Comerica Incorporated
Q1 2021 Earnings Call Transcript

Published: 20 Apr 2021

[Operator:]

Good day and thank you for standing by. Welcome to the Comerica quarterly earnings call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question and answer session. To ask a question during the session, you’ll need to press star, one on your telephone. I would now like to hand the conference over to Darlene Persons, Director of Investor Relations. Please go ahead.

[Darlene Persons:]

Thanks Regina. Good morning and welcome to Comerica’s first quarter 2021 earnings conference call. Participating on this call will be our President, Chairman and CEO, Curt Farmer, Chief Financial Officer Jim Herzog, Chief Credit Officer Melinda Chausse, and Executive Director of our commercial bank, Peter Sefzik. During this presentation, we will be referring to slides which provide additional details. The presentation slides and our press release are available on the SEC’s website as well as in the Investor Relations section of our website, Comerica.com. This conference call contains forward-looking statements. In that regard, you should be mindful of the risks and uncertainties that could cause actual results to materially vary from expectations. Forward-looking statements speak only as of the date of this presentation and we undertake no obligation to update any forward-looking statements. Please refer to the Safe Harbor statement in today’s earnings release on Slide 2, which I incorporate into this call, as well as our SEC filings for factors that can cause actual results to differ. Now I’ll turn the call over to Curt, who will begin on Slide 3.

[Curt Farmer:]

Good morning everyone and thank you for joining our call. The year is off to a good start. In the first quarter, we generated earnings of $2.43 per share, a 59% increase over the fourth quarter primarily driven by strong credit quality. Our ROE grew to over 18% and our ROA was 1.68%. I am pleased to report that we are hearing more optimism among our customers and colleagues across our markets. Stimulus payments to individuals and enhanced unemployment benefits, along with PPP loans to small and medium sized businesses have provided much needed relief to those that are struggling. Also, the infrastructure bill that is being considered is expected to spread spending over many years. This physical stimulus and the ramp-up in the vaccine distribution in combination with ample liquidity and low borrowing costs has the potential to spur substantial activity. Economic metrics are improving quickly and the outlook for the back half of the year is for strong economic growth. As the economy continues to reopen and pre-pandemic conditions return, many businesses are beginning to experience accelerating activity. I remain very proud of the unwavering commitment of our team to serve our customers, communities and each other. We have again stepped up our efforts to support those affected by the pandemic. Last month Comerica and the Comerica Charitable Foundation pledged approximately $50 million to support small businesses and communities impacted by COVID. This support is in addition to the $11 million committed in 2020.

[Jim Herzog:]

Thanks Curt and good morning everyone. Turning to Slide 5, average loans decreased approximately $800 million. As Curt mentioned, the biggest driver was mortgage banker, which declined from its record high in the fourth quarter due to lower purchase volumes. Energy decreased as higher oil prices are resulting in improved cash flow and capital markets activity. We had expected national dealer loans would begin to rebound in the first quarter; however, supply chain issues, most notably with computer chips, have stymied production. In addition, March auto sales were the second highest of all time for that month, further depleting inventory. Dealer loans were $1.5 billion below the first quarter of 2020. We remain confident that floor plan balances will eventually rebuild to historical levels.

[Curt Farmer:]

Thank you Jim. As I mentioned at the beginning of the call, we’re off to a good start and we expect the economy will continue to improve throughout this year. We believe firming manufacturing conditions, increasing business and consumer confidence, as well as pent-up demand will support strong economic growth. It is hard to believe that just over a year ago, we drastically changed the ways in which we work and live. We have demonstrated the resilience of our business model as we embraced our core values and rose to the occasion to support our customers, communities, and each other. Our success is anchored by our ability to provide our expertise and experience to build and solidify deep, enduring relationships, particularly during challenging times. I’m extremely proud of the work our team has done to ensure we continue to deliver the same high level of service. We are focused on delivering a more diversified and balanced revenue base with an emphasis on fee generation. Our progress is demonstrated in our results as non-interest income has increased in each of the past four quarters. Our robust card platform is a great example. It’s helped position us for the recent and likely ongoing changes in customer behavior. Also, our fiduciary business has grown with strong collaboration between wealth management, commercial and retail bank divisions. In February, we increased the breadth and scale of our trust alliance business through the acquisition of a small group with expertise in this area. In addition, we are committed to maintaining our strong expense discipline. Our technology investments are enhancing the customer and colleague experience, helping to attract and retain customers and improving colleague efficiency. Finally, our disciplined credit culture and strong capital base continue to serve us well. These key strengths provide the foundation to continue to deliver long term shareholder value. Thank you for your time, and now we’ll be happy to take your questions.

[Operator:]

Our first question will come from the line of Ken Zerbe with Morgan Stanley.

[Curt Farmer:]

Morning Ken.

[Ken Zerbe:]

Great, thanks. Good morning. In terms of buybacks, good to hear that you’re starting it sooner rather than later. Are you able to quantify your buyback expectation in 2Q, and also when do you expect that you might be able to get back to that 10% CE Tier 1?

[Jim Herzog:]

Good morning Ken, thanks for the question. We would not expect to get right back to 10% in the second quarter. We’re going to be monitoring the environment throughout the second quarter, and one of the things on our mind is that we are looking at the potential for some pretty good loan growth in the second half of the year, if not late in the second quarter, and so it’s important to us to make sure that we have a buffer above 10%, just to make sure that we can accommodate our customers and their needs and have the capital to support that growth. We do expect to make significant strides towards that 10% level, but we don’t want to thread the needle too tightly there. We think it’s important to leave some type of buffer there for potential loan growth that could pop up late in the quarter or in the couple quarters following the second quarter.

[Ken Zerbe:]

Got it, so it sounds like it’s more of at least a ’22 event, if you’re going to keep the capital to support loan growth in the back half? Okay.

[Jim Herzog:]

We’ll make that assessment as we move through ’21. Certainly second quarter, we would expect to keep a buffer, and as we go through the last two quarters, we’ll make that determination as we go through ’21.

[Ken Zerbe:]

Got it, okay. Then my other question, you mentioned that you are investing some of your excess liquidity into securities. Is your view changing at all on how much of those excess deposits stay on your balance sheet over the long term?

[Jim Herzog:]

You know, we do expect that some of those deposits will start to wane in the second half of the year in the long term, but we do feel pretty good about the liquidity position. We’re not expecting the Fed to materially change from its accommodative policy at this point, so we are comfortable taking measured steps to invest some excess liquidity into securities. That’s again something we’re going to monitor throughout the year. We want to avoid making any real big moves, but we think it is prudent to go ahead and invest some of that excess liquidity and the monitor in future quarters what’s going on in the economy, with the Fed, and make that assessment as we move into the latter quarters of the year.

[Ken Zerbe:]

All right, thank you.

[Curt Farmer:]

Thank you Ken.

[Operator:]

Your next question comes from the line of Terry McEvoy with Stephens.

[Curt Farmer:]

Good morning Terry.

[Terry McEvoy:]

Hi, good morning. First question, your expectations around growth and middle market lending, I know you said pipelines are higher and I think there was some commentary on M&A, but could you just run through your confidence behind that statement and any markets or industries that stand out?

[Peter Sefzik:]

Terry, it’s Peter. We feel pretty good on the outlook, particularly in the second of the year, as Jim and Curt mentioned. The second quarter will be interesting to see how it unfolds as the economies start to open up, and we feel good about it in just about all of our markets, the major markets of Michigan, Texas and California. The pipeline looks pretty good, activity level looks good. What you just still aren’t seeing is utilization, so that’s probably the biggest challenge, but we do feel good on our outlook, as we’ve mentioned, and are encouraged about the optimism that we hear from our customers and their renewed belief that things are turning, if you will.

[Terry McEvoy:]

Thanks, and then as a follow-up, there’s been a lot of talk about businesses and individuals moving from California to Texas. I’m just curious, what are your thoughts here? Is this a net neutral to Comerica, or could you see some outside growth on the Texas side?

[Peter Sefzik:]

Terry, I appreciate the question. I think it’s a positive for us either way. We’ve got great franchise in both markets, and if anything it gives us the ability to really support our customers because to the extent that they’re moving and we can help them with that process, I think that puts us at an advantage. From the conversations we’ve had with customers, it’s not an uncommon conversation to have about the move, and I think it puts us as a real advantage to be able to support them either way.

[Terry McEvoy:]

Thanks, appreciate it.

[Operator:]

Your next question comes from the line of Bill Carcache with Wolfe Research.

[Curt Farmer:]

Good morning Bill.

[Bill Carcache:]

Good morning. The idea that dealer floor plan levels will take longer to return to their historical levels, can you discuss how much of that you think is transitory, and more broadly, how are you thinking just in general of dealers possibly running with less inventory than they have historically?

[Peter Sefzik:]

Bill, it’s Peter again. Our dealer groups are doing really, really in this environment, interestingly enough, so they’ve got the challenges of inventory, getting cars, but they are performing really well, so obviously the balances are lower that we see, and we think that will come back. There’s been a lot of press about this issue - matter of fact, today there’s an article in the Journal about it, just the supply constraints, getting chips, getting cars produced. It’s not just chips, it’s lots of other supplies - raw materials in general, I think are in short supply. All of that said, we think it’s probably more like 2022 before dealer starts to see floor plan balances increase. We were encouraged, I think coming into ’21, that that might happen sooner, but it’s clearly not happening. The supply constraints are still there. But in the meantime, we’re growing our customer base, our dealers are performing really well, and we continue to stay very committed to supporting that business.

[Bill Carcache:]

That’s very helpful, thank you. As a follow-up, could you give a bit more color on how you’re thinking about the stickiness of the deposit growth that you guys have experienced, and then if you could also discuss your front book and back book pricing dynamics and how those look across both your securities and loan portfolios, just how do new money yields compare to what’s coming off.

[Jim Herzog:]

Yes, we are expecting a large portion of the excess liquidity to stick around for some time, which is why we were comfortable investing some of that into the securities portfolio at the end of the quarter. We’ll certainly consider doing so in upcoming quarters. So much of the excess liquidity is going to be dependent upon what the Federal Reserve does, what happens with economic activity, so it’s really hard to say where it’s going to go, but I do think it’s fair to say that a pretty good portion of that excess liquidity is likely here to stay for some short to medium term. We would expect some of it to be put to use in the back half of the year. Regarding your securities question, for the remainder of this year, we do expect for the securities to continue to roll off and pay off at rates that are higher than what we’re putting on the books, so we will have some continued reduction in the loan yield as each quarter progresses. But as you saw in the chart and on the slides, that decrease in yield is getting smaller each quarter as those yields start to converge on each other, but we don’t expect for that crossover point to occur this year, so we’ll continue to monitor that and make the right opportunistic purchases with the right structure. But we do think for the remainder of the year, we will continue to see yields roll off that are higher than what we’re putting on.

[Bill Carcache:]

That’s very helpful. Thank you for taking my questions.

[Curt Farmer:]

Thank you Bill.

[Jim Herzog:]

Thank you.

[Operator:]

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

[Curt Farmer:]

Morning Ken.

[Ken Usdin:]

Hey, good morning. Thanks. Slide 18, you guys talk about go-forward considerations for the swap and bond portfolio. I’m just wondering with all of your interest rate sensitivity, how are you thinking about potentially adding to that book and laddering in over time vis-à-vis what you’ve mentioned and starting to do in the securities book itself? Thanks.

[Jim Herzog:]

Yes, thanks Ken. Interesting that you mentioned hedging as well as the securities book. In a sense, we are hedging with securities right now, and we feel like we’re in a fortunate position in that we have an alignment of two different objectives in a sense by using securities to hedge. We can reduce asset sensitivity right now moving some earnings into the current period while maintaining some upside still, but we think we can do so in a way that efficiently uses the excess liquidity to buy securities that are yielding significantly more than hedges would. Right now, the hedges would carry about 50 BPs of positive carry; the securities we’re buying, about 170 BPs of positive carry, and frankly we’re a little agnostic as to what line item or geography we achieve both that earnings accretion and the reduction in asset sensitivity. Right now, we see a lot of percentage in using excess liquidity on securities, and as that excess liquidity begins to wane, you may see us start to transition to more synthetic approaches.

[Ken Usdin:]

Okay, got it. Thank you. Just a follow-up on the cost side, you’ve been pretty stable, some pluses or minuses underneath with the payments cards and pension and whatnot, and you’re talking about flattish from here. Can you just talk about the puts and takes about incremental investment dollars versus your points that you make about the other controls underneath? Is flat a good outlook as we even look longer term than just the next few quarters? Thanks.

[Jim Herzog:]

Yes Ken, certainly to be clear, we do expect to be flat in the second quarter, but I did mention that even though we hope to self-fund some of our technology expenses, we will expect to see the typical seasonal increases, modest increases in the second half of the year. Also, we do think the economy is going to be in pretty good shape in the second half of the year, so we want to make sure we’re in a position to support that, so there will be some modest expense increase in the second half of the year as we support that growth. Certainly as an example, as card starts to take off throughout the year with additional stimulus that’s just come into the system, we would expect outside processing to step in or step up, and we do want to make sure we’re there for the customers, so there will be some modest expense growth as we move through the latter two quarters of the year. Beyond that, we’ll have to assess 2022 as we move through this year. As always, we’ve done a pretty good job on expenses. They’re always very front of mind, and that’s something we have a bit of a maniacal emphasis on in terms of making sure we challenge every expense. We don’t think there are any big wholesale changes that we’re going to make to our expense structure at this point, but we do challenge expenses as we move through the year and we expect to maintain that very modest, flat to modest expense growth as we move from year to year.

[Ken Usdin:]

Okay, thanks for that color.

[Operator:]

Your next question comes from the line of Steven Alexopoulos with JP Morgan.

[Steven Alexopoulos:]

Morning everybody. To start, it’s nice to hear that your customer’s more optimistic. I’m curious, what are you hearing from your commercial customers in terms of what they plan to do with both the deposits they’re sitting on, and do we need to see those get materially reduced before loan growth resumes?

[Peter Sefzik:]

Hey Steve, it’s Peter. I think the short answer to that is yes. I think that deposits need to come down some before we start to see that utilization. I didn’t feel as strongly about that maybe a quarter or two ago, but it certainly feels like the amount of liquidity in the system is just excessive and restricting the need to borrow money. Now that said, I think that there will be a time where companies are going to be--they’re going to want more cushion, so they’re going to borrow money but they’re going to maintain deposits, so I think there’s a nice level that we will get to. We hope it’s, as we’ve mentioned, in the second half of the year as we maybe see some liquidity kind of move through the system. I think it’s a little bit to be determined on that, but it certainly feels like some utilization of those deposits is going to be needed to really see the borrowing pick up.

[Steven Alexopoulos:]

Okay, that’s helpful. Then I know it’s tough to provide a full year outlook this year - there’s just so many moving parts, but in terms of loan growth, what’s your best guess what full year loan growth looks like? I’m trying to get a better sense of how you guys stack up versus your peers, and there’s quite a few pluses and minuses on your outlook slide.

[Jim Herzog:]

Yes, well certainly--it’s Jim, Steve. I’ll take that first part of the question and then Peter can add on. It’s really been a bit of a rollercoaster year to year, so it’s very difficult to look at year-to-year comparisons. Each quarter has had its own story, and certainly we’re going to see several billion dollars in PPP loans paid down as we move through this year, so I would probably look at it in the context of just the go-forward outlook. As you heard me say, we do expect them to be stable in the second quarter ex-PPP. We’ll certainly be down in total due to PPP loans being prepaid as we move through the second half of the year, but as we mentioned, we do expect solid loan growth in the second half of the year with the ex-PPP portfolio. Hopefully that helps, and Peter, anything you’d add onto that?

[Peter Sefzik:]

I think, Jim, you answered it. Steve, we’ve got some businesses that move, swing pretty big - mortgage banker, dealer and energy, we’ve talked about those. But when you look at the rest of our general businesses, I think historically we’ve grown pretty consistently with those economies. I think being in the markets that we’re in gives us a real opportunity to grow with those economies as things come back.

[Steven Alexopoulos:]

Okay, that’s helpful. If I could squeeze one last one in, I just want to understand the commentary around spread. I know it’s tough to pinpoint NIM, right, just given all the liquidity we’re talking about, but if we look at net interest spread of 220 in the quarter, is the message you’re giving us today is that you expect the spread to continue to decline through 2021?

[Jim Herzog:]

You know Steven, I’m so hesitant to talk about NIM because we are so volatile on our deposits. I’d really like to look at it in terms of net interest income since the cash at the Fed really has no capital consuming characteristics. We do expect net interest income to be somewhat stable ex-PPP. We will see a little bit of decrease as we move late into ’21, just due to the fact that once you lose several billion dollars of PPP loans that are yielding around 2%, it’s unavoidable that that’s going to have some negative impact on net interest income, and that’s very hard to make up. I would say relatively stable ex-PPP, and then PPP will put some downward pressure late in the year. Hopefully as the economy picks up, you start to replace those PPP loans with real traditional loans and customers start investing for the future.

[Steven Alexopoulos:]

Okay. Thanks for all the color.

[Jim Herzog:]

Thank you.

[Curt Farmer:]

Thanks Steve.

[Operator:]

Your next question comes from the line of Brock Vandervliet with UBS.

[Jim Herzog:]

Good morning Brock.

[Brock Vandervliet:]

Good morning. Just wanted to circle back on your rate sensitivity. Given the expectations here eventually around rate hikes, can you review your hedging profile, particularly the floors that you have in place or may not have in place, just to give us a sense of at the point when rates finally lift on the short end, how quickly do you accrue that benefit?

[Jim Herzog:]

Yes Brock, it’s Jim - happy to take that question. Even though we have invested in securities over the last two or three quarters, fixed rate securities, we do continue to be very asset sensitive. That’s one of the reasons we’re comfortable making those investments in longer duration securities. You’ll see on Slide 18 that we’re actually showing more asset sensitivity than we have traditionally. You see the 100 BP linear non-parallel shift in rates which produced $156 million of income - that’s higher than we would typically see, and one of the reasons for that is all the excess cash that we have on deposit at the Fed. Now as the economy continues to progress, you’d expect two things to happen in coordination with each other. You would expect to see rates rise, which is the genesis of your question, but typically that would be accompanied by improving economic conditions which would probably result in either the Fed drying up some of that liquidity or customers putting that cash to use, so I would expect to see that $156 million sensitivity marker that you see on Page 18 start to come down a little bit as we invest in more securities and as excess cash comes down to the Fed. But having said that, there is no doubt that we are going to benefit significantly if rates do go up.

[Brock Vandervliet:]

Okay, and just to put a finer point on that, some of your peers are quick to call out caveats that the benefit wouldn’t immediately accrue. It sounds like this is a different situation here, where the benefit is pretty direct drive.

[Jim Herzog:]

Well, the benefit would certainly immediately accrue if rates went up, and probably more so for Comerica than peer banks just given the very significant asset-sensitive book we have and the LIBOR-based characteristics we have. Now, we do have significant loan floors in place and they are giving us significant lift, but even with that we maintain quite a bit of asset sensitivity, so we would certainly benefit right away.

[Brock Vandervliet:]

Okay, great. Thanks for the question.

[Jim Herzog:]

Thanks Brock.

[Operator:]

Your next question comes from the line of Gary Tenner with DA Davidson.

[Curt Farmer:]

Morning Gary.

[Gary Tenner:]

Thanks, good morning. The question’s largely been asked, but just for modeling purposes, in terms of PPP fees yet to be recognized, could you update where those stand after the second round and the first quarter forgiveness?

[Jim Herzog:]

Yes Gary. PPPs to be recognized, it remains to be seen how much of them are recognized through typical amortization. The longer these loans stay on the books, the more we’re going to see amortized through time. Obviously the quicker they’re forgiven, the more we get accelerated fees, likely all at one time. Currently in terms of fees outstanding, we have between the two rounds about $76 million of fees on the book right now. In terms of how that might play out, we’re going to recognize a fair amount of that throughout this year as just amortization as part of that 2% that we’re getting on PPP loans. We’ll get obviously some of it next year for those loans that stay on the books. Just to give you a feel for how this year might progress and what you might see in terms of earnings impact, the accelerated fees, if you look at those just in a vacuum, we had about $12 million of accelerated fees in Q1 and that’s compared to $5 million in Q4 of ’20, so we did have a $7 million increase. It’s very unpredictable as to how this might play out, but in some of the guidance that we’ve offered you in the script, we would expect that $12 million of accelerated fees to be somewhat stable in the second quarter. We would expect it to be higher in the third quarter - it could be 50% higher, it could be double, it remains to be seen, and then we would see it kind of come back to the first and second level in the fourth quarter. Those are the types of blips you might see in our net interest income quarter to quarter related to accelerated PPPs. Now if you take that and you adjoin it to some gradual run down of the loans that are on the books right now, essentially the $3.5 billion that on the books, and you assume that runs down at a typical 2% rate, you put those together and it gives you a feel for what PPP is going to do to net interest income as we move from quarter to quarter.

[Gary Tenner:]

Great, I appreciate the color. Just to be clear, though, I thought in your prepared remarks you’d noted that you expected the bulk, I think you said, of PPP loans to be forgiven by the end of this year, so most of those fees should be recognized as revenue this year?

[Jim Herzog:]

That’s right. We would expect 5% to 10%, 5% to 15% to be on the book still at year end - that remains to be seen, but the vast majority should be gone by the end of the year.

[Gary Tenner:]

Great, thank you.

[Operator:]

Your next question comes from the line of Jon Arfstrom with RBC Capital Markets.

[Jim Herzog:]

Good morning Jon.

[Jon Arfstrom:]

Thanks, good morning. Peter, maybe a question for you. You talked about the increasing pipeline. Can you talk about the magnitude of that change in the pipeline and maybe how different it was than a quarter ago?

[Peter Sefzik:]

Yes Jon, sure. A quarter ago, we were sort of using--you know, back to pre-pandemic levels. I think that language that you’re sort of hearing now is that it’s above pre-pandemic levels, so we feel like the pipeline is about as good as I can really, frankly, remember, being in this role for the last few years, so it’s encouraging. I would say it has exceeded sort of where we thought we would be at this point. Now again, seeing all that come to fruition, we’ve still got a lot of work to do, but it certainly feels like we have gone above pre-pandemic levels versus last quarter, when I think was kind of using terminology of being back to pre-pandemic levels. That gives you an idea of it, so.

[Jon Arfstrom:]

Okay. Then maybe to tie that into the deposit question we keep asking, you’re talking about deposits beginning to wane as customers put cash to use, and I think all we see from a high level is just the big deposit growth. Are you seeing evidence, maybe early evidence of some clients starting to do that, starting to take their cash balances down for business activity, or is that just not the case yet?

[Peter Sefzik:]

Jon, I would say little evidence, circumstantial maybe, even. I can’t say that we’re seeing hard evidence of that occurring just yet. Now again, we feel like the activity will lead to that sort of use of cash, but I can’t say that we’re seeing a whole lot of hard evidence that that is occurring.

[Jon Arfstrom:]

Okay, and then maybe one for Melinda. On the reserves and talking about eventually heading back to pre-pandemic levels, is the message here it’s a glide path to pre-pandemic levels, or is the message that if the economy continues to mend, we could get another acute step-down in the reserve levels?

[Melinda Chausse:]

Thanks for the question. Yes, I think that obviously given the performance of the portfolio, which has really exceeded our expectations and is far better than, I think, what anybody could have expected coming into the pandemic, assuming that there is no negative migration, which again we don’t see anything in the portfolio right now that would lead us to believe that, and that the economic forecast remains positive to improving, we’re going to continue to see reserves come down close to that or around that pre-pandemic level. I mean, CECL is a very complex accounting exercise, so it’s very difficult to peg a percentage or a number that it’s going to get to, but we feel very, very confident it will be moving in the direction of pre-pandemic levels throughout the remainder of this year.

[Jon Arfstrom:]

Okay, and I accept and respect what you said on it’s complicated, but pre-pandemic levels would be--if we look at 2019, that’s a good baseline for pre-pandemic? It seems like a simple question, but is that how you think about it?

[Melinda Chausse:]

Yes. Our day one CECL was about 1.26, 1.3, so that would be a good number to sort of have in mind.

[Jon Arfstrom:]

Okay, thank you.

[Operator:]

We have no further questions at this time. I will turn the call back over to Curt Farmer for any closing remarks.

[Curt Farmer:]

Let me just close by saying again that we are very encouraged by recent health metrics and economic trends, and I just remain very proud of our team and how we’ve managed through this challenging environment. As always, we are very appreciative of your ongoing interest in our company. Have a good day. Thank you.

[Operator:]

Ladies and gentlemen, that does conclude today’s call. Thank you all for joining. You may now disconnect.