Texas Capital Bancshares Inc (TCBIO) 2017 Q3 法說會逐字稿

Good afternoon, and welcome to the Third Quarter 2017 Texas Capital Bancshares, Incorporated Earnings Conference Call.

(Operator Instructions) Please note, this event is being recorded.

(Operator Instructions)

I would now like to turn the call over to Heather Worley, Director of Investor Relations.

Please go ahead.

Thank you for joining us today for the TCBI third quarter 2017 earnings conference call.

I'm Heather Worley, Director of Investor Relations.

Before we begin, please remember this call will include forward-looking statements that are based on our current expectations of future results or events.

Forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from these statements.

Our forward-looking statements are as of the date of this call, and we do not assume any obligation to update or revise them.

Statements made on this call should be considered together with the cautionary statements and other information contained in today's earnings release, our most recent annual report on Form 10-K and its subsequent filings with the SEC.

With me on the call today are: Keith Cargill, President and CEO; Julie Anderson, CFO; and Peter Bartholow, COO.

At the conclusion of our prepared remarks, our operator, Gary, will facilitate a question-and-answer session.

At this time, I will turn the call over to Keith, who will begin on Slide 3 of the webcast.

Keith?

Thank you, Heather, and thank you all for joining us for our third quarter 2017 earnings call.

After my opening comments, Julie will provide more detail.

Following my closing comments, Julie, Peter and I will open the call for Q&A.

As Heather mentioned, let's begin with Slide 3. We are very pleased with the results for the third quarter.

Loan growth and traditional loans held for investment was strong at 4% linked quarter, following a record-breaking second quarter.

Year-over-year growth in traditional LHI was 17%.

On average, linked corporate growth was 5%, and year-over-year growth was 15%.

Mortgage finance LHI grew, on average, 27% linked quarter and 4% year-over-year.

MCA, or loans held for sale, grew 19% linked-quarter and 134% year-over-year.

Our results demonstrate continued market share gains as was the case in the second quarter.

On average, demand deposits in Q3 increased 11% linked quarter, while total deposits climbed $1.7 billion or 10% in Q3 compared to Q2.

Year-over-year total deposits increased 7% on average.

Despite our strong loan and deposit growth, we are importantly achieving our growth, while also lifting ROE and ROA.

Linked quarter ROE improved to 11.2% in the third quarter as compared with 10.08% in the second quarter.

The third quarter 2017 ROE was higher at 11.2% than the third quarter of 2016 at 10.2%, despite the new capital raise that occurred in the fourth quarter of 2016.

Clearly, we have been able to deploy the new capital effectively.

By lifting our ROE, we have moved Texas Capital Bank toward a state of self-sustaining capital alongside our peer-leading growth.

Slide 4 summarizes the current status of our Hurricane Harvey and Irma exposure.

While we continue to learn more day by day, we consider ourselves and our clients at large fortunate to have sustained relatively minor losses.

Since the assessment of loss and loan classification risk will continue for some time, we [felt prudent] to take a modest incremental loan-loss provision of $4.5 million this quarter, and charged an additional $700,000 in various related expenses as well.

The energy loan portfolio continues to improve and now is growing.

Outstanding energy loans total approximately 6% of our total loans or $1.2 billion, up $100 million from Q2.

The loan-loss reserves set aside for energy represents 4% of total energy loans and 41% of criticized energy loans net of the $6.3 million in energy charge-offs in Q3.

Retail CRE and retail C&I is approximately $787 million.

Total criticized is only $4.3 million, with no nonperforming loans.

Julie?

Thanks, Keith.

My comments will cover Slides 6 through 12.

We'll start with the NIM revenue.

This quarter, we reported a NIM increase by 2 basis points from the second quarter.

We continue to see asset sensitivity confirmed in our analysis of yields and cost.

Traditional LHI yield on balances approaching $15 billion were up 20 basis points from the second quarter and up 58 basis points from last year at this time.

Mixed shift in the third quarter muted margin expansion with $1.2 billion growth in mortgage finance and MCA and $200 million growth in liquidity assets.

We continued to see growth and deposits from the second quarter in interest bearing as well as DDA.

Average DDA growth for the quarter exceeded growth in interest-bearing deposits and growth in traditional LHI.

Overall deposit cost increased by 9 basis points from 38 basis points in Q2 to 47 basis points in Q3.

This was less than we had expected.

Again, we haven't changed posted rates, but expect fourth quarter deposit growth to be weighted towards interest-bearing deposits, with modest migration based on the overall relationship.

A good deposit pipeline is in place, but it can involve a long sales cycle, so difficult to forecast the exact timing.

Pace and change of deposit cost will depend largely on timing and magnitude of changes in future Fed rates.

A modest change in loans with floor since there was no rate change since our last report.

It's currently around a little over $800 million at the end of September.

As a reminder, approximately 70% of our floating rate loans are tied to LIBOR and about 80% of that tied to 30-day LIBOR.

Continued solid loan growth experienced in the third quarter did reduce the impact from rate increases as new loans are not being put on at the same effective rate as portfolio yields, which is reflective of the rate move.

The yield on mortgage finance loans decreased from [3.52%] in the second quarter to [3.46%] in the third quarter, which is reflective of our response to competitive pressures based on relationship pricing.

This change in pricing approach that began in mid-first quarter has had a dramatic impact on our balances and net revenue.

Keith commented earlier, we had continued good traditional LHI growth in the quarter, not at the same pace as the second quarter, but in line with full-year guidance.

Our traditional LHI average balances grew by 5% from the second quarter and 15% from the third quarter of last year.

Strong growth in the final days of the quarter, with ending balances above average by $400 million, providing a really good start for Q4.

We continued to experience high level of payoffs in the third quarter.

We continued -- had continued strong mortgage finance balances, increasing 27% from second quarter and up 4% from this time last year.

Q3 is typically seasonally strong for these volumes.

We experienced linked quarter growth in total deposits, including DDA, and still expecting continued growth in the fourth quarter.

While always targeting the most cost-efficient deposit sources, we do expect most of the future growth to come from interest-bearing categories at a very reasonable effective cost.

With the rising rates, no change in stated rates through 4 increases, but some migration to interest-bearing from DDA.

Reacting to specific customer situations, evaluated on a total relationship basis.

As a reminder, only 2 major deposit categories move in tandem with Fed rates, and that's approximately $4 billion to $4.5 billion in balances.

The impacts on deposit pricing from June -- the June increase was less than anticipated, but we expect more impact from any subsequent increases, which as we've said in the past, is not particularly concerning based on the composition of the assets side of our balance sheet, which is basically 95% floating rate.

Moving on to noninterest expense.

The increase linked quarter in noninterest expense was predominantly related to variable add-ons that were anticipated.

Incentive accrual ramps as earnings ramp during the year, so generally Q3 accrual will be higher than Q2.

More fluctuation in FAS 123R expense in this third quarter compared to Q2, primarily related to the increase in our stock price.

$2 million change in expected to -- full year 2007 (sic) [2017] total FAS 123R expense of approximately $21 million.

That's up from $19 million in Q2 and compared to a planned level of almost $16 million in 2016.

As mentioned in the past, quarterly and annual cost can vary with the change in stock price, but not as variable if viewed with a full year perspective.

The fourth quarter FAS 123R expense is expected to be consistent with the third quarter expense of $6.1 million, assuming no significant change in our stock price.

FDIC expense fluctuation as Q3 -- at the Q3 level is back to a more normalized level.

Q2 was unusually low as a result of lower asset balances earlier in the year.

All of our new and expanding lines of business continue to be profitable during the third quarter and contributed to our third quarter loan growth.

New lines of businesses are continuing to provide meaningful contribution on pretax, pre-provisioned basis.

Continued normal bill out at a more modest pace, and nothing is expected to be as significant as what we experienced in 2015 and '16.

Servicing-related expenses are directly related to servicing revenue, which provides overall about $0.5 million profit contribution for the quarter.

Other categories, including occupancy, technology and marketing costs, are all primarily directly related to growth, including growth in deposits.

With strong warehouse balances, and the contribution of the new and expanded LOBs, net revenue increased significantly, and the efficiency ratio improved in the third quarter to 51.4%.

Debt level will rise in Q4, with the adverse impact from lower mortgage warehouse balances, with some offset from core growth and continued ramp in the contribution of the new and expanded businesses.

Moving on to asset quality.

Asset quality continues to be good and very strong net of the energy NPAs.

Nonaccrual levels still on an acceptable level of 58 basis points of total loans, with more than 65% of that comprised of energy loans, which are taking time to resolve.

The provision of $20 million for Q3 compared to $13 million in Q2 and $22 million in third quarter last year.

Our Q3 provision includes an additional $4.5 million for hurricane-related exposures, the strong growth in the quarter drove additional provisioning, and lastly, our methodology required covering charge-offs for which previously allocated reserves were not sufficient and the effects of a minor increase in criticized classified loans during the quarter.

Charge-offs for the quarter totaled 10.7 million and included 6.3 million related to energy.

Quarterly net charge-offs represented 22 basis points of total loans, of which about 60% related to energy.

Strong growth with net revenue increasing 11% and net income increasing 15% from the second quarter, with good loan growth, both in traditional LHI and total mortgage finance.

Positive impact going into the fourth quarter, with strong earning asset base and very favorable composition.

ROE and ROA levels are much improved following impact of the elevated provisions and results for most of 2016, with much improved outlook in '17, which we started to see in Q2, and has continued in Q3 as mortgage finance volumes have benefited from seasonal strength.

Our provisioning in Q3 as a result of the additional hurricane-related cost of $5.2 million, including the $4.5 million provision, impacted ROE and ROA.

ROE back over 11% related to higher net revenue, and despite higher provision level, and the impact of the equity raised in Q4 2016.

However, seasonally strong mortgage finance contribution has a positive impact on ROE levels in Q3, which will be diminished somewhat in Q4 so 11% is not necessarily a new run rate.

Finally, I'll finish up with our 2017 outlook.

The outlook for traditional LHI is unchanged with our Q3 results.

Q3 growth was in line with guidance, and we expect good growth in Q4.

We expect average balances for total mortgage finance loans, including warehouse and MCA for Q4 to be $4.5 billion to $4.9 billion, up from the previously communicated $4.4 billion.

Total average for the full year of '17 will be approximately $4.7 billion, which is flat with 2016, despite the benefit of the refinance activity on 2016 numbers.

Our Q3 warehouse volumes were better than originally expected, and some lift in expectations for warehouse volumes for fourth quarter, bringing expected average for Q4 for the warehouse to $3.6 billion to $4 billion.

MCA guidance stays the same at $900 million.

We're still working to fine-tune optimal whole towns, which can be affected by seasonal trends and the pace of new client onboarding.

The balance sheet is managed to optimize earnings results, which is especially important in the current environment, when gain on sale is basically nonexistent.

For total deposits, guidance remains unchanged, with continued growth in deposits expected, but we do expect to see more mix shift from non-interest-bearing to interest-bearing over the remainder of the year.

Seasonally, we expect liquidity levels will increase in Q4 as warehouse volumes will be down, and we will continue to increase deposits.

It will be punitive to NIM in Q4, but still favorable to net interest income.

The outlook for core NIM is unchanged.

Negative impact of mortgage finance growth in Q3 extending to Q4 NIM, with a more pronounced impact in Q4 as balances from reduced warehouse activity will shift to liquidity assets.

And additionally, any mix shift in deposit profile would be negative.

The outlook from net revenue has improved with Q3 mortgage finance performance now at mid- to high-teens percent growth, slightly better than the previous range of mid-teens.

Servicing income has risen with a partial offset from servicing expenses.

Provision.

Our provision guidance is unchanged at low- to mid-$50 million level.

We are expecting a slight change in NIE guidance to reflect some of the factors in Q3 like an elevated FAS 123R expense related to stock price and servicing expenses, which are offset by increases in income.

So revising to low- to mid-teens, up from low-teens.

With changes in both net revenue and NIE, no overall change in efficiency ratio.

We're keeping it at low to mid-50s.

Keith?

Thank you, Julie.

On Slide 13, we summarize the key takeaways for Q3.

We delivered strong earnings.

Our loan growth in Q3 was strongest in the last half of Q3, thereby setting us up for a strong start in Q4.

Deposit growth is improving and should be stronger than loan growth in Q4.

Asset sensitivity remains one of the strongest in the industry, positioning us well with the expected shift and deposit composition with rising rates.

Credit metrics are improving.

We remain confident in the adequacy of our energy reserve and improving quality in our growing energy portfolio.

The $4.5 million special provision related to the hurricanes prepares us well for any [grade] migration that might occur.

The emphasis we placed 2 years ago on lifting ROE is showing positive results.

Better discipline in growing top quartile ROE new and existing lines of business is contributing improved margin in incremental revenue, and the effect of slowing NIE growth should help sustain year-over-year improvement in ROE going forward.

All in all, we are pleased not only with the results during Q3, but believe these results further reinforce our improving prospects for higher returns for our investors in the years ahead.

This concludes our Q3 remarks.

Before I open the lines for Q&A, Julie and our executive management team join me on behalf of all our cohorts at Texas Capital Bank, in wishing Peter Bartholow our very best upon his approaching retirement at the end of the year.

Peter, we will all miss you day to day, but hope to see you often as the friends we've become.

Julie, Heather and I, in particular, want to thank you for teaching us so much about the capital markets and investment community over our years together.

And we all want you to know that we will sorely miss your sense of humor, intellectual challenge, wisdom, and concern for others.

Our very best wishes, Peter, for the new chapter that lies ahead.

(Operator Instructions) The first question comes from Ebrahim Poonawala with Bank of America Merrill Lynch.

So I just wanted to touch upon the mortgage finance LHI yields decline from last quarter.

Just wanted to get sort of your thought process.

I mean, obviously, we had that big drop-off in the first quarter of this year.

We've realigned some strategy there.

Just want to get a sense of, if the Fed moves again, let's call it in December, should we expect those loan yields to sort of reprice higher?

Or how are you thinking about sort of the profitability of that business?

Are the deposits that sort of justify having those yields staying flat or going down from here?

Well, they are LIBOR-based for the most part, Ebrahim, so if we do get a Fed lift, we would expect that, that would benefit our overall yield there.

But do you think that the benefits would be lower today than it was 12 months ago because of how competitive that business has been in the last 9 months, where you might have to give up some of that LIBOR move to the clients?

It's been competitive.

But as you can see, we've competed quite well the last 2 quarters.

I think we -- when all results come in, we'll end up, likely, best of peer as far as market share takeaway.

Certainly, it is more competitive than it was a year ago.

It's hard to predict exactly what that'll look like, come early next year, but we are, thankfully, in a position where we can, we believe, scale at the lowest possible incremental cost as we grow that business relative to competitors.

So we're in a very good position to still deliver a really nice ROE even in a competitive environment.

Ebrahim, this is Peter.

I would also say that giving up a few basis points, which is the way we analyze it, [for $1 billion] in growth linked quarter was certainly the smart decision, relative to the marketplace.

And secondly, as part of your question, yes, indeed.

The deposit profile in that business justifies some shaving of rates as part of the relationship pricing that Julie mentioned.

Understood.

That's helpful.

And then, just sort of taking a step back, Julie mentioned 11% ROE.

Obviously, seasonally may not be sustainable into fourth quarter.

But Keith, I would love to get your thoughts around, as we think about '18, absent any sort of rate hikes, do you think, structurally, there is room to improve that efficiency ratio from low- to mid-50s?

Or this is kind of where, on an ongoing basis, the bank should be operating, and that's where you think we would be in '18, without any rate hikes?

Without any rate hikes, we still believe we're well positioned, Ebrahim, to improve our efficiency ratio year-over-year in '18 versus '17.

Would you care to quantify by how much?

We're not ready to give guidance yet, but we do believe we can improve on it, and we'll be prepared to address that in January.

We're in the planning process now, so we'll -- more information in January on that.

We give you an A for effort, though.

Yes.

Good try.

Well, I had to try.

And again, Peter, good luck.

I agree with everything Keith said.

Particularly, we'll miss your sense of humor.

The next question comes from Dave Rochester with Deutsche Bank.

On the expense side real quick, I know you reiterated the efficiency ratio guidance.

I was just wondering if you could speak directionally to expenses beyond this quarter?

I know you mentioned the $700,000 in hurricane cost.

You had that portion in comp that was related to the stock price.

Are you thinking that expense levels could stabilize here through the end of this year?

Or will they continue to grow from this higher base, even if the warehouse book declines?

Any thoughts there?

Sure.

We tried to point out there's some variable components that will grow, and that's when we tried to highlight those.

We're always going to have a certain amount of buildout, but as I said, less than we've experienced in '15 and '16.

So the core buildout expenses, you should see us slowing.

But there are a few variable pieces, and we'll just try to keep pointing those out.

Because those really should be looked at separately than some of the core, like salaries and some of the other core expenses.

Okay.

So we back out for some of these one-time items.

Call them one-time this quarter, the hurricane expenses, whatnot.

But then, we should probably be higher on expenses for 4Q, just generally speaking?

Is that what it sounds like?

Overall?

Well, again, to deliver the kind of overall LHI, traditional LHI growth we deliver, versus all our peers, we are, as Julie suggests, always in a certain state of buildout.

But we're not in that mode, Dave, as you can appreciate, building out 3 brand-new businesses full bore and rebuilding 3 others.

And that really took an outsized amount of NIE growth and that should begin to taper next quarter, year-over-year.

Got you.

Okay.

And then, on the deposit side, you have some great, average, non-interest-bearing deposit growth this quarter.

I was just wondering what the main driver of that was, if that reflected certain business lines?

If you saw any benefit from the beginning of the rebuild in Houston.

?Any color on that would be great.

We're not going to see like perhaps more traditional retail banks.

The kind of near-term buildup in insurance proceeds that was the case with Katrina.

I know that was something that everyone was projecting might happen after these hurricanes.

And perhaps banks primarily based in Houston, that have the brick-and-mortar footprint, unlike our model, may see that.

We don't expect to see as much effect from that because we have businesses as our clients primarily.

So we really saw overall broad growth, and it's coming in the typical areas we've seen before.

In our Texas markets, as well as in some of our national treasury market niches that we're playing in.

It's widespread, but it's all tied to treasury services.

It's treasury clients, instead of widespread in our markets and some of the specialty areas.

Both Texas and also national markets.

Okay.

And it sounds like you expect those balances to grow.

I mean, maybe not at the same pace, obviously.

And it sounds like you're expecting more growth in interest-bearing.

But those balances should still grow from here?

We expect they'll grow, but we also expect some migration from DDA to interest-bearing.

And then, also, incremental growth will be higher in interest-bearing.

But we still believe we'll have ongoing growth, new market share takeaway in DDA.

And we're hopeful that, that will hold DDA at a very nice level with maybe some very modest growth.

But most of the growth we expect with rising rates will be occurring in the interest-bearing side.

I think we've made it clear, Dave, we have long sales cycle on some of those treasury relationships.

And they can -- there's fairly significant dollars when they come in.

And the pipeline, as Julie says, is very strong.

But it can be lumpy.

Okay.

And then, just one on the NIM, and on the increase on the cost of interest-bearing deposits.

That was up, it looks like, about 17 bps in 3Q.

It's a little bit of a bigger move than last quarter, but it doesn't sound like you changed stated rates.

And I know you have the correspondent back deposits to broker-deal the deposits that reprice up automatically.

But that's a smaller piece of that bucket.

I was just wondering, what's driving the rest of that increase and the remainder of that interest-bearing deposit bucket that you saw this quarter?

It was some mix shift.

And again, we expect that'll continue in a rising rate environment.

And again, the last rate increase was at the end of last quarter, so we had a full quarter of that this time.

And those buckets that move in tandem, it would have only been half a month in last quarter.

And so it was a full quarter of that this time.

And, in addition, growth is not coming at the average of the entire portfolio.

Okay, great.

And Peter, of course, a real pleasure working with you and of course, the sense of humor comment resonates here.

I don't know if Heather's going to miss your sense of humor as much as I will, but I think it will be missed.

The next question comes from Emlen Harmon with JMP Securities.

Guys, I was hoping you could hit on the specialty bid that some of the newer kind of specialty businesses, and just kind of what their contribution was to the -- has been to [help for] investment growth this quarter?

I think kind of public finance, ABL, franchise finance, some of those newer businesses.

We don't historically give specifics on those, but it's important to know that their contribution, both from an income perspective and growth, continues to increase each quarter.

So we don't -- we won't -- I don't think we'll get into a pattern of giving specifics on any of those lines of businesses, but they're all continuing to expand their contribution and expand their contribution to loan growth.

Got it.

Maybe trying it a different way.

I mean, does it still feel like we're in early innings for a number of those -- very early innings for a number of those businesses?

Absolutely.

Absolutely.

We do.

We're seeing very nice increases.

It's just relative significance is not so great that we feel like it's a material item we should start disclosing in more detail.

Maybe sometime late next year that will change.

We'll have to see.

I mean, we continue to see improving ROE and improvement (inaudible) and efficiency ratio on all those lines of business.

So the trend is what we expected, and it should continue.

Got it.

Okay.

And then, just -- the tax rate looks maybe a little low kind of versus the normalized level.

Any unique effects on that this quarter?

Was that maybe just an effect of you guys putting away more provision than charge-offs this quarter?

No.

There's just -- there's 2 components that affects that now, and it can vary a little bit from quarter-to-quarter.

One, the public finance, most of that is tax exempt.

So that has an impact.

And then, the new stock-based compensation rule, that can have an impact.

So it can just vary a little bit from quarter-to-quarter, but overall, the annual year-to-date rate, I think, is pretty good to consider what it's going to be going forward.

Got it.

So I'm getting something, [I think out of the] 34-percent-ish range, year-to-date, feels about right to you?

Yes.

Down from 36%, previously.

Yes, that's right.

Got it, got it.

Perfect.

And best of luck to you, Peter.

It has been a pleasure.

The next question comes from Brady Gailey with KBW.

So maybe one more, just on the funding cost.

I mean, we've had 3 quarters in a row where we've seen, basically, 25 basis point increase in the Fed funds.

And yet we've seen you all's funding cost rise kind of accordingly.

I mean, if the Fed slows the pace of rate increases going forward, do you think that you'll see a much slower creep higher in your funding cost?

Or do you think competition or maybe your customers asking for higher deposit rates will keep that cost headed higher?

No.

A lot of our cost, as you know Brady, is tied to 2 categories that drive about $4.5 billion to $5 billion, and they've really synced up with those Fed increases.

In one case, it's synced precisely 100% beta relative to Fed increases.

The other is close to sync, it may be 90%.

There's a little bit of a lag on it.

So that is primarily what drives the shift.

Competition?

We're seeing competition.

Everybody does.

And we look at it on a case-by-case relationship basis.

But we're not seeing that escalate.

In fact, we're not seeing it at a level that we anticipated yet.

So we'll deal with it as the market puts us in that position to deal with it, but there's no bank in a better positioned from an asset-sensitivity standpoint to deal with those shifts.

Yes.

Brady, I think it's just important to focus on what's happening on the asset side of the balance sheet.

I mean, $15 billion in traditional LHI, and we saw a 20 basis point increase in net yield for the quarter.

And then, that will continue to move in tandem with future rate increases.

And even on the mortgage finance, mortgage warehouse MCA side, relative to securities portfolios, I mean, we definitely have far more asset-sensitive assets in that category.

So you look at our overall asset side of our balance sheet, not just our loans.

And again, we struggle to find anybody any more asset sensitive than we are.

Okay.

All right.

That's helpful.

And then, Keith, you put on the press release on the front page that you're kind of also remaining cautious as we're late in the recovery cycle.

I think you've said that a couple of times on previous conference calls.

Are you seeing anything in the Texas and national economies that start to actually look like projects are slowing or businesses are starting to see some softness?

I know the last couple of years in Texas, you've had the energy issue, and now you have some hurricanes.

So there's some noise there.

But are you actually starting to see any weakness in the Texas and national economies?

We're really not.

What that comment really is about is, as you know, we've had quite a conservative point of view about this expansion and economic recovery cycle.

And we still believe there's a lot riding on whether we get a tax reform package that's really meaningful.

And if we find that that's going to remain dysfunctional, that effort in Washington for a prolonged period, that is what the comment really relates to.

I think it will cause companies that today are doing business and growing very modestly.

Do you think again about how will they choose to grow?

And that could cause enough concern that we could have a slowdown or at some point, in the next year or so.

Hopefully, not a technical recession, but some slowdown.

I know we're more conservative.

We have been for a couple of years, but we grow faster than any other bank in our peer group.

And so it's very important that we be cautious and thoughtful about the quality of that growth.

And so that's the genesis of that comment.

Okay.

(inaudible) Same with Peter, good luck with retirement.

You're definitely going to be missed by all of us.

The next question comes from Casey Haire with Jefferies.

So I wanted to touch on the NIM guide as well as the mortgage finance guide.

I understand that mortgage finance, obviously, is seasonal weakness in the fourth quarter.

But the guide of $4.8 billion in the fourth quarter implies a pretty violent downdraft.

I'm just wondering, are you guys being conservative?

Is there any update you could give us, as to where those balances are in late October here?

Or just some color there on the guide on mortgage finance.

Yes.

The fully changed was the warehouse guidance, which we've said will be $3.6 billion to $4 billion in the fourth quarter.

And that's actually up from what we thought it would have been last quarter.

So that's our best estimate right now.

Right.

But my point is that those period end balances were $5.6 billion, and it was $4.8 billion in the third quarter average.

So to get...

Seasonality can -- I mean, we were up $1 billion.

We were up $1 billion when you look at averages from Q2.

From Q1 to Q2 to Q3, you can see that there's some -- there can be some significant fluctuations with seasonality.

The quarter end balance, Casey, really has no bearing on what may happen.

It may be instructive relative to other companies, what's happening in our portfolio compared to others.

But it may not be and will not be indicative of the average in the seasonally soft fourth quarter.

Yes.

It's just -- end of Q3, Q2 and Q3, it's just the end balances, the end-of-period balances are just so artificially high that you can't really base an average on those.

Okay.

Understood.

And then, just -- coming at the mortgage finance pricing another way.

What was -- what is today sort of the new money yield on the mortgage finance versus that 3.46% in the third quarter?

Same.

I'm sorry?

Same, basically.

There's no change in that number in Q4, until there's a rate increase.

Okay.

And then, just last one.

Sort of switching to credit.

Obviously, you guys, first time in a while, I guess, energy loans increasing on the quarter.

Can you just give us some updated thoughts on how you guys are feeling about reserve adequacy here on the HFI book at 1.23% is -- with energy above [50].

What does -- are you feeling good at that level?

Or is there room to sort of ride that lower?

We feel good at that level.

We're going to have to continue to monitor the economy, of course, and what's going on quarter by quarter.

And again, we hope to see continued good economic growth.

And the big question we still have, like most of the business community, is what happens with tax reform, Casey.

But at this point, we feel good about where we sit with our overall reserves and our credit quality.

If you extract the energy piece from our overall NPAs, we're in very good condition.

Okay, great.

Peter, good luck in retirement.

The next question comes from Michael Rose with Raymond James.

I'm just trying to -- I'm not sure if I'm doing the math right, but you guys maintained the full-year margin guidance of 3.35% to 3.45%, yet you've had 2 quarters in the upper 3.50%s, which implies a pretty steep drop in the fourth quarter.

Am I thinking about that right?

It's the shift.

Yes.

It's the shift.

I mean, basically...

For liquidity.

Yes.

From the warehouse, that 4.8% going to 3.6% to 4%, and that move into liquidity assets.

They both factored in some additional growth in interest-bearing deposits, which could drive the NIM down some.

Got it.

Okay.

That's very helpful.

And then, just on the noninterest expense guidance.

Are you guys including the technology charge that you took last quarter?

Or is that excluded when I'm thinking about the guidance?

No, it's in there.

It's in the full year.

It's for the full year, yes.

Okay.

And I know it's a little early to talk about 2018.

But you guys have obviously made a lot of investments over the past few years in some of these businesses.

I think one of the things I hear most from investors is you guys have grown expenses pretty commensurate with the revenue growth over the years.

I mean, can we actually conceivably see a year, or a couple-year period, where we actually get some really meaningful operating leverage and [non-issue expense] growth, below a double-digit rate where it's been historically?

Well, we may, depending on if we see some outsized opportunity that we don't see at this moment.

We don't intend, Michael, we're not working in our lab on any major new businesses.

And so to not take that on when we had 6 that we've been building the last 2.5 years.

I think you should see some improved operating performance, operating leverage, and we're expecting to deliver that.

If we saw an outsized opportunity and we don't -- I don't see one today, and could hire several great C&I bankers, and really exploit opportunity there, then, for a quarter or 2, you could see that elevate.

But again, I'm not planning -- we're not planning for that happening, but we're always going to be entrepreneurial and tuned in to the market and look for opportunities.

We are reaching a size where those kinds of decisions don't have the same kind of impact that the ones that happened in '15 and '16 did, Michael.

It'll just be hard to find enough RMs in any given 2 quarters successively to make an impact, as Peter suggests.

Unless we built out some major new business, and that's just not on the drawing board.

Understood.

And Peter, thanks for everything over the years.

And I fully expect some blueberry shipments as we move forward.

The next question comes from Brad Milsaps with Sandler O'Neill.

Just to -- one more mortgage warehouse question.

I guess, in the first quarter of this year, when you saw the seasonal fall off, the liquidity didn't actually build in the first quarter because you had some deposit exit the bank.

Do you feel like, with the rate concessions you've given in the third quarter, that dynamic, it sounds like that dynamic, you don't expect that to play out again in the fourth and into the first.

You're going to hold on to more of that, which therein lies your margin guidance.

Is that kind of the way we should think about it?

That's how we see it at the moment.

Okay, great.

And Keith, I know you've mentioned this in the beginning, but I was writing.

Quickly, do you feel like -- just kind of curious how you arrived at the $4.5 million provision number for the storms.

Do you think that kind of captures it all?

Or still kind of too early to tell as you continue to kind of work through all that?

Well, I think, in terms of all our accounting trends, it is a very precise scientific number we've developed.

And we think it's absolutely appropriate.

But of course, it's an estimate, because there's information still coming in.

We don't think we were overly generous nor do we think we minimized it.

We think it's the best estimate we could make in this information -- with the information we have today.

So we feel comfortable with it, Brad.

Brad, it's mostly driven by the risk of grade change, not identified loss.

And the methodology would cause that to be allocated if we see meaningful grade changes that had not come about.

Got it.

Great.

Peter, best of luck with everything.

It's been a pleasure.

The next question comes from Jennifer Demba with SunTrust.

Another question on the hurricane provision.

So do you think that any losses or grade changes on these impacted credits, this all probably occurs in the next 3 to 6 months?

Or do you think it could drag on any longer than that?

I'd be surprised if it dragged on longer than that, Jennifer.

I think we'll have a much better fix on it, over the next couple of months, and then likely deal with most of it, the large majority of it, by the end of the first quarter.

(inaudible) expect a lot, but we just thought it was imprudent to not set aside some provision because we don't know everything yet.

Okay.

And if I'm missing this earlier, I'm sorry, did you outline any of -- did you do any hiring during the third quarter?

We did.

We hired 3 RMs, as I recollect, in the third quarter, and are continuing to look for the starting lineup of the All-Star team.

But those come, as you know too, those come as they're ready to join, and not when we press them to join us.

And so it's a long recruiting sales cycle the way we approach talent selection.

We want to be sure they select us very carefully too.

I know enough of our people that when they join us, we're out of the gate strong and that the likelihood of them being disappointed or us being disappointed is much reduced because we've spent enough time and understand what needs to be done.

Okay, great.

Peter, thank you very much, congratulations.

Look forward to seeing you later this quarter.

The next question comes from Brett Rabatin with Piper Jaffray.

I wanted to just kind of go back to the deposit stuff and talking about some of the migration from DDA moving to other categories.

I just want to make sure I understood the magnitude of what you're expecting there.

And then, kind of what products that you're expecting that movement to and what that might mean for the cost of funds from just that perspective alone?

We're just estimating as best we can judge what we're beginning to see increasing because of more and more talk about further rate increases.

And we have always said once we got past the first 2 rate increases, we would start to see more influence.

Thus having to pass through some of that rate increase into our cost of funds rate payment.

And we continue to negotiate it on a relationship basis, but it's our best estimate of where we think the trends are headed.

And we don't see a massive change, but we just think the trend is going to pick up.

Along with the heavy weighting of interest-bearing in the identified pipeline.

That's the bigger factor, actually, than migration.

We've really been working on trying to tie all of our treasury relationships even more tightly to us.

And if some of that incremental money is simply in interest-bearing, if we're going to add to the relationship, and that's what Peter's alluding to.

Okay.

And then, post obviously, some liquidity build with mortgage being lower in the fourth quarter.

It would seem like if we get a December hike, that your margin should actually end up trading higher than it was this quarter.

I guess I'm curious if you're hearing any conversations about loan spread competition affecting the next rate hike?

And then, any thoughts on the magnitude as you see it?

The December rate hike on your margin in the first quarter next year?

The December rate move, if we get it, it will be late.

So I just don't think it'll have a huge impact on the fourth quarter margin.

Right.

No, I'm sorry, Julie, on the first quarter.

On the first quarter.

Yes.

No, we would absolutely see it in first quarter.

But we're just not going to see much of it in the fourth quarter.

And since most of ours are priced on LIBOR, we may see it -- if LIBOR starts to move more, we may see it in advance of that.

But it would have a bigger impact on Q1, very little in the fourth quarter.

It's just hard to estimate at this point how much the competition will press in order to achieve some amount of growth.

But again, we continue to have outsized growth when you look at year-over-year in our more typical quarters.

And if you just look at quarter-by-quarter on a traditional LHI, we have very, very strong growth.

So yes, we're always in competition, but we're not under the same pressure some of the competitors find themselves in to show some growth.

And we'll just have to see how that plays out, and how much of that rate increase we end up having to compete against.

And again, the competition is going to be on growth and new loans.

So the existing book would reprice and we would have some benefit from that until that starts to renew.

So...

That's exactly right.

Okay, great.

Thanks for all the color and best of luck, Peter.

The next question comes from Jon Arfstrom with RBC Capital Markets.

Just to follow-up on Brad's question, on the deposit pricing in the pipeline.

Peter, you talked about just this is the way it happens with -- you have an interest-bearing pipeline, it sounds like.

Are these deposits that you expect to come in at above or below your current average deposit rate?

Above the current average rate, but we believe below what we're earning as the Federal Reserve Bank of Dallas.

Okay.

Okay.

Got it.

That helps.

And then, Keith, a question for you back, way, way back, on the core loan growth.

You talked about how it kind of picked up mid-quarter and after, and the pipelines have pulled through into Q4.

Anything specifically driving that?

And just curious if it's broad-based or there are a few specific businesses that are driving that?

Nothing in particular.

We just have our growth.

Sometimes it comes a bit lumpy because we do cater to almost exclusively businesses as opposed to having the more granular retail that sometimes is more predictable.

And it just happened to come in more heavily in the last half of the quarter, Jon.

The next question comes from Scott Valentin with Compass Point Research & Trading.

Just with regard to servicing.

I know you guys said it's about $0.5 million net positive, but I'm just wondering at what point, if I back into a rough number, if I use 1% on the asset yield, about [$7 billion of EPB] on the servicing.

I'm just wondering, I know you guys have said you want to get to an economic level before you sell it.

Just wondering where that is.

And second part of that will be a potential change in regulation on capital treatment for servicing.

Wondering if that's impacting your thoughts on when to sell the asset.

I think we're still talking internally about that strategy.

I think that you will start to see us make some moves on that sooner rather than later and we'll probably talk a little bit more about that in January.

The changes, the potential changes on the regulation, the way I understand it is it's going to change the maximum, which I don't think we've ever intended to get to that level anyway.

So I think we hope to be able to talk more about our strategy for what percentage we're going to sell, how we're going to handle that in the near future.

And then just to clarify a comment I think, Julie, you made about the loans held from investment in terms of the yield went up, but it was kind of -- the repricing occurred, but new loans were done, I guess, below fully in next rate, is that correct?

So the overall -- okay.

That's correct.

Correct.

The new growth will be coming on at a rate lower than the portfolio rate.

Okay.

All right.

And in terms of the hurricane impact, was there any impact on the mortgage warehouse business or the MCA business?

Any ongoing impact there in terms of volumes or delays in closings?

Not volumes.

There could be some delays in selling.

In the MCA there could be some delays on selling the loans.

But yes, it was -- because it's such a small piece of the overall book, yes, nothing that was noticeable.

Yes.

Houston volume represents about 2% of our overall national volume.

I mean, we're very spread out coast-to-coast in that business.

So it didn't have as much effect as you might think, Scott.

Okay, I appreciate it.

And Peter, thanks for your help over the years and best of luck in retirement.

The next question comes from Peter Winter with Wedbush Securities.

Just curious.

With the margin pressure expected in the fourth quarter, would you expect to still see growth in net interest income, sequentially?

It's going to be a function of how much seasonality we experience with the warehouse, if it's going to be meaningful.

So that's the -- that will be the big question, really.

And again, when you see that much shift in warehouse volumes softening, and it goes to, instead, liquidity at the Federal Reserve Bank of Dallas, I mean, that's a meaningful, meaningful change.

The guidance incorporates that assessment.

It does.

That it would increase?

No.

That it was...

It accounts for that.

The effect of the mortgage warehouse reduction, offset by the growth, and we expect and have been already benefited from in traditional [held for] investments.

And then the increasing contribution expected from the 6 new or expanded businesses.

You're throwing me a little bit because while we have the guidance, I don't know the dollars of net interest income, and I think that's what you're asking.

But the math is there in our guidance.

I just haven't run the math.

Okay.

Because the reason you had said that you expect the efficiency ratio to increase in the fourth quarter, relative to the third quarter.

And I guess, that would imply some pretty similar type growth rate and expenses that you saw in the third quarter -- in the fourth quarter?

No.

It's more revenue.

Revenue.

No.

No, it's about the net revenue.

It's about the net revenue.

So yes, in the guidance, we've said that the warehouse is going to be down.

So we've adjusted for the lost revenue in the fourth quarter on the warehouse compared to third quarter.

But we also on the -- on the core book, the core book, we're starting with the higher balance also, which will offset some of that.

Got it.

And just my last question.

With the improvement in the energy portfolio, I would think that there's some opportunities to release reserves tied to energy, and can you shift it to support some of the loan growth?

We're not ready to talk about that quite yet.

I think by January, we might be able to talk a bit more.

The way we grow, we grow at such a fast pace relative to everyone else.

Releasing would mean really just reallocating in most cases.

Because our provision with our high-growth is meaningful on just incremental new pass-grade loans that we add every month, every quarter.

So I think at some point there will be some reallocating of that money, Peter.

But I can't tell you when that's going to happen and at what speed yet.

Okay, great.

Peter, congratulations on your retirement and good luck in the new chapter of your life.

This concludes our question-and-answer session.

I would like to turn the conference back over to President and CEO, Keith Cargill, for his closing remarks.

Thank you for joining us for our Q3 2017 earnings call.

We appreciate your interest in Texas Capital Bank, and please know our team is working hard to deliver positive results for Q4.

Thank you.

Thank you for your participation in TCBI's third quarter 2017 earnings conference call.

Investors are encouraged to contact Heather Worley by phone at (214) 932-6646, or by e-mail at heather.worley@texascapitalbank.com with any follow-up questions.

You may now disconnect.