美國合眾銀行 (USB) 2007 Q3 法說會逐字稿

Good morning and welcome to the U.S.

Bancorp's third quarter 2007 earnings conference call.

Following a review of the results by Richard Davis, President and Chief Executive Officer; and Andy Cecere, U.S.

Bancorp's Vice Chairman and Chief Financial Officer there will be a formal question-and-answer session.

(OPERATOR INSTRUCTIONS) This call will be recorded and available for replay beginning today at approximately 11:30a.m.

Eastern time through Tuesday October 23, at 12:00 midnight Eastern time.

I will now turn the conference call over to Judy Murphy, Senior Vice President.

Thank you for joining us this morning.

This is Judy Murphy, Director of Investor Relations at U.S.

Bancorp.

Today, Richard Davis and Andy Cecere are here with me to review U.S.

Bancorp's third quarter 2007 results.

If you have not received a copy of our earnings release and supplemental analyst schedule, they are available on our website at usbank.com.

I would like to remind you that any forward-looking statements made during today's call are subject to risks and uncertainties.

Factors that could materially change our current forward-looking assumptions are detailed in our press release and in our Form 10-K reports on file with the SEC.

I will now turn the call over to Richard.

Thank you, Judy and good morning to all of you for joining us today.

As you know during the third quarter of 2007, issues, events, and general turmoil surfaced in the financial markets that has significant impact on our industry.

These issues seemed to accelerate and expand as the quarter progressed and at the forefront were concerns surrounding subprime lending, liquidity, and credit quality.

Despite having this environment as a back drop to the third quarter, I'm actually pleased to be here with you today to review the results of our third quarter.

As we discussed in early September at our investor conference, this Company is not immune to these issues and uncertainty in the current market but given our prudent risk management and credit culture the impact on our results has been and we will expect to be limited and manageable.

At this point I would like to take a few minutes to give you an overview of our third quarter results.

I will then turn the call over to Andy who will provide you with additional comments about the earnings.

After we have completed our brief formal remarks we will open the line up to questions from our audience.

Our Company reported net income of $1.176 billion, for the third quarter of 2007.

Earnings per diluted common share for the third quarter of $0.67 were $0.01 higher than the earnings per share in the same period of 2006 and $0.02 higher than the second quarter of 2007.

We achieved a return on average assets of 2.09% and a return on average common equity of 23.3% in the third quarter.

Both of these profitability metrics continue to be among the best in our industry.

Our third quarter net interest margin of 3.44% was 12 basis points lower than the net interest margin we reported in third quarter of 2006.

But equal to the prior quarter of 2007.

The result of this stabilization in the margin was a modest increase in net interest income on both a year-over-year and linked quarter basis.

Earlier this year we had indicated that the net interest margin would continue to decline from the first quarter margin of 3.51% and then stabilize in the 3.40s.

We continue to believe that given the current rate environment, yield curve, and balance sheet mix, this assumption still holds true.

Importantly for our Company, a stable margin is a key component to our future long term revenue growth assumptions.

Once again, our fee based businesses exhibited excellent momentum.

Payments on trust related revenue were particularly strong this quarter.

Year-over-year, our payments related fees grew by over 11% while trust and investment management fees increased by 8.5%.

In addition, the treasury management fees, commercial products revenue, and mortgage banking revenue all increased over the prior year.

You may recall that the treasury management and commercial product revenue fees are targeted for improvement through a number of our revenue growth initiatives and we expect to see those categories continue to expand.

Mortgage banking revenue has been one category that has actually benefited from the recent market conditions with what I would call a flight to quality.

Our mortgage products are first rate and our customers and business partners know that we will be there to fund the loan at closing.

Non interest expense in the current quarter was 5.9% higher than the third quarter of last year, but slightly lower than the previous quarter, a portion of the increase in expense year-over-year was related to investments in our fee based businesses and our banking franchise, such as personnel, marketing, and business development associated with a number of our growth initiatives.

Which include PowerBank, financial institution services, and the expansion of our FAF advisors third party distribution.

On a linked quarter basis, non interest expense was lower, as the cost of these investments made their way into the run rate.

This reduction in expense along with the increase in net revenue resulted in as expected positive operating leverage for the Company on a linked quarter basis.

Our tangible efficiency ratio of third quarter of 2007 was 43.6%, making us one of the most efficient financial institutions in the industry.

A disciplined approach to expense control will continue to be a focus for this Company.

It is our efficiency that allows us to continue to invest while still maintaining our industry-leading profitability metrics.

Turning to the balance sheet, total average loans grew by 4.3% year-over-year, led by solid growth in average total retail loans of over 8%.

Credit card loans once again drove the retail numbers with a 26.9% increase in average balances year-over-year.

As our branch based co-branded affinity and financial institution partnerships all contributed to the increase of this prime only based portfolio.

Although not yet fully reflected in the average balances, the Company did see a pickup in commercial loan growth during the latter part of the third quarter.

In fact, total loans grew $3.3 billion or over 9% on an annualized basis between June 30, and September 30, of this year.

Going forward, however, we continue to expect that our Company's growth in both commercial and commercial real estate loans will be slightly lower than the industry average as we continue to concentrate on originating principally high quality credits and compete on price for the best customers.

Once again, our credit quality metrics were strong.

Net chargeoffs were 54 basis points of average loans for the third quarter 2007.

Slightly above the 53 basis points in the second quarter of 2007 and higher than the 38 basis points of average loans in the third quarter of 2006.

These ratios represented an $8 million increase in net chargeoffs on a linked quarter basis and a $64 million increase year-over-year.

The increases over both the prior period, prior quarter, and the third quarter of 2006 were expected and a consequence of the current stress in the home building and mortgage industry.

As well as a normalization of consumer net chargeoffs after the late 2005 bankruptcy reform measures.

The most significant increase in year-over-year was in credit card loan net chargeoffs as a growth in outstandings and a slow return to a normalized net chargeoff ratio led to this increase.

The credit card net chargeoff ratio of 3.09% this quarter was seasonally lower and well below our expected long-term run rate for this category.

As we have previously communicated, this ratio will continue to climb over time to its prebankruptcy reform rate of slightly over 4%, still very low by industry standards.

Residential real estate related chargeoffs including consumer first and second liens also grew modestly year-over-year on a linked quarter basis as stress in the housing markets filtered through the portfolios.

Going forward we expect that both commercial and retail net chargeoffs will increase moderately as well as they will through the cycle.

Given our risk/reward profile, however, we expect our credit quality to remain favorable when compared to our peers and any increase in net chargeoffs to be very manageable.

As expected, non performing assets increased to $641 million at September 30, from $565 million at June 30.

This 13% increase was consistent with the expectations that we discussed at our recent investor conference.

Given the current economic environment, we anticipate that our non performing assets will edge higher but that that increase will be modest.

Our capital position remains strong.

We repurchased approximately 6 million shares of stock in the third quarter 2007.

This combined with our quarterly dividend resulted in 74% return on earnings to our shareholders in the third quarter and 117% year-to-date.

Well above our goal of 80%.

We remained well capitalized at quarter end with a Tier 1 capital ratio of 8.6% and a total capital ratio of 12.8%.

I will now turn the call over to Andy, who will make a few more comments about our quarter.

Thanks, Richard.

For the first time in eight quarters, net interest income was higher on both the year-over-year and a linked quarter basis.

The $12 million increase in net interest income over the third quarter of 2006 was the result of a $7.7 billion increase in average earning assets, which was enough to offset the 12 basis point drop in margin.

The $35 million increase in net interest income on a linked quarter basis was the net result of stable margin and a $2.6 billion increase in average earning assets.

The margin contraction year-over-year can be attributed to tighter credit spreads primarily due to competitive loan pricing.

Additionally, the cost of funding the Company has risen over the past year as rates on interest bearing deposits has gone up and the mix of liabilities continue to shift towards higher cost deposits and other funding sources.

An increase in loan fees, partially offset these negative factors.

We are still comfortable with the assumption that our net interest margin will be relatively stable through the end of the year for a number of reasons.

During the past several months, credit spreads appear to have stabilized for both commercial and retail loans.

As many of you know, however, our Company's strategy has been to focus on high quality credits which, by their very nature carry lower margins.

There continues to be aggressive competition for these credits and we are just beginning to see risk priced back into the market.

Consequently, although we don't see credit spreads deteriorating further, we fill it will take some time before these spreads have meaningful upside potential for the margin.

In addition, the growth in our loan portfolio in recent quarters has come from higher spread products including credit card and other retail loans.

And finally, the Fed actions in September will have a positive impact on our margin due to our slightly liability sensitive position.

Total non interest income was higher in the current quarter than the same quarter of 2006 by $96 million.

Year-over-year, the growth was somewhat muted by a $32 million gain from the sale of equity interest in a card association recognized last year in the third quarter of 2006.

Also included in other income category in the third quarter were two specific valuation losses totaling $21 million.

The first was related to a mark-to-market of certain trading account assets while the second resulted from a mark-to-market of loans held by a commercial real estate joint venture.

Non interest income in the current quarter was lower than the prior quarter.

Seasonal variances in trust and investment management and treasury management fees contributed to the decline on a linked quarter basis.

Both of which were affected by strong tax related activity in the prior quarter.

The reduction in deposit surcharges on a linked quarter basis was the result of one less processing day in the quarter as well as fewer transaction related fees.

Non interest expense in the third quarter of 2007 was $90 million higher than the same quarter of 2006.

The year-over-year increase continued to reflect recent investment in our business lines and franchise.

The remaining increase in expense was driven by the general business growth including operating expense related to tax credit investments and merchant processing expense related to new customer and transaction growth.

Also we had higher ORE related expense.

Non interest expense declined on a linked quarter basis by $12 million.

Deposit of change can be attributed to favorable variances across many categories.

At our recent invest tour conference I noted that our money market funds may be impacted by exposure to liquidity and credit issues in the asset backed commercial paper market.

Our third quarter results were not impacted by this issue.

The situation for the money market funds, including our First American funds remains fluid.

We still believe that the future EPS impact could range from zero to a couple of pennies over the next couple of quarters.

Although recent market events had a minimal impact on our income statement the rapid loss of liquidity in the mortgage securitization market led to an increase in our non performing loans on a linked quarter basis.

We identify this potential increase in September.

As two mortgage banking customers declared bankruptcy earlier in the third quarter.

Both commercial loans have been placed on non accrual as of September 30.

Although the loans are not performing, they are well-collateralized and we do not expect any material losses.

In addition, the slowdown in the real estate construction market resulted in an increase in non performing commercial real estate loans.

As one large project was placed on non accrual status.

Finally, an update on our exposure to subprime lending.

Our exposure to subprime residential loans is minimal and very little has changed from the end of the second quarter of 2007.

As of the end of this quarter, we had $3.2 billion of residential real estate loans and $900 million of home equity and second mortgage loans outstanding to customers that could be considered subprime.

Those two portfolios represent 2.8% of total loans outstanding as of September 30.

I would now like to turn the call back to Richard for his closing remarks.

Thanks, Andy.

I'm sure many of you in the audience today have had the chance to read our recent press release announcing that Bill Parker has been promoted to Chief Credit Officer of U.S.

Bancorp.

Bill's been with the Company since 1984 and has been very involved in the establishment and implementation of our current credit policies, procedures, and culture.

I am very pleased that Bill has agreed to assume this very important role for our Company.

A role that is even more important today than it was just a quarter or two ago.

Bill is joining Andy and I today to answer any specific credit related questions you may have about our third quarter results or the current credit environment as a whole.

In conclusion, as a Company, we will continue to capitalize on our core financial strength, including our profitability, our efficiency, our prudent credit culture, our capital management, and our customer service.

While selectively investing in the growth of our businesses and our people, both organically and via small, strategic acquisitions.

Our long term goals have not changed.

We believe we can meet the challenges presented by this environment and do so without taking the risks that could jeopardize our future.

We are not immune to the challenges, but our third quarter and year to date results support my belief that this Company is well positioned to produce a consistent, predictable, and repeatable earnings stream going forward for the benefit of our customers, communities, employees, and shareholders.

Andy, Bill, and I will now be happy to answer any questions from our audience.

Operator, we're ready.

Thank you, sir.

(OPERATOR INSTRUCTIONS) We are still queueing the roster.

The first question is from Mike Mayo with Deutsche Bank.

Good morning.

Good morning, Mike.

Could you just do something simple.

It sounds like there's a couple items that might have either hurt earnings, I'm not sure there's something that might have helped earnings.

You mentioned in other income, 21 million evaluation losses.

I guess that's probably not likely to repeat and you mentioned something else in other income that seemed to depress this quarter's results.

Right, Mike.

This is Andy.

Two items.

First of all, last year in the third quarter we recognized a $32 million gain from a card association transaction.

So that was a 2006 event in the third quarter, 32 million in other income.

This quarter, in 2007, we had $21 million mark-to-market in a, related to our trading activity.

And I would not expect that to be a repeatable event.

But it was an unusual event.

Negative 21 million?

That is correct.

And then you also said the credit card losses are well below typical.

Right.

And why is that?

Just credit quality expected to stay good for a while or?

Mike, if you look at our long-term history, last quarter, third quarter we were 2.85.

Also are quarterly, seasonally low for the year.

Quarter three based on the timing of people's receivables and their working themselves up to the fourth quarter spending for the holiday season are always for our portfolio, because it's only prime, it behaves in that manner.

While we love the 3.09, we didn't want the market to think that that was our new run rate as much as I would celebrate that.

It's really much more in the mid-3.50s right now on a core basis without seasonality and we want to remind the folks that before the bankruptcy reform we were right around 4% and that's where we expect this thing to level out over the next future quarters.

I guess a question is the state of the U.S.

consumer, then.

Do you still feel good with that 4% range?

Is the consumer good in your markets?

We do.

We have a high propensity of prime customer co-branded credit card clients and by virtue of saying that, these are people who use their card for not essentials as much as they do some of the more discretionary purchases and they continue to perform quite well.

So while I won't be the first person in the third quarter earnings cycle to say we're a bit surprised, the consumer holds up very strong and in categories that are more than just required spending they continue to do quite well and seem to be quite robust.

We are holding those those forecasts and expecting really no major change in consumer behavior for spending patterns.

Then last question.

I think we have core deposits linked quarter down a little bit.

I know that's been a focus.

Any color?

Say it again, Mike.

Core deposits, the way we look at it, we're down a little bit.

Mike, part of that--.

Excluding jumbos.

Right.

A little bit of that is seasonal, our second quarter is heavy in our government activity.

And that does cause our deposit categories to increase a bit.

Part of the decline is seasonal.

If you strip that out, we do continue to see a bit of the shift to the higher earning deposits from a customer standpoint but not dissimilar from prior quarters.

All right.

Thank you.

Thanks, Mike.

Your next question is from John McDonald of Banc of America Securities.

Good morning, guys.

Good morning.

Andy, wondering if you could give a little bit of color on what drove your mortgage revenues this quarter and what kind of outlook you have for the mortgage business?

Sure.

First of all, John, the hedging component, both of our on the book overall was fairly neutral on a linked quarter basis.

What we have seen is, as Richard mentioned in his comments, a bit of a flight to quality.

There has been increased production and activity in our mortgage group relative to prior quarters.

In fact, they're having a very solid year.

So it really is core production increasing across the board.

And John, given our size last I saw we were 23rd ranked in production and 14th in servicing.

We just really like that space.

We're very good at this.

We have a great deal of client relationships that we benefit from both in the broker community and directly through the branches.

It's just for us a core operating stream that's been, if anything, slightly benefited.

As you all know it's not big enough to move the needle except the fact that it could be harmful to us if it were to start to fail in its quality.

You said the vast majority is agency business.

Have you quantified that?

How big?

The very vast majority is agency.

We have a little bit on the jumbo side and some of that we portfolio.

The great majority is agency.

Okay.

Great.

And then a credit question.

I don't know if you said Bill was on the line today.

I'm here.

Hi.

Congratulations too.

Thank you.

Just a question on what's your remaining exposure to mortgage companies and then also if you could just walk through your exposure to home builders as well?

The mortgage lending unit that we have has $1.4 billion of loans outstanding.

They're all secured either by warehouse, first mortgages, or by mortgage servicing rights.

So we've had the two that Andy mentioned that did file, the good news on the other ones is that they seem to be getting through this liquidity crisis.

Most of them have returned to issuing only conforming mortgages.

On the home building side, we do have $4 billion of residential construction.

$1 billion of that is condominium construction and that is a portfolio that I'm sure you're you're all aware is under stress.

But it's regionally based.

Some markets are better than others.

But--.

John, we have a lot of sub categorical limits for different kinds of lending and condos would have been one of those.

Our diversity of geography would also prove that we're not concentrated in any one market.

Good or bad, necessarily.

But I think in the real estate market you're going to see our diversification across all size, types, levels, and geographies are going to serve us well during this next phase and as commercial real estate and the downstream effects of homebuilders might start to affect other things.

Okay.

And then one quick follow-up for Andy.

In terms of the margin, what would need to happen in the rate environment to see some benefit from the rate cuts, if you could just comment on that?

Well, we did have a bit of a benefit, John.

As we talked about at investor day, we are slightly liability sensitive late in the quarter.

As rates went down, that helped us a bit.

But our outlook continues to be for the rest of this year stable margin.

We talked about credit spreads.

We are pursuing high quality credits.

That would be a key factor in terms of the margin improving.

But our expectation again, is relatively stable.

Okay.

Thanks.

Your next question is from Nancy Bush with NAB Research LLC.

Good morning.

Good morning.

I guess this is a question mostly for Bill.

Bill, could you just speak a little bit -- I think you said there was one large CRE project that went on non performing.

If you could give us any color on that I would appreciate it.

Also, we're pretty well aware that Florida is a troubled market but could you just speak to sort of the regional trends that you're seeing in terms of CRE, credit quality and whether there are any changes in the last few months?

Sure.

As I said, we have 4 billion overall residential construction, 1 billion is condominiums.

The one project is a condominium project in a good suburb of Las Vegas.

However, as many condo projects have experienced, the presales have fallen away.

It is fully guaranteed.

We're working with the guarantor to remargin the project.

We do anticipate additional stress in that market in the residential construction.

We do have projects in -- these are home building projects now, not condo projects, in the San Diego, Sacramento area.

That's a soft market now.

Again, those are guaranteed projects.

We work with our -- we're a relationship lender, we work with our borrowers to remargin the loans.

In Florida we have our condo exposure in Florida is now about $100 million and the three remaining projects we have there are all on schedule and performing fine.

Bill, could you just speak to the rest of the southeast?

I mean, are you seeing any -- what's your exposure in sort of the Atlanta market?

And if you're seeing any additional distresses?

We don't have -- we have very little in the southeast.

The only place we really have in the southeast is Florida.

Okay.

Great.

That's 100 million.

Thank you.

The next question is from Gary Townsend with FBR Capital Markets.

Questions have been asked and answered.

Thank you.

The next question is from Matt O'Connor with UBS.

The margin was stable to slight higher deposit cost and a little bit of mix shift out of the non interest bearing.

I'm just trying to reconcile it.

It seems like the offset might have been higher yields in retail loans?

Matt, that is certainly a factor as I talked about it and discussed in my comments.

The growth that we're seeing is in principally the higher yielding assets loans, credit card and installment.

That certainly helped.

Our liability sensitive position helped a little bit.

And the stabilization across the board in credit spreads also helped.

All those factors contributed to the stable margin.

Okay.

And then separately, loan growth picked up like we're seeing in a lot of places in September, your period end growth was about double the average driven by commercial.

Is that better spreads that you're getting so you're more open to lending?

Is business coming back to the bank, and driving down (inaudible) what do you think that will be?

Matt, it's Richard.

The spreads are not getting better yet.

The hope is that they will and we're a watching for risk premiums to come back.

As the yield curve starts to move, that does help a bit.

By and large, let's just say the banks aren't giving back the benefits yet to the banks.

They're giving it to the customers.

We're still seeing it to be very intensely competitive for the best customers.

Because we really don't -- we don't dabble in the markets with structured credits, or customers who may not be as strong, I'm not sure whether or not there's more flexibility in the pricing downstream.

We simply aren't playing in that category.

For us, the answer is the spreads are just as tight as they were before.

The volume is a good sign.

I do think it indicates that particularly the middle market is starting to use their clout a bit.

As I think we talked last two quarterly calls, there's a cycle in banking, it's a real long one but in the best of all worlds our customers are doing well and they're using the banks balance sheet to grow their company.

Then they get strong and they start to stop using loans, they start to build up cash, then they're good depositors for us, even if they're not using their loan.

Then they go back to the cycle, they use up their cash and they start to use our loan again and we're in that inflection point where the cash is coming down, the use of the bank's balance sheet for the benefit of their growth is starting to happen.

I think that portends, quite frankly, good things for the economy and that's why banks typically see these things first and we're seeing it now.

I guess the concern might be that the banks are picking up some of this loan growth, kind of at the end of the cycle and what does that mean in terms of credit quality looking out a year or two?

Good question.

I can't answer that for us.

We are simply not doing anything structurally that we haven't done for the last five years which at the peril of some optics where we've been slower growth, it's paid us handsomely at this point of the cycle.

We're for one, as a Company, not going to take any changes at this point, or as you say, at the end of a cycle where the risk would be much greater than the reward.

So we're not doing that.

Okay.

Thanks a lot.

Your next question is from Manuel Ramirez with KBW.

We call him Manny.

We'll get it the fourth try.

On the reserves, just in thinking about where you are versus the industry, your reserve to loan ratio continued to drift down a little bit, although I would readily admit that you're pretty well reserved at this point.

If I think about the mix shift in loan portfolio from commercial to retail, your retail chargeoffs are normalizing and your MPAs are rising, albeit at a more modest pace than the industry overall.

When should reserves to loans start to flatten up and perhaps even start to rise to reflect the changes in the balance sheet that we're seeing at this point?

Manny, this is Richard.

I'll have Bill be more specific.

We don't see that point yet in our current view in terms of looking out a year and forward, trying to get an inflection point.

For a couple of reasons, one is, we do, our growth in our balance sheet is expected to be high quality.

So we're not looking to change the mix of our portfolio as we grow it in the future.

It has performed quite well.

I think the combination of the mix won't change measurably, it's a pretty big portfolio so it won't change very quickly.

Having said that, we have a fair amount of unallocated reserves which we true up especially once a year.

They're well in the range of no action required and no action even contemplated because we have as you said, a very strong kind of a fortressed balance sheet at this point in the cycle.

So while I do expect it to continue to be used as it's supposed to, I don't see in the near term we'll call that in the next year a consequential event that would cause us to need to take any actions on the provision that would be greater than the chargeoffs at that same point in time.

Bill, you might add to that some more detail.

Well, Manny, I think you cited some of the key things we look at which is our NPA coverage and we compare very favorably there to the peers.

As Richard said, we look at this every quarter.

We have models that we evaluate and we have adjusted those to what we believe is the moderately increasing loss forecast we have in our retail portfolios and we believe we're adequately reserved.

And one kind of technical follow-up question on your unfunded construction commitments as well as your unfunded home equity commitments, do you hold reserves against those at some particular ratio to unfunded amounts?

Yes, effectively we do because we look at any kind of drawings that would result in a loss during a certain forecast period.

So the answer is yes.

All right.

Thank you.

The next question is from Todd Hagerman with Credit Suisse.

Good morning, Todd.

Good morning, everybody.

Most of my questions have been answered but Bill, just a follow-up, in terms of the real estate, could you just comment, you mentioned before the one project that came on nonperforming this quarter, just the remargining process with that borrower, could you just give us a sense of as the industry goes through this cycle, the appetite there or the willingness I should say on the borrower's part and what the dialogue is like with some of these borrowers as you look to strengthen your collateral position?

Sure.

This is a pretty typical case where, again, because we're relationship lenders, this is a developer, this is our third project with him, the first two went extremely well and the third one with the changing market conditions, obviously the sales stalled out.

These folks are incented to work with us.

If they have any liquidity, they'll put it in.

In this particular case, he has other properties that we are seeking to take an equity position, behind the first lender in other projects, be able to shore up this project.

So in all cases, these folks are willing to continue to work with us because they're long-term developers.

They've been through the cycles.

They want to maintain a good relationship with the bank.

That's helpful.

Then just secondly, how often or can you talk a little bit just in terms of kind of the reappraisal process in some of these markets, just kind of what you're doing there, kind of the process?

In probably the area where that comes up most right now is California.

And there are projects that we have that get reappraised as often as every six months.

And get remargined every six months.

I'm assuming -- regraded as appropriate?

Oh, yes.

Yes.

Great.

Thank you.

The next question is from Lori Appelbaum with Goldman Sachs.

My question relates to the loan loss reserve.

My recollection was as of the last 10-K the unallocated reserve was bout 700 million plus.

I was curious what the current unallocated position is?

It is--.

We're calculating it for you.

Thank you.

It's about 600 to 625.

And some of it's been eaten up by the real estate issues that you've mentioned?

Less than the outlook on retail.

And credit cards and the increasing return to normalization on cards.

Then the normalization on cards, I can see the delinquency deterioration but the loss rate actually improved?

Right.

Correct.

So what actually is happening within the card portfolio?

There seems to be a disconnect between loss trends and delinquencies.

Well, again, as Richard said, third quarter is usually a seasonally good quarter for collections for us.

Now we'll see the increase in delinquencies that will occur from now through basically second quarter of next year.

I know it's a bit of an anomaly in a one year view.

But if you do go back at least two more years you'll see third quarter performs like clockwork for us, which is why as much as I wanted to celebrate the number I actually didn't want you all to mistakenly think that was our new run rate because that would be unsustainable.

On the other hand, when we talk about long-term, we are like a lot of our peers.

I actually don't know why the prebankruptcy levels haven't returned yet.

We don't see them coming even in the next couple of quarters.

We're saying that we think we'll be at the 4% level because we know we have to believe that but we actually don't have all the evidence that says it will be there at this point in time.

We just believe it's going to have to get back to that point.

If could you also update us on credit performance in your subprime portfolio, delinquencies and losses?

Sure.

On the residential mortgage side, well, the delinquencies are up obviously in both home equity and residential mortgage in the subprime.

The loss rate we had in the third quarter on our first mortgages was 1.29% and the loss rate on the home equity was 4.09%.

That's subprime.

That's all subprime.

Which is 2.8% of the total portfolio.

It's important to note too that our prime home equity lines and loans are stable and that's to us good news because I know there's a new concern in the marketplace that seconds are the next to have impairment.

I do believe in subprime they will and are but based on the percentages that we don't have in subprime we'll have to report that loans and lines are both performing steady in the prime portfolio.

And in some cases I think there's a worry that lines will perform more poorly than loans and we're not seeing that in our case right now.

We didn't grow this portfolio in the double digits the last couple of years either.

I would expect our performance to be handsomely better than our peers, given that we're both true to loan to value and true to FICO underwriting to our prime portfolio.

The pace of delinquency deterioration there was more noticeable in the quarter?

I'm assuming that the delinquency deterioration of residential mortgage was all the subprime portfolio?

Good chunk of it was.

Leading you to expect that these loss rates that you just mentioned are going to continue to move a bit higher into next year?

Correct.

I think they will move a bit higher, that is correct, we agree.

Thanks.

(OPERATOR INSTRUCTIONS) We'll pause for just a moment.

At this time I'm showing no further questions.

Great.

Operator, thank you and everyone thank you for joining us and thanks for your continued interest.

Judy?

Thank you for listening to our third quarter review.

If you have any follow-up questions or need hard copies of our press release and supplemental schedules please feel free to contact me at 612-303-0783.

Thank you.

Thank you.

Thank you for participating in today's conference call.

You may now disconnect.