Wintrust Financial Corp (WTFC) 2016 Q4 法說會逐字稿

Welcome to Wintrust Financial Corporation's 2016 fourth-quarter and year-to-date earnings conference call.

(Operator Instructions)

Following a review of the results by Edward Wehmer, Chief Executive Officer and President, and David Dykstra, Senior Executive Vice President and Chief Operating Officer, there will be a formal question-and-answer session.

During the course of today's call, Wintrust's Management may make statements that constitute projections, expectations, beliefs or similar forward-looking statements. Actual results could differ materially from the results anticipated or projected in any such forward-looking statements. The Company's forward-looking assumptions that could cause the actual results to differ materially from the information discussed during this call are detailed in the fourth-quarter and year-to-date earnings press release, and in the Company's most recent Form 10-K and any subsequent filings on file with the SEC.

As a reminder, this conference call is being recorded. I will now turn the conference call over to Mr. Edward Wehmer.

Thank you, and good afternoon, everybody. Happy new year and welcome to our fourth-quarter earnings call. With me, as always, is Dave Dykstra, our Chief Operating Officer; Kate Boege, our General Counsel; and Dave Stoehr, our Chief Financial Officer.

Our call will follow the usual format. I will kick it off with some general comments about the fourth-quarter and full-year results. Dave Dykstra will then provide a more detailed analysis of other income and other expense categories for the quarter, then back to me for some summary comments and thoughts regarding the future, and then, as we'd mentioned, time for questions.

In December, Wintrust celebrated a milestone. December 27 marked the 25th anniversary of the opening of our first bank, Lake Forest Bank & Trust. I remember that day like it was yesterday. 11 people in an 1,100 square foot storefront, hoping and praying that when we open the doors at 7 o'clock, there might be a customer or two who would wander in. Surprisingly to me, there was a line of people at the door when we opened, and since then we really haven't looked back.

We had no delusions of grandeur on that day, just an idea to bring back old-time community banking to our community. Little did we know that 25 years later, we would be a $25 billion plus asset bank with an almost equal amount in wealth management assets. We'd be the second-biggest commercial bank headquartered in Illinois making over $200 million of net income. In fact, I just wanted to get to $100 million in assets and that was going to be a challenge.

So it's been a heck of a run, and we still aren't looking back as we think the future remains extremely promising for our Organization. Thanks for affording me the opportunity to take a little stroll down memory lane, and now down to our results.

Our earnings for the quarter totaled $54.6 million or $0.94 a share, up 54% and 47%, respectively. And income for the year totaled almost $207 million or $3.66 a share, up 32% and 25%, respectively. For the quarter, net interest income was up $6.1 million versus the third quarter, due mostly [driven] the asset build as the margin stayed relatively constant, or really constant, at 3.21%. Loan yields were up 5 basis points, and [paying] liability costs remained constant at 58 basis points.

Liquidity management yields, however, fell 33 basis points, as we deliberately shortened up our portfolio duration in the second half of the year. The first half it was 5.5 year duration that was on all liquidity management, second half we were down to 3.75 years in total duration as [refi] rates were just too low to extend at that point in time. As the rate environment increases during -- hopefully during the course of this year, we intend to ladder back into our longer-term securities to achieve a duration more consistent with our past history. We maintain we are well positioned for higher rates in the first quarter of 2017 to benefit from the late quarter rate increase that we saw in December.

Our net overhead ratio for the quarter was up 4 basis points to 1.48%, again, below our target of 1.5%, and it totaled 1.47% for the year. As I mentioned, Dave will go over the detail on other income and other expenses. But I will note that expenses were a bit elevated in the fourth quarter due to multiple 25th anniversary celebrations, and lots of entertainment related to our Chicago Cubs winning the World Series.

So, any of you guys who work with your models, you might want to note the year 2041, which would be our 50th anniversary, we plan to party pretty hard at that point in time. And maybe by then the Cubs will win again, and that would be quite a good trend because it took 108 years to win it the last time, so maybe 50 years, that would be a 50% improvement.

Extraordinary items as we view them basically washed in the quarter, $1.2 million NSR gain was offset by $1 million in acquisition-related costs, and a little over $700,000 loss on the early extinguishment of $262 million in Federal Home Loan bank advances. That latter should provide some income for us going forward in 2017.

Mortgage and wealth management revenue remained constant quarter versus quarter. Our provision was down $2 million versus quarter three. Coincidentally, covered calls were down about the same amount, basically washing. But the provision was down through the (pegs), and net charge-offs for the fourth quarter were down $3 million to only $2.7 million or 6 basis points.

Non-performing loans remained constant at 44 basis points, and our reserve coverage ratio to NPLs is 140%. OREO balances did increase $5 million during the period. But contributing to this increase was a $7.2 million addition from our acquisition of First Community, which we completed in the fourth quarter, and the transfer of $4.2 million from our covered loan portfolio, as the loss share expired on one of our old FDIC assisted deals.

I think it's fair to say that credit won't get much better. That being said, we will always be carefully [culling] the portfolio for potential problem loans in order to rectify or clear them before they become real problem loans.

Our effective tax rate stayed relatively the same, as we pretty much pay the maximum statutory rate. We are on pins and needles, anxiously awaiting the new administration's tax plan. Reductions in rate could have a material effect on us going forward.

From the balance sheet standpoint, total assets grew $347 million for the quarter and $2.76 billion for the year, increases of 5.5% and 12%, respectively, with a total of $25.7 billion at year end. As mentioned, we retired $276 million of Federal Home loan term advances, and then added $185 million of assets in the First Community acquisition in the quarter, both of which affected our year-end growth levels, the asset levels.

Total loans, excluding loans held for sale and covered loans, grew $602 million for the quarter and approximately $2.6 billion for the year. That's 13% and 15%, respectively, and we ended the year at $19.7 billion in loans. Quarter loan growth includes $79 million in the First Community acquisition. We experienced good growth in all of our major loan categories.

Our loan pipelines remained consistently strong, and we're experiencing consistent pull-through from these pipelines. Undrawn commitments remained relatively the same across the board, and pretty much relatively the same all year.

I would add that the franchise portfolio we acquired in the third quarter is performing as anticipated, and the portfolio actually is experiencing some reasonable growth. $97 million in the quarter and we're up to $863 million on a little over $1 billion in commitments in that area. So good growth there in a new diversified asset class for us. And the overall portfolio does remain well diversified, as you would expect from us.

Deposits grew $511 million for the quarter and $3 billion for the year, 10% and 16%, respectively, to the end balance of $21.7 billion. And demand deposits make up 27% of the total deposits, and that's consistent with prior periods.

In summary, a good growth year, a good earnings year for Wintrust. Now I'll turn it over to Dave for a detailed look at other income and other expenses.

Thanks, Ed. As I normally do, I'll just briefly touch on the non-interest income and non-interest expense sections.

In the non-interest income section, our wealth management revenue totaled $19.5 million for the fourth quarter, which was up from $19.3 million recorded in the prior quarter, and was also up from the $18.6 million recorded in the year-ago quarter. The trust and asset management component of this revenue category increase of $13.1 million from $12.6 million in the prior quarter, whereas the brokerage revenue component declined slightly to approximately $6.4 million in the fourth quarter compared to $6.75 million in the third quarter of 2016. Overall, the fourth quarter of 2016 represented the highest wealth management fee level in our Company's history.

Mortgage banking revenue increased $777,000 or 2% to $35.5 million in the fourth quarter of 2016, from $34.7 million recorded in the prior quarter, and was 52% higher than the $23.3 million recorded in the fourth quarter of last year. The increase in this category's revenue from the third quarter was partially impacted by a $1.2 million positive fair value adjustment related to our mortgage servicing rights, resulting primarily from lower projected pre-payment speeds compared to a $2.5 million negative fair value adjustment in the prior quarter.

The Company originated and sold approximately $1.2 billion of mortgage loans in the fourth quarter compared to $1.3 billion in the third quarter, and $809 million of mortgage loans originated in the fourth quarter of last year. Also, the mix of the loan volume related to purchased home activity was approximately 52% in the fourth quarter compared to 57% in the prior quarter.

Given the recent rise in interest rates and the typical seasonal slowdown in mortgage production in the first quarters, we expect to see originations decline in the first quarter of 2017. However, we continue to look for opportunities to further enhance the mortgage banking business, both organically and through acquisitions.

Fees from covered calls were $1.5 million in the fourth quarter of 2016, compared to $3.6 million in both the previous quarter and the fourth quarter of last year. Revenues from selling covered call options tend to decline in periods of rising rates. However, we expect improvement in net interest income to offset such declines, as this activity is designed to provide a hedge to the margin pressures caused during the periods of low interest rates.

The revenue in the fourth quarter of 2016 for operating leases totaled $5.2 million compared to $4.5 million in the prior quarter, increasing 16% during the quarter. The increase in this revenue item compared to the prior quarter is primarily related to an increase in the outstanding balances of operating leases to $129.4 million at the end of the year. These amounts relate to operating leases only, as capital leases are carried in the loan section of our balance sheet.

Other non-interest income totaled $13 million in the fourth quarter, down from $13.6 million in the prior quarter of this year. The primary reason for the decrease in this category revenue is related to a $717,000 loss and the extinguishment of debt as a result of the pre-payment of the $262 million of Federal Home Loan Bank advances that Ed referenced. Turning to the non-interest expense categories, total non-interest expenses were $180.4 million in the fourth quarter of 2016, increasing approximately $3.8 million compared to $176.6 million recorded in the prior quarter.

I'll now talk about the most significant changes in more detail, as well as comments of a few other notable fluctuations from the third quarter. Salaries and employee benefit expense increased approximately 1% or $1 million in the fourth quarter compared to the third quarter of 2016. The increase was comprised primarily of $329,000 of acquisition-related severance charges, $492,000 of charges related to pension obligations related to plans inherited through prior acquisitions, and an increase in commissions and incentive compensation expense from the prior quarter related to both long-term and short-term incentive plans due to increased net earnings.

As I discussed in regard to the operating leases in the non-interest income section, the Company experienced a corresponding increase in depreciation expense related to operating leases due to the growth in that portfolio. Again, we'd expect this category of expense to grow at a similar rate to the revenue side as the portfolio of operating leases continues to expand.

Occupancy expenses increased by $1.5 million during the quarter compared to the third quarter, due primarily to increased rent expense on lease property, higher maintenance and repair costs including snow removal charges in December, as well as slightly higher real estate tax accruals. Our data processing expense increased by $255,000 in the fourth quarter compared to the prior quarter. The increase was principally due to $155,000 of acquisition-related conversion charges, with the remainder of the increase due to general growth of our loans and deposits.

Our marketing expense declined by $674,000 from the third quarter to $6.7 million. As we've discussed on previous calls, this category of expense tends to be higher in the second and the third quarters of the fiscal year, as our marketing spend on our corporate sponsorship costs, particularly the Cubs and the White Sox, are higher in those quarters.

FDIC insurance expense increased by $1 million in the fourth quarter of 2016 to $4.7 million. The increase was a result of changes to the FDIC assessment rate and the methodology of that assessment. If you combine all the other categories of non-interest expense, other than the ones just discussed, they were essentially flat on an aggregate basis and were up only $17,000 in the fourth quarter compared to the third quarter.

In summary, the fourth quarter represented the fourth consecutive quarter of the Company's net overhead ratio being below our net overhead [goal] of 1.5%. We'll continue to work hard to effectively leverage our expense base, and will keep you posted on our efforts. So with that, I will throw it back over to Ed.

Thanks, Dave. I just got a note from one of our investors that, like on TV, we're up against one of the great other CEOs in the country, our pal John Allison down at Home BancShares. So I thank you for listening to us and not Johnny; I appreciate your loyalty.

In summary, I'd like to say just 2016 was a really solid year for Wintrust. I had the opportunity before the holidays to meet with a potential investor in Wintrust. This fellow had definitely done his homework, and he mentioned that he had read our transcript from the fourth-quarter 2015 earnings call.

It really made me happy when he warmed the cockles of my heart when he said: Well, it appears the Company has done everything you said you were going to do, and then some. You've grown, you've become more efficient as evidenced by your sub 1.5% overhead ratio. You have added asset classes. You've kept credit quality pristine. You have acquired banks, and you look like you will make your $200 million or bust number.

I love it when a plan comes together. But the credit all goes to the hard-working staff, to the Directors of our Organization. This was a team effort, and the team came through again. So I'm very proud of that, and thank all of our team for making this a really good record year for us, and as we continue on our journey to be Chicago's bank and Milwaukee's bank.

I have to tell you, every New Year's Eve at midnight, in the back of my mind I hear that rock rolling down the hill and know that, like Sisyphus, who by the way is our corporate mascot -- how many other banks have a greek mythological guy as their corporate mascot? But I know the next morning we're going to have to start pushing that rock back up the hill, and the slope is going to be steeper, and the rock is going to be bigger.

But in the words of Hyman Roth when he talked to Michael Corleone in the Godfather, this is the business we have chosen. So this is the business we have chosen, and we are going to continue to make great headway, as I mentioned earlier, in 2017.

I would expect more of the same in 2017, with a real possibility of some favoring winds in the form of regulatory relief, tax relief, and hopefully higher interest rates. Each of these will have a positive effect, and the latter of the two, if they do occur, may result in materially positive effects depending on the scope and the extent of the rate increases and the tax decreases.

We've got great momentum moving into 2017. Credit is good, loan pipelines are consistently strong. We have room to become even more efficient, although then again we're not going to be afraid to make investments when those opportunities present themselves. They are logical investments and present long-term profit opportunities.

Our acquisition pipelines are active in all lines of business, and the Wintrust brand continues to be well received in our markets. In short, we are very excited about our prospects for 2017. That being said, we're not going to get ahead of ourselves. Our credit policy and procedures will not chase the market. We will continue to take what the market gives us and be good stewards of capital. Thanks for listening and for your interest, and now we have time for questions.

(Operator Instructions)

Jon Arfstrom, RBC Capital Markets.

Good afternoon guys.

Hello, Jon.

Congratulations on 25 years.

Thank you.

I will let David Long congratulate you on the Cubs, I'm sure he's in the queue. The mortgage banking line, it's obviously held up well this quarter and you were talking to Don a little bit.

Can you help us out -- help us think through the puts and takes on that in terms of how -- what the magnitude of that might be? And also maybe touch on your talking about opportunities to further enhance that line: what do you mean by that?

Well, Jon, this is Dave. The further enhancements are when rates go up, typically the pipelines of producers go down and they're generally a little bit more willing to join us then because they're not leaving a pipeline behind. So we actively are talking to producers in the market at all times.

And likewise, we are talking to a few other firms about potentially acquiring their assets and their people and the locations. We're actively looking on both of those fronts.

As far as the production goes, I think you generally can look at what the industry is predicting, and I'm seeing some things that have talked about 35% to 40% declines in volume. We don't have a good crystal ball yet because we don't have applications in that really affecting the end of February and early March completely in yet.

But we do expect refinances to fall off a little bit. There was a rush at the end of the year with a lot of those people anticipating higher rates coming in. Although they have fallen off some in the first quarter, it looks like it's not down to 0.

Our pipeline I think held up a little bit better than some others because we don't do a lot of wholesale, and generally the retail market holds up a little bit better. Some of the wholesale providers have a higher cost of funds and just aren't able to be quite as competitive on the pricing, and so some of that business moves through our retail section a little bit better than the wholesale and we just don't do any wholesale.

And it wasn't a lot, but our correspondent line improved a little bit and didn't decline during the quarter. And we're just getting a little bit better traction with some of our correspondence that we do business with, now it's a small piece of it. But it helped prevent further decline. So I think the fact that we do retail assisted us a little bit more in the quarter than folks that do retail and wholesale up there.

Jon, this is Ed. The mortgage business is going to continue to be strategic for us, and we understand that the volumes go up and down, especially seasonality in overall markets. But everybody is still going to need a mortgage.

It's incumbent on us to do a couple things in that area; one is to continue to reduce the cost of producing a mortgage. They have gone up with TRID and the like 2.5, 3 times. We're working very hard to streamline that.

Our own rocket mortgage, if you will, a lot of self population in the application process. But we also think under the guise of thinking what the market gives us, as rates rise a number of these firms who, the independent firms who are out there, we're been waiting for this to happen. They're going to want to give up the ghost, because the business has gotten a lot harder. But they didn't want to give it up while the getting was good, which it has been over the last year. So we think there will be opportunities for us where we can squeeze costs, overhead costs, out of there. Squeeze down the cost of production, and add to our national platform.

We think this is a good deal. Because we don't really, if you look at our historical deals, when you buy assets most of our (inaudible) and almost all of them, every one I think has been done on an earn-out basis. So we don't put a lot of capital at risk, and we do add to our platform. And again, it's then just incumbent on us to knock the costs down, make sure we can accordion them with the market.

Accordion the cost as the market moves back and forth, I think we've got good predictors to that and I think our system works pretty well. Again, when you think about the overall balance sheet hedge, when rates go up, we make more on the margin, and the mortgages will drop down a little bit.

So it's a nice internal hedge to have, it's why we like the business. We think everybody's always need a mortgage, and we think the bigger we get the more cost effective we can be and the more profitable it can be for us.

Okay, good. That helps. Just one just on that topic, the loan yield is up a bit, 5 basis points in the quarter. Anything you need to specific there, or are you just actually starting to see lift in loan yields?

A little bit of lift in loan yields, Jon, but also LIBOR has been moving up throughout the course of the fourth quarter even before the rate rise increase. So our life portfolio 1/12 of it every month reprices, So you're just starting to see the affect of LIBOR increasing, their prime increased for the 15 days or whatever in the quarter, so it's a little bit of both there. But that's why I said I think in the first quarter you will see more of that occur as the portfolio continues to reprice.

Okay. All right. Thank you.

David Long, Raymond James.

Good afternoon, guys, and I will follow up on Jon's comments and say congratulations to us on the Cubs win and hopefully you guys got some positive feedback from the national exposure.

Well of course we did. We're taking all the credit for it. You can't ignore the correlation of our sponsorship and their winning.

Absolutely. Just a couple things. On the expense line, you talked a little bit about how there was some maybe one timers or nonrecurring items in the quarter. When we are looking at the first quarter versus the fourth quarter, is there anything that you can point to that may not be recurring, or is there a number you can put behind that?

The big items in the quarter, we had the pension adjustment and the severance cost was about $800,000. We don't expect to see a lot of volatility in that line item other than what would be impacted from declines in the mortgage banking business if it declines. So you would have the commissions expense come down there.

The FDIC insurance popped up because of the methodology, so that probably is going to stay elevated at that level. Marketing probably will come down a little bit, as I said, it's usually higher in the second and the third quarters.

Fourth quarter generally would have come down a little bit more, but we did do some more marketing around our 25th anniversary and in association with our Cubs sponsorship. So it kept that elevated a little bit. But other than those items, as I said, most of the other categories were relatively flat. So I wouldn't expect to see much significant change in those categories.

And salaries always pop in the first quarter because we go through our year-end salary adjustments, and I think we held those around 2% was the number we used so for raises and the like so on the aggregate basis. So we expect them to pop a little bit, and other than that I think that covers it, right?

Yes, shouldn't be anything unusual.

Okay. And then as a follow up, looking at the net interest income number and thinking about you talked about the benefits from a higher rate environment and maybe a you hinted a little bit with the premium finance portfolio that you can get some of that each month. But how quickly can we see that net interest margin expand here? And we had a 3 basis point expansion in the first quarter of last year, are you looking at something similar to that this time around?

If you followed my drift there, David, I was -- we had not cut back on the duration of the portfolio. We probably would have been up three or four basis points this quarter. But, how quick we will see it, I don't know. Dave, do you want to comment on that?

I think it's going to be somewhat gradual. A lot of it will depend on what's happening with positive rates in the marketplace. Actually the competition has been pretty rational and we really haven't seen much of a move there. So I would expect it would be a few basis points next quarter, all else being equal.

Got it. Okay, thanks for taking my questions, and again congratulations on 25 years.

Thank you.

Kevin Reevey, D.A. Davidson.

Hey, Dave how are you?

Fine, Kevin, how are you?

Good.

Congratulations on your anniversary, and I hope to join you in 2040.

It would be a hell of a party man. I will be in a wheelchair eating cottage cheese, and drinking my liquor through a straw.

Exactly.

But other than that, it should be fun.

My question is related to -- it looks like your total capital or risk-weighted assets is around -- came down to about 11.9%. How comfortable do you feel with it around that level, and at what point would you think about either maybe scaling back the growth and or raising capital to get your -- ?

Sure. We expect good earnings this year, obviously, and of course you have got to wait and see that happen. But we'd also expect mortgages held for sale and the like to drop off in the first quarter, and between that and what we earn we think we can be pretty much self sufficient. Unless growth exceeds it.

We always hang around 12%, 11.9% to 12%. It's not that much. If you think about our normal growth pattern and what we think our earnings are going to be, we should be hanging around that number.

I think we have always been good stewards of capital. We'd always if we're need it, we don't overload, we don't underload, we take what we need. And if it turns out that growth is more extensive than we anticipate or any number of our pipeline, acquisition pipeline, opportunities come along, we would not be afraid to avail ourselves of the market at that point in time. But on a status-quo basis, we are comfortable where we are right now. Fair enough, Dave?

Yes, I think so. If you think about the earnings of $50 million plus a quarter, that supports a fair amount of growth. So it's really just going to depend where the growth is at and where the acquisitions are as Ed said.

And on top of the mortgages held for sale, probably our mortgage warehouse lines will come down a little bit because of our borrowers are probably going to see a similar decrease. So that gives us a little bit of capacity on the other loan size to increase without dramatically impacting the capital ratios. We will monitor it and we'll see how growth and acquisitions go, and that will tell us whether we need capital or not.

And then as far as can you refresh my memory as far as percent of your loan book that is variable rate versus fixed rate, and how much is tied to prime versus LIBOR?

I don't have that report in front of me right now. We're going to get it from Mr. Stoehr here. We gave those percentages last quarter.

I don't have it here with me, Kevin. We gave those percentages last quarter on the call, and they haven't changed dramatically since that time.

The two things that I would mention there that if you look at the premium finance portfolio, they are fixed-rate loans. But on the property and casualty side of the equation, those are on average 9- to 10-month full payout loans, so they pay down every month. So about 1/9 or 1/10 of that portfolio was repricing every month.

And on the life side, they are generally repricing once a year. So theoretically if you put them on throughout the year ratably about 1/12 of that is repricing. So that's a big chunk of what would be deemed fixed rate on our portfolio, but they are awfully quick repricing scenarios.

Okay, that's helpful. Thanks a lot, appreciate it.

Thanks, Kevin.

Brad Milsaps, Sandler O'Neill.

Good afternoon, guys.

Hello, Brad.

Ed or Dave, I appreciate the commentary around the liquidity management assets. Just curious if you could give any more color on how quickly you might put that money back to work?

It's encouraging to see the loan yields tick up a bit, but really the big headwind was the securities book on the margin. So just curious how quickly you put that back out into some higher yielding instruments?

Can you tell me what rates are going to do?

You won't see me in 2040.

It's going to be a function of where rates are. We are sitting on a lot more liquidity than we'd like, and we will ladder it in over time. And the time will be a function of where rates go.

Anyhow, our goal is if we grow like we have would be to have it all employed ratably over the next year. It could be as soon as the six months, depending on where rates are. So our goal is to get back to that 5-year, 5.5-year overall liquidity duration, we think that makes a lot of sense.

So it could be anywhere between six months and a year. But when mortgage backs were in the [$190,000s], why do want to go long on that when the thought is that this economy is -- our belief is this economy is about to really roar. There's demographic data that would tell you that it's going to happen, there is new administration and business friendliness that' going to tell you that it's going to happen.

It's the fact that every time you've had a major Keynesian event, there's been a period of time that's where you've had great growth and great inflation and higher rates. This time, we haven't had it I think is a function of the regulism that we've had to deal with.

And if you add those two together, I think the economy is going to be very strong and I think rates are going to go a little bit faster than anybody anticipates them. So we are willing to play it for the long term. Our earnings are good, and we will take our time on this because you don't want to lock in too early and a lot will dependent on growth too.

Yes, but none of it's specifically marged for -- you are not planning to take the loans earning asset ratio higher. I'm just trying to get a sense of how you are thinking about deploying it.

We've deployed it in investment securities, mortgage backs or what have you that would take you up to that 5.5 -- back to the overall portfolio, back to a 5.5-year duration as opposed to 3.75 I think Ed said it was duration that we experienced at year end. And quite frankly, it was -- we started deploying in December. Our duration was down about three years in November, so October and November we were around three years.

We did employ some of it, and we're just going to take our time as rates move. We are not going to change our loan-to-deposit ratio, our goal is still 85% to 90%, sometimes you get over that a little, 91% or whatever, but that's still our goal. We're not going to run the loan-to-deposit ratio higher.

Okay, great. That's helpful. And just on the insurance lending side, you guys have had great growth on the life side this year and last year as well. The commercial side maybe has slowed a little bit.

I know your top five in the country in that business. Is that mostly a function of just the insurance market being softer? Just curious how many customers you have added versus if there is more inertia there than you may see in the numbers?

We don't have the data here, I don't think, on the number of contracts we've processed. But I can tell you that the average ticket size used to be $27,000 in a normal market, when the market was really soft it got down to $18,000. It worked its way back to about $22,500, and now it's back down to around $20,000 a ticket size.

So we've still increased the number of tickets that we -- market share, but it's a function -- there's a lot of the liquidity in the insurance market these days. And not even a good disaster, not that anybody is hoping for one, but not even a good disaster in this day would raise the -- when you listen to the insurance guys, would increase the premiums because there is so much money waiting to go to work in that business. So we believe that we will be subject to a softer market.

I think all of the industry periodicals are talking about that. So if we can hold it around $20,000 this year, we will be happy. We'd love to see it get to $22,000 or $23,000, or back to $27,000, which for years has been the normal rate, the normal premium rate, going on.

That's helpful, and just one final housekeeping question. I think maybe it's early in the second quarter, some of the preferred equity can convert to common. Do you anticipate that happening? I know it was subject to some certain circumstances, but I'm just curious if you expect that piece to convert?

Brad, I think it's convertible in April this year, and the Board will make it next week. but we clearly are well above the threshold where we are allowed to convert it, and my expectation would be that the Board would authorize such conversion.

Right, and that's already in the diluted count, right? It would just show up as common.

Yes, right.

Okay, perfect. Thank you, guys.

Casey Haire, Jefferies.

Thanks. Hey, guys, how are you doing?

Pretty good, how are you?

Good. I wanted to follow up a little bit on the mortgage banking. What is the mortgage servicing component within that $35.5 million?

Well the change in the valuation was on the portfolio that we had was $1.2 million. You can look in our press release, we break out what the value of the mortgage servicing rights are at the end of the year and they increase because we added more loans to the servicing portfolio. But we would have had -- .

I guess on a net servicing basis is what I'm getting after. Because if I take out that $35.5 million, strip out the gain on sale of $28.8 million, that leaves a decent amount and even with the MSR markup. I'm just trying to get to what that missing $5 million or so is.

We capitalized about $3.5 million on new assets. We have had servicing fees of about $1 million, and then there is some amortization of those plus the recourse obligation.

So the other thing that we don't include in the production is if we have any recourse obligations on the loans that we have sold, and that's generally a pretty small number. But the big missing piece is really the gain on the capitalized MSRs which is about $3.5 million, and then $1 million of actual servicing fees.

Okay, all right. And then switching gears, on the C&I was -- after a pretty strong year, I was a little supposed to see the growth taper a little bit in the fourth quarter here. I would have thought that we had some relief post election. Just some color there on what was dragging on the C&I growth this quarter, and what's the outlook going forward?

Just a little bit of seasonality there. We had good loan growth across the board, and the fact that we are starting the quarter with $400 million more in average loans is going to be very good for us. This seasonality, our pipelines are very -- we have a very diverse portfolio and our pipelines are consistent across the board. So I would chalk it up to seasonality and nothing more than that.

We still are making good headway on the C&I side, so I don't see any lit ends. And the draw levels have remained constant really for the last year. If you look at the overall portfolio, the overall including home equity loans, more construction loans, C&I lines and credit and the like, we've been at 28% undrawn all year. So we haven't seen any additional usage coming out. So just seasonal on that. We see no issue there.

Okay, understood. Just lastly, could you give us some updated thoughts on your M&A appetite. And then specifically, we have heard from other banks that regulators are going to be cracking down on consolidators and limiting banks to one deal per year. If that is the case, are you feeling that pressure and if so would you target larger banks?

We always say we will take what the market gives us and were not going to overpay for banks. The probability of a larger bank acquisition is probably the same as it's always been, it depends on the price. And even paying over 2 times book for something they'd, you have to pay 2 on assets to make 10% on equity if you do that.

And so that gets hard, so that will push us to probably continue to be the zero to billion-dollar banks. Not saying we wouldn't do one, if it was really strategic and made a lot of sense. But probability wise, I would see us still playing the game we've always played.

We have in the past year spaced them out a little more. Washington, our understanding is that Washington likes to get involved if you are doing multiple deals, and that slows everything down. So we have been rationing ourselves in that regard, but that doesn't mean that we haven't heard anything about cracking down on consolidators.

Hopefully in this brave new world we're going to get out of the got you mode and get into a more collaborative mode as it relates to regulators. That is our hope, but it's hard to turn that ship right now. But we don't see much change. We're still going to be pretty disciplined on what we do.

Okay, great. Thanks, guys.

Kevin Fitzsimmons, Hovde Group.

Good afternoon, guys

Good afternoon.

Ed, just dovetailing off that last topic on M&A. I'm just curious with the run and bank stock prices that we have seen post election, how do you see that changing the dynamics of M&A?

On one hand, buyers have stronger currencies. On the other hand, the sellers have gone up as well or maybe they are pricing expectations have as well. And maybe some sellers that were ready to throw in the towel see this looming environment that you're talking about, a better growth environment, and they might stay in the game. So do you see it changing at all one way or the other?

I think seller's expectations always get higher. Our stock goes up, so they think they are worth more. It doesn't make a lot of sense to me, but that's the logic that people employ.

And even our friends the investment bankers, those who are sitting know who you are, say well your stock is up you could pay more. I go, why would I pay more? The target is worth what the target is worth.

You've just got to run the numbers and make sure it's accretive to you. That's always number one to us, and we really -- dilution is a four-letter word to us. And although we may accept some someday if it is really strategic, we have been able to avoid that for the most part and we have been able to continue to grow our tangible book value.

So there is that expectation that is always put out there when bank prices go up, but it's a relative zero-sum game. Because pricing expectations do go up and you end up around the same place. But we look at it as your value is your value, just because I'm up doesn't mean you can reach in my pocket and tell me that you are worth more.

Great. One quick follow up just on the optimism that seems to be out there and the potential for the economy to improve. Just meeting with your customers, have you sensed whether this optimism is still just talk right now, or is it beginning to translate into actual activities?

Specifically, are borrowers looking at expanding actual operations as opposed to -- it seems like loan growth for a long time has been just taking market share away from other banks for everyone. But are you seeing actual positive progress on that front in activity? Thanks.

Good question. Again I think everybody is in a wait-and-see mode. I think the biggest -- for a lot of the -- most of the customer's issue is in taxes. If they come up with a tax stand, I think you will see a little bit more optimism because I think that's really going to heat up the environment.

And I think they're waiting to see what the trade histories are going to be. In that tax, are they really going to follow through on the tax, no tax of imports, exports, parts and that sort of thing. So I think everybody is still in a wait-and-see attitude.

I think people are being optimistic, but I think it's show me. So I guess we will know after tomorrow.

I will say on the retail and residential side, it's interesting. If you look at the numbers, the millennials have been six years or maybe a little bit over six years delayed in starting household formation. But we're starting to see that happen.

And when that happens, they're not going to want to be in that 800-square-foot apartment spending $4 or $5 a foot. They're going to want some green space, they're going to want to put their kids someplace. And data says we are 6 million to 7 million housing starts behind if that actually occurs.

So I think you're going to see that kick into the equation too, as people start investing and these guys actually buy cars and buy houses. And it doesn't bode well for the apartment boom, and we've said that for a number of years. Here in Chicago, lots of apartments going up, who's going to be taking those 800,000 square foot apartments and paying those numbers.

So we have laid off that market for a period of time. But we think the policies and the demographics have a real chance to push this going forward, but most of our customers are still wait and see.

Great. Thank you.

Nathan Race, Piper Jaffray.

Hey, guys, good afternoon.

Afternoon.

Ed, just following up on your last point in terms of the commercial real estate and high-end apartment condo market in Chicago. It looks like a lot of your commercial real estate growth in the fourth quarter came in Illinois. Just curious on your updated thoughts on where you are seeing the greatest opportunities in that asset class and in what areas?

There is some commercial going on, commercial real estate. We and Bank of America were the lead banks on the new McDonald's headquarters that's going up by the United Center on Oprah Winfrey's old lot there.

We are getting -- hard to believe that we would be needing a McDonald's headquarters. It's another thing I have got to laugh at 25 years. 25 years ago, I would be going to McDonald's to get a Big Mac, and now we are financing them and financing their -- we're the fourth or fifth largest lender to their franchise system.

But we're seeing some deals across the board. We are staying away from large apartments. We're doing some, it really depends on the sponsor.

We're getting very low advance rates on those things, usually 50% to equity loan. The equity with really good sponsors. But we're seeing the commercial real estate is the tail end of some of the buildings from middle-market businesses we brought over, those tend to take a little bit longer to get closed and move over to us. Sometimes there's spot fees or swaps in place that need to be let out, and that sort of thing.

So we're not -- we're seeing it across the board. We are shying away from a lot of the larger apartments. We have not changed our bite-size appetite, $25 million, $30 million maybe on the big deals, so it's across the board, but we are shying away from multi family right now.

Okay, that's helpful. And then in terms of deposit price and expectations in 2017, can you guys give us your updated thoughts to rate hikes this year? What your expectations are in terms of inability to lag pricing relative to competitors?

Go ahead.

Again as I mentioned before, I think that a lot of it's going to depend on the competition. The rate rise we had at the end of 2015, we thought that if rates went up 25 our deposit costs might go up 10. And of course you can see that that didn't happen.

So we had the same viewpoint on this, so maybe a 40% beta which I think is a pretty common view out there. But rates have been holding and we have been holding our rates.

We're going to hold as long as we can, and it's really going to be dependent upon what the competition does in the marketplace. But I think internally, we have been expecting if rates go up 25 basis points we might expect ours to go up 10 on the deposit side. But haven't seen that yet, and I'm not sure that will transpire but that was our thoughts.

But as long as the competition holds, we're going to hold too. Because we certainly get compressed on the way down. As asset rates were coming down, we just couldn't lower the deposit rates anymore. So we think it's fair to be able to decompress and lag those rates a little bit longer.

It won't go up 10 right away, but it will work its way up.

Okay, got it. And the last one, Dave, do you the amount of premium amortization that may have impacted the securities portfolio yield? I think it was just under $2 million last quarter.

I don't have that number handy with me. Rates went up and they've started to slow. We expect that to be substantially lower in the first quarter. It was a smaller number this quarter, I just don't have it with me. So I apologize.

Okay. Great that's all I had. Thank you.

Michael Young, SunTrust Robinson Humphrey.

Good afternoon.

Hello.

Wanted to see if I could get your updated thoughts on your credit outlook for 2017. Non performers have been fairly stable here for some time, and net charge-offs dropped down to 6 basis points. Do we have to necessarily see provisions moving higher throughout the year as maybe those trends remain stable or go the other way?

The provisions is a mechanical function now that is based on calculations that if you put them all together would look like the Chicago phone book. It's a lot of calculations that go into creating it, it's not the stick your thumb up in the air like it used to as it relates to provision and decide which way the wind is blowing and what you want to do. You've got a little bit of that in terms of overlays, but the fact is we don't see any cracks in the environment right now.

Again, we maintain our underwriting parameters all the way through. We are not cycle elastic, if you will, in those. They are consistent all the time.

So I can tell you it's as good as it's going to get. It's a function of could you have a big hit come, yes you could. Then would it be a one-off, yes. We don't see anything right now that is industry-specific or trend-specific that would make us think there's anything in the future that's bad for us.

I'm knocking on wood as I say that, but we are in a risk business and sometimes as force comes to us, it happens. But I think we probably will stay in the level we are right now in terms of the overall 62, 70 basis point range. If premium brands were to slow down and instead of that portfolio being -- our niche portfolio being a third of everything, it goes down to 20%.

You would obviously see our provision go up because we not going to -- we don't have losses in that business and that's helpful to us. But right now, we see nothing trending, we see no systemic trends. We're always anticipating one-offs, but then again we try -- it's still the market is very receptive for us to push loans we identify as having a slight hairline fracture, we will push them out the door and there's probably three bids waiting for them on the way out. That probably most of them are better than what we could have offered them anyhow, so it's still very competitive here in Chicago.

And on the charge-off side, if you look at the last few quarters, they have been between $6 million and $7 million. This quarter actually had a couple million dollars more of recoveries which was helpful to the equation too.

But no expectation for those to continue the commercial side recoveries?

We always get some, but we are fortunate that we had a few hit this quarter. So generally, the commercial real estate, we have been more in the $300,000 to $400,000 per quarter and we were closer to $1.9 million. So we will see, we are hopeful we can get those, but my crystal ball is not that good.

Okay, great. And then just on the net overhead ratio improvement from here, maybe X mortgage, what is the biggest catalyst other than just scaling up and growing the revenue side? Are there any levers to pull on the expense side still at this point?

The biggest catalyst was last year we required $1.1 billion worth of assets, and basically we were driving out 80% of the costs of those banks. And there was about, on an annualized basis, $44 million on the half year since we bought them, $22 million. Those we paid a reasonable premium on those and we had to drive those costs out.

So we took our dilution to the income statement, if you follow what I'm saying, and we drove those costs out of the combined duplicate branches and what have you. And basically were able to pick $1.1 billion worth of assets at around 20% of the normalized costs of those -- the operating costs of those assets. So it took us six months to push those costs out, and then the first part of the year you can see we took a drastic jump the first part of the year because we had pushed them all out.

Now we still believe that we have the infrastructure available to absorb more growth without a commensurate increase in expenses. Everything doesn't touch a customer except one department, which we'll be converting this year. It has been consolidated. So when you think of us as a multi-charter holding company, you really have got to think of us more as a multi-branded holding company. Because we have squeezed out a lot of the costs and is running the operationals.

The operations are running pretty much like it would if it was a standalone bank, one charter as opposed to 15. So we continue to look for that, but you will really get it out of the infrastructure that we have and that infrastructure's ability to handle more assets.

Okay, great. Thanks.

Jon Rodis, FIG Partners.

Good afternoon, guys.

Hello, Jon.

Congratulations I guess to the Cubs. That's hard to say coming from St. Louis.

Where is that -- the other team at?

Exactly. Hopefully we can do better than 17 games out this year. Just one question for you guys, most of my questions asked and answered.

But just on the tax rate, if we do see something out of Washington, if we do see a lower federal rate. If we see a 5 percentage point reduction or 10 percentage point or whatever, how much of that do you think flows through for you guys? Is it the vast majority, or how are you looking at that?

We're paying the statutory rate. So he goes -- think about it. He goes from 35% to 20% and say your pretax is $4 million, you are talking about $60 million. That's over $1 a share, that's if he goes to 20%.

Now there is some talk, are you going to be able to deduct interest and even then with the bank not being able to deduct interest doesn't make sense to me. But even if they did that, that would be at 15% -- they would do that at 15% tax rate. Anyway you look at it, we pay maximum.

So almost dollar for dollar depending what the other provisions of the tax act would be would flow to the bottom line. So we're anxiously awaiting the plan.

And would you anticipate taking any one-time charges or impairment to the DTA or anything like that?

No nothing significant there.

There would -- you could on it on DTA, but you'd have to the charge. But it would be far offset by whatever the -- our DTA is not that big.

Okay.

It would be offset head and shoulders by the tax reduction.

Okay, make sense, guys. Thank you.

Thanks.

Chris McGratty, KBW.

Good afternoon, thanks for taking the question.

Saved the best till last, Chris.

Thank you very much. The security portfolio, I just want to be sure I'm interpreting the guide appropriately. Is the expectation for it to grow in terms of dollar amounts and to maintain the similar proportion of the balance sheet? Is that the right way to think about the $3.9 billion-ish liquidity position?

We it would be, we'd just invest stone and logger. Basically is right now we've kept -- we've pulled a lot of it in short, decreasing our overall liquidity management duration to just 3.5, 3.7 years down from 5.5 years. So we would just be taking some of it and going a little bit longer.

Okay, so it's just extension not necessarily levering up and getting larger in terms of dollars?

No, we're still going to run hopefully at 85% to 90% loan to deposit. We've been at the high end of that for the last two years, so that would leave X amount in the liquidity management portfolio. And we usually barbell that, it's usually really short, or on mortgage backs.

Now the barbell is weighted on one side right now, more short than longer-term. So we will probably be evening that out as rates move over the [pulpit]. But rates are so damn low, it just didn't make any sense to us to lock in forever a variable rate. So we pulled back, and if it hurts you it's short term but it helps you long term.

Understood, thanks for that. And just one on competition and dislocation, there's obviously a fairly notable transaction in your market. Any opportunities for clients or for talent given what may or may not happen in Chicago?

Disruption is always good in the market. It usually leads to dislocations of customers and assets and people, and we like to stand under the tree to have somebody shaking it and with our blanket and catch whatever falls out. So we're always looking at taking advantage of dislocations, and we will continue to do that.

But who knows if that deal is going to happen, you guys probably know more than we do. But God bless if it does or it doesn't, but it's still full steam ahead for us and we will look very hard to take advantage of any dislocation that occurs in the market.

Great, thanks for taking the question.

Thank you. This concludes the Q&A session. I would now like to turn the conference back over to Edward Wehmer for closing remarks.

Thanks, everybody, for listening in. We look forward to talking to you again in April, and have some good news. And if you have to listen to Johnny's taped call after this, God bless you. We do appreciate you listening in with us, and call if we missed anything or we can answer anything for you. Have a great day, thank you.

Ladies and gentlemen, this concludes today's conference. Thanks for your participation, and have a wonderful day.