or 25% due to increases in equity markets and sales production.

Consumer services fees were relatively flat in the third quarter down $3 million or 1% as customer activity equaled second-quarter levels.

Compared to the same quarter a year ago consumer service fees were up $4 million, or 1% primarily due to higher credit and debit card activity.

Corporate service fees were up $31 million, or 9% linked-quarter primarily due to higher merger and acquisition advisory fees and corporate finance fees for loan syndications.

And year-over-year growth excluding the impact of the fee reclassification in the second quarter of 2014, corporate service fees increased by $36 million, or 12%.

Harris Williams, our M&A advisory services firm, is on pace to have a record year.

Residential mortgage banking noninterest income declined by $42 million linked-quarter primarily due to lower loan sales revenues.

As you will recall these were elevated in the second quarter to $61 million related to portfolio loans.

Origination volume was $2.6 billion, up $52 million or 2% from second-quarter levels.

However, originations were down from $3.7 billion in the same quarter a year ago.

Purchase origination production of $1.3 billion in the third quarter represented 50% of our total originations reflecting our strategic focus in this area.

The gain on sale margin was 380 basis points in the third quarter primarily due to favorable mark-to-market adjustments on our loan book.

We continue to expect on margin to trend closer to 300 basis points in the fourth quarter and in 2015.

Service charges on deposits increased by $23 million, or 15% in both the linked-quarter and prior-year quarter.

Both periods benefited primarily from changes in product offerings along with higher customer-related activity.

Other categories of noninterest income in the aggregate were essentially flat linked-quarter.

Of note we did have a pretax gain of $57 million on the sale of 1 million Visa Class B common shares.

That compared with a $54 million gain on Visa shares that took place in the second quarter.

Noninterest income to total revenue was 45% in the third quarter, up 1 percentage point from the second-quarter levels and up 2 points from the same quarter a year ago.

While acknowledging this ratio improves by the decline we are seeing in NII, it nonetheless reflects our substantially diversified business mix and the strategic progress we are making to increase overall fee income on both an absolute and relative basis.

Turning to expenses on slide 8, third-quarter levels increased by $29 million, or 1%.

The increase was due to higher personnel costs as a result of increased variable compensation cost from business activity as well as equipment costs primarily related to technology and business investments.

Year-to-date expenses declined by $218 million, or 3%.

This improvement reflects the benefits from our continuous improvement program and overall expense management.

In fact, through nine months we have completed actions to achieve our full 2014 goal of the $500 million in cost savings.

As you know these savings are funding the significant investments we are making in our infrastructure and in our retail transformation.

As you can see on slide 9, overall credit quality continued to improve in the third quarter.

Nonperforming loans were down $189 million, or 7% compared to the second quarter as we continue to see broad improvements across our commercial and consumer portfolios.

Total past-due loans decreased by $92 million, or 4% linked-quarter with the greatest declines in the over-90-day category.

Net charge-offs of $82 million declined by $63 million, or 43% linked-quarter and were 16 basis points of average loans on an annualized basis, down 13 basis points linked-quarter.

Our provision of $55 million declined by $17 million, or 24% on a linked-quarter basis.

And finally, the allowance for loan and lease losses to total loans is 1.7% as of September 30.

While we were pleased with this performance and as we've acknowledged for some time, we continue to believe credit trends may not remain at these levels.

In summary, PNC posted a successful third quarter largely consistent with our expectations.

Looking ahead to the fourth quarter we expect many of the trends we saw in the third quarter to continue through yearend.

We expect modest growth in loans primarily in our commercial portfolio.

We expect net interest income to be down modestly due to the continued decline in purchase accounting accretion and further spread compression.

We expect fee income to remain stable as we anticipate seasonal growth in higher business activity in the fourth quarter to effectively equal the elevated M&A advisory fees we generated in the third quarter.

We expect noninterest expense to be up by low single digits on a percentage basis as we typically incur seasonally higher expenses in the fourth quarter and as we continue to invest in our business and infrastructure.

Importantly, we expect to partially offset this increase with expected cost savings from our continuous improvement program.

And assuming a continuation of current credit trends we expect the provision for credit losses to be between $25 million and $75 million.

And with that Bill and I are ready to take your questions.

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

Certainly.

Thank you.

(Operator Instructions) Erika Najarian, Bank of America.

Yes, hi.

Bill, you said at the top of the call that you are in the middle of budgeting for 2015 and clearly the results this year have shown that you're executing on the things that you can control, specifically on the year-over-year progress and expenses.

As we look forward to 2015, let's just say that the market was at this point right this morning.

And let's take the prospect of rising short rates out of the way, could we expect the efficiency ratio to improve from the 61% that you have been posting next year?

I don't see how.

I think we are going to be able -- we will control expenses but at the end of the day, and you have heard me say this before, real improvement in the efficiency ratio has got to come from the revenue side.

We are driving that on fee income but it's got to come out of NII and we are so underleveraged as a firm right now that the opportunity for us if and when rates rise is what is going to drive a material change in that ratio.

We're going to focus on expenses and do a good job on it.

But move them wherever you want, even if we manage to drop them another couple hundred million, and I'm not saying we are going to, it doesn't really move the needle here.

Okay, got it.

And just as my follow-up question, Rob, given your comments on the LCR, it sounds like most of the LCR-driven liquidity action should be fully in the run rate at this point.

So there shouldn't be further incremental hits from LCR-related balance sheet optimization at this point?

Yes.

I would say the bulk of the work is behind us.

There may be some incremental work on the margin but the vast majority is behind us.

The other thing I would just add to that, when you look at the drop in the NIM in the quarter just because it is sort of a spike in largely corporate deposits, it is neutral to income.

It is not necessarily LCR related, it is just kind of flows that are coming in in the form of deposit and largely being held at the Fed at this point.

So it's affecting NIM but it's not costing us anything.

Got it.

Thank you so much.

Betsy Graseck, Morgan Stanley.

Hi, how are you?

Couple of questions.

One was just on the LCR because we did get that final rule set recently and I wanted to understand how it impacted you because I know it was a wide range going into that final rule.

Sure, generally speaking the final rules were announced.

PNC was viewed and is categorized as being under the full approach.

There was an open issue whether that was going to happen or not but we are in the full approach.

Largely in terms of the final rules compared to a conservative read of the proposed rules it was a net better move for us in terms of how far we had to go.

But you can tell by the fed balances that we have built through the year we have moved considerably in terms of our liquidity position and are very comfortable that we can meet the levels as they are phased in.

Right, it was better because more operational deposits than what you could've potentially had?

It was a whole bunch of little singles from the way you would look through to securitization for corporate receivables, it was operating deposits, it was some impact on municipals and VRDNs, a bunch of little stuff at the margin where in our previous planning we had kind of assumed, as is our nature, we assumed the worst (multiple speakers)

Got it, okay.

And then two questions, one on Fed policy.

Let's take the other side of the question that Erika had, let's say the global growth is not as bad as people think and rates start to go back up.

The Fed put out this comment back in September saying that the RRP would be capped at $300 billion.

So do you end up raising rates through increasing IOER?

Does your interest rate sensitivity stay the same because the question is does IOER going up impact your asset yield since most of that is based off of Fed funds at the front of the curve?

Sorry, IOER meaning the excess reserve balances?

Right, right.

If they raise short rates through whatever mechanism, either rates on excess balances or the reverse repo facility for money funds on the floor side of the equation, we make money.

We make money if short rates go up and that will be their impact.

Now if they do that we will see what the impact is on longer rates.

Our base assumption, you heard me talk about it in planning, isn't really heroic.

We're kind of saying that they move in July-ish and they get funds or short rates to 1% by the end of the year.

If they go more than that we obviously have more leverage and greater upside than what we are currently planning as we think about the future.

Just as an aside, the economy right now, when we go out and talk to our clients, it actually feels a lot better than the sentiment.

So I am personally a bit confused absent we get the news out of Europe, which is clearly struggling.

The US economy feels very strong and resilient and personally I think this a bit of an overreaction, particularly on the rate side.

We have had an equity correction here that is down what it is right now, 7% or 8% from the highs.

But we have rallied rates down to basically 0% again and have taken the Fed off the table for all of 2015, at least as the market is saying.

That doesn't feel right to me.

Okay.

The technical part of the question I was asking was that if you are not able to lift LIBOR or prime because Fed funds isn't moving, then I get the point that you totally get a better -- you're asset sensitive with excess reserves and so your earnings go up.

But if your loan balances are not able to react as Fed funds stays where it is, then do you pass anything onto depositors, or does it make you less asset sensitive then (multiple speakers)

I haven't focused on that.

I see where you're going, if the Fed is unable to make that connection in short rates.

Look, at the end of the day if somehow they manage to increase excess reserve rates and LIBOR doesn't move, which I don't think is a likely outcome, then yes the rates we are going to be paying on deposits would suffer.

Okay.

And then just on loan growth because I know it was a little bit lighter Q on Q but second quarter was very strong, just want to understand what you are thinking will be driving that C&I over the next couple of --?

Yes, I think the third quarter was perhaps a bit anomalous.

We ended up kind of flat a little bit up in C&I, some gives and takes in different books.

But the general theme continues to be growth in our specialty businesses, asset based real estate, lease finance.

We have seen growth in large corporate as we have seen the M&A activity continue to set records and a lot of borrowing to do dividends and share repurchase.

So I don't know that that is necessarily going to change.

I think in Rob's comments he kind of suggested --

I said we did see a spike up there at the end of the second quarter, which was a higher jumping off point.

And there was growth conditions in the third quarter, albeit slowing growth.

So that combination put us in a (multiple speakers)

And we are saying low-single-digit growth (multiple speakers)

But our guidance for the fourth-quarter calls for a continuation of modest loan growth principally on the commercial side.

Right.

And driven by more plant and equipment investing?

We haven't -- that really hasn't taken off.

We are seeing loan -- I wish there was way to parse through it, but my best guess is the bulk of the balance growth we see beyond real estate, project-based real estate, in the C&I space is largely due to kind of M&A and leverage, share buyback, excess dividend and so forth.

You still see the plant and equipment investment, it is still well below where it ought to be running given where the economy is so that is kind of an upside if and when it happens.

Okay.

All right, hey, thanks a lot.

Matt O'Connor, Deutsche Bank.

Hey, guys.

Seeing some good momentum in the capital markets advisory areas and I think you announced an acquisition there recently.

So maybe if you could talk a little bit about both the current trends that you are seeing and then just kind of longer-term strategy and how meaningful this could be to PNC overall?

Yes, so Harris Williams is on pace -- in fact, they might have already had their record year after three quarters.

They are gaining share in what is a very hot M&A market.

We have owned them now for 10 years, plus or minus, and beyond what they contribute to the bottom line for us, they basically help our dialogue with our corporate customers.

It is kind of another arrow in the quiver when we go out and want to have a meaningful relationship with a middle-market company, having the leading advisory firm helps.

Solebury, who we announced in the quarter we purchased is a advisory firm that basically helps people through the IPO process.

They don't take a principle position and they don't take a management position in effect in the IPO but rather they advise people on who to choose and how to go about it.

And they help people with investor relations.

We did that sort of as a complementary product to the Harris Williams product in the sense that what Harris Williams goes and pitches for a sale out of a private equity shop more often than not they are not only pitching against another advisor, they are pitching against an IPO.

And we wanted as a firm to have a full-service solution set to those clients.

That's what Solebury does.

Bottom line, both of them add to our bottom line but as much as anything else they add to our broader relationship with middle-market companies, which is the key point we are trying to drive.

Okay, so don't just focus on the fee revenues that it kicks off but there is kind of a broader relationship that is benefiting that business?

In its simplest form if you think of a private middle-market company and you say would you like to take a meeting with the leading firm who has done a bunch of deals in your industry both on the advisory and the IPO side, you get a meeting with a CEO they want to hear about it.

They don't want to hear what their company is worth and what their competitors are doing and what the future holds for them.

It's a great calling card.

Okay.

And then just separately, within the credit, obviously very strongest quarter.

I noticed you had higher recoveries both in commercial and residential and I'm just wondering if we are getting to the point in residential where it might be kind of higher for longer on the recovery side?

You know we have been saying that for some time, that these levels we do believe are unsustainably low over a long period of time but each quarter things seem to stay pretty good.

Actually sorry, I meant on the recovery side against the charge-offs you had a pickup in both commercial and residential real estate.

And I didn't know if there was just kind of a reevaluation, or something that --?

No, nothing special.

We are working off of relatively low levels there.

So it's nothing particularly departing from the current themes.

Okay.

Then actually just lastly if I could sneak in on the interest rates here.

I think you and some other banks talked about not reinvesting some of the proceeds as much in the third quarter and I think that's one of the reasons why rates are coming down so much that a lot of folks were trying to stay shorter on the duration and now you are having to squeeze.

What do you do now?

Do you kind of wait it out, do you kind of let the securities book shrink a little bit more, or do you kind of hedge it?

A couple of things.

We actually notwithstanding the drop in securities balances spot and average second and third quarter, we actually through TBAs and forward-starting swaps and some other things, probably held our position largely flat.

So we didn't get shorter on a duration basis per se through the third quarter.

Given where rates have gone here, so you're going to now have a period of time where you're going to see prepayments on anything that can prepay.

And we think if we didn't like them before we really don't like them now.

So if anything else we might look at an opportunity to monetize here, but we are certainly not going to invest into it more heavily at this level.

The opportunity cost to just sitting on the sideline is low enough that you stay on the sidelines.

Yes, okay.

Yes, I would agree.

Thank you.

Paul Miller, FBR capital.

Yes, thank you very much.

My question goes back to and I think you made a comment and I'm not sure if I heard it correctly, it goes back to the core NII and the total NII.

You talk about higher liquidity positions is driving that lower and lower asset yields, but did you mention something about reinvestment opportunities?

In other words are you making a decision to pull back a little bit until you get, so you can redeploy with better yields maybe down the road since you do think the Fed at some point is going to raise rates?

In its simplest form -- you are connecting a lot of dots here -- but in its simplest form we are underinvested fixed rates and have been for a long period of time to take advantage when rates go up.

You can see that visibly in the balance sheet somewhat by the securities balances declining but also just through the balances that are growing at the Federal Reserve, which are obviously floating-rate balances.

In its simplest form if we wanted to you could take the Fed balances and be LCR neutral by investing them in treasuries.

If you look the yield on a two-year treasury right now is I think 29 basis points, which is 4 basis points more than I get leaving them floating at the Fed so I will leave them there.

But we do have a lot of dry powder.

We've been that way for a while.

We have been wrong for a while.

I wish I had a perfect crystal ball and we could have invested and then sell everything today, but we didn't.

And we're not in the business of making those dramatic bets with our balance sheet.

And on the same token with growing your loan book, I know a lot of people are saying there is still a lot of price competition, is that the same thing, keeping your powder dry for an opportunity to when commercial yields do go up you can take advantage of it?

No, if you track through time notwithstanding the third quarter in C&I, which I said was kind of anomalous, I think we are growing C&I at a pace faster than all of our peers largely through winning new clients.

A big part of that coming from the southeast where we are new entrants but gaining share.

Spreads have declined in C&I lending and in real estate lending but they are still appreciably higher than they were in the tight periods in 2006, 2007.

And all that means is to get an adequate return for shareholders we need to make sure that we are getting our fair share of cross-sell with the clients that we are lending money to.

And by the way we're doing that.

You see it in our corporate service fee line and other fee category lines where focus on growing customers across the full relationship not just lending.

Which has been our strategy, as you know, for some time.

Okay.

Hey guys, thank you very much.

Bill Carcache, Nomura Securities.

Thanks, good morning.

Bill, you have talked about deposit betas likely being higher in the next rate cycle but given uncertainty around the timing of when those rate hikes will come I was hoping you could separate any Fed rate moves from the impact of QE coming to an end.

So ex any Fed rate moves do you think the end of QE will translate into a slowdown in overall industry deposit growth.

Not necessarily that deposits growth will turn negative, but just a slowing of the growth in kind of a post-QE environment?

Yes, I think so.

I think part of the issue, and I am a little stale on this, I saw there was an article published, or a research piece published a couple of days ago and I didn't get to it.

But I guess the notion of doing less of the reverse repo facility would in fact cause the rundown of the Fed balance sheet to take a longer period of time than it otherwise might.

So the impact on deposit outflow in effect as QE goes away is slower than it might be.

If that is all true then the need to chase deposits and have higher betas is somewhat muted.

Now I don't know if that is true.

My fear and our worry is that the Fed liquidity leaves the system and people compete for those deposits to comply with LCR, particularly the retail deposits that you would otherwise see higher deposit betas than you might have in past cycles.

So we'll see how that plays out but you are right to assume that the rolloff of QE and how the Fed balance sheet shrinks will have a different effect on deposit flows than just if and when the Fed raises rates.

And as a follow-up to that, overall industry growth has been pretty decent and particularly on the commercial side.

Can you talk about how you guys are positioned for an environment where that deposit growth does slow and maybe the industry as a whole kind of the implications for that slowing of deposit growth but the continuation of the loan growth that we are seeing?

That is why we have been -- we have planned different scenarios that you could have an environment where you have utilization line increase on C&I loan as plant and equipment expenditures finally come to life.

So very robust loan growth exactly at the time when the excess liquidity largely from large corporates kind of drains out of the system.

We plan against that.

That is one of the reasons we have in our own forecast and we did this at the last conference presentation we went through, we talk about the fact that for base planning our betas are a lot higher.

Because there is that possibility and you have this weird anomaly in this cycle where because of LCR, certain deposits are worth more than others, which is new.

So I don't know how that plays out.

I just know we are supposed to focus on it and run different scenarios against it, which we do.

Right.

That's very helpful.

Thank you.

If I can squeeze just one last one in.

Can you update us on what you are seeing in terms of any pockets within the commercial lending space where you find yourself just walking away because of unattractive economics?

And then maybe the same question to the extent that anything stands out on the consumer side?

In the C&I space rather than industry what has been in the headlines and is true is leverage lending continues to be at a place where we would view it as tough to make money.

As an aside we don't play in this space so it doesn't really matter to us so much, but that is kind of where the headlights are in C&I.

We've also, and I've talked about this before, in small business, particularly small business that has a difficult ability to offer you fee streams, the increased tenor and tightened spreads in small business generically defined have made that somewhat less attractive than it once was.

Most of the other stuff we have kept our credit box the same since I've been at the Company.

And we will compete with price inside of that credit box, particularly for clients where we have a broad-based relationship.

If we have large fee streams to keep that client we will drop the spread on a loan to where we need to go.

But those are still good loans.

Bad loans it doesn't matter what the price is they are still bad loans.

Understood.

Thank you.

Ken Usdin, Jefferies Group.

Thanks, good morning.

Rob, I was wondering if I could just ask a couple of questions on expenses.

First of all, just this quarter your sequential growth was 1% in line with a low-single-digit increase but I'm just wondering did all those things you guys had talked about a quarter go with regards to the CCAR spending and then the incremental spend come through this quarter?

And then when you think about fourth quarter do you expect the same kind of growth rate?

What kind of got flushed out in this quarter, or didn't, I guess is my first question.

Yes, I understand Ken.

Essentially in terms of the third quarter most of what we said and we expected did play out, with one exception.

You recall I had mentioned the employee benefits we had implemented a new high deductible plan in the beginning of the year that in effect back ended the corporate expense piece of that.

We were expecting that through our projections to arrive in the third quarter and that didn't.

Not a big piece but that didn't, but it does play into our fourth-quarter guidance where we do expect to see some increase in that category but generally everything else occurred as we thought.

Maybe a little lower than our guidance, as I mentioned in my comments because the acceleration of the continuous improvement program gains.

Got it.

And then when you think ahead can you help us understand how those investment spending and the incremental depreciation and amortization that is starting to get thrown off of it, how does that play against your ability to find incremental continuous improvement on top of what you have already secured not just for this year but as you also start to think about the years ahead?

Yes, sure.

Again, we won't get into 2015 guidance.

We will do that as we usually do in our call in January.

But generally speaking, and you are familiar with this, the continuous improvement program that we've had in place for a number of years, it works for us.

It is a disciplined exercise where we identify expenses that we go after every year with the idea that in total they can fund our investments.

So we would expect to be able to continue that in 2015.

The program works well for us.

It's not great for the outside world because it is hard to, as you know, take those numbers right to the income statement.

But it is a very useful tool that allows us to keep expense discipline in place, particularly during time of revenue challenges.

Okay.

And then just a last piece on that then, just the D&A piece, can you just help us understand how that does or does not cascade from (multiple speakers)?

Sure.

Over time, depreciation will increase in our equipment line.

But as you know, a lot of that is going to generate -- a lot of the solutions over time are going to generate efficiencies that we should be able to pick up in other areas.

Right, okay, got it.

Thanks a lot.

John McDonald, Sanford Bernstein.

Hi, good morning.

Rob, was wondering, the fee income was very strong this quarter, so the ability to stay flat sequentially seems like a nice positive.

Could you give us some color on some of the puts it takes that you mentioned for next quarter?

You mentioned some seasonal items, and how you are thinking you might stay flattish.

Yes, what I'm really saying there is the elevated gains that we had from the M&A, the Harris Williams record performance, we don't necessarily expect at those same levels.

So the underlying growth in asset management consumer services and in corporate services I see in terms of the higher business activity that we are expecting to basically offset that.

And that's where I get to stable.

Okay.

And the last two quarters you had $50 million or so of the Visa gains, do expect to keep harvesting those on a regular basis?

Well, we don't give specific guidance in terms of anything that we're going to do in the short term.

We have been on the record saying that is our intent to monetize the Visa.

After the sale here in the third quarter we now have 7.4 million shares of the Class B valued at $650 million on our books for $90 million, so unrealized gains of $560 million.

Okay.

And can you give us any color on what you are assuming in the provision outlook?

Your reserves still look high relative to peers at the 1.7 you mentioned.

Are you assuming some reserve release continues but at a fading amount going forward and charge-offs kind of stabilize?

Assuming everything stays constant in terms of the environment that we are in, I would expect that we would have further releases, although not necessarily at the levels that we have had this year.

Okay.

And then the final thing for me just on buybacks, what factors will drive your utilization of the remaining authorization you have for the two quarters left in the CCAR period?

Yes, so we are halfway through the program and we are about 40% in terms of our repurchases under the program rules.

That amount that you didn't utilize in that particular given quarter can be carried into the future quarter, so we are committed to our buyback program.

We will continue with the program that we have and we would expect to repurchase more shares over the remaining two quarters of the program.

Okay.

And just to be clear, are you saying you will definitely use the whole thing for this year, or is it kind of market and price dependent and other factors as well?

We are value buyers.

Look at the 40% of the total notional we did in the first half of the year.

We have 60% left to go, our share price is $10 lower, figure it out.

All right, thanks guys.

Mike Mayo, CLSA.

Hi, how much more in savings do you have from the continuous improvement project?

I'm not sure I heard all of that, Mike.

In terms of the continuous improvement program we had a target for $500 million through the year.

We achieved that through the three quarters, so that particular program we are in excess.

We still have ideas that we will continue to manage and continue to pursue.

And those that we can complete in the fourth quarter we will do and those that we can't will be part of our 2015 program.

So will the 2015 program have a new name, or is this just going to be business as usual, or what?

We are done with names.

Basically we do it every year.

You compile a list of opportunities that we track and hold people to and the savings from those, Mike, are basically what has allowed us to make these investments into our technology agenda and retail transformation.

And actually at the same time it is cutting expenses outright.

So it is just part of our annual budgeting and operating process.

And part of our discipline.

Okay.

And then as it relates to your financial targets, in the past you had targets for efficiency and ROE.

Do you have any targets currently, or what kind of numbers do you want to achieve?

We don't have visible targets out there.

I would tell you we get the question on efficiency.

You heard me say it is going to be driven by revenue increases, largely rate dependent.

And many on the call have heard me say before we have run cases here where that efficiency ratio gets to a impossibly low levels in the 40%s, in the right rate environment.

Now as an aside I don't think we can necessarily get there, I don't believe that financial projections, but that's where the leverage is and therefore I don't want to set a target out when it is largely driven by a variable I don't control, which is rates.

We do know that we have the opportunity to be more efficient with the dollars we are spending, and as you have seen we are intently focused on getting the most efficiency we can out of those.

Intently focused on growing fee income, which is within our control, which we are doing.

And we will play the environment out here.

Did I hear you right, so you think you can get to the efficiency in the 40%s in the right rate environment?

No.

I was just saying we have run cases, so take it for what it is worth, it's a gigantic financial projection that basically says in this rate environment with the following deposit betas there is enough revenue leverage inside of our NII while remaining disciplined on expenses that you drive that ratio very low.

And yes, I have seen cases in the 40%s.

I have also for the public record have told you that I do not believe those cases.

But it is materially better than where it is today driven off of revenue and in particular off of NII.

Or in other words, a major step down in efficiency ratio we're going to need to rely on a different rate environment.

Okay.

Just one more follow-up.

Do you think that we collectively should be expecting financial targets from companies such as yours?

For example, without an increase in interest rates where the metrics should fall out, PNC has performed better than the industry and Bill you have a good track record, so I think there's a certain degree of added trust.

But having said that what should we as investors hold PNC accountable to the terms of financial results over the next one year or three years?

Look, it's a fair question, Mike, and it is something I trouble myself with.

The challenge we have -- you ought to hold us accountable to the things that we can control.

So it's market share, its fees, it's transformation, it's getting the technology side right, it's controlling credit, it's being disciplined on expenses.

I shouldn't be rewarded, or at the extreme penalized, on where rates go.

We are inherently a cyclical business.

And I could tell you, which is why in my comments as an aside when I said for our planning cycle next year we assumed a rate rise in July and Fed funds at the end of year at 1%, that's how we are going to measure ourselves.

If that doesn't play out there's nothing I did or didn't do, or the team did or didn't do against that success factor.

So I get the need and the desire to want to have outright metrics but people tend to forget and for the life of me I can't understand why, that banking is a cyclical industry.

All right.

Thanks a lot.

Terry McEvoy, Sterne, Agee.

Thanks, good morning.

Bill, do you remain as upbeat about the organic growth prospects in the southeast for PNC?

And then as I look at the service charge line last quarter where you had more customer transactions, you made some changes in the product offering, was that specific to the southeast and what you are doing down there or was that more broad-based around your footprint?

Good questions.

We continue to be really pleased with what we are seeing in the southeast, continued growth across all products and client types while in excess of our legacy markets.

And yes, that is a real and long-term organic growth opportunity for us.

That is one of our core strategic priorities.

Just in terms of the service charges, you may or may not remember that we were one of the last of the large banks to eliminate free checking.

And so a lot of that in the product lineup is simply a change in the product continuum and how people choose to pay for our retail banking product.

So it's not in overdraft fees.

I think even sequentially year-on-year fees are down.

And it is coming in other forms.

By the way that is across the whole footprint.

We have minor variations in some markets but generically it is across the whole footprint.

And then just a follow-up, if I look at your commercial portfolio loans to manufacturing borrowers, they are up the strongest year-over-year but flat quarter over quarter.

And was that just some quarter-end volatility, or was there a noticeable change that happened last quarter?

No, that's my guess.

My guess is it is anomalous.

We had some paydowns in our asset-based lending group.

Things can be lumpy.

So we don't see a real change in where demand is coming from in the type of business we are winning.

We picked a certain period of time and market to market at the end of the third quarter and it was flat rather than up a little bit.

Thank you very much.

Matt Burnell, Wells Fargo.

Good morning.

Thanks for taking my questions.

Two questions.

First of all on loan growth, we've had a lot of questions on commercial loan growth.

I guess I'm curious given some of the regulatory data that has come out over the quarter that seemed to show a broadening of loan growth across consumer as well as more and more banks becoming a bit more willing to lend to the consumer, that for your loan balances it looked like it was a similar story this quarter versus the prior quarters of automobile continuing to grow but not much growth in fact negative trends in most of the other consumer lines.

Can you give us a sense as to sort of where you are seeing demand?

Or in fact if PNC doesn't really tie into most of the industry data in terms of consumer lending?

Sure, I can answer some of that.

Just if you break down the components of our consumer loans, the home equity product, both the lines of credit and term loans have been somewhat flattish for a while.

And we expect reasonably to stay in that area.

We have seen some growth in credit card.

Bill mentioned that in terms of year-over-year activity.

We are a relatively small player but expanded client base and expanded product aspects of that have that growing and we would expect that to continue to grow.

You mentioned automobile.

Actually in automobile that growth in true consumer loans has been slowing.

It is still growth, slowing, and that's an example of maybe where we are backing off a little bit because of credit quality.

It jumped in the quarter and that is largely a categorical anomaly.

Most of the jump relates actually to a commercial customer where the underlying collateral is our consumer assets, a captive, credit arm of a large domestic manufacturer.

So if you take that out the auto growth has been in the 1% range for the third quarter, indirect, and we would expect to sort of remain in that area.

Yes, the one thing that I would add to that is you've got to remember we have some built-in runoff in our non-strategic book, which is what, $1.5 billion year on year.

And we also have probably a comparatively larger student loan book that is in runoff mode given the change in educational lending --

Just to fill out the categories --

So we're kind of running inside of the retail space, running to stay even.

The other comment I would make is a lot of that growth, my suspicion has come on the back of balance sheeting residential mortgages, which we do some of but again my best suspicion is materially less than some of our peers.

Okay.

That's helpful.

And then, if I can ask you a question in terms of expenses.

And I guess specifically you have made a number of references to investing in the retail business.

And I guess with some of the headlines related to cybercrime, which haven't really just focused on the biggest banks but have also referenced some of the regional banks, can you give us some metrics or some color as to how you are thinking about investment on that side of the equation specifically?

Yes, sure.

By the way we have been at this for a while and it is part of our technology agenda, which we've been pretty public about.

Given some of the dialogue over the last week or so from some of the conferences, we actually kind of dug in to say how much inside of our technology agenda could be pointed to cyber and it is somewhat of a scary number.

Just in terms of the size of the group we have focused on it, the investments we have in applications that help both screen for bad traffic, knockout bad traffic and other things.

And then added to that a big part of our technology agenda is in the data center strategy where we are building more core resiliency, which is another form of protection against cyber.

The good news for you is that this is -- we had planned for this.

We have been self funding it.

It is a lot of money but it is nothing new for us.

We kind of had assumed we needed to get better at this and throw a lot of resources at it the better part of a year ago, or more, and have been on track to do so.

Okay.

That's helpful.

Thank you very much.

Gerard Cassidy, RBC Capital Markets.

Hi, everyone.

This is actually Steve Duong in for Gerard.

Thanks for taking our call.

Just two questions.

First question is just on your capital planning.

You are north of a 10% Tier 1 common right now and last CCAR cycle you guys asked for a 65% pay and received it.

Do you think you can get that close to like an 80% or 90% this time around?

We don't know.

A couple of things.

One is, the base case CCAR that we put into the process typically has a lower net income number than what we end up producing whether it's because provisions are lower, or (multiple speakers) sales or any number of things.

So the payout ratio that we ask for inside of our base case is higher than the 60% and then we end up making more money, so our actual ends up lower.

We clearly are in a situation where absent building our payout upwards towards 100%, we are generating capital with a pace that is beyond our ability to intelligently deploy it with our customers -- wish that weren't the case, but it is -- so we've got to figure out a way to return more to shareholders.

So that will be a topic of discussion inside of this Company and many others, I suspect, as we go in to CCAR this year but without guidance from the Fed as yet, nothing we can say about it formally.

Fair enough.

Thank you.

And last question, your mobile banking channel, do you have the percentage of customers that are using your mobile banking channel and where do you expect that number to go hopefully by the end of 2015?

So we make a disclosure on all the digital, all the non (multiple speakers)

Predominantly --

47% of our customers are predominantly non-branch clients but we have what percentage (multiple speakers) 36% of our deposits are now --

Non-teller.

Non-teller, so either the ATM or the mobile phone.

And that number has grown leaps and bounds but I would tell you it is below what some of our peers do today.

So I would expect that it could get upwards of 50%.

We were a little bit slower than some of the very large banks in the rollout of the image ATMs.

So we are playing a bit of catch-up against some of the leaders in that space even while we are far ahead of some of our smaller competitors.

But that number just continues to increase.

You're at 36% right now for non-teller, and you said that some of your competitors -- do you know how high they are at for the non-teller?

Like at 50%?

I remember seeing a 50%.

I do my own research on that before you trust in my number but I remember seeing a 50% for somebody.

Great.

Thanks for much for taking our call.

All right, that wraps up the Q&A.

I don't know, Bill, if you have any closing comments before we sign off?

No, again appreciate everybody's time this morning.

We feel pretty good about the quarter executing on kind of what we set out to do, notwithstanding the revenue environment.

I look forward to a quarter when we can actually announce on a day when the market doesn't open up down 300 points, but so be and we look forward to talking to you guys at the end of the year.

Thank you.

With that, operator, we're going to conclude the call.

This concludes today's conference call.

You may now disconnect.