富國銀行 (WFC) 2017 Q2 法說會逐字稿

Good morning.

I would like to welcome everyone to the Wells Fargo Second Quarter 2017 Earnings Conference Call.

(Operator Instructions) I would now like to turn the call over to Jim Rowe, Director of Investor Relations.

Mr. Rowe, you may begin.

Thank you, Regina, and good morning, everyone.

Thank you for joining our call today where our CEO and President, Tim Sloan, and our CFO, John Shrewsberry, will discuss second quarter results and answer your questions.

This call is being recorded.

Before we get started, I'd like to remind you that our second quarter earnings release and quarterly supplement are available on our website at wellsfargo.com.

I'd also like to caution you that we may make forward-looking statements during today's call that are subject to risks and uncertainties.

Factors that may cause actual results to differ materially from expectations are detailed in our SEC filings, including the Form 8-K filed today containing our earnings release and quarterly supplement.

Information about any non-GAAP financial measures referenced, including a reconciliation of those measures to GAAP measures, can also be found in our SEC filings, in the earnings release and the quarterly supplement available on our website.

I will now turn our call over to CEO and President, Tim Sloan.

Thank you, Jim.

Good morning, and thank you for joining us today.

The benefit of our diversified business model once again resulted in strong financial performance.

Our team members are committed to putting our customers first and helping them succeed financially, which is demonstrated each and every day all across our company.

Here are just a few examples.

We continued to improve customer experience and loyalty scores in Retail Banking.

Our debit card purchase and transaction volumes were industry-leading.

We had record client assets in Wealth and Investment Management, and we originate more ACH payments than any other financial institution.

Let me briefly summarize our financial results in the second quarter.

We generated earnings of $5.8 billion, up 5% from a year ago, and EPS of $1.07 a share, up 6%.

We produced $22.2 billion of revenue, with record net interest income up 6% from a year ago.

Average earning assets grew 5% from a year ago.

Average deposits were a record $1.3 trillion, up 5% from a year ago.

We had very strong credit results with a net charge-off rate declining to 27 basis points, the lowest level I've seen during my nearly 30 years at Wells Fargo, reflecting our consistent risk management.

Our efficiency ratio was 61.1% in the second quarter.

While it improved from the first quarter, the efficiency ratio is still too high.

Operating at this level is just not acceptable, and we are firmly committed to the goals we've provided at Investor Day.

As John will discuss later on the call, we are making progress on our ongoing expense initiatives, which target $2 billion of expense saves by the end of 2018 that will support our investment in the business and an additional $2 billion of expense saves by the end of 2019 that is expected to go to the bottom line.

And while we are focused on reducing expenses and improving efficiency, we're continuing to invest in our businesses and in particular, technologies that make it easier for our commercial and consumer customers to manage their finances.

During the second quarter, we rolled out Zelle, a P2P payment platform for 28 million digital customers; provided enhancements for our treasury management customers to streamline and automate accounts receivable; launched the chatbot pilot for Facebook Messenger; began the rollout of new streamlined mobile checking account opening experiences for our customers; and launched a new service for commercial card customers that allows them to upload and manage receipts with their mobile device.

At the end of the first quarter, we were the first large bank in the U.S. to offer card-free access to all of our ATMs, and our customers are excited about this added convenience.

As of last week, our customers had used the new card-free ATM access code over 1 million times.

We're also focused on improving the operating performance of the company by increasing our emphasis on core banking products and services that we believe are most relevant for our customers and provide the best financial returns for our shareholders.

As part of this effort, last year, we sold our crop insurance and health benefit services businesses, and we recently announced the sale of our commercial insurance business, which is expected to close in the fourth quarter, and our shareowner service business, which is expected to close by the end of the first quarter of 2018.

Importantly, during the second quarter, we continued to make progress on rebuilding trust, which remains our top priority.

Let me update you on a few actions and milestones.

This week, we received preliminary court approval for the $142 million settlement agreement for a class action lawsuit concerning retail sales practices, including providing an avenue for customers whose credit was harmed to seek compensation.

We expect this settlement to resolve substantially all claims and 10 other pending class actions.

Over the past 10 months, we've been very comprehensive in our approach to customer outreach and remediation, and these efforts are ongoing.

This preliminary approval, which covers the period beginning in May of 2002 through April of 2017, is a significant step-forward in our efforts to make things right for our customers.

Our team members completed a company-wide third-party culture assessment in the second quarter, which provided them the opportunity to share feedback about Wells Fargo's culture.

We are processing these results and the goal is to identify both positive attributes and potential weaknesses so we can take actions that will strengthen our culture.

We launched our new nationwide marketing campaign, Building Better Every Day, which builds on our commitment to creating a better bank for our customers, our team members, communities and investors.

We still have more work to do, including the completion of a third-party review of our sales practices in the Community Bank as part of meeting our consent order obligations as well as a voluntary review of accounts from 2009 and 2010 to determine possible unauthorized accounts and associated harm, which we expect to complete by the end of the third quarter.

However, I'm pleased with the progress we've made and I'm confident we're on the right path.

Our recent CCAR results are just one indication of that.

As part of our 2017 capital plan, we expect to return more capital to our shareholders, including increasing the third quarter common stock dividend to $0.39 per share, subject to approval by our Board of Directors.

The plan also includes up to $11.5 billion of common stock repurchases on a gross basis during the 4-quarter period starting in the third quarter of this year.

This is an increase from the $8.3 billion we repurchased during the 4-quarter period ended June 30.

Before I turn the call over to John to discuss the quarter in more detail, I want to again highlight the efforts of our 271,000 team members who work hard each and every day to fulfill our vision of helping our customers to succeed financially, which results in such strong operating performance for our shareholders.

John?

Thanks, Tim, and good morning, everyone.

As Tim mentioned, we earned $5.8 billion in the second quarter, the 19th consecutive quarter of generating earnings greater than $5 billion.

We believe this outcome reflects the benefit of our diversified business model during a period of continued modest economic growth and uncertainty regarding future interest rates.

Tim described most of the year-over-year results that we show on Page 3, so I'll just highlight the decline of 82 million common shares outstanding over the past year, reflecting our strong capital return through net share repurchases.

Turning to Page 4, let me highlight a few notable balance sheet trends.

Driven primarily by the expected decline in auto loans, which were down $2.5 billion from the first quarter, total loans declined $982 million from the prior quarter.

As we've discussed previously, we've tightened credit underwriting standards in auto, which has reduced our origination volume down 17% from the first quarter.

Cash and short-term investments declined $43.5 billion, reflecting a seasonal decline in deposits and the pay-down of wholesale funding.

However, we still maintain strong liquidity levels and could deploy tens of billions of dollars and remain LCR-compliant.

Investment securities increased $2 billion in the quarter.

We had approximately $37 billion of gross purchases in the quarter, the majority of which were agency MBS.

These purchases were largely offset by a runoff in the sale of approximately $15 billion of lower-yielding short-duration securities.

The $17.6 billion decrease in long-term debt was primarily driven by the prepayment of Federal Home Loan Bank advances.

Turning to the income statement overview on Page 5. I'll describe revenue and expense trends later on the call, so let me just highlight that our effective tax rate in the second quarter was 27.7%.

This included discrete tax benefits totaling $186 million or approximately $0.04 per share, primarily as a result of our agreement to sell Wells Fargo Insurance Services.

We currently expect our full year 2017 effective income tax rate to be approximately 29%.

As shown on Page 6, the benefit from higher rates increased average loan yields 10 basis points in the quarter, the sixth consecutive quarter of increasing loan yields.

We had modest average loan growth from a year ago, up 1% and average loans declined $6.7 billion from the first quarter.

H.8 data continued to indicate that there was softness across the industry, but there are also specific actions we've taken, primarily driven by our own risk discipline which have caused our growth to slow.

Let me explain the primary factors impacting our loan portfolios in some more detail.

Starting with commercial, C&I loans increased $1.9 billion from the first quarter.

We had growth across a number of businesses, including $1.1 billion in government and institutional banking, $605 million in Wells Fargo Commercial Capital, $469 million in global banking and modest growth in the middle market.

The growth was partially offset by a $620 million decline in financial institutions from actions we've taken to lower exposure in certain emerging markets and decrease demand.

Capital markets activity has resulted in pay-downs in Corporate Banking.

It's interesting to note that Wells Fargo Securities was involved in some capacity in all of the capital markets activity associated with the pay-downs of these loans in Corporate Banking, demonstrating the benefit of our diversified business model.

The size of our oil and gas portfolio has stabilized and we had $12.7 billion outstanding at the end of the second quarter.

Commercial Real Estate loans declined $982 million from the first quarter.

While we remain the largest CRE lender in the country, our growth has been modestly below that of the industry for the first half of this year.

We've remained disciplined in adhering to our underwriting standards in a competitive market.

We summarized our consumer loan portfolios on Page 8. This portfolio declined $11.1 billion from a year ago, primarily due to $7 billion of lower junior lien mortgage loans and $4 billion of lower auto loans.

Let me explain the $1.9 billion linked-quarter decline in consumer loan portfolio in some more detail.

Our first mortgage loans increased $1.9 billion from the first quarter, reflecting $7.3 billion of growth in nonconforming mortgage loans, partially offset by the continued runoff of higher-yielding legacy portfolios, including the sale of a $569 million Pick-a-Pay PCI loan portfolio.

Our junior lien mortgage loan portfolio continued to decline as expected, as pay-downs more than offset new originations.

Our credit card portfolio increased $563 million from the first quarter, reflecting seasonality.

Our auto portfolio continued to decline as expected and was down $2.5 billion from the first quarter.

As a result of tightening underwriting standards, the quality of originations has improved, with a quarterly average FICO of 719 at origination in the second quarter, up from 696 a year ago.

As we highlighted at Investor Day, we're also making a number of organizational changes in this business, including a new leader, as we focus on improving execution and efficiency through increased standardization and centralization.

We expect auto loans to continue to decline in the second half of this year.

Other revolving credit and installment loans declined $339 million, reflecting seasonality in our student loan portfolio and a $190 million decline in personal loans and lines.

While consumer loan growth will continue to be impacted by the actions we're taking in our auto portfolio and the expected runoff of legacy junior lien mortgage loans, we are making some modest changes to generate new loan originations, including offering interest-only jumbo mortgage loans to high-quality borrowers and testing credit card offerings through our digital channels.

As highlighted on Page 9, average deposits were a record $1.3 trillion, up $64.5 billion or 5% from a year ago and up $2 billion from the first quarter.

Our deposit beta remained low, with our average deposit cost up 4 basis points from the first quarter.

While we've implemented some incremental commercial deposit repricing in line with the market, we've not made material changes in rates paid on consumer and small business banking deposits as we've seen very little market response in these categories, with the majority of our peers holding rates steady.

We continue to monitor the overall market and we expect deposit betas will be more responsive as we move further into the rate cycle.

Net interest income was a record $12.5 billion in the second quarter, up 6% from a year ago and 1% from the first quarter.

The increase from the first quarter reflected the benefit of the repricing of earning assets due to higher short-term interest rates, which exceeded the associated cost of repricing liabilities.

We also benefited from one additional day in the quarter.

The net interest margin increased 3 basis points to 2.9%, driven by higher short-term interest rates, disciplined deposit pricing and a reduction in long-term debt, which were partially offset by the impacts from lower loan and investment securities balances.

As we've previously stated, we expect NII to grow in the low to mid-single digits for the full year 2017.

The rate of growth during the second half of the year will be dependent on a variety of factors, including the level and slope of the yield curve as well as deposit betas and earning asset growth trends.

Noninterest income declined $743 million from a year ago, driven by lower market-sensitive and mortgage banking revenue.

While noninterest income was down only $16 million from the first quarter, there are a few business drivers I want to highlight.

Deposit service charges were down $37 million from the first quarter, reflecting a higher earnings credit rate for commercial customers and lower consumer and business checking service charges.

Over the past few months, we've made a number of changes to help our customers avoid unexpected overdrafts, including the introduction of a 0 balance email alert that's sent intraday when a customer's available balances is 0 or negative, which our online banking customers receive automatically.

Card fees were a record $1 billion, up $74 million from the first quarter, reflecting a 7% increase in debit card transaction volume and a 12% increase in credit card purchase volume.

Mortgage banking noninterest income declined $80 million from the first quarter.

Residential mortgage origination volume increased $12 million or 27% from the first quarter on higher purchase volume, reflecting seasonality and a strong purchase market.

However, originations were down 11% from a year ago, reflecting lower refi volume.

According to MBA data, the industry is projected to decline 15% for full year '17 from the slowdown in refinancing.

Applications were up 41% from the first quarter, and we ended the second quarter with a $34 billion unclosed pipeline.

The production margin on residential held-for-sale mortgage originations was 124 basis points in the second quarter, down from 168 basis points in the first quarter.

Approximately 2/3 of the decline was due to competitive pricing in both the retail and corresponding channels, while the rest of the decline was driven by a mix shift to a higher percentage of correspondent channel originations, which have a significantly lower margin than retail originations.

55% of our originations in the second quarter were correspondent, up from 50% in the first quarter and 44% a year ago.

While it's still very early in the quarter, we currently expect similar industry pricing and mix trends.

Finally, our other income increased $249 million from the first quarter and included a $309 million gain on the sale of a Pick-a-Pay PCI loan portfolio.

On Page 12, we provided details on trading-related revenue and the impact to net interest income and noninterest income.

Trading-related revenue was down $151 million or 15% from the first quarter.

Trading-related net interest income increased $51 million.

However, noninterest income declined $202 million from the first quarter on lower net gains from trading activities.

$81 million of the decline was from lower deferred compensation plan investment results, which was largely offset in employee benefits expense.

The decline also reflected lower market-making trading results, losses from RMBS and equity-related activity, which was offset in interest income and lower CBA and DVA.

As shown on Page 13, expenses declined $251 million from the first quarter, primarily driven by the seasonal decline in compensation-related expense.

As Tim mentioned earlier, while our efficiency ratio improved to 61.1% in the second quarter, it's still too high.

We currently expect our efficiency ratio to improve in the second half of the year and expect our full year efficiency ratio to be 60% to 61% in 2017.

This estimate does not include any potential nonrecurring expenses, including reasonably possible but not yet accrued litigation expenses.

At Investor Day, we helped -- to help analyze our expenses, we divided our noninterest expense line items into 6 main expense categories.

We've used these same categories to describe the expense drivers on a linked-quarter and year-over-year basis starting on Page 15.

The 2% decline in expenses from the first quarter was driven by a $570 million decline in compensation and benefits expense from seasonally lower personnel expenses and lower deferred comp expense.

We also had a $52 million reduction in infrastructure expense and lower equipment expense from typically high first quarter software licensing and maintenance costs.

Partially offsetting these declines was $266 million of higher third-party services expense.

This increase reflected higher spending, primarily related to technology, consent orders, resolution, recovery planning and legal expense.

We currently expect these costs to remain at an elevated level in the third quarter before declining in the fourth quarter.

We also had higher nondiscretion -- nondiscretionary running the business expenses.

This increase was primarily from $68 million of higher operating losses in the second quarter, driven by higher litigation accruals.

As we usually do, we will include in our 10-Q filing an update on the high end of the range of reasonably possible potential litigation losses in excess of our accrued liability for the quarter.

But based on the information currently available, which may change between now and when we file the 10-Q, we expect the high end of the range to increase by approximately $1.3 billion due to a variety of matters, including our existing RMBS-related regulatory investigations.

On Page 16, we show the drivers of the year-over-year increases in expenses.

Compensation and benefits expenses increased $339 million, driven by higher salaries from annual salary increases and a 1% increase in FTE.

Third-party services expense also increased $339 million.

Approximately $110 million of this increase was sales practice related.

Nondiscretionary running the business expense increased $185 million, which included a $94 million donation to the Wells Fargo Foundation and a $73 million amount of higher FDIC expense due to the special assessment implemented last July.

Partially offsetting these increases were $152 million of lower revenue-related expenses, primarily from lower commissions and other incentives in Mortgage and Wholesale Banking.

Discretionary running the business expense declined $60 million on lower travel and entertainment, postage and advertising expense.

We continue to make progress on efficiency initiatives that we expect will reduce expenses by approximately $2 billion annually by year-end 2018, with the full year benefit starting in 2019.

As we previously mentioned, these savings will be reinvested in the business, however, there are timing differences to consider.

We've significantly increased our business investments in the last few years, and while we've made a lot of progress on the work that needs to be done on these initiatives, most of the expense savings are in the earlier stages of being realized.

As we show on Page 17, the largest opportunity relates to centralization and optimization.

We list a lot of great examples of the efforts we're making, which we expect will save $1.3 billion annually.

Let me highlight just a few.

Approximately 113,000 team members across the company have been realigned over the past 18 months as part of our centralization and optimization initiative.

Operating costs in human resources have already been reduced by 12% since the beginning of 2016, and we've reduced the number of marketing agency vendors, resulting in 12% reduction in quarterly agency fees from a year ago also.

On Slide 18, we highlight the other areas of the $2 billion expense initiative.

Through aggregating demand and staffing to create certain capabilities in-house, we expect to save approximately $200 million related to third-party services expense.

During the first 6 months of this year, we've closed 93 branches, including 54 in the second quarter, and we're on track to close 200 branches this year.

As we've disclosed -- as we disclosed at Investor Day, we plan to close an additional 250 branches next year.

As a reminder, there are minimal immediate savings recognized from branch closures due to the initial closing costs.

Therefore, most of the expense benefit from the 200 branches we close this year will not be realized until next year.

We also expect to save approximately $150 million in infrastructure expense through continued site consolidation outside of our branch network, and we're on track to reduce 2 million square feet this year.

We expect to save another $200 million through other initiatives, including reduced travel expense.

As we discussed at Investor Day, we expect an additional $2 billion in annual expense saves by the end of 2019.

These savings are projected to go to the bottom line.

Turning to our business segments starting on Page 19.

Community Banking earned $3 billion in the second quarter, down 6% from a year ago and down 1% from the first quarter.

Our branch network is now below 6,000 for the first time since our merger with Wachovia at the end of 2008.

As we discussed at Investor Day, we're making a shift on how we report activity to highlight metrics we believe best show how we're managing the business today that are most important to our long-term success.

As we show on Slide 20, existing customers continued to actively use their accounts.

Branch and ATM interactions were up 3% from the first quarter, reflecting seasonality and were down 3% from a year ago.

The decline from a year ago was primarily driven by customers migrating to our digital channels, with digital secure sessions up 5% from a year ago.

Our 27.9 million digital active customers are increasingly using our award-winning online and mobile capabilities.

For the first time in May, we had more mobile active customers than online active customers, and we continue to invest in our mobile capabilities, including, as Tim highlighted at the top, the ability to open accounts through mobile.

Primary consumer checking customers increased from a year ago.

Although the rate of growth has continued to slow, active consumer general purpose credit card accounts were up 2% from both first quarter and from a year ago.

On Slide 21, we highlight balance and activity growth, which drives revenue.

Average consumer and small business banking deposits grew by 5% from a year ago.

Debit card purchase volume increased 6%, and average consumer general purpose credit card balances increased 7% from a year ago.

Our team members continue to focus on what we know is most important, providing outstanding customer service.

This effort has resulted in the overall satisfaction with most recent visit and customer loyalty scores in June, reaching their highest levels since August of 2016, and overall satisfaction scores were higher than a year ago.

The Community Banking team continues to work on making changes that will further improve the customer and team member experience.

We're investing in training leaders throughout the country during coaching events that started last month.

During the second quarter, we had our first payout under the new compensation plan for Community Banking team members, with a 90% participation rate.

More changes to the way we do business will be rolled out during the third quarter that further support our priorities through simplification, collaboration and innovation.

Wholesale Banking earned $2.4 billion in the second quarter, up 15% from a year ago and up 13% from the first quarter.

These results included a tax benefit resulting from our agreement to sell Wells Fargo Insurance Services.

It's also important to note that prior year results included the $290 million gain on the sale of our health benefit services business.

Wealth and Investment Management earned a record $682 million in the second quarter, up 17% from a year ago and up 9% from the first quarter.

WIM had positive operating leverage on both the year-over-year and linked-quarter basis.

Revenue increased 7% from a year ago, with a 21% increase in net interest income and a 2% growth in noninterest income.

Average loans grew 7% and average deposits increased 3%.

Deposit growth was impacted by seasonal tax-related outflows as well as brokerage clients moving more of their cash balances into other investments.

We highlighted last quarter that in March, we had our first $1 billion month of closed referred investment assets from the partnership between Wealth and Investment Management and Community Banking since the sales practices settlement.

Twice during the second quarter, we achieved $1 billion in monthly closed referred investment assets, a result of effective partnering between our bankers and financial advisers.

WIM total client assets were a record $1.8 trillion, up 8% from a year ago, driven by continued positive net flows and higher market valuations.

Turning to Page 24.

Net charge-offs decreased $150 million from the first quarter, with 27 basis points of annualized net charge-offs, which are at historically low levels.

Commercial losses declined $68 million from the first quarter, driven by continued improvement in our oil and gas portfolio, where losses declined $81 million linked quarter.

Consumer losses declined $82 million, with lower losses in auto, consumer real estate and other revolving credit and installment portfolios.

Our consumer real estate portfolios, both first and second lien mortgages, were actually in a net recovery position in the second quarter, demonstrating the significant improvement in the residential real estate market and the quality of loans we put on our balance sheet.

Nonperforming assets continued to decline, down $827 million from the first quarter, with improvements across all commercial portfolios and consumer real estate portfolios as well as lower foreclosed assets.

We had a reserve release of $100 million, reflecting continued strong credit performance.

Turning to Page 25.

Our estimated common equity Tier 1 ratio fully phased-in increased to 11.6% in the second quarter, and we returned $3.4 billion to shareholders through common stock dividends and net share repurchases.

Our net payout ratio was 63%.

As Tim mentioned, as part of our 2017 capital plan, we expect to return more capital to shareholders over the next 4 quarters including up to $11.5 billion of gross common stock repurchases.

Based on our updated TLAC estimate as of the end of the second quarter, we've exceeded our expected minimum requirement of 22%, largely from lower RWAs and continued debt issuance.

However, we continue to issue eligible TLAC to fund maturities, fund RWA growth and the expected migration of our CET1 level to our internal target level over time.

In summary, our results in the second quarter, which included a 1.21% return on assets, an 11.95% return on equity and a 14.26% return on tangible common equity, demonstrated the benefit of our diversified business model, which has generated, as I said earlier, over $5 billion in quarterly earnings every quarter since the fourth quarter of 2012.

We've shared updates throughout the call today on progress we've made toward our goal of being the financial services leader in 6 areas: customer service and advice; team member engagement; innovation; risk management; corporate citizenship; and long-term shareholder value.

I'm optimistic that the progress we're making will drive -- will continue to drive our long-term success.

And I think we'll now take your questions.

(Operator Instructions) Our first question will come from the line of Betsy Graseck with Morgan Stanley.

I wanted to just kick off on loan growth because while it was a decent number relative to what we're seeing in the industry, the H.8 was a little slower than what we were looking for.

So could you just give us a sense as to how you think that's going to be trajecting on a core level?

And then, was there anything on a noncore roll-off that was impacting the number?

Well, I think, Betsy, that's one of the reasons why we wanted to provide some additional granularity in the slides in terms of where we're seeing loan growth.

I think that the loan growth trends continue to be good with the headwind that we're having just in terms of the absolute number being the runoff of the junior lien for mortgage portfolio and then the impact from auto.

But you saw in the first quarter -- or in the second quarter that we had some good growth in the C&I book, in government and institutional banking, in commercial capital and global banking.

Within the C&I book, while Real Estate -- Commercial Real Estate construction activity was up, the more typical Commercial Real Estate loans were down a little bit, primarily due to some of the competitive pressures that we're seeing out there.

But I think our trends should continue, and that is -- our goal is to grow above the industry average.

I think the important thing here, and one of the reasons why we wanted to be really transparent, is that we've got to do this.

And one of the reasons why we've become the largest lender in the country is because of our consistent approach to how we manage risk.

And we've seen cycles before, we'll see them again, but we continue to be optimistic because loans are such an important product for our customers.

Okay.

And then just separately follow-up, Tim, on the decision to sell the insurance brokerage, and then there was a small separate sale of the business, I think it was the shareholder services business that hit the tape the other day.

I just wonder if you could give us a sense as to how you're thinking about the businesses that you want to retain, attract and invest in versus the ones that you are deciding to move away from.

Because frankly, in conversations with investors, the insurance was one that was a bit of a surprise to people, thought it was good for CCAR and ROE albeit had a high expense ratio.

So with that as a backdrop, maybe you could give us your sense as to what we should be expecting from the team, going forward.

Well, I think what you should expect from our team is continued strong performance, which is what we've delivered this quarter.

I think in terms of businesses to -- that we've decided to sell, we're continuing to look at all of our businesses.

We have high expectations in terms of financial performance.

And for those businesses that, one, we don't believe are as core for the platform, but two, maybe can grow better in the hands of others, we've decided to exit those.

I think the crop insurance business is a great example of that.

It was actually bought by one of our customers, and my understanding is they're doing well, which is great.

We're happy about that.

Likewise, the health benefit services business, which was a good business for us, but the challenge there candidly was that the regulatory environment for that business got much more in terms of -- became much more focused on medical regulations.

And we just thought that, that was going to be -- had a better chance to grow in the hands of somebody that's in that business full-time.

And again, we sold that to one of our customers, that's gone pretty well.

And then likewise, the -- on the insurance business, recall a couple of -- or 3 years ago, we sold the nonfootprint offices in our commercial insurance brokerage business because there just wasn't as much connection there with our existing business.

And as we looked at the insurance business, again, it was performing fine.

But candidly, I think that it might -- we thought it might work better with others and we're very pleased with the buyer, USI.

They were the same firm that purchased the offices that we sold in 2014, and then again with shareowner services.

So we're going to continue to look at all our businesses.

Those were all good businesses.

I think the other thing that's important is that all those buyers took care of our teams.

So we're trying to improve our result to all of you, and we're going to continue to look hard at our businesses.

And if something doesn't fit, then we'll move on.

Your next question comes from the line of Matt O'Connor with Deutsche Bank.

So a lot of good details on the expenses, the drivers of -- where the $2 billion net will come from.

I think it's all very helpful.

And the back half of the year commentary, I think, is positive.

But are you able to give some visibility on where you think the absolute level of cost can be looking, out a couple of years?

Well, for the reasons we've talked about before, this -- it's tough to give an absolute number because so much of our expense is driven by the business results that are happening in any given quarter because they're related to production levels, et cetera.

So instead, what we're focused on is what we're taking out and focused importantly on our 55% to 59% efficiency ratio because we're driving our businesses to all outperform.

And incidentally, that's part of the story Betsy mentioned in her question.

But the things we're focusing on are our lower-efficiency ratio businesses and the things that probably don't fit, as well are some of our higher-efficiency ratio businesses, not all.

So I would think of it that way.

What costs are we taking out because there's nonvalue-added and we're improving the company, and where are we signaling that we're going to run the company, over time?

55% to 59%, as opposed to a specific dollar, which reflects more assumptions than is reasonable to make about what our business mix is that at that time, what our production levels are at that time.

Yes, I can appreciate some of the moving pieces in the revenue side.

I do think even a range might be helpful.

Some of your competitors, Bank of America, JPMorgan, one would argue they've got more volatile revenue stream than you because of a bigger investment bank.

And JPMorgan gives us an annual expense target.

Bank of America has a number out there a couple of years out.

So I think it's something worth considering.

I think it would be helpful for your stock.

Obviously, the expense message, overall, is positive and I do think it's something that might be helpful.

Thank you.

Your next question comes from the line of John McDonald with Bernstein.

Following up on Matt's question on the expenses.

John, can we go over the time -- that concept of the timing differences between the $2 billion -- the first $2 billion of expense saves that you're targeting for the end of 2018 and kind of the offsetting spending, some of which is already occurring.

Can you just explain that timing difference again so we understand it?

Sure.

So the first $2 billion should be fully in the run rate at the end of 2018, and the second $2 billion should be fully in the run rate at the end of '19.

The concept of a timing difference is where we have elevated expense today.

And we described some of the areas where that's occurring.

Some of that will abate naturally because programs run off between now and the end of '18 or the end of '19.

So there isn't a nice stairstep that describes what rolls on and what rolls off.

But we have higher expenses than they should be today in certain areas, and we've got these programs kicking in when we're describing them kicking in.

Now it's certainly possible that -- or it's very likely, actually, that we'll begin to drip into the run rate, the first $2 billion, before the end of '18 and the second $2 billion before the end of '19.

But the last dollar of it should be in the run rate by the end of '18 and the end of '19.

And then to complicate it, I know you know this, but we've got a few other items that will be rolling off after '18, FDIC insurance, the sort of superpremium there and some amortization of deposit intangibles that's out there.

We're also selling these businesses, which will have an impact on expenses.

All of those things will be happening at about the same time, but we'll keep driving people back towards evidence of the $2 billion for '18 and the $2 billion of '19 so you can see where we're taking that cost out.

And because of that difference between the spending that you're doing to offset the first $2 billion and when you get the saves by next year, won't effectively some of that first $2 billion really be falling to the bottom line like in '18 because the spending already happened but now you're getting the savings?

Some of it will.

That is the -- that's because it's coming in before the last day of '18, and there will be some ramp-down in certain of the programs that we've got that have elevated expense today.

But just for clarity's sake, to help people understand how long it might take, we're describing it as the end of '18 and the end of '19.

And then to the question of longer-term targets, understanding the challenge of an absolute dollar target, but maybe a target that's a gap between your revenue growth and expense growth over time.

Is that something that you might aspire to having a gap between those 2, an operating leverage kind of target?

We certainly aspire to have consistent positive operating leverage.

It depends on what's going on with rates while all of that's happening because business mix will make a big difference in what kind of leverage we get.

There's so much leverage in a higher-rate environment than there is in a lower-rate environment because you get extra revenue without actually having to put more labor into it.

So there are assumptions that are embedded in what that would look like.

But make -- but just to be perfectly clear, in every business in, every way, we're targeting to end up in a consistent positive operating leverage environment as a result of the moves that we're making.

Okay, that's fair.

One quick follow-up.

Was there any change in your loan growth outlook for the full year?

I think at Investor Day, you were kind of targeting low single-digit loan growth for the year in terms of low single digits.

Any change there after the results this quarter?

I think we're still looking at that same target.

For the year?

Okay.

Yes, for the year.

Your next question comes from the line of Ken Usdin with Jefferies.

One more specific on just the expense trajectory.

Can you help us understand on the insurance brokerage side and the sales of those businesses, is there any way to help us understand the magnitude of the revenue and expense related to those that go away?

And are those expenses specifically in the $2 billion?

So 2 things.

One, because we're still in the process of closing on those transactions, it's not appropriate to talk too much about the results of the businesses.

We'll wait until that's done.

But I can -- 2 things.

One is that they're -- both the businesses that are -- that have been announced and are being closed this year have very high efficiency ratios, so you would expect to see the efficiency ratio benefit at the margin.

These aren't huge businesses, but at the margin, from the outcome, and we'll talk more about what they meant to Wells Fargo after they've closed.

But no, they're not in the $2 billion.

So specifically, the list of things that we're doing to improve Wells Fargo isn't getting benefited by expenses going away from having sold the business.

That's great.

Second thing, just as the loan mix has -- well, as the earning asset mix has changed with slower loan growth and mixing a little bit more into securities and cash, can you just help us through the dynamic of just net interest income and NIM trajectory from here?

Yes.

Well, so there's a lot that's going to happen with NIM trajectory.

And I'd say the biggest drivers to look for, part of it is earning asset mix and the rate of growth in loans, and of course, what kind of loans we put on the books.

But at least in the short to medium term, probably more impactful than that is what's going on with deposit pricing because we've been outperforming the data that we showed to you at our Investor Day by a reasonable amount, especially on the consumer and small business side of things.

And so as we sit around and think about the next 6 to 12 months and what happens with rates and what happens with net interest income, whether or not we continue to outperform our modeled expectations on deposit repricing is really one of the big drivers.

Obviously, deposit growth, loan growth, deployment into securities all matter.

But I would -- I think I'd focus on deposit pricing in the near term.

But you feel confident that NII can continue to grow from here?

We do.

In fact, we're, as I think I mentioned, sort of confirming that low to mid-single digits NII, annual NII growth '17 versus ['16].

Your next question comes from the line of Erika Najarian with Bank of America.

I wanted to focus my line of questioning in terms of the revenue progress that's underlying your goal to get back to your efficiency range.

And maybe it's good to just jump off from Ken's line of questioning.

You mentioned the betas are going to be a big swing factor.

And I'm wondering how you're thinking about the sensitivity of outflow in beta as the Fed begins to reduce their balance sheet and how it would impact you specifically.

Sure.

I mean, I think the -- our general assessment is if they start selling long-duration assets, I know that there are people who believe that depositors will rush out of bank deposits and rush into mortgages in 10 years.

I'm less confident that, that is an expected behavior.

But let's assume that deposits decrease by some percentage of the amount of shrinkage in the balance sheet.

I -- we don't -- I don't think we have any reason to believe that our impact on that would be any greater than our percentage of deposits overall because we think that we're very competitive in our deposit franchises.

We certainly are on products, service, et cetera and we could be as competitive in price as we choose to be, depending on what the impact is on our business at that time.

So the way we're thinking about it is we'll all wait and see what the impact -- what happens to deposits in the aggregate and then we'll react from a defensive position if -- to the extent necessary to protect our deposit franchise as when and if the market begins to make moves in order to stem whatever tide of outflows there are of deposits out of the system.

And Erika, just to reinforce John's point, I think that's why it's really important from our perspective to make sure that we're investing in our products and services, convenience, as John mentioned, for our consumer customers.

And that is -- that when you're in environment where it is uncertain.

I mean, the Fed has never had a balance sheet of this size.

We've never been through a situation where they're talking about reducing a balance sheet.

We can talk about history all day long, but since we've never been through that, nobody knows exactly what's going to happen.

But what we do know is one thing and that is our customers value convenience, service, reliability.

And to the extent that we can continue to invest in all of our products and services, we can compete on much more than just price.

And as John said, we're comfortable about our ability in any environment of maintaining and hopefully growing our deposit share.

Moving on to just the other side of the balance sheet.

One of your competitors gave a dollar number in terms of how much liquidity had been tied up with their Living Will process.

And I'm wondering, especially given the Treasury proposal, if you could share, at least ballpark, how much liquidity is tied up there.

And just I guess, wondering what the opportunity set for Wells Fargo could be, if reg reform does come to pass, given it seems like liquidity versus capital seems much more of the constraint.

Yes.

The amount of -- there are liquidity -- big liquidity requirements as a result of resolution planning.

But frankly, I don't think they get us to much different of a number than our LCR process.

In fact, LCR might actually take us to the requirements plus our buffer would take us to a higher level than our resolution liquidity needs in our plan.

So, there's a lot of liquidity on the books of the biggest banks, but it's for both of those reasons.

And so if, in some way, resolution planning was to soften somehow, frankly, I don't think for us it would make that big of a difference.

And I'd leave it at that.

And the final question, just on the fee side.

If you take out the gain on the PCI loans, the run rate is something like $9.4 billion.

And as we're looking forward to efficiency improvement for the second half of the year from the 61%, I'm wondering how we should think about the progression of fees in the second half.

Yes.

Well, I mean, I'd go line by line.

Probably the biggest swing item, of course, will be mortgage and what happens because now there's more price competition, reflecting -- I think, reflecting excess capacity and reflecting the different market that we're in.

It's a little bit more of a free-for-all in the purchase market than it is in a refi market because of the way people source their mortgage loans in one versus the other.

They don't just go back to their servicer.

They go out to the market on the -- in a purchase environment.

So I think mortgage banking could be a little bit more volatile.

I think volumes are good, and our leading shares certainly help and our introduction of technology there will be an incremental help.

But that's a reasonable swing item.

I think service -- I think everything else right now is in line with our 5-quarter averages.

We had a record in card fees for the quarter.

Trust and investment fees are very high.

You heard the WIM results and that reflects inflows as well as the levels of asset prices that drive a lot of the outcomes there.

Service charges are good.

They did tick down a little bit.

We have introduced these new capabilities for our customers to avoid overdraft expenses.

So that's -- it would be a shame to lose that revenue, but it's good for our customers, and we're happy to have done that.

That feels like the right thing to do.

And then insurance is likely to be in the run rate for the rest of the year.

We probably won't close that until the end of the year.

And then some of the market-sensitive other items will reflect the markets that we're in.

So there's a story behind each of them.

Most of them are in line with the 5-quarter averages.

And I'd say mortgage is probably the item to look at in terms of what's the size of the market, what's the composition of the market and what's going on with margins that reflects competition.

Your next question comes from the line of Saul Martinez with UBS.

Couple of questions.

First on the auto portfolio, down $2.5 billion linked quarter.

Obviously you talked about tighter underwriting standards.

But how should we think about that going forward in terms of the magnitude of declines in the second half?

And where ultimately can the size of the portfolio get to?

Do you have a sense for that?

Yes, Saul.

It's a good question.

I think that you're likely to see a continued decline in the auto portfolio through the second half of this year.

And my bet is it'll probably stabilize sometime in the first half of next year.

I think during that entire time, it's reasonable to assume that the quality of the underlying customer will -- which is really key here -- but the quality of underlying customers measured by FICO score will continue to improve.

I don't know if it'll continue to improve at the levels we've seen, but it will continue to be very strong.

And then my guess is that's where the business is going to stabilize sometime in the first half of next year.

Okay.

And the decline is really related more to pricing and not getting targeted returns on anything you're seeing from a credit standpoint, is that fair to say?

No, no.

I think a year ago, we looked at the market.

And what we saw in the market was the following.

And that was that -- remember, the majority of our originations are for our used car loans.

And so we saw, we got -- we became concerned about underlying values of the collateral because of production levels by the industry, the number of cars that were coming off leases.

We got concerned by the risk return in terms of pricing as well as term.

And we took that all into consideration in terms of ramping down our originations and improving the underlying quality.

And on the short term, we gave up loan growth and so the metrics are not as good.

We gave up maybe some short-term revenue.

But over the long term, this is how we think about credit.

We're not targeting certain balance levels or anything like that.

But we want to continue to underwrite in an appropriate way on a product-by-product basis.

In that business, we're also reorganizing the business itself.

We're collapsing lots of regional offices, more than 50 regional offices down into a number of much bigger centers.

And while that's going on, we've reduced the risk profile of the portfolio and what's rolling into it so that we can work through that reorganization on a -- with less inherent risk in the loan book.

And that's helpful, too.

That may be idiosyncratic to Wells Fargo when you're thinking about what this means for auto loans in general.

Got it.

Just on -- just adding to that, on the retail sales metrics, it seems like you kind of embedded them into the segment results or some of them into the segment results, but it seems like some of the forward-looking indicators, whether it's, I guess, branch banker interactions, credit card applications don't seem to be there.

And I'm just curious what the logic was there.

And is the trend that you had that -- you had been showing, which was a big step function down after the sales fraud issue and then kind of the stabilization is that sort of what we're continuing to see in some of those forward-looking indicators?

Yes, let me start and John jump in.

And I think what we're trying to do, Saul, is provide you with a reflection of how we're measuring and running the business.

So we changed, for example, the incentive compensation plan in the first quarter.

We talked about the results of that briefly.

I think that we're seeing actually some very good results in terms of customer experience and a continued improvement in customer loyalty.

I think the branch interactions are as reflective of what's going on in terms of customer choice moving more to mobile than anything else.

And so when you think about our customer interactions, what I would do is step back and not only look at branch interactions but also look at the number of online and mobile interactions.

We had a total of 1.9 billion customer interactions in the second quarter.

And that's why it's important, for example, to make sure that we're investing in technology so a customer can open account on their mobile device if they want to or they can come into one of our branches, that's fine.

But overall, I would say that we're seeing a slow but steady return and an improvement in the underlying retail business.

We still have more work to do, that's absolutely the case.

Mary Mack and her team are absolutely focused on that, but we're making some progress.

And so this is -- as we announced at Investor Day, we're changing our descriptions, our disclosures to, as Tim said, to emphasize what Mary thinks is important in running the business.

And you can see the branch and ATM transactions and the digital transactions in the supplement, they're on Slide 20.

And just specifically to your question in terms of us hitting a stabilization point based on some of the previous monthly disclosures, that is -- nothing has changed about that.

Things are still stable.

Things are going well.

We're opening more than we're closing, et cetera.

So this just represents the pivot toward how Mary is managing the business.

Your next question comes from the line of John Pancari with Evercore ISI.

On the deposit side, the weakness in the deposit fees, I know you flagged a few items.

You flagged the new products you introduced.

And you also mentioned the higher earnings credit rate.

Can you give us any idea of how much there's factors for each was a drag?

So in other words, can you just slice it up how much was attributable to the new products versus the ECR and then possibly the sales practice issue?

I don't -- I would say it's 50-50 between earnings credit rate and the changes that we made on overdraft.

I don't -- I'm not specifically attributing anything to what was going on in sales practices, in particular.

Okay, all right.

And then the -- also on the deposit side, the decline in the deposit balances itself.

Can you give a similar color around the drivers there?

How much of that is at all tied to sales practice if at all?

Or is it just other factors that are impacting it?

Yes, I wouldn't attribute any of it to the decline in sales practices.

I think it -- just again, the second quarter tends to have a lot of seasonality in it, particularly on the consumer and the wealth side, because folks get their tax refunds and then they use them.

And the tax refunds were delayed a bit this year.

And so I think they were probably 3 weeks to a month delayed, and we talked about that in the first quarter.

So actually, I think the deposit franchise on the consumer side and the wealth side has performed better than what we had expected and better than last year.

Couple of other items, and we mentioned them earlier, but in WIM, we had more customers shifting from cash into investments, so people are actually moving out of cash and getting invested, so those show up in assets under management on the WIM side.

We also -- on any given quarter-end, we'll have big dates.

We'll have big dates for payroll, we'll have big dates for escrow payments, we'll have big dates for M&A, et cetera.

And so just depending on what day of the week or what deal is outstanding or what part of the cycle it occurs in, those can be multibillion-dollar swing items at any point in time.

So as a result, we tend to look at averages more often.

And in Q2, we had a record average in deposits, so that reflects the whole business.

Yes, all right.

That's the color I was looking for.

And then separately, on the Commercial Real Estate side on the lending side, I know you indicated that you're adopting a bit more of a conservative credit discipline there.

Can you talk about what you're seeing?

What's making you back off incrementally here?

And what areas are you really stepping back from?

Yes, I apologize if I -- you took away from my earlier comment that we're adopting a more conservative tone.

We've always been a conservative commercial real estate lender.

That's why we have become the largest commercial real estate lender because you've got to be able to adapt through cycles.

Having said that, from time to time and again, this can be quarter-to-quarter or year-to-year, there's a fair amount of competition in kind of stabilized commercial real estate projects and there's lots of liquidity out there.

And so this quarter, there just happened to be more transactions that we looked at where we said, gosh, the risk return just isn't there.

But I wouldn't describe it -- and that's more based on underlying risk return in an individual transaction as opposed to stepping away from any region or any product type within CRE.

Your next question comes from the line of Gerard Cassidy with RBC.

Tim, can you share with us -- obviously, you're centralizing a number of the processes, as you guys have described.

And how do you ensure that you maintain the incentives or the entrepreneurial spirit, if you will, of your people in growing the business?

Centralizing could kind of slow down the process for loan approvals and such.

Can you share with us what you're doing to try to prevent that from happening?

Well, I think it's a real good question.

I mean -- and when you think about the amount of change that's happening at the company, there's no question there can be impacts in terms of how we're interacting with our customers.

And the way that you guard against that is that you talk about it a lot.

You make sure that when you're, for example, centralizing all of your -- or our HR functions, that we got the right service level understandings between our line folks and our HR folks, whereas we centralized some of our risk functions that we've got an understanding.

And then you encourage folks to provide feedback.

You ask our enterprise functions to think about themselves as service providers and their customers are the lines of business.

And as you can imagine, you get feedback in terms of decisions you've made and things you've done that in some places you might go a little bit far, you get that feedback and you make adjustments.

But I think it's making sure you've got a plan in place, making sure that you've got the right team in place asking folks to provide a lot of feedback and then responding to that feedback.

And so far, I think we're doing a good job, but it's something we talk about a lot, Gerard.

Yes.

And one thing I would add is that today the people who've been centralized are the same people who were serving or working in the business or for the business to be entrepreneurial and get things done as you described.

The tests will be what happens as the generation changes and we have new people who never were in the business.

So they are in those centralized roles and they provide -- how do we make sure that they provide the same level of support and service back to the business.

And John, with that, is there a time line?

Is it we should know in 2 years or 18 months that you've been successful in keeping that entrepreneurial spirit?

Or is it further out and it just takes a while before we're...

I think the time line is forever.

Yes, the time line is forever.

But just to be clear, you're describing one of the potential vulnerabilities.

There is a list as long as you're arm of great things that come out of having pulled together people to provide a common service at a -- in a more effective way, which creates better experiences.

So the upside is huge, not only does it save money, that's a great plus.

But for all of these things that our businesses were doing for themselves, they weren't doing it at scale.

And now we can provide it at a scale with the best tools, the most highly trained people, the deepest bench.

It's like -- it's a benefit.

So I'd encourage you to think about it that way too.

Sure.

And you mentioned, if I heard correctly, that people now digitally can open up accounts online.

What type of loan products can people apply for and get approved for -- I'm sorry, not online through the mobile app, what type of loan products can people actually apply for through the mobile app?

For example, Quicken mortgage, you're probably familiar with they have the Rocket Mortgage that you do through the phone.

Are you guys there yet with that type of product or other loan products where consumers can actually apply and get approved for them through the mobile device?

So -- the short answer is not enough.

And that was one of the areas that we highlighted at Investor Day.

Within our mortgage business, we're working on our own online capabilities.

And right now, we're piloting it for our team members.

And so far, the response for our team members who are taking out mortgage has been very good.

In fact, it's been much better than what our expectations were.

And so our plan is then to pilot that for non-team member customers later in the year and roll it out next year.

And we think it will be a step above anybody else in the market.

On the small business side, you can -- if you're a Wells Fargo customer, you can go online and you can open up or apply for a loan and we'll give you an answer in 45 seconds or 60 seconds or something like that.

We've more work to do from a credit card standpoint.

But our goal over the next couple of years is to make sure that on the consumer side, all of our products and services are available online and as many as possible on mobile, but -- probably less likely mortgage is going to be on mobile, but we're going to improve the capabilities across the board.

Great.

And then just finally shifting gears on your -- on the total loan portfolio.

Obviously year-over-year essentially flat.

But one of the growth areas has been your commercial foreign loans.

They're up over 10% year-over-year.

Can you share with us where that growth is coming from?

Granted I know it's less than well below 10% of the total loans, but where is the growth coming from?

And second, where do you see that growing to?

How big could that business be since you're seeing some good growth there?

So, Gerard, recall that within our Wholesale Banking business, we have a Global Financial Institutions business with offices located around the world.

And we have a real benefit given the quality of our balance sheet is -- also the quality of our products and services and team in terms of the relationships that we have with other financial institutions around the world.

They like doing business with us.

And so in the second quarter, we saw some growth.

In the first quarter, we didn't see growth.

In addition, when you think about what our international strategy is separate from the Global Financial Institutions business, it's to help our customers when they want to do more business outside the U.S. or help non-U.

S. customers do business here.

And we continue to see good benefit from that very focused strategy.

We're not trying to be all things to all people.

But, gosh, if you look over the last 5 years or so, I think we've been growing those activities at a kind of mid-double-digit rate.

So I wouldn't say it's any region around the world in particular or any product set.

But think about it as over time in Global Financial Institution and then in that very targeted global banking strategy.

Your next question comes from the line of Nancy Bush with NAB Research.

Yes, a couple of questions back to the sales practices issue.

I think you mentioned that you had preliminary court approval for the $142 million settlement.

Could you just summarize for us what other suits, issues, et cetera that have been publicly disclosed that are out there?

Is there anything major that's still outstanding at this point?

Well, the $142 million settlement that was preliminary approved by the court, we believe, addresses the other class action suits that are sales practices related, I think there are about 10 that are out there.

So we have high expectations that ultimately that preliminary approval will become final approval after we execute on what we're being -- we agreed to do, which of course, we're going to do that.

In terms of other activities out there, we have a -- we have consent orders and plans that were -- for both the OCC and the CFPB that we need to comply with, and we're working very hard to be able to do that.

And as has been discussed, there's been -- there's an investigation that's still going on by the Justice Department.

And we'll continue to provide more disclosures and the disclosure of that in the 10-Q and the 10-K.

But there is nothing really new that's different in the 10-Q as it relates to other legal matters for sales practices with the exception of the announcement of this preliminary approval from the court on the settlement.

The CFPB's recent move on arbitration versus class action versus lawsuits, I mean, I'm assuming that will not be retroactive.

I mean, have you had a chance to sort of look at that and see if it's going to have any impact on what happens going forward?

Well, I think that, that lots of folks have had an opinion on this and not only in Washington but also various business groups and so on.

I'd -- I'm not going to opine on the legality or illegality of what they're doing and whether it's retroactive -- I don't think it's retroactive.

But I think there is a lot of concern about this decision.

And I think that the -- my guess is that based on the feedback that we'll see legislative or administrative and legal action against it.

Okay.

And just finally on the subject, there have been several large municipalities that have severed relationships with Wells Fargo.

I think New York City may have been the last one, you'll have to refresh me on that.

But is there -- I mean, my understanding of this municipalities business, and it's primarily liquidity management.

It tends not to be terribly profitable business, et cetera.

I mean, obviously, you don't want to lose it.

But I'm just trying to see if there are any trends that we can sort of track to that right now and where to look on the income statement to see if there is an impact?

Sure.

Look, overall, I think the punchline is there hasn't been a material impact to the company for the -- all the decisions made or some of the decisions made by some of our municipal customers.

So -- but you're right.

There have been some cities, some states who have put us on a freeze or put us on probation or something for some period of time because they want to see that we're going to fulfill obligations that we have related to sales practices.

And of course, we're going to do that.

And our expectation, Nancy, is that we're going to win all that business back.

A great example is the State of California recently, who put us on probation and then we competed very hard and won some municipal business because we provided the best option for the citizens of California and for the state.

I'd -- the fact of the matter is that there's a lot of reporting on -- when politicians stand before a podium and talk about how they want to put a freeze on Wells Fargo for a while.

What doesn't get reported is the fact that most of our municipal and GIB customers are continuing to do business with.

They love working at Wells Fargo.

And in fact, even one example of that is you saw the growth in balances in the second quarter of $1.1 billion in our government and institutional banking business.

So that business continues to perform well.

We're going to win all that business back, and we're going to fulfill the obligations that we have and promises we've made to all those customers.

One nuance to your question, Nancy, you mentioned it tends to be the portion of the business that's least profitable.

Most of these relationships are complex relationships, where we're a credit provider, we're managing their cash because very few institutions can manage liquidity or manage cash like we do.

And then we might also be doing some investing for them or some bond placement for them or some risk management stuff for them.

And the ones that I've tracked since this has begun, usually we've been sort of, as Tim describes it, put in a box for a year or for 2 years on bond underwritings, but it's -- they go through a painstaking process to pick their partners on who provides credit and who manages their cash.

And it takes years to switch those things if they decided to and we -- they have a tendency not to want to do that.

So the core underlying piece of the business tends to be actually quite good.

Your next question comes from the line of Brian Kleinhanzl with KBW.

Great.

So, I have a quick question.

First, I think an easier one on the oil and gas loan portfolio.

I mean -- I know the reserve is still at almost 8% for the overall portfolio.

But given the slight pullback in the oil prices, can you give us kind of a little bit of color on the portfolio today versus where it was back when oil was in the $20s.

And there's -- is there actual number for oil prices per barrel that you kind of get more concerned about for your oil book?

Yes, I'll start on your last question first.

I wouldn't say there's an exact price.

The production has migrated to the most efficient producers.

So whatever that price is that would make people disturbed, it's a lower price than what you might have thought a couple of years ago.

The portfolio overall is now about 1.3% of our total loan portfolio, $12.7 billion, is down 10% year-over-year.

We had $20 million of charge-offs in the portfolio this quarter, which is down $80 million from the prior quarter.

Oil and gas nonaccruals are at $1.8 billion, down, call it $230 million linked quarter.

Criticized assets are $4.5 billion, down $0.5 billion linked quarter.

And the remaining allowance, as you said, is almost 8% outstanding.

So I think we feel good about where we are.

We got after this early.

We built reserves against it to what we thought was the right level, and now we're coming out the other side of it.

We -- the whole -- it's, of course, more than keeping an eye on the price of crude.

This is both an oil and gas business.

And we've got hundreds of professionals in market.

We're working with all of our customers all the time to help them manage down their risk.

And it doesn't feel like an area of concern in the resource prices, this is the neighborhood that we're operating in.

Okay.

And then on the primary consumer checking customers, I know there's still more opening than closing at this point in time.

But the growth rate is still decelerating.

So do you have a better handle on when that will actually start to inflect and see a better growth rate?

I know you've done investments and the marketing spend picked up this year.

I mean, is it next quarter we should see that inflect?

Is it the fourth quarter?

Can you give us some insight on the timing there?

Well, I think it's going to be -- it's going to continue to occur over time.

And I think that it's -- I wouldn't say the inflection is tomorrow or a week from tomorrow or next quarter.

I think our expectation is that we're going to continue to grow from the current levels.

Every quarter is a little bit different.

But the -- my encouragement of you is to look a year from now and see where we are.

Little more context on that metric because we've been pointing towards and relying on that metric increasingly over the last couple of years.

And in the early days of really emphasizing that metric, one of the things that we were working through was the conversion of customers who were Wells Fargo customers but weren't primary customers to a primary status by encouraging them to do that, giving them reasons to do it, giving them capabilities, et cetera, but -- a compelling value proposition.

And we've -- so setting sales practices aside, we had -- we have been working through that stock of people who were already customers but weren't primary.

So in any event, even if we hadn't had sales practices issues, that was going to slow down.

Now we've got the sales practice issues to recover from, and we also have the fact that we've converted as many -- or probably as many as are going to be converted from nonprimary status.

So it's really going to reflect taking business from other people and getting more than our fair share of new household formation or new banking customer formation, as it happens over time.

Your next question comes from the line of Marty Mosby with Vining Sparks.

I want to talk about mortgage banking.

It used to be a real powerhouse for Wells Fargo.

And a couple of years ago at Investor Day, we actually had the head of mortgage banking talking about (inaudible) finally turned the corner after we come out of this financial crisis.

And here we have a seasonal quarter where you should have seen an uptick.

And we actually had Treasury rates falling, which should have been a better delivery quarter but yet margins fell off.

So it just -- the innate trends and metrics of the business just don't seem to be working the way that I have grown used to it for -- in my history.

So I was just interested to see how you think about the business?

And how do we get this thing turned around?

Well, Marty, I might push back just a bit.

And that is that one of the decisions that we've made over the last few years is to make sure that we're building this business for the long term and to eliminate any portions of the business that we would describe as providing additional amounts to risk.

So we got out of the wholesale funding or wholesale mortgage.

We've got out of reverse mortgages.

We exited the direct FHA business because of the potential liabilities.

And so during the period that you were describing, what we've been trying to do is really build the business for the long term.

We made most of all those changes.

And now as we look towards a bit -- toward the future, we think it's really critical to make sure that we've got, for example, that online product that Gerard had asked about in which we're in process of and it will be rolling out next year.

And our expectation is that we will continue to grow this business.

In the short term, as John mentioned, what happened this quarter was just that the mix between correspondent and direct shifted a little bit.

But also remember in the background that because of the size of our servicing book in periods where there is a lot of refinance activity, we get a disproportionate amount of share relative to the rest of the industry proportionate for us.

So I wouldn't throw in the towel on the mortgage business.

There's huge opportunities here.

There's huge opportunities to grow the first mortgage business.

There's huge opportunities to grow the second mortgage business.

And Franklin and team are very focused on that.

One more thing I'd add, Marty, that doesn't show up in the mortgage banking line item, but we're making nonconforming prime jumbo mortgage loans, hand over fist, for our best customers and they show up on our balance sheet.

So they contribute to net interest income, but they don't flow through the mortgage banking line item in the same way.

And so we think of the business as the combination of those things since some of it shifted because of our emphasis on higher credit quality and that loan balance cutoff puts those on our books.

So there's a variety of things, all derisking.

And the last thing I'd say is that, as I mentioned, for those loans that are on our books and we're the biggest mortgage lender, we had a net recovery in credit in the quarter.

So we like the credit profile what we're putting on our books as well.

Got it.

So really it's holding more on the balance sheet as well, like you were saying, kind of retooling the business.

So this should be the kind of basing of that and we should hopefully begin to see some improvement in the market and the business now being able to improve from here, so that hopefully we'll be what we'll see over the next couple of years.

The other thing I wanted to ask you about was when I looked at your deposit rates, your -- what would be your MMDA or kind of the savings, money market savings aligned, where the majority of your deposits are, the rate has done really well, had an increase of several basis points.

But the line right above it, which is really the checking account, has been going up almost with the Fed fund rate, so it's somewhat surprising that your checking account is going up faster than your savings account.

So it has to be kind of an anomaly in that account.

Is that just more corporate-related?

Is that how you kind of classify it?

Or -- I was just curious why that rate is moving up so fast.

Yes.

That's more commercial and corporate-related.

On the consumer side, because of the service convenience that we can provide, we -- as we've talked about in the past, we're trying not to compete on price.

And that's what you're seeing across the rest of the industry.

I think the growth that you're seeing is primarily on the commercial and the corporate side, particularly medium and larger corporates, some financial institution, where candidly, it's much more price-sensitive.

It's still been increasing at less than the rise in short-term rates, but that's what describe -- explains it.

And the checking account is just more -- is that more Treasury type of products in that where you actually show interest-bearing checking as that first line on that supplement?

They're indexed to a variety of things, but...

Right.

And we have no further questions at this time.

Well, thank you very much for spending part of your morning.

I know it's a very, very busy day.

And I hope as you review our results and reflect on our comments today that you are as optimistic about the future of Wells Fargo as we are.

So again, thank you for your time, and have a good rest of the day.

Ladies and gentlemen, this does conclude today's call.

Thank you all for joining, and you may now disconnect.