美國合眾銀行 (USB) 2017 Q3 法說會逐字稿

Good morning.

Welcome to U.S. Bancorp's Third Quarter 2017 Earnings Call.

Following a review of the results by Andy Cecere, President and Chief Executive Officer; and Terry Dolan, 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 noon, Eastern Daylight Time, through Wednesday, October 25, at 12 midnight, Eastern Daylight Time.

I will now turn the conference over to Jen Thompson of Investor Relations for U.S. Bancorp.

Thank you, Melissa, and good morning to everyone who has joined our call.

Andy Cecere, Terry Dolan and Bill Parker are here with me today to review U.S. Bancorp's third quarter results and to answer your questions.

Andy and Terry will be referencing a slide presentation during their prepared remarks.

A copy of the slide presentation as well as our earnings release and supplemental analyst schedules 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 risk and uncertainty.

Factors that could materially change our current forward-looking assumptions are described on Page 2 of today's presentation, in our press release and in our Form 10-K and subsequent reports on file with the SEC.

I'll now turn the call over to Andy.

Thanks, Jen.

Good morning, everyone, and thank you for joining our call.

Terry and I will discuss third quarter results and provide you with some forward-looking guidance.

After that, we'll take your questions.

I'll start on Slide 3 of the presentation.

Third quarter net income totaled $1.6 billion or $0.88 per diluted share.

Our performance was highlighted by record revenue, net income and earnings per share, and our return on tangible common equity was 18%.

Slide 4 highlights our key profitability metrics, each of which improved on both a linked-quarter and year-over-year basis.

The return on average assets for the third quarter was 1.38%, and the return on common equity was 13.6%.

You can see on the far right of the chart that our efficiency ratio improved to 54.3%.

On our second quarter earnings call, I told you that we would deliver positive operating leverage in the third quarter on a year-over-year basis, and we did.

Our revenue growth remained strong in the third quarter while our year-over-year expense growth dropped to 3.7%, which is a significant improvement compared with the year-over-year growth rates we've experienced over the past several quarters.

The above-normal expense growth rate over that timeframe was primarily tied to expenses incurred to address the AML consent order.

The people and processes needed to address these issues are substantially in place, and these costs are beginning to normalize towards the company's overall expense growth rate.

We have reached an inflection point, and we expect to deliver positive operating leverage on a year-over-year basis in the fourth quarter and in 2018.

I want to emphasize, however, that we will continue to make prudent investments in our business.

The world is changing at a faster pace than ever before.

We are embracing the new reality of constant change and evolving customer behavior.

Our ability to leverage technology and innovation to drive growth and improve efficiency will be a fundamental component of our excess.

While the banking environment continues to evolve, our balance sheet is strong and growing.

Credit quality is stable.

We are winning market share in our businesses, and we are delivering positive operating leverage.

In sum, we are well positioned heading into the end of the year and looking ahead to 2018.

Terry will now provide some details on the quarter.

Thank you, Andy.

If we turn to Slide 5, I'll start with a balance sheet review and follow up with the discussion of third quarter earnings trends.

Average loans increased by 0.8% on a linked-quarter basis and grew 3.0% from a year ago.

Commercial loans grew 1.0% sequentially.

While we continue to gain market share across our commercial lending businesses, some large corporate customers took advantage of a mid-quarter decline in interest rates to secure low, long-term funding.

This preference for bond issuance benefited our capital markets business and continues to impact total loan growth.

The decline in commercial real estate loans reflects our prudent outlook for commercial real estate lending at this time and paydown activities as customers refinance to extend maturities at relatively low interest rates.

Retail loan growth of 2.6% was supported by robust growth in installment loans and retail leasing.

Strong growth in retail leasing reflects customer preference shifts toward lease financing as well as market share gains with dealers and manufacturers.

Turning to Slide 6. Average total deposits increased 1.2% on a linked-quarter basis and 5.2% year-over-year.

We saw a 0.9% decline in noninterest-bearing deposits, partly reflecting normal third quarter seasonality in our trust business as well as investment managers deploying trust cash balances into other asset categories.

Our total interest-bearing deposit beta is similar to previous quarters and in line with our expectations.

As future rate hikes occur, we would expect the beta will gradually trend toward a 50% level.

On Slide 7, you can see that credit quality was relatively stable in the quarter.

Net charge-offs as a percentage of average loans were 47 basis points in the third quarter, and nonperforming assets declined by 7.3% on a linked-quarter basis.

Our $360 million provision expense reflects normal provisioning related to loan growth as well as potential credit losses for markets affected by the 2 recent hurricanes, which occurred in the third quarter.

After an assessment of our credit exposures within the impacted areas, we do not expect any impact to the provision for credit losses in future quarters.

I will now move to earnings results.

Slide 8 provides highlights of third quarter results versus comparable periods.

Record third quarter net income of $1.6 billion was up 4.2% compared with the second quarter and up 4.1% versus the third quarter of 2016.

Revenue totaled a record $5.6 billion, up 2.2% on a linked-quarter basis and 4.1% higher compared with the same quarter a year ago.

On Slide 9, net interest income on a fully taxable-equivalent basis was $3.2 billion in the third quarter, up 3.8% linked and 8.3% year-over-year.

Comparisons in both quarters benefited from earning asset growth and higher interest rates.

In the third quarter, the net interest margin increased 6 basis points to 3.10%, slightly higher than our guidance.

The third quarter margin benefited from higher-than-expected interest recoveries that contributed approximately 2 basis points on a linked-quarter basis.

Slide 10 highlights trends in net -- noninterest income, which increased by 0.1% on a linked-quarter basis and was down 0.9% year-over-year.

On a year-over-year basis, credit and debit card revenue increased 3.0% on higher sales volumes.

Credit and debit card revenue growth was muted somewhat by fewer processing cycles in the third quarter of 2017 compared with a year ago and the year-over-year impact of previously acquired portfolios.

Trust and asset management revenue grew 5.0%, reflecting strong core business growth and favorable market conditions.

Lower mortgage revenue primarily reflected lower refinancing activity from a year ago.

Merchant processing revenue was down 1.7% on a year-over-year basis.

As we previously discussed, our recent exit of 2 joint ventures negatively affected linked and year-over-year comparisons.

In addition, the recent hurricane conditions adversely impacted sales volumes and related revenue in the third quarter.

Excluding the impact of the weather conditions during the third quarter, merchant processing revenue was essentially flat from a year ago, as expected.

Turning to Slide 11.

Noninterest expenses increased 0.5% compared with the second quarter of 2017 and was up 3.7% versus the third quarter of 2016.

On a year-over-year basis, higher personnel costs were partly offset by lower legal and professional expenses and marketing expenses.

Slide 12 highlights our capital position.

At September 30, our common equity Tier 1 capital ratio, estimated using the Basel III standardized approach as if fully implemented, was 9.4%.

This compares to our capital target of 8.5%.

I will now provide some forward-looking guidance for the fourth quarter.

We expect linked-quarter total average loans to grow at a pace similar to the third quarter growth rates.

We expect the net interest margin to be essentially flat to the third quarter, which included 2 basis points related to unusually high interest recoveries for this period in the business cycle.

With respect to fee revenue, the third quarter is seasonally our highest quarter for growth.

We expect fee revenue to be essentially flat on a linked-quarter basis and on a year-over-year basis.

As Andy discussed, we delivered -- we will deliver positive operating leverage on a year-over-year basis in the fourth quarter and in 2018, supported by expense growth in the 3% to 5% range.

As a reminder, linked-quarter expense growth in the fourth quarter is seasonally impacted by the timing of professional services and higher tax credit amortization expense.

We expect credit quality to remain stable.

I'll hand it back to Andy for closing comments.

Thanks, Terry.

This company has a history that is remarkable for its consistent high performance, but we are always looking for ways to improve.

This is the time to look ahead, and I'm very optimistic about the future.

At its core, banking is a relatively simple business.

As with anything, execution will be the differentiator.

The winners in this industry would be those banks that anticipate customer preferences and deliver the products and services they demand in the most convenient and efficient manner.

Towards that end, every single leader in this company is focused on 2 mandates: first, deliver on the promise of one U.S. Bank by putting the consumer at the center of every discussion and every decision, regardless of which door that customer walked through; second, figure out how to optimize everything we do, whether it's optimizing the customer experience, the distribution model or the customer relationship, figure out the most efficient and most valued way to deliver the highest-quality products and services and then do it.

If we execute effectively, which I'm confident we will, the result will not only be industry-leading but improving returns, and we will deliver those results within the parameters of a risk-management framework that considers both the current and future environments.

I'm looking forward to leading this company through the next phase of its evolution, in support of what I truly believe is the best team in the banking industry.

That concludes our formal remarks.

Terry, Bill and I will now be happy to answer your questions.

(Operator Instructions) Your first question is from Matt O'Connor with Deutsche Bank.

I was wondering if you could just talk a bit about the deposit pricing strategy, both on the interest-bearing side, and the noninterest-bearing deposits were down a little bit linked-quarter on average basis, a little bit more on a period end basis, and just comment in terms of what type of migration that you're seeing out of the noninterest-bearing into other buckets.

Yes.

So this is Terry, Matt.

Let me talk a little bit about the deposit balances first.

When you end up looking at core deposit balances, we really saw little change.

They were relatively stable.

Where the decreases did occur are principally in a couple of different areas.

About $900 million of it is really seasonal decreases that we always see from the second to the third quarter, and that's really tied to kind of our corporate trust business.

And then we also saw some balances that went out simply because of custodial type of activities.

And so those tend to be a little bit -- they fluctuate a little bit.

Our time deposits were up a little, and that was principally because of some decisions related to large customers.

We expect that to be relatively short term and for those to flow out early in the fourth quarter.

So -- but when you end up looking at the core deposit balances, they were reasonably stable during the quarter.

From a deposit pricing standpoint, let me just kind of talk about it.

We haven't seen a lot of change relative to what we have been experiencing in the past.

We end up looking at retail deposit pricing or deposit betas there, essentially unchanged at this particular point in time, and we don't see a lot of competitive pressure with respect to that.

Our wholesale deposit pricing, we are essentially just being responsive to competitive pricing in the marketplace, and that can be in certain markets, a little bit on the West Coast, a little bit in the New York area, but not a lot of widespread competitive pressure that we're seeing.

But those rates on the wholesale side are starting to go up.

I would also say, if you end up looking at our corporate trust deposits, those tend to be highly operational and fairly stable as well.

So keep that in mind, too.

And Terry, you focused on average deposits being core, relatively stable, because any day, period end can be very volatile, given the trust (inaudible).

Exactly, yes.

Your next question is from Scott Siefers with Sandler O'Neill + Partners.

Terry, you had just sort of given the outlook for sort of flattish fees as you see them in the fourth quarter and then, I guess, year-over-year as well.

Just as you see it, what are the sort of the major nuances in that guidance?

In other words, what are the puts and takes?

And as you think about just the payments businesses, in particular, I appreciate that comment on -- about the JV exit and the hurricane activity, but just how are you thinking about progression in those businesses?

Sure, yes.

So when you end up looking at fee income, it typically is seasonally flat to down in the fourth quarter, and that comes from a variety of different categories.

Mortgage banking, from a market standpoint, is typically seasonally a little bit lower in the fourth quarter.

Our payments businesses are typically a little seasonally down, especially in the corporate payments space.

So there's a number of kind of different categories that tend to be flat to down.

Our commercial product revenue is typically flat to down a little bit as well because capital market activities tend to slow a little bit in the fourth quarter.

So there's a number of different areas where you see that seasonal impact taking place.

Let me tell you -- no, let me talk a little bit, which is kind of your second question, on the payments revenue.

And kind of keep in mind that we have really 3 businesses that are part of that.

First is the credit card and debit card business.

And year-over-year, the growth was about 3.0%.

That was impacted by fewer processing days.

And that's something that's unique to U.S. Bank because it's based upon how we batch process those sales transactions in any one quarter, and the third quarter happened to have one fewer processing cycle, if you will.

Sales on a reported basis, on a credit card perspective, were up about 5.1%.

But without that processing cycle, it would've been about 6%.

So that's pretty consistent with what we have seen in the past.

That 3.0% is probably impacted by about 1 percentage point because of that processing day.

When we think about the fourth quarter, we would expect that credit card revenue to rebound a little bit because of that processing cycle that I talked about.

And when we think about that particular business, we kind of think about kind of mid-single digits in terms of revenue growth on a year-over-year basis.

Second category is really merchant acquiring.

And last quarter, we talked about the fact that we exited the joint ventures, and we expected revenue to be essentially flat.

And when we look at the impact of the joint ventures, that's about 2% to 2.5%.

But the other thing that happened in the quarter, as you know, is we had 3 hurricanes, an earthquake in Mexico and a variety of different things like that, that end up impacting revenue growth by about 1.5%.

As we think about fourth quarter, the impact of the hurricanes is going to continue.

We still have a significant number of merchants that are either offline or have relatively slow sales as they continue to just kind of come online.

And so when we think about the fourth quarter, we really think that merchant acquiring revenue is probably going to be flat year-over-year.

And then the last business is our CPS business, and we had a great quarter in CPS.

If you end up looking at the total revenue within CPS, it was up about 5 -- a little over 5%, 5.8% on a year-over-year basis.

And we've been investing in that business pretty significantly.

We've talked about virtual pay and some other things that we were investing in a couple of years ago, and we're starting to see some really nice dividends and momentum in that particular business.

And when we look on a year-over-year basis, we would expect to see continued growth and strength in that particular area.

But on a sequential basis or a linked-quarter basis, it typically is a lower quarter in the fourth quarter.

Your next question is from Erika Najarian with Bank of America.

I just wanted to follow up on Scott's line of questioning.

I completely appreciate that it's probably too early to give outlook on the puts and takes behind the commitment to positive operating leverage for 2018, but I'm wondering, similarly, how you walk through in the fourth quarter.

Could you give us a sense of the big trends that you're seeing over the next 12 months that could drive fee growth next year?

And I'm wondering that because, clearly, you outlined the seasonality in the fourth quarter, but also, there -- fees are expected to be flat year-over-year.

So just the big trends would be great.

Yes.

At a very high level, again, this is Terry, I think one of the biggest drags that we had this year was really related to mortgage banking revenue.

And so when we look into 2018, we see that as being relatively stable or starting to grow from there, and then that was one of the biggest factors.

And then within the merchant acquiring, I think it's probably the other major area that we'll continue to see strengthening in terms of the year-over-year growth rates.

Because as those joint ventures kind of laps, in the second quarter of next year, some of the hurricane effects and some of the investments we've been making in that business, we should continue to see strength.

Andy, you want to add anything else (inaudible)?

The only thing I'd add to your question, Erika, is that on the expense side of the equation, as we mentioned in our prepared comments, I think we reached an inflection point in terms of the higher growth rates that we've seen in the past.

What you saw this quarter is more consistent with that 3% to 5% that we talked about.

So balance sheet growth, together with fee income growth that Terry articulated and a more normalized expense growth, will give us that positive operating leverage.

And just a follow-up to that.

There has been a wide swing in terms of expectations for rates from just early in September to now.

And I'm wondering, Andy, you seem very committed to the expense side of the efficiency ratio equation.

If the revenue outlook for next year is not as robust as we think because of whatever the rate outlook is, is there enough flex in the expense base, in that you could continue to make the investments that you referred to in your prepared remarks but still deliver the positive operating leverage?

So Erika, we're projecting what the market has in terms of rate increases, both in December and then for next year, and that's the set of assumptions that we're using to talk about and discuss positive operating leverage.

To the extent that, that doesn't happen, we'll continue to manage expenses best we can, like we always have, and making sure we have the balance to do short-term result as well as the long-term investment in the businesses to make sure we can have growth going forward.

So that's something we've always done and will continue to do.

Your next question is from John Pancari with Evercore.

On the loan growth side, I know you mentioned that the growth in the fourth quarter in average loans should be similar to that of what you saw in the third quarter.

So then it -- about less than 1%.

So we're annualizing to about 4% or so.

Is that a long -- a fair assessment of where growth should really be trending even into '18?

And what could bring about a strengthening outside of any -- is it all macro factors that you need to see to really see a pickup there in that growth rate?

John, I'll start and then ask Bill to add some more color.

So first of all, it is lower than what we would've expected over the long term.

And what we're seeing with our customers are a couple of things.

Number one, as Terry mentioned, taking advantage of that lower yield curve, the low rates, the lock-in, either through debt issuance and, sometimes, paydown bank lending activity is impacting us.

So that's one.

Second is much of the growth that we're seeing is M&A-related and not, what I would call, core CapEx and expansion.

And I think that's a little bit of a function of waiting for more clarity and certainty around, principally, tax policy and tax rates.

And I think that will be a key driver of accelerated loan growth in 2018 when there's more clarity around tax policy.

We also have some nuances within the category, so I'm going to ask Bill to talk about it.

Yes.

So the factors Andy cited are macro factors, right, low rates, (inaudible) refinancing, which certainly affects some of our C&I and commercial real estate and then uncertainty holding back some of the natural activity, investment activity that our customers would make.

Those are probably the 2 biggest drivers.

That being said, we continue to be very aggressive in terms of our market share amongst prime customer base, which is our customer base on -- across all the retail categories.

So you see that we do grow our home equity loans.

That's somewhat unique.

We never backed off from that.

Credit cards, we've been growing those throughout the downturn in the cycle.

So we've had steady growth in that.

Auto loans, same thing.

I mean, we're in the super prime space there.

Retail leasing, we never exited that.

We stayed in that, and we benefited from that lately.

So we do have levers in the prime space that continues to give us loan growth kind of regardless of what's going on, on a more macro basis.

And I'd also mention, John, that our revolvers -- our utilization rate on the commercial revolvers is still right around 24%, 25%.

That's about 10 points below what I would say is normal.

So we're still growing commitments.

We're taking market share, but the utilization continues to be at low levels.

All right.

And then separately, on the credit side.

Just want a little bit of color on the consumer credit trends you're seeing.

Your card and auto charge-offs and delinquencies were up in the quarter.

And is -- how much of that is storm-related versus not?

Well, none of it's storm-related now.

It's too early for that.

We've been -- put in programs for reaching out to customers, providing loan modifications.

We've already started that process.

So that's well underway.

But the reserve build that was mentioned, that's really for what we expect to be kind of future credit losses as a result of the storm.

But that has not shown up.

I think the increase that you're referring to in auto and cards is really just the seasoning, the fact those -- the fact that those portfolios have grown fairly significantly over the past several years.

That's just natural seasoning.

So they're performing within our expectations.

And again, Bill, they're prime portfolios.

Our average FICO on the leasing side is 770.

So nothing is going downstream in terms [of that] credit.

Got it.

So nothing underlying in terms of deterioration and starting (inaudible)?

No, no.

Your next question is from Betsy Graseck with Morgan Stanley.

I just wanted to dig in a little bit on the comments that you made in the presentation on the AML/BSA.

It sounds like it's coming to a close soon.

Your compliance programs are nearing maturity, I think, were the words you used.

Could you just give us a sense as to, is that going to accelerate over the next few quarters and so we should see pullback in the expense side there?

So as we've talked about before, that -- the story in that has not changed, Betsy.

The people, processes and technology will be pretty much in place by the end of the year.

They're almost all in place today.

We have a few more technology releases.

But that part of the spend, which is the bulk of it, will be in place by the end of the year.

And then we'll see the compliance-related expenses migrate more towards, what I would call, a normal expense rate.

I don't expect them to go down, because we'll have to continue to maintain the levels we have.

But I would expect them to normalize, and that will normalize our overall expense growth rate back to that 3% to 5%, like you saw this first quarter.

With regard to the consent order overall, once those people, processes and technology components are in place, we go into a sustainability mode, which is proving the fact that they are working as intended, and that will start beginning of 2018 and flow into, what I would expect, the middle of '18.

Okay.

And then once you get the greenlight from regulators you passed the test, there is an opportunity to reengage in M&A.

Could you just give us a sense as to how important that is for you over the next kind of planning cycle here?

Or is that one of the core things you're looking into?

Or is that just gravy if something comes up?

Betsy, our M&A activity hasn't really been impacted by this.

There hasn't been a traditional bank deal that we've not been able to do that we wanted to do because of the consent order.

Our M&A has been focused on categories like card portfolios, payments businesses as well as trust and fund services.

Those are deals that we have been able to do, we continue to look at, and I would expect that our emphasis and focus going forward will continue to be in those deals.

If after the consent order exits we see an opportunity on a traditional banking deal, we'll take a look at it.

But it'd have to be meeting our criteria, which is increasing our market share in our current states, having the core customer capabilities that we're looking for and so forth.

But it's not causing a significant disadvantage today.

Okay.

And then just separately, the OCC changed their guidance on deposit advance products, right?

Not allowed before, now they're allowed again.

Is that something that you would look at?

So Betsy, we're looking at a number of different products in that category, and that may be something we pursue over the next few quarters, over the next year.

Okay.

And then just lastly, on the online lending.

You've kicked off a couple of new relationships and products recently.

Could you give us a sense -- partnerships.

Could you give us a sense as to how these are progressing and what your expectations are from those relationships?

Yes.

So I think the one that's doing very well is our mortgage partnership with Blend, which is an online application tool, a mobile application tool, which is going terrifically.

It is exceeding our expectations.

It's very well in terms of highly thought of and functioning as expected, both from the perspective of the customers, but importantly also, the mortgage originators.

So it is a real positive because they're able to do some of the simple things in a more digital format and really add value to the customer in terms of consultation.

So that has been very successful.

We expect to continue to grow that into 2018.

Okay, all right.

And then just last on the deposit advance products.

That was like 2%-ish of your fees, I think, when you had to wind that business down.

So is your expectation at this stage that you could, over time, build that type of level of revenue back into your business model, getting back into that type of space?

Likely not, Betsy.

If it comes back, it'd probably be at a different fee level and probably not to the same size as what you saw historically.

And again, there's not as much certainty that it'll come back, right?

Your next question is from Ken Usdin with Jefferies.

I just wanted to come back to the NII side of the equation and think about the balance sheet mix.

So you're seeing, as you mentioned, all these ins and outs out of deposit flows, and some might be temporary, some might be kind of this natural mixing and related to the betas.

But just wondering, how do you think about just overall size of the balance sheet from here?

I think we've seen a bit of a slowing in the AEA progression.

And given that loans are slower, how do you think that loans versus deposit growth is going to look for the fourth quarter and then beyond?

Yes.

Well, we've talked a little bit about what we think loan growth was going to end up looking like and kind of what those categories are.

And obviously, from a balance sheet standpoint, the growth in loans is going to be really demand-driven, as much as anything.

From a deposit perspective, I mean, we're always looking for good core deposits.

And so when we have the opportunity to grow good core deposits that are going to be long-term stable, we'll take that opportunity to be able to do that.

But I think what you're going to see, really, from here for a period of time is just some fluctuation with respect to deposit balances.

Okay.

And will that mean -- will you be willing to -- the cost of your short-term borrowings has actually -- has increased a lot, too.

I would assume that's more market-based type of funding.

And so does that mean that we see a mix more towards that wholesale, if there is more fluctuation in deposits?

And how does that kind of weigh on the forward outlook for the margin past the fourth quarter?

Yes.

I don't think that you're going to see a significant shift in how we end up funding the balance sheet.

I mean, the -- what ends up happening from a short-term standpoint is just what sort of cash level needs you need in order to have in place in order to meet liquidity requirements, either on an average basis or at the end of the month.

And so that's probably what you're seeing more than anything.

Your next question is from Saul Martinez with UBS.

On -- a couple questions on taxes.

Any updated thoughts on your expectations for your tax rate, assuming no changes in terms of the corporate tax rate?

And I think last quarter, you said [FT] adjusted 29%.

And secondly, on tax reform, I think in the past, you guys have indicated that you feel like you can get something along the lines of 60% of the benefit.

Obviously, the devil's going to be in the details, and there is a lack of detail out there.

But the blueprint did specifically seem to protect low-income housing credits.

So curious if there's any updated thoughts in terms of how you see yourselves benefiting from tax reform and how much of it you feel like you can garner from any reduction in the corporate tax rate.

Yes.

Well -- so I'll take the first question, which is really how do we think about the fourth quarter.

I think the tax rate in the fourth quarter will be pretty similar to what the third quarter was.

So that's kind of our expectation.

In terms of tax reform, I don't think our view has really changed in terms of what the impact of that might be on the company kind of going forward.

But to be quite honest, we were in Washington here recently, and what's going to ultimately be in the tax reform bill, still moving around a lot, even though that there's some framework associated with it.

So we're kind of in a wait-and-see mode, in all honesty.

But 29% in the fourth quarter.

;

29% in the fourth quarter.

Yes, got it.

That's fair.

And then just finally on Elavon.

Were there any FX impact?

I didn't see that in the release.

Yes, the impact of FX was very insignificant in the third quarter.

Your next question is from Brian Foran with Autonomous.

Just thinking about the payments business longer term, and I assume merchant processing is the biggest piece of that, but really, all 4 line items that we see on the face of the P&L.

There's been -- there's the Department of Defense issue.

There was some FX headwinds.

Now there's the JV.

So I appreciate there's been lots of puts and takes.

But what do you think it kind of takes for those line items to show a little bit more momentum and get back to the normal, more significant growth rates that maybe they enjoyed in the past?

Yes.

Well, I think that maybe when you end up looking at the merchant acquiring business, we think, on a longer-term basis, that's kind of a mid-single digits or a little bit stronger than that.

One of the things we are seeing, we're seeing stronger sales volumes in that part of our business.

And I think what we have to do is we have to get beyond the impact of the joint venture as well some of the hurricane effects.

And from a hurricane standpoint, as an example, we've now -- we faced 4 hurricanes, an earthquake and some wildfires.

So I think there's a few things that we're going to end up having to kind of work through over the next quarter or 2. The hurricane effect in Puerto Rico, where we have a fairly significant amount of merchants, is going to be there for several quarters.

So I really look at it, in terms of timing, probably mid-next year before we get back to that normalized sort of growth level.

Because we'll lap those joint ventures.

And I'd also add, Brian, that we talked about investment and innovation.

This is an area that we've been focused on historically, and we continue to be going forward.

I'll remind you, we have a couple of great platforms, our international payment platform, our dynamic currency conversion capabilities, are because we invest in the business.

And merchant processing is an area we continue to focus on, particularly as it relates to e-commerce and value-added services, principally around data.

So it will continue to be an emphasis and area of focus for us in terms of investment and capabilities.

And then maybe just turning to the auto leasing business.

Totally appreciate your comments that this is all prime and partly driven by customer preferences.

But maybe you could just talk about -- I mean, the growth rates have been very high.

One, are there specific strategies that are in place to gain more share with dealers or geographic expansion or anything like that?

And then two, you gave some helpful commentary, I believe it was back in April, kind of citing some of the green shoots in used car pricing.

So as you roll forward today, are you still seeing the kind of stabilization and even recovery in used car pricing?

And is this growth you're pursuing in auto leasing kind of you saying that you think the market's overdone?

Or how does it feed into the overall used car price outlook?

So this is Bill.

No, we're still bullish on our retail leasing portfolio.

It's been a good business for us, it remains a good business.

Used car prices have actually ticked up even more, in part because of the hurricanes that increased demand for pickups, et cetera.

So in terms of expansion, we do go after different manufacturers, and we're very competitive in that space, provide an alternative to some of the old captives.

So it's an area that we continue to work very hard to keep the growth rates up.

Your next question is from Mike Mayo with Wells Fargo Securities.

You mentioned commercial real estate, a little bit more caution.

It's a big chunk of loans at your company.

So I guess is commercial real estate a friend or a foe?

On the one hand, maybe you can make a case with home prices back above precrisis levels, homebuilders or some others could do well.

On the other hand, you have retailers and a more competitive environment.

Where do you come out on that?

So commercial real estate is a friend.

We've always been active in that space.

We did not cut back or exit our construction lending after the downturn.

That's grown nicely.

We've continued very active in this space, but with the low rates and a lot of the customers are appropriately seeking long-term, fixed-rate financings, something banks are not great at offering, there's better sources for that in insurance companies, some of the smaller banks, CMBS markets.

But we're -- we remain very active with our client base.

Some of our client base has gotten a little more cautious as well.

A lot of the growth has been in multi-family.

So people are a little more cautious in that space, not just us but our clients.

Residential mortgage construction, we've been very active in that.

We never pulled out of that and expanded into Texas.

We've had really nice growth in the Texas market.

That's obviously going to be a little disrupted by what happened with the hurricanes, but that will come back.

So overall, we're a very active commercial real estate lender, and we like the business.

So just one follow-up.

So on -- if you look out over the past couple of decades, where are we in terms of being aggressive or being conservative?

When you look at your own experience, is this -- 10 is great and 5 is average and 1 is look out.

That's 1992.

Where do you think we are in the CRE cycle?

I don't really think of it that way because we stick with our underwriting criteria.

So we're consistent throughout the cycle and different -- in different asset classes or in different spaces.

You mentioned kind of concerns with retailers, well, that's been good for the industrial side.

So we've seen nice growth in industrial activity.

So there's a balance of activity that we provide our customer base, and it ebbs and flows.

But it's a business we stick with.

Your next question is from Marty Mosby with Vining Sparks.

When you look at your loan portfolio, residential mortgage is now the second-largest category, and it's continuing to grow.

When you look at the mortgage banking business, I'm kind of looking at it in the sense that there's been a shift from originate and sell sale to originate and portfolio the loans, because we just don't have enough total loan growth in the market.

So we're not squeezing out those loans like we used to.

Is that a rational way to think about it?

And if so, is mortgage banking, which is kind of a business that you've kind of continued to grow and was going to create more fee income from that, maybe just not going to get back on track from a fee income side, but will have a heavier kind of contribution in net interest income?

Marty, I'd say it's balanced.

And we both originate to sell, which are the qualified mortgages that we've always done, and that continues to be an area of growth for us as well as the servicing component.

And we portfolio those which are not typically jumbos in our core customer base.

So I would expect growth in both categories, and I wouldn't expect a major shift one way or the other.

Bill, would you add anything to that?

No.

I mean, in the portfolio activities, that's a national platform, along with qualified mortgages.

So we originate through retail channels and through some brokers.

So we'll continue to see portfolio growth in the jumbo category.

And if you can look at the stack, it's extremely high quality and low loan-to-value, so.

The other thing that I was going to ask you about was -- it seemed to be 2 things that kind of took a little bit of earnings out this quarter.

In the $30 million build with net charge-offs going down and nonperformers going down, you kind of hinted that, that was hurricane-related.

But wanted to make sure that -- because that's not what you've been doing in the past.

So that -- a big portion of that was related to hurricanes and the expected losses going forward.

And then also, the tax rate at 29% this quarter and then foreshadowing that to the next quarter, that's about 0.5% higher than what you've been.

So just was curious why the step-up in the tax rate and the build in allowance for those 2 things.

Yes.

So this is Bill.

I'll do the build in allowance.

That was entirely related to the hurricanes.

We've had some modest -- we've been doing some very modest builds related to loan growth.

We'll continue to do that.

But the little bump up was definitely directly related to the hurricanes.

And our expectation, Bill, on that is that is...

That's sufficient to (inaudible).

Sufficient and including what we know, thus far, in the wildfire situation in California.

Yes, yes.

On the tax rate, really, the issue there is that, again, kind of comes back to tax reform and some of the uncertainty there.

When you had a lot of conversations around tax credits, low income, renewable energy and all those sorts of things, there was a lot of pullback within the market and a lot of changing related to pricing associated with tax credits.

So part of the reason why you're seeing the rate going up is a little bit lower level of tax credit production, which is market-driven as much as anything.

And then as earnings get stronger, you have -- just have the marginal effect on the tax rate, and that will cause it to go up as well.

Your next question is from Kevin Barker with Piper Jaffray.

In regards to your credit, obviously, it's been very good over the last several years and running well below your long-term targets and what you think normalized charge-offs will be, and we're starting to see somewhat of an inflection point here in credit card losses moving higher after several years of being strong or even better than what we've seen in past cycles.

When we look over into 2018 and maybe even into 2019, what are your expectations for where credit card losses are going and where charge-offs may actually end up, given we are still at a pretty good part of the cycle?

Yes.

So they have gone up due to seasoning, due to just sort of natural seasoning and growing the portfolio, but we do expect them to stabilize around a 4% rate.

That would be sort of a normal.

That's not the through-the-cycle rate, but that's just sort of a normal rate during stable economic conditions.

Current environment, 4%.

Yes.

And when you think about the outlook, it something where you -- it grows to 4% and then plateaus?

Or is it something where you would incrementally continue to see it move higher?

No, we would think it would plateau around the 4% in this kind of economic condition.

Okay.

And then given the outlook on auto, we've obviously seen pressure on used car prices in here.

And to follow up on some of the John's questions, delinquency rates and frequency of default have started to slow a bit across the industry.

Do you expect charge-off rates to decline in 2018, given some of the positive developments we've seen with a little bit of resiliency in used car prices and slight declines of frequency?

I'd say -- I wouldn't necessarily say decline, but I think they're pretty stable right now.

So I would say about where they are right now.

Your next question is from Gerard Cassidy with RBC.

Terry, if I heard you correctly on the earlier part of the call talking about the net interest margin, I think you said you had some -- maybe a couple of basis points on improvement due to the recoveries on some bad credits.

Could you make sure that's correct, that it was a basis point or 2?

And was that in the energy sector that you had the recovery in the credits?

Yes.

So it was 2 basis points impact from interest recoveries that occurred in this quarter, and actually, these recoveries relate to loans that were probably charged off as many as 10 years ago.

So they went back a long way, which is, in part, why they were so unexpected and unusual, and it's not something that we would expect to repeat.

But it was about 2 basis points for the quarter.

So you think about it, we went up 6 basis points.

On a core basis it was 4, and we're really expecting that core basis to go up another 2 in the fourth quarter from there.

But it'll be flat because of the interest recoveries.

Good, okay then.

And then second, you guys talked about how the betas for the traditional consumer deposits really are not that high, but you did see some in the commercial area.

What about within the Wealth Management segment?

Some of the other banks that have reported have pointed out that the betas are rising in that part of that -- of their business.

Did you guys see any of that in the Wealth Management business?

Yes.

In the Wealth Management business, we have not seen that yet.

Although when we end up looking at the broader consumers for the category, that's the one area that we may start to see when we get into the next rate hike.

But we haven't seen anything at this point.

Okay, good.

And then with rising rates, obviously, some of your commercial customers will pay for the services you guys give them with compensating balances, and the credit they receive is reflective of the rate environment.

Are you starting to raise those credits for them in a rising rate environment or not yet?

Yes.

The -- a fair -- a little bit relative to the -- what's going on with short-term rates as well as the yield curve overall.

But I don't -- it's not material yet, and we would expect to continue to raise them as rates move up.

Okay.

And does that show up in the treasury management fee line?

I noticed it was down a little bit sequentially.

I don't know if that was more seasonal or not.

But is that where we would see that?

Yes, compensating balances show up there, and the credit for compensation -- compensating balances, as you said.

But the decline was more seasonal in nature.

Right.

Your next question is from Terry McEvoy with Stephens.

It was mentioned earlier that U.S. Bank is gaining share in the commercial lending business, and it sounds like that will likely continue here in the fourth quarter.

Could you expand on specifically what's behind those gains?

Is it some targeted industries or some specific markets that stand out?

Yes, this is Terry.

Just kind of broadly, we're seeing good growth in market share and loans in the middle market space across most of our markets, and we would continue to kind of expect that to see.

Although I would say that recently, we have seen some paydowns occurring even in the middle market space.

So it's something that we're watching.

Yes.

And it's really -- it really relates to the whole product set that we've built out over the last several years and our national corporate strategy, so having the capabilities in the capital markets area for providing bond underwriting, not only for investment grade but also kind of our middle market or non-investment-grade customers.

So they can come to us, and we're a full-service bank, and that's provided a lot of fuel to the growth.

And (inaudible) to that point, Bill, the other area I have to highlight is the virtual pay product, which is a corporate payment system product, which is targeted squarely at that middle market customer base as well as above that.

But that one is one of the drivers of the growth that we're seeing, is taking additional customers and using that product.

That's good to hear.

And then Terry, just a quick question for you.

Within the corporate line, there are these equity investment gains that were up $46 million, I believe, year-over-year.

Could just talk about the nature of those gains?

And what type of typical run rate would you see in any given quarter?

Yes.

We typically don't get into a lot of detail with respect to other income, simply because there's a lot of different things in it, including the equity investments.

Equity investments tends to be a little bit choppy from quarter-to-quarter.

So it's -- I really kind of stay away from giving guidance with respect to what I think they're going to be next quarter, et cetera.

Ladies and gentlemen, we have reached the allotted time for Q&A.

I will now turn the call over to the presenters for closing remarks.

Thank you for listening to our call this morning.

Please call us if you have any follow-up comments or questions.

Thanks, everybody.

Thank you.

This concludes today's conference call.

You may now disconnect.