M&T Bank Corporation
Q1 2017 Earnings Call Transcript

Published: 17 Apr 2017

[Operator:]

Welcome to the M&T Bank First Quarter 2017 Earnings Conference Call. It is now my pleasure to turn the floor over to Don MacLeod, Director of Investor Relations. Please go ahead, sir.

[Don MacLeod:]

Thank you, Laurie, and good morning. I’d like to thank everyone for participating in M&T’s first quarter 2017 earnings conference call both by telephone and through the webcast. If you have not read the earnings release we issued this morning, you may access it along with the financial tables and schedules from our website, www.mtb.com, and by clicking on the Investor Relations link. Also, before we start, I’d like to mention that comments made during this call might contain forward-looking statements relating to the banking industry and to M&T Bank Corporation. M&T encourages participants to refer to our SEC filings, including those found on forms 8-K, 10-K, and 10-Q, for a complete discussion of forward-looking statements. Now, I’d like to introduce our Chief Financial Officer, Darren King.

[Darren King:]

Thank you, Don, and good morning everyone. As we noted in the earnings press release this morning, M&T’s results for the first quarter were quite strong; the result of work done in the last 12 months positioning the bank to respond to the environment that emerged in the first quarter. The rate hike back in December and again in March, combined with limited pressure on deposit pricing, has improved net interest margins across the industry, and M&T Bank was no exception. Those actions were a major factor in the 26 basis point expansion of our net interest margin, and in turn, the 4% growth in net interest income, both compared to the prior quarter. We experienced our usual seasonal uptick in compensation-related expenses during the first quarter relating to equity and comp – and incentive compensation and employee benefits costs. Aside from that, expenses continue to be well controlled. Credit remained stable, and as we signaled on the January call, we resumed implementation of our CCAR 2016 capital plan by purchasing $532 million of M&T common stock during the quarter as well as increasing the common dividend by $0.05 to $0.75 per share per quarter. Before we turn to the details, I would like to take a moment to acknowledge the contributions of M&T’s President and Chief Operating Officer, Mark Czarnecki, who passed away during the first quarter. Mark was a leader in the truest sense of the word, a mentor to many within the bank, the industry, and the community. For me personally, I can’t thank Mark enough for the guidance, advice, and impact he has had on my career at M&T. He was the kind of banker and, indeed, the kind of person we should all aspire to be. We will miss him but appreciate all that he did to enrich our lives. Now let’s turn to the numbers. Diluted GAAP earnings per share were $2.12 in the first quarter of 2017 compared with $1.98 in the fourth quarter of 2016 and $1.73 in the first quarter of 2016. Net income for the quarter was $349 million compared with $331 million in the linked quarter and up 17% from $299 million in the year ago quarter. Net income in the first quarter was impacted by new accounting guidance for certain types of equity based compensation. Tax benefits derived from deductions from employee equity compensation based on changes to the stock price and which were formally reflected in Other Comprehensive income are now included as an offset to income tax expense on a current-period basis. Thus, the first quarter’s results included tax benefit of $18 million or approximately $0.12 per common share. Also recall that the fourth quarter 2016 results included a $30 million contribution to the M&T Charitable Foundation following a large securities gain in last year’s third quarter and a smaller gain in the fourth quarter. That contribution amounted to $18 million after-tax effect or $0.12 per common share. There were no merger-related expenses in either the first quarter of 2017 or last year’s fourth quarter. However, results for the first quarter of 2016 included merger-related charges amounting to $14 million after-tax effect or $0.09 per common share. Also included in GAAP results in the recent quarter were after-tax expenses from the amortization of intangible assets amounting to $5 million or $0.03 per common share, compared with $6 million and $0.03 per common share in the prior quarter. Consistent with our long-term practice, M&T provides supplemental reporting of its results on a net operating or tangible basis, from which we have only ever excluded the after-tax effect of amortization of intangible assets as well as any gains or expenses associated with mergers and acquisitions. M&T’s net operating income for the first quarter, which excludes intangible amortization and merger-related expenses from the relevant periods, was $354 million, compared with $336 million in the linked quarter and $320 million in last year’s first quarter. Diluted net operating earnings per common share were $2.15 for the recent quarter compared with $2.01 in 2016’s fourth quarter and $1.87 for the first quarter of 2016. On a GAAP basis, M&T’s first quarter results produced an annualized rate of return on average assets of 1.15% and an annualized return on average common equity of 8.89%. That compares with rates of 1.05% and 8.13% respectively in the previous quarter. Net operating income yielded annualized rates of return on average tangible assets and average tangible common shareholders’ equity of 1.21% and 13.05% in the recent quarter. The comparable returns were 1.1% and 11.93% in the fourth quarter of 2016. In accordance with SEC’s guidelines, this morning’s press release contains a tabular reconciliation of GAAP and non-GAAP results including tangible assets and equity. Turning to the balance sheet and the income statement. Taxable equivalent net interest income was $922 million in the first quarter of 2017, improved by $39 million from the linked quarter. Net interest margin improved to 3.34%, up 26 basis points from 3.08% in the linked quarter. The single biggest impact to the margin, an estimated 12 basis points came as a result of the Fed’s late-December rate action reaching its full run rate during the quarter, and to a lesser extent, the Fed’s late-March action. A major component of that benefit can be seen in the 16 basis points increase in loan yields compared with the prior quarter. The average balance of funds placed on deposit with the Fed declined by approximately $2.6 billion from the fourth quarter, reflecting the combination of cash deployed into investment securities and lower levels of deposits received from fiduciary clients engaged in capital markets transactions. We estimate that this decline produced a benefit to the margin of about 7 basis points. Compared with the fourth quarter, the shorter 90-day first quarter increased the reported margin by an estimated 3 basis points. A favorable mix of interest-bearing liabilities benefited the margin by an estimated 4 basis points. This includes the maturity of higher-cost, long-term borrowings including those acquired in the Hudson City transaction as well as the continued runoff of higher-cost time deposits also acquired with Hudson City. Those were replaced by higher balances of noninterest-bearing demand deposits. Average loans declined by less than 1% compared with the linked quarter. A slower rate of growth for commercial loans, commercial real estate, and consumer loans was insufficient to offset continued pay-downs of our residential real estate portfolio. In particular, commercial real estate loans originated for sale decreased to $75 million at March 31 from an unusually high $643 million at last year’s end. Looking at loans by category on an average basis compared with the linked quarter, commercial and industrial loans were up approximately 7% annualized, commercial real estate loans increased by about 4% annualized. Residential mortgage loans declined at a 16% annualized rate and consumer loans grew an annualized 1%, which marks a continuation of the trend we’ve seen for several quarters, with growth in indirect loans including auto and recreation finance loans being offset by lower home equity lines and loans. Impacting the end-of-period consumer loans was the windup and dissolution of the auto loan securitization we did in the third quarter of 2013. This brought some $130 million of auto loans back onto our balance sheet during the quarter. Regionally, we saw the strongest growth in C&I loans in New Jersey; our New York Metro region, which includes Philadelphia; and the Mid-Atlantic. Commercial real estate activity remained strong in New Jersey and the Mid-Atlantic but slowed notably in the New York Metro region. Home equity lending remained pressured across the footprint. On an end-of-period basis, C&I loans declined approximately 1.4%. As I mentioned, the 1.3% end-of-period decline in commercial real estate loans was entirely due to an elevated level of commercial mortgages held for sale by our commercial mortgage banking group at December 31, 2016. Loans held for sale declined by some $568 million at the recent quarter end compared with the end of December. Otherwise, end-of-period CRE loans would have grown by a little less than 0.5%. Average core customer deposits, which exclude deposits received at M&T’s Cayman Islands office and CDs over $250,000 declined by some $599 million from the fourth quarter, with higher levels of demand deposits offset by lower levels of interest checking balances and continued runoff of time deposits acquired with Hudson City. Turning to non-interest income. Non-interest income totaled $447 million in the first quarter compared with $465 million in the prior quarter. Mortgage banking revenues were $85 million in the recent quarter compared with $99 million in the linked quarter. Residential mortgage loans originated for sale were $727 million in the quarter, down about 4% compared with the fourth quarter. Total residential mortgage banking revenues, including origination and servicing activities, were $58 million compared with $63 million in the prior quarter. Commercial mortgage banking revenues were $27 million in the recent quarter, down some $9 million from the prior quarter. Recall that the loan volumes originated for sale and resulting revenues in last year’s third and fourth quarter were near all-time highs, a pace that is difficult to sustain. Trust income was $120 million in the recent quarter, little change from $122 million in the previous quarter. The decline is largely attributable to seasonal factors as new business generation remained strong. Service charges on deposit accounts were $104 million, down just $1 million compared with the fourth quarter also reflecting seasonal elements. Turning to expenses, operating expenses for the first quarter, which exclude the amortization of intangible assets were $779 million, compared with $760 million in the previous quarter, which included the $30 million contribution to the M&T Charitable Foundation that I previously mentioned. As is normally the case, the comparison of first quarter with the preceding quarter reflects our typical seasonal increase in salaries and benefits relating to accelerated recognition of equity compensation expense for certain retirement-eligible employees, the 401(k) match, the HSA contribution, and the annual reset in FICA payments and unemployment insurance. Those items accounted for approximately a $50 million increase in salaries and benefits from the fourth quarter. As usual, those seasonal factors will not recur as we enter the second quarter. The efficiency ratio, which excludes intangible amortization and merger-related expenses from the numerator and securities gains from the denominator, was 56.9% in the recent quarter. The ratio was 56.4% in the previous quarter and 57.0% in 2016’s first quarter. Next, let's turn to credit. Our credit quality remains relatively stable. Nonaccrual loans increased by just $7 million to $927 million at March 31 and the ratio of nonaccrual loans to total loans increased by 3 basis points to 1.04% compared with the end of the fourth quarter. We continue to see modest inflows of new, nonaccrual mortgage loans in the acquired Hudson City portfolio, which under the accounting rules, were 0 as of the date of the acquisition. Net charge-offs for the first quarter were $43 million compared with $49 million in the fourth quarter. Annualized net charge-offs as a percentage of total loans were 19 basis points for the first quarter, in line with what we've seen on average over the past three years. The provision for credit losses was $55 million in the recent quarter, exceeding net charge-offs by $12 million, reflecting the continued shift to a higher proportion of commercial loans to total loans as the Hudson City residential mortgage portfolio pays down. The allowance for credit losses was $1 billion at the end of March. The ratio of the allowance to total loans increased slightly to 1.12%, reflecting that higher proportion of commercial loans. Loans 90 days past due on which we continue to accrue interest, excluding acquired loans that had been marked to a fair value-discounted acquisition, were $280 million at the end of the first quarter. Of these loans, $253 million or 90% are guaranteed by government-related entities. Turning to capital. As we signaled on our January conference call, we resumed share repurchases during the past quarter, in line with our work CCAR 2016 capital plan. In total, we repurchased 3.2 million shares during the quarter at an aggregate cost of $532 million. Those repurchases, combined with the reduction of the balance sheet and risk-weighted assets during the quarter, brought M&T's common equity Tier 1 ratio under the current transitional Basel III capital rules to an estimated 10.66% compared with 10.7% at the end of the fourth quarter. The actions we took in the fourth quarter to refinance one of our series of preferred stock reduced quarterly preferred dividends by $2.1 million to $18.2 million, which is indicative of the run rate going forward. Now turning to the outlook. As we're now three months into 2017, there's still reason for optimism. The Fed's actions on interest rates came faster than we and the market were expecting back in January. The result was that margin expansion happened somewhat earlier than we expected, which in turn led to better growth in net interest income. Loan growth, despite the optimism for change in a more business-friendly administration, has yet to materialize in a meaningful way. And while the pace of loan growth in commercial and consumer categories has slowed somewhat as expected, the pace of pay-downs in residential real estate hasn’t slowed as customers look to lock in current rates in advance of any further increases in rates. The net result is that our outlook for loan growth for the full year of 2017 is a little lower than it was in January in the lower single-digits area, the lower end of our range. Absent any further rate actions by the Fed, there is modest upside to the net interest margin due to the fact that rates move late in the first quarter. However, the ultimate margin is impacted not just by the Fed, but by competitive pricing, the amount of cash on the balance sheet and the mix of funding. The higher interest rate environment continues to challenge mortgage banking, specifically with respect to residential mortgage loan originations. Consistent with other mortgage originators, we relaxed margins in the past quarters to sustain volume, which impacted gain on sale revenue. As we've noted previously, we have the capacity and the appetite for additional servicing or subservicing business should any opportunities present themselves. This could offer a potential offset for slower originations. The outlook for the remaining fee businesses is unchanged for growth in the low to mid-single-digit range. Our expense outlook is also unchanged. We continue to expect low nominal growth in total operating expenses in 2017 compared to last year. We don't expect to match any upside to revenues with any material increase in investment activity. Our outlook for credit remains little changed. However, we must constantly remind ourselves that credit has been benign for several years and that we should view credit more as a downside risk than an upside opportunity. Despite some modest pressure on nonperforming and criticized loans, our outlook for credit losses remains relatively stable. As for capital, given our strong operating performance and solid capital ratios, it is our intention to continue with the second quarter distributions that were approved as part of our 2016 CCAR submission. Of course, as you're aware, our projections are subject to a number of uncertainties and various assumptions regarding national and regional economic growth, changes in interest rates, political events and other macroeconomic factors which may differ materially from what actually unfolds in the future. Now let's open up the call to questions, before which, Laurie will briefly review the instructions.

[Operator:]

[Operator Instructions] Your first question comes from the line of David Eads of UBS.

[David Eads:]

Okay good morning. Maybe if we could get into obviously, a really good result on the interest margin. I think your comment in there was that we should expect modest improvement in 2Q. I guess, is that correct? And then more specifically, can you talk about what you guys actually saw in terms of deposit repricing? Was there anything specific that allowed you to increase the noninterest-bearing deposit so meaningful? I mean is that sustainable? And should we expect that the deposit costs can be kind of stable from here?

[Darren King:]

Sure. So there's a bunch of questions in there. I apologize, I didn't write them all down. So if I missed one, well we can come back to it at the end.

[David Eads:]

Well, I mean, I asked – I only asked one, so I was trying to get them all in there together. I apologize.

[Darren King:]

One question with 12 parts. That's fine. So on margin for the second quarter, we are anticipating a little expansion in the second quarter, and that's largely the result of having a full quarter's worth of the increase that happened in March with the Fed. So we didn't get the full quarter impact in the first quarter and we expect some of that to bleed into the second quarter. When we look at the components of the margin, obviously, we're very pleased with how the margin went in the first quarter and how things reacted. Obviously, between the day count and cash balances, that was 10 basis points of the increase, right? So I kind of look at this more as 16 versus 26. And then, when you break those two down between the impact of funding costs and the repricing of the assets, the asset repricing, in effect, was about 12 basis points, which isn't far from what we've been signaling in terms of six to ten for a 25 basis point increase from the Fed. Your specific question about deposits, when we look at where deposit pricing was in the quarter, what was helpful for us, as you could see in the numbers, is we continue to work through the Hudson City time deposit book. And we started that, really, in August, September of 2016. And you can only reprice that as fast as those time deposits mature. And when we look at the pace of maturities of those deposits, it is roughly the same. It runs kind of about $100 million a week. There might be a couple of weeks where we have some big repricing. But what we've seen is the average rate at which things are repricing from has come down in the last six months. So the amount of decrease we can get, we're starting to get lower, or it could get smaller through time, but we still think there's a little bit of opportunity for repricing there. In terms of noninterest-bearing, I think, as we see some of those time deposits choose not to renew as time deposits, they're going liquid, some of that ends up in money market, some of that ends up and now in DDA while customers are deciding what to do. And then the other part of the interest-bearing to keep in mind is commercial balances, right? And commercial balances, we haven't seen as much pressure on pricing yet as what we anticipated. There's more there than there is on the consumer side, but not what we anticipated. And time will tell whether that mix is able to stay where it is today. Our expectation is that it will start to shift and that those balances will start to move likely into the money funds. But the money fund industry has changed since the crisis, and the rates that you can get on government funds, which is where that money would likely go, haven't moved enough yet for that to move. So that's an indicator that we keep an eye on to gauge what we think might happen to those noninterest-bearing deposits.

[David Eads:]

Right, that’s very helpful. Thanks very much.

[Darren King:]

No problem.

[Operator:]

Your next question comes from the line of Ken Zerbe of Morgan Stanley.

[Ken Zerbe:]

Great, thanks. Good morning.

[Darren King:]

Good morning Ken.

[Ken Zerbe:]

Just a question on the tax change. Can you just talk about how recurring that is? I mean, is that something that only happens in the first quarter? Does that happen throughout the year? I mean, really, should we expect a permanently lower tax rate kind of over time? I'm trying to understand the go-forward implications.

[Darren King:]

Yes. It's basically predominantly a first quarter event, because that's when most of our equity compensation is paid and invested. However, there are still some stock options that are outstanding, that are now in the money that will expire over the next 12 months. And as people exercise those options, there's the opportunity for there to be what's known as a disqualifying disposition, which can help lower the tax rate. But by and large, I would tend to think of it as predominantly a first quarter event with a little bit of noise in the other quarters, but shouldn't move the earnings as much as what happened this quarter.

[Ken Zerbe:]

You mean in next year's first quarter? Or…

[Darren King:]

Next year's first quarter. It should happen every year in the first quarter.

[Ken Zerbe:]

Got it. Okay. So this first quarter wasn't unusually large given the initial tax change, it was just simply this is how it probably is going to be on a go-forward basis in first quarter?

[Darren King:]

Yes. So the thing to keep in mind, Ken, as you think through this, is this quarter was large because of the material increase in the stock price at the end of the year. And the way it works is it's the difference between the share price when it is issued and the price when it vests. So when you have a big gain when the price at vesting is higher than the price at its issuance, that increases your expenses and reduces your tax liability. The reverse can also happen, right? So if the stock happens to be lower at vesting date than what it was when it was issued, then your expense will go down and your tax liability will go up, right? So what the effect this is going to have – it’s not really changing what’s happening in actuality, it’s just where on the financial statements it’s happening. It used to go through OCI and hit the equity line, and now it’s going through the income statement. So it’s going to create that volatility. It can move things positively or negatively, and it will tend to be disproportionately in the first quarter of the year for M&T.

[Ken Zerbe:]

Great. All right, thank you.

[Darren King:]

Sure.

[Operator:]

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

[John Pancari:]

Good morning.

[Darren King:]

Hi, John.

[John Pancari:]

Back to the loan growth topic. Thanks for the color around your updated expectations on loan growth. I just want to get a little bit more color on the granularity. In terms of the pace of the incremental runoff in the resi mortgage book, how should we expect that pace to play out? And then on the commercial side, the C&I growth outlook, if you could just talk a little bit about that, where you’re seeing some weakening in demand, if you are. And then lastly, on CRE, where the pay-downs are and if you could quantify them at all. Thanks.

[Darren King:]

Okay. Boy, this – you guys really learn from Don about asking one question with multiple parts. So on residential real estate, we’ll start with that. If you look at the pace of decline in those balances, we do expect it to moderate somewhat as we go through the year, but that will be a function of where interest rates move and, in particular, the 30-year. The book is also getting smaller. So the percentage pay-down as a percentage of a smaller balance will also come down. We had kind of run in the range of $900 million a quarter through 2016. I think we’re a little under that this quarter, around $800 million. We do expect that to start to slow down as we go through 2017. To give an exact number, obviously, is a little difficult given where pay-downs are, but I would be thinking, I guess, in the kind of $600 million to $800 million a quarter range would probably be a good starting point. When we talk about C&I lending for the quarter, demand was strongest kind of along the eastern seaboard. And if you look really from New York down through Philadelphia, Baltimore, Greater Washington, that tended to be where the bulk of the activity was. Certain sectors were particularly strong. Accommodation and food services were fairly strong, as was some health care and social assistance sectors. When we look at the pipeline that we have, the pipeline is actually reasonably strong. It’s within the range of where it was at the first quarter of last year, we’re just not seeing people go to actually take out the loans. So we have approved loans on the books or in the pipeline, and we’re waiting for customers to actually go through with those borrowings. When we talk about commercial real estate and what’s going on there, probably the biggest thing that we’re starting to see is within our construction book, that we had an increase in construction balances during 2016, the result of loans that were originated during 2015 as well as early 2016. And as those projects reach completion, then they will become permanent mortgages, either with us or with someone else. And if we – if you see some slowdown in absolute commercial real estate growth, which we kind of expected this year, it’s being driven substantially by a reduction in construction balances.

[John Pancari:]

Got it. Okay, thanks. Is your loan growth guide low single digits on average balances or EOB?

[Darren King:]

On average balances, and that’ll be across everything. So C&I, CRE, consumer and residential real estate.

[John Pancari:]

Yes, okay. All right, thank you.

[Operator:]

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

[Ricky Dodds:]

Hey, guys. This is Ricky Dodds from Matt’s team. Congrats on the good quarter. Just a bigger picture question. I was wondering if you have any update on the AML issue and if there’s any timetable for a resolution.

[Darren King:]

Well, we are now substantially complete in our work on the AML/BSA in the written agreement, and we are having our work reviewed by a regulator and hope that they will agree that we’ve done everything we said we would in the time frame, and that we’ll be hopeful for a positive outcome sometime this year.

[Ricky Dodds:]

Okay, great. And then another bigger picture question, if that’s okay. A number of your peers have talked about a lot of migration towards the digital and sort of enhancing the customer’s digital experience. Can you just remind us again what you’re doing on that front and maybe provide a breakdown of what sort of transactional activity you’re seeing at branches versus maybe a digital or online platform?

[Darren King:]

Sure. So if you look at what’s been going on, just to kind of step back and talk about what’s happening with customer behavior and transaction patterns at branches, we’ve seen a slowdown in teller-assisted transactions primarily for consumers over the course of the last four years. And that migration started actually four years ago, five years ago when we started to deploy image enabled ATMs. And the pace of decline for consumer transactions has averaged kind of 8% to 10% per year decrease for consumer teller-assisted transactions. When we look at small business, it was also a very important part of our customer segment and active users of the branch, their transaction patterns have also decreased but at a much slower pace. It’s kind of running 2% per year. So the weighted average decrease is in the 6% to 8% range. If we look at how we continue to invest in alternative channels for our customers, obviously, last year, we updated the website and online access through any device, be it your PC, your tablet or your mobile phone. The foundation for those interactions was from that upgrade that we made to the website. We also, in the last quarter of last year, introduced our updated mobile app that also included mobile check deposit, and we’ve seen strong adoption of the app and strong ratings online. I think the average review is between 4 and 5 of that app and transaction activity there continues to increase. When we look at where early movement is happening on the mobile app, it is shifting as much or more from the ATM and ATM deposits to the mobile device as opposed to from the teller line to the mobile device.

[Ricky Dodds:]

Okay, great. Thank you.

[Operator:]

Your next question comes from the line of Frank Schiraldi of Sandler O’Neill.

[Frank Schiraldi:]

Good morning.

[Darren King:]

Good morning.

[Frank Schiraldi:]

Just on the – just going back to the margin. Darren, I think you’d talked recently about a 25 basis point increase, and I think you were specifically talking about March being worth anywhere from $70 million to $85 million, I guess, in NII for the full year. So I’m just wondering, does that assume that the deposit betas pick up and so, at the very least, might be a little front-loaded in a world where deposit betas aren’t necessarily picking up in the short term?

[Darren King:]

Right. That’s the right way to think about it. We – each 25 basis point increase from the Fed should be in that range that you quoted on an annual basis. And when we run our estimates, we do include some deposit pricing reactivity. And the more reactivity there is, you get closer to the lower end of that range and the less there is, obviously, you get to the higher end of that range. But it does tend to be front-loaded as you pointed out, because the assets reprice instantly off the index and the deposits take a little longer to reprice.

[Frank Schiraldi:]

Great. And would you say you get most of that just from the short end moving and don’t necessarily need the shift across maturities across the yield curve?

[Darren King:]

Yes. For us, in particular, we’re much more sensitive on the asset side to the short end of the curve.

[Frank Schiraldi:]

Great. Okay, thank you.

[Operator:]

Your next question comes from the line of Brian Klock of Keefe, Bruyette & Woods.

[Brian Klock:]

Hey, good morning Darren and Don. Thanks for taking my question.

[Darren King:]

How are you Brian?

[Brian Klock:]

Not too bad, not too bad, thanks. So thinking about the margin and the securities portfolio, you saw a nice 15 basis point pop in yield on the securities portfolio. I guess I wasn’t expecting that sort of a pop this quarter. Can you talk about a little bit what you did there? Is there anything as far as extending duration or anything that you guys may have done within the securities portfolio to see that good pop in the yield?

[Darren King:]

I guess the biggest factor was just the reinvestment activity and what was rolling off and the rates we were able to get with what we were reinvesting in. If you look at where we had been historically, it was largely a mix of 2-year treasuries and 15-year mortgage-backed securities. And if you look in the quarter, I think we did a little bit more MBS than we had previously, and we did a little bit more of 30-year MBS in proportion to what we had done in the past. But in general, when we look at the duration, the duration is relatively stable. It might be up a couple of months, but we haven’t been looking to extend duration. That’s not typically how we think about the securities book.

[Brian Klock:]

And then so thinking about sort of new purchase yield versus roll-off, I guess, going forward, would that 6 to 10 basis points of NIM extension from the Fed, I guess, given where the tenures kind of come back here a little bit, is the expectation that, that 243 [ph] is somewhat flat here? Or does that still benefit going forward any new purchases?

[Darren King:]

When I look at where we’ve been, when I talk about that 6 to 10 in relation to the increase from the Fed, that’s more on the asset side of the book and looking at our lending side and how – with the mix of assets that reprice off of LIBOR in relation to the deposit base, the impact of securities yields can move that around a little bit quarter-to-quarter, but not more than 1 to 2 basis points. So I – no, I wouldn’t look at the reinvestment risk and/or the potential pricing we get from reinvesting the securities as having a material impact on that 6 to 10.

[Brian Klock:]

Got it. And last question, sorry Don, and I think that’s 2.5 I asked. But the $16 billion average securities balances, and there’s a lot of excess liquidity back on the books at the end of the period, do you keep it at $16 billion? Or where would you like the securities portfolio?

[Darren King:]

I think we’ve been pretty consistent in that range. That number dropped down probably to its lowest levels, for us in the last 12 months last summer, post Brexit. But generally, right around $16 billion, I think, is where we would look to maintain it. Obviously, we’ll adjust that depending on where we need to be for the LCR, but that’s probably pretty good range as our target area as you roll forward.

[Brian Klock:]

All right. Thanks for your time.

[Operator:]

Your next question comes from the line of Matt Burnell of Wells Fargo.

[Matt Burnell:]

Good morning Darren and Don. Just, I guess, a single question in two parts, if I can, both on the margin. First of all, just in terms of the 6 to 8 basis points you would assume – or, sorry, 6 to 10 basis points that you would assume for a 25 basis point hike and your comments that a 25 basis point hike would be a little bit front end-loaded. If we think about that relative to the second quarter margin, it sounds like there’s only a couple of basis points maybe that we should be thinking about in terms of margin benefit from the March Fed hike. And then on the longer-term basis, you’ve got about, by my calculation, a little over a couple of billion dollars of debt that needs to be refinanced by the – by – just after the first quarter of next year, and I guess I’m curious what your thinking is in terms of how you might be able to refinance that at a lower cost and, therefore, further support the margin in late 2017 and into 2018.

[Darren King:]

Sure. So when we look at the 6 to 10 guideline that we’ve given for 25 basis points, we definitely saw some of the March hike in the margin in the first quarter. But again, because it kind of came so late in the quarter, we didn’t see the full impact of that 6 to 10 in the quarter, so that’s why we think there’s some modest expansion still out there for the second quarter of 2017. When we look at the funding mix, you’ll note when we went through the discussion of the margin earlier on in the call and we talked about 4 basis points of the 26 being on the funding mix, we had some long-term funding that rolled off in the first quarter that, because of where the balance sheet was, we didn’t need to replace at that time. But as we go through the second quarter, we have some other maturities that we’ll be needing to fund in all likelihood during the second quarter. And depending on whether we go 5-year or 3-year, fixed or floating obviously will impact where the margin ends up in the second quarter. But it shouldn’t be a material impact given where it looks like spreads are right now compared to what we think is rolling off.

[Matt Burnell:]

Okay. Thank you very much.

[Operator:]

Your next question comes from the line of Geoffrey Elliott of Autonomous.

[Geoffrey Elliott:]

Hello. Thank you for taking the question. In the context of your remarks about credit being more of a downside risk at this point of – in the cycle, how does all the negative news flow we’re seeing on the retail sector stack up in that? Where would you kind of place that in terms of your ranking of potential risks on the credit side? And then related to that, I think you’ve got about $4 billion of CRE, which, in the 10-K, you note is retail and services-related. And I wondered if you could just give us a bit more granularity on what sort of exposures bleed into that and how it breaks down.

[Darren King:]

Sure. So just on vehicle resale values, when we look at where the prices are coming in so far this year, they’re down a little bit, but when we look at our loan-to-value when we originate loans, particularly in the auto space, we tend to be fairly conservative as well as the customer base that we have in the indirect auto space also is very prime-oriented. I think our average FICO score there is above 700. In fact, I think it’s more like in the 730 range. So when we look at the vehicle prices, it’s certainly a risk out there, but given how big indirect is as a part of our balance sheet and then the type of customer base that we have, we don’t view that as a risk on the credit side, at least not when the – we see causing a lot of pain from a credit perspective. When you look in the commercial loan space and you look at retail, when we would consider, I guess, true retail like shopping malls and strip plazas and that kind of thing, we wouldn’t view it as $4 billion; we would view it as less, more like $1.5 billion. And it’s something that we’re paying attention to. When you look at retail, there’s certainly certain chains that are exposed. From our experience when we look at retail real estate, what we found is that the A properties, top-level malls, have been doing okay and those have been performing well. And now surprisingly, a lot of the strip malls, which should almost be considered the C plazas, tend to be performing okay. It’s the ones in the middle that seem to be struggling the most. And when we look from our book and what we have, we feel very comfortable with the exposure that we have there, because we tend to be in the A or C space. And as a percentage of our book, it tends to be a smaller percentage, almost like the auto. My comment about credit was more just a reminder that, where we are in the cycle, we’re at the low. And if there’s a bias in anything that’s likely to happen, there’s – it’s more likely that things will get worse. We’re hopeful that the economy and the GDP keeps growing and that the changes that have been expected come to fruition, but it’s our conservative nature to always be thinking more about where the downside can come from and managing that rather than counting on things to get better.

[Geoffrey Elliott:]

Great. Thank you very much.

[Operator:]

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

[Erika Najarian:]

Hi, good morning. My one question is on balance sheet growth. Darren, how should we think about average earning asset growth in context of the low single-digit growth that you told us you expect loans to grow? And also, as we think about the rest of the year, what an appropriate cash earning asset percentage would be to assume.

[Darren King:]

Erika, I guess the way to think about it is that we’re thinking low single digit in total earning assets, and that will be comprised of decreasing residential real estate assets in the range that we had talked about before. Obviously, that will move faster or slower, depending on where interest rates fall, particularly the 30-year. And we still anticipate low single-digit to mid-single digit growth in C&I and CRE as well as the other consumer loan categories. So that those – the combination of those four would end up with low single-digit total earning asset growth over the course of the year on an average basis.

[Erika Najarian:]

Just the second part of the one question on the cash, cash as earning assets, is this $6 billion average unusually low? Or how should we think about the trajectory of that over time?

[Darren King:]

That’s a great question and one of much debate even internally that when you look back over the course of the last 12 months, I think our high was $12 billion, and that was when we had slowed down some of the reinvestment of the securities book that was paying off in the low rate environment. And we happen to have some increases in mortgage escrow balances as well as very active trust demand customer base. I think that number, if you just look historically, does have the most volatility and therefore creates that volatility in the printed margin. If I was looking at a range, I don’t think 6 is a bad number. I would target 5 to 7, somewhere in there is probably a good starting point. But as we’ve seen in the past, that number can move around a little bit from month-to-month and quarter-to-quarter.

[Erika Najarian:]

Thank you.

[Operator:]

Your next question comes from the line of Steven Alexopoulos of JPMorgan.

[Steven Alexopoulos:]

Good morning, Darren.

[Darren King:]

Good morning.

[Steven Alexopoulos:]

I wanted to follow up on the comments around C&I lending because you mentioned customers wanted to have more credit available but then not drawing on their lines. What are you hearing from your lenders in terms of why they’re staying on the sidelines here?

[Darren King:]

Sure. So let me make sure I clarify the comment. Our pipeline of approved loans is approximately where it was in the first quarter of last year. So we haven’t seen the pipeline deteriorate materially, but we’ve seen people not following through to date and accepting those loans and moving forward. In general, when we talk to our RMs and talk to the customers, I think the general sentiment is one of optimism, but they’re in kind of a wait-and-see mode. And they’re just waiting, I think, for more certainty about which direction the administration is going to go and their ability to follow through on some of the promises around managing the costs of employees through things like the Affordable Care Act, but also some of the changes to minimum wage and overtime benefits from the FLSA. We are hearing things about fiscal policy and whether that will pull through and when, which I think it’s more a question of when and less a question of if. And it’s those kinds of things that tend to be on the minds of – the tax reform is another thing that’s on our customers’ minds. So it’s all the things that tend to be in the news. And the issue is – it isn’t that optimism has waned, maybe a little bit, but it’s more wait-and-see is kind of the feel that we get from our customers.

[Steven Alexopoulos:]

And just a follow-up, could you give us a sense what was line utilization in C&I in the first quarter and how did that compare to last year? Thanks.

[Darren King:]

Yes. Line utilization in the first quarter was just around 55%, slightly under. And when we look at where that is historically, it’s towards the higher end of what we’ve seen over the course of the last couple of years.

[Steven Alexopoulos:]

Okay. Thanks for the color.

[Operator:]

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

[Marty Mosby:]

Thanks and with the theme of two questions in one, I wanted to ask you and focus on noninterest-bearing deposits because, sequentially, it’s up in an annualized pace of 20%, and from last year, it’s up 15%. So I was curious if this is traction you’re getting with the Hudson City market. They now roll out some of those products and services. And then the second part of this question is, have you looked at the excess balances? Because this represents a large part of your deposit base in relation as interest rates start to go up. What sensitivity might this balance have in the sense of the seeing some of those balances be redeployed? Thanks.

[Darren King:]

So when we look at noninterest-bearing deposits and when we look at New Jersey in particular, we are seeing some growth there, but it’s very modest. Most of our growth in New Jersey on the start has been on the asset side rather than on the liabilities side. We are seeing some migration of those time deposits into nonmaturities, either money markets or NOW accounts predominantly. When we look at that – the NOW accounts and DDA, there’s a few things that are going on in there. So last year, we were able to increase those balances through the mortgage servicing business that we increased with our partner Bayview and Lakeview. And those balances will move around based on their business, but those are also priced closer to markets. So our ability to maintain those will be a function of the rate that we pay, and the rate that we're paying there is certainly competitive and higher than what we're paying in general. Within the DDA book, there's a sizable percentage that is commercial, and those commercial balances have been on the books since the crisis. And as our customers continue to manage their business, they're managing cash and holding it on the balance sheet. They haven't redeployed it yet. And as we mentioned before, we're watching that because, as you point out, those will be more rate sensitive. But it's always going to be in proportion or in relation to what alternative they have to use that money for. So some of it, we think, will turn to plant equipment at some point and some of it will go into higher-earning assets like the funds. And then the other part of those non-interest bearing deposits that can move around from time to time is what comes in through trust demand balances from our fiduciary business, our global capital markets business and customers doing debt offerings or M&A activity. So those are kind of the things that create some of the movement in those balances. It's definitely, to your point, something that we're paying a lot of attention to because those balances obviously affect our liquidity coverage ratio and will affect our need for funding, depending on what happens with asset growth. And if there's a place where margin can be impacted negatively, that's definitely a place that we're paying attention to.

[Marty Mosby:]

What is the – if it's not coming from New Jersey, what’s the source of the commercial growth in your traditional markets? It seems late in the cycle to see some of those balances growing as quickly as we're seeing here.

[Darren King:]

We've seen some of it in our New York City, Philadelphia, Tarrytown marketplace, what we would refer to as kind of our metro markets, is where we've seen some good balance growth. And then, obviously, we've seen it generally across the board. I think, across all markets, we were up about 8%, but those were standouts. I mean New Jersey was a large percentage growth. But as I kind of remind people, it's off a small base, so it's not really what's driving the overall balance growth. But it's generally across the board for those customers. And we also see it from some of our commercial real estate customers as well.

[Marty Mosby:]

Thanks.

[Operator:]

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

[Ken Usdin:]

Hey, thanks, good morning. Just a question on efficiency. Darren, I believe, last quarter, you talked about getting to the low end of 55% to 57% without additional hikes. And just granted that we got the March 1, just want to get your updated thoughts on the path of the efficiency ratio as you think about the full year and some of the balances of growth underneath that.

[Darren King:]

We would continue to believe that the low end of that range is the right place to be thinking for the full year. Obviously, we got the rate hike in March. When we were looking in January, there was 2 hikes anticipated. So I guess we're up to 3. So we would be right in that range at this point, absent any other increases. But we've been very focused on making sure that expense growth stays contained and within the range that we had talked about, such that when we do get these increases in rates and we're able to grow our fee income that we should see the efficiency ratio at the bottom end of that range. And with any luck, it might dip a little bit below the bottom end, but that remains to be seen throughout the year. But I think that's good guidance.

[Ken Usdin:]

And Darren, a follow-up. On that point, you mentioned, I think, just about – talking about a low growth rate in expenses this year. I know the first quarter a year ago only had 1 month of Hudson City. So can you help us think about like what the core expense base is really growing underneath that when we just think about fully phased-in Hudson City expenses?

[Darren King:]

Just to remind you, last year's first quarter did have Hudson City in for the whole quarter. We closed in the fourth quarter of 2015, and it was the fourth quarter that had 1 month in. What we did have in the first quarter of last year were some merger-related expenses, some onetimes. I think the number's about $14 million that were in there. So if you look at where we were in the fourth quarter and you back out the seasonal compensation, that's roughly where we would expect to be in the second quarter. We might see a little bit of movement in professional services, but we wouldn't expect too much. But otherwise, the first quarter minus the seasonal comp ought to be the range for the upcoming quarters.

[Ken Usdin:]

I misspoke. Thanks for correcting me, Darren.

[Darren King:]

No problem.

[Operator:]

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

[Gerard Cassidy:]

Thank you. Good morning, Darren.

[Darren King:]

Hi, Gerard, how you doing?

[Gerard Cassidy:]

Good, thank you. The current legislation going through Congress, the so-called CHOICE Act 2.0, is talking about, obviously, changes to Dodd-Frank. And one of the changes they're proposing is to lift the SIFI designation to over $250 billion. Obviously, you guys were not following that camp. Assuming the SIFI designation is lifted up to a much higher level and you are not designated as a SIFI and the LCR goes with it, meaning you're not going to be held to an LCR ratio, how would that change the way you guys look at your balance sheet in terms of the cash you have to keep on it and some of the deposits that you're really focused on?

[Darren King:]

Sure. So I guess when we look at the cash that's on the balance sheet, there's – we try to remind ourselves and everyone that there's really 3 components to the cash that's on our balance sheet. A bunch of it is related to the servicing business and those P&I payments and as they grow during the month, we invest that cash with the Fed because we have to remit those balances to the mortgage servicing or to the owner of the assets. When we also look in the cash balances, you see some of those trust demand balances, and again, those are short term in nature, so those sit at the Fed. And then there's the remaining, which is really for LCR purposes. And so to be that incremental piece that we would look to manage a little bit tighter, and I think we would look at the amount of securities that we then hold, back to that question. I think that the trick, Gerard, is, in the short term, obviously, we would be below that SIFI designation but with aspirations to move towards that $250 billion mark. So just like with the CCAR and the stress test and many of the parts of begging that have been added, you don't want to tear everything down to 0 as you're on your path to those asset thresholds to only have to start over again when you get there. So I think we would look to manage down the cash a little bit, manage down the securities portfolio, but I don't think we will go all the way back to where we were pre-crisis. I don't think that's a place where we can probably expect to run the bank again.

[Gerard Cassidy:]

Great. Thank you.

[Operator:]

Your final question comes from the line of Peter Winter of Wedbush Securities.

[Peter Winter:]

Good morning, thanks. Deposit pricing competition. I was wondering if you could just talk about it, what you're seeing in the New York market, and then competition on the commercial side versus retail for your deposits as well.

[Darren King:]

Sure. So I guess when we look at where we've seen the most active pricing on the deposit side, it's been in the time deposit space, and it's been in kind of the 12-month time frame. When we look at the shorter end of the CD market, it's been reasonably competitive, and it tends to price a little bit above where non-maturity deposits are pricing, but the competition there hasn't been tremendous. And when you go further up the curve, in the 2-year to 5-year space, rates just haven't moved up far enough for customers to be willing to lock up their money for that time period. So you've seen most of the action in the 12-month space on the consumer side. The one thing that is a little bit different this time, I wouldn't call it a New York City phenomenon per se or a New York state phenomenon, but more what's going on with online. Lenders, the Allieds, the Capital One 136s of the world, the MXs. Of course, it tends to be the credit card-oriented banks that have the higher margins to pay, but that's where there's been a little bit more competition this time around compared to what we might have seen last time. And on commercial balances, depending on the size of the institution that you're dealing with, the bigger ones obviously are much more active at managing their excess cash and looking to get a return because they have treasures that are focused on those things. As you move down the spectrum, it's something that our customers worry about, but their choices have tended to be either in their DDA to offset fees or sweeping those balances into the funds. And again, the fund reform has changed that equation a little bit. I just think rates need to go a little bit higher before we start to see more movement there, because the alternative isn't worth the change so far. And the other thing that we haven't seen yet for us, and I don't think, talking to others in the industry, they've seen it as the impact of the repeal of Reg Q and the ability to pay interest on commercial deposits. That's something that's different from where we were pre-crisis and hasn't really played itself out yet. So I think there's a bunch of factors that are at play, particularly as it relates to commercial deposits, and we've got our eye on it, and we're looking through what alternatives we have to make sure we meet our customers' needs

[Peter Winter:]

Great. And again, you're not seeing any differentiation in deposit competition in the New York City market versus other markets?

[Darren King:]

Not that I can speak to. But our presence in Metro New York and Manhattan is relatively small, so in the grand scheme of where we have deposit pricing, it's not really impacting. And obviously, across the river in New Jersey, we've got just a whole different starting point there that we are towards the higher end, and we're bringing that down.

[Peter Winter:]

Thanks, congratulations on a good quarter.

[Darren King:]

Thank you.

[Operator:]

Thank you. I'll now return the call to Don MacLeod for any additional or closing remarks.

[Don MacLeod:]

Again, thank you all for participating today. And as always, if any clarification of the items on the call or the news release is necessary, please contact our Investor Relations department at 716-842-5138.

[Operator:]

Thank you. That does conclude the M&T Bank first quarter 2017 earnings conference call. You may now disconnect.