Earnings Call Transcript - FLG Q2 2023

Operator, Operator

Good morning, ladies and gentlemen, and welcome to the NYCB Second Quarter 2023 Earnings Conference Call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. This call is being recorded on Thursday, July 27, 2023. I would now like to turn the conference over to Sal DiMartino. Please go ahead.

Sal DiMartino, Head of Investor Relations

Thank you, operator, and good morning, everyone, and thank you for joining the management team of New York Community Bancorp for today's conference call. Our discussion today of the Company's second quarter 2023 results will be led by President and Chief Executive Officer Thomas Cangemi; who is joined by the company's Chief Financial Officer John Pinto; along with Reggie Davis, President of Banking; Eric Howell, President of Commercial and Private Banking; and Lee Smith, President of Mortgage. Before the discussion begins, I'd like to remind you that certain comments made today by the management team of New York Community may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Any such forward-looking statements we may make are subject to the safe harbor rules. Please review the forward-looking disclaimer and safe harbor language in today's press release and presentation for more information about risks and uncertainties, which may affect us. With that out of the way, I would now like to turn it over to Mr. Cangemi.

Thomas Cangemi, President and Chief Executive Officer

Thank you, Sal. Good morning, everyone, and thank you for joining us today. I would like to begin by briefly summarizing the strong operating results we achieved during the second quarter. Early this morning, we reported record net income and earnings per share fueled in large part by the benefits from our two recent acquisitions of Flagstar Bank and Signature. This is our first quarter with all three legacy franchises combined under one umbrella. Not only are we benefiting financially from our combinations, but we are continuing to benefit from the power of diversification in both our loan portfolio and in our deposit composition. I believe that our operating performance is only just beginning to show the true underlying core earnings power of a combined organization. From an earnings and net income perspective, diluted earnings per share as adjusted for a $141 million bargain purchase gain and other merger-related items, we reported a record $0.47 per share. Our net income available to common stockholders totaled a record $345 million, more than doubled what we reported during the first quarter. Operating results were driven by a full quarter benefit from the Signature transaction as opposed to only 12 business days last quarter and a significantly higher net interest margin. Our NIM expanded by 61 basis points to 3.21% on a linked-quarter basis, driven by higher interest-earning assets, specifically cash, and stronger yields on our loan portfolio as our asset-sensitive balance sheet continues to benefit from the higher interest rate environment. Our net interest margin should remain elevated over the course of the year given our diversified loan portfolio, which is mostly variable rate, and our increasing core deposit-funded liability mix. Our funding composition continues to improve as core deposits increased while CDs, both retail and brokered, declined. Also, wholesale borrowings declined 24% as we used a portion of our cash balances to pay down $5 billion of Federal Home Loan Bank advances. Over time, I believe this change in our funding mix will be an advantage and support higher multiple expansion in the go-forward periods. In addition, another positive was our capital. Our capital ratios trended higher, while tangible book value per share increased 4% compared to the prior quarter and 23% year-over-year. Our tangible capital generation remains very strong given our earnings power. Aside from our strong quarterly results, last week we announced the expansion of our private banking businesses, which we added as part of the Signature Bank transaction by hiring six teams from the former First Republic Bank. These initial teams are highly regarded and the fact that they chose to join the new Flagstar is a testament to our business model and strong reputation in the marketplace. With these hires, we have a total of 127 teams as of June 30, 2023, including 92 in the Northeast and 35 on the West Coast, and we now operate in 10 cities. These teams are part of a broader strategy to create a premier private banking division dedicated to delivering best-in-class service through a personalized single-point-of-contact model. We are excited that these six teams have partnered with us and look forward to achieving great things together. Moving on to our balance sheet. Total loans were up modestly during the second quarter, reflecting our diversification efforts as growth in the C&I portfolio offset the declines in other lending verticals. Overall, total loans and leases were $83.3 billion, up about $800 million or 1% compared to the previous quarter, primarily driven by growth in the C&I book, which benefited from continued growth in the mortgage warehouse business. At June 30th, total commercial loans represented 44% of total loans and leases. As for asset quality, our metrics remain strong and among the best in the industry. Despite an uptick in non-performing loans off of historical low levels in legacy NYCB, non-performing assets totaled $246 million or 21 basis points compared to $174 million or 14 basis points last quarter. The increase resulted largely from the inclusion of acquired loans from both our acquisitions. Despite this uptick, NPAs and total assets ranked in the top quartile compared to industry peers, reflecting our disciplined underwriting and client selection. Furthermore, the allowance for credit losses increased $44 million to $594 million compared to the previous quarter, and coverage was 255% of non-performing loans and 71 basis points of total loans. Importantly, this was another quarter of low or no loan losses as we recorded a net recovery of $1 million compared to zero net charge-offs last quarter. Another area of strength was our deposit base. Total deposits increased $3.7 billion or 17% annualized on a linked-quarter basis to $88.5 billion as the increase in non-interest-bearing deposits more than offset the decline in other categories, including higher-cost CDs and deposits related to the loan portfolios we did not acquire from Signature. Included in non-interest-bearing deposits are approximately $5.9 billion of custodial deposits related to the Signature transaction. Excluding these deposits, non-interest-bearing deposits now represent 29% of total deposits compared to 27% last quarter. Coming off the March events, our deposit base remains increasingly resilient. This is due in large part to the diversity of the distribution channels, which in addition to our retail branch network includes commercial and private client groups, digital banking and banking-as-a-service and deposits derived through the mortgage ecosystem. Deposits at legacy Signature declined $1.4 billion on a linked-quarter basis, excluding custodial accounts. This was primarily due to a planned runoff in higher-cost CDs and brokered deposits offset by $285 million quarter-over-quarter growth in non-interest-bearing demand deposits. In addition to the stabilization in the deposit base, legacy Signature private client group teams have also stabilized and we expect to grow from these levels. As for guidance, given the current economic and interest rate environment, we currently expect the NIM in the range of 295 to 305 basis points, mortgage gain-on-sale between $20 million and $24 million, net return on MSR asset between 8% and 10%, loan admin income of approximately $15 million and annualized expenses ranging between $2 billion and $2.1 billion, excluding merger-related expenses and intangible amortization, as well as a 23% full-year tax rate. In terms of expenses, total OpEx were $515 million, up $123 million or 31% on a linked-quarter basis. Second quarter operating expenses include a full quarter of Signature expenses compared to only 12 days during the first quarter. Finally, I'd like to say a special thank you to all of our teammates, which now number nearly 10,000 strong; our results would not be possible without their dedication and commitment to our clients and our customers. With that, we'll be happy to answer any questions you may have. We'll do our very best to get to all of you within the time remaining, but if you don't, please feel free to call us later today or this week. Operator, please open the line for questions.

Operator, Operator

Thank you. Ladies and gentlemen, we'll now begin the question-and-answer session. The first question comes from Brody Preston with UBS. Please go ahead.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Brody.

Broderick Preston, Analyst, UBS

I was hoping that you would talk a little bit about the duration of those custodial non-interest-bearing deposits. You've kind of carved them out separately and it seems like they're related to the servicing, maybe of the FDIC—the loans you're servicing for the FDIC. How long will those stick around? And I guess in conjunction with that, how long will the loan administration income from the subservicing of those loans stick around as well at that $15 million level?

Thomas Cangemi, President and Chief Executive Officer

Sure. So Brody, I'll pass it over to John Pinto. It's in our guidance. So John, why don't you just speak specifically to those issues?

John Pinto, Chief Financial Officer

Yes. So we'll start quickly because it's in the guidance with the loan admin income. So this is the cost recovery of servicing the loans that we did not take as part of the Signature transaction. If we look back at those loans, the CRE book and the fund banking loans have paid off pretty significantly in the quarter. So that's why we've seen a larger number in that loan servicing income number for this quarter than what we're guiding in Q3. We expect those loans to continue to pay down and it's really those pay downs that we saw throughout the second quarter that built up the custodial deposits that we had during the quarter. So both issues are intertwined in that the receivership loans, as they're paying down, we're collecting those funds for the FDIC and then on a monthly basis, we are remitting that back to them. So we will see lower FDIC or custodial deposits related to Signature as the loan portfolio shrinks. Over time, depending on the disposition of those loans, which we expect to be for sale, we expect the sale probably to be in the early fourth quarter. We'll start to see those numbers drop as we go forward.

Broderick Preston, Analyst, UBS

Got it. Thank you for that. Excluding the $5.9 billion, you still had some solid non-interest-bearing deposit growth. I think you called that $285 million was related to Signature. Tom, maybe you could give us an update in terms of how the work is progressing to kind of bring back those Signature non-interest-bearing deposits that left before the acquisition?

Thomas Cangemi, President and Chief Executive Officer

Well, the good news is that the teams are stable, like we discussed in the opening remarks, but more importantly, we're building the team. So we think about where we're heading with the business on the private client group. We anticipate to have more PCG teams going forward than Signature had pre-March, which is really the momentum of the business model. When it comes to DDA, it was stable throughout the entire quarter and as we indicated, we were up slightly, which is a very positive signal based on what we anticipated when we announced the transaction. So clearly, better than expected. I think what's exciting about it is the opportunity to take the business model and look at the other opportunities that we have as a combined company and look at the overall corporate finance opportunity they have within the middle markets groups. So that's another exciting attribute and the teams are excited to be building back the liabilities that have shed off the balance sheet because of the fear in March. Not only are we seeing positive momentum there, the teams are excited, they're stable, and we believe that over time, as things start to stabilize, we'll get more deposits back. But we have Eric here on the line. Eric, if you want to share some commentary about what we're seeing with the teams.

Eric Howell, President, Commercial & Private Banking

Yes. Thanks, Tom. Look, the teams are really starting to have success and attract those clients back. Our clients simply don't want to be at the mega institutions that they ran to. They can't provide the level of service that we can provide. So we are seeing strong demand deposit growth because the teams really provide stellar service. We're also seeing strong off-balance-sheet money market fund growth because our clients appreciate our service and want us to be able to control the entire client experience. So we're seeing clients come back, we're seeing new client growth and we're obviously seeing the ability to attract new banking teams. So it's going to be very powerful as we look forward.

Thomas Cangemi, President and Chief Executive Officer

And that's also pre-First Republic. As we focused on the opportunity that's dislocated in the marketplace, we believe there's great opportunity with bringing on new PCG teams that focus on service and that have the entrepreneurial view of what Signature built over the years when it comes to deposit gathering efforts. So we're excited about that.

Broderick Preston, Analyst, UBS

Got it. And John, do you happen to have the purchase accounting accretion number for the quarter?

John Pinto, Chief Financial Officer

Yes. So that was another item that came in better than expected, and one of the reasons why our margin was as strong as it was. If you look at it from both institutions, Flagstar really came in where we anticipated it in that $25 million range. It was the Signature purchase accounting that came in faster. We had more significant pay downs in the loan portfolio than we anticipated. The portfolio dropped by a little under $1 billion due to a couple of different movements between loan categories and our negotiations about which loans that we took, that we talked about on the last call. So when you look at the actual accretion, it was $75 million for Signature in the quarter, and about $20 million of that was related to unanticipated pay downs.

Broderick Preston, Analyst, UBS

Got it. Okay. And the last one for—

John Pinto, Chief Financial Officer

Yes. Sorry, Brody, just going forward, I would expect that to be more in that $50 million to $55 million range. But it is, of course, depending on which loans pay down and what kind of marks we had against those loans.

Broderick Preston, Analyst, UBS

Got it. And then the last one for me, Tom, I think you had addressed the uptick in NPLs. I thought I heard you say that was from the inclusion of acquired loans or something. I was just hoping you could address the CRE increase in NPLs, and if any of that was tied to office, just because I noticed that you said that you did have a decent amount of office reappraisals done at this point as well?

Thomas Cangemi, President and Chief Executive Officer

Yes. So specifically to NPAs, we had an uptick on Signature loans that we acquired, so you would assume that's in the purchase accounting and is probably all embedded in purchase accounting. We're comfortable that we're covered there when it comes to any potential loss—there's about $31 million of Signature exposure that we acquired as part of the transaction. The other piece mostly is from loans acquired through Flagstar; that's about $22 million in total from the loans acquired from Flagstar. So overall, it was flat when you take out the acquisitions.

Broderick Preston, Analyst, UBS

Got it. Okay. Thank you very much, everyone. I appreciate it.

Operator, Operator

Thank you. And next question comes from Steve Moss with Raymond James. Please go ahead.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Steve.

Steve Moss, Analyst, Raymond James

Good morning. Sorry if I missed it here, but I wanted to ask about the First Republic teams you hired. Just curious as to what kind of book of business or how big their book of business is and any color you can give there, Tom?

Thomas Cangemi, President and Chief Executive Officer

Please let me start off by saying we're super excited to have them and we're super excited to build the PCG model and continue to invest in that model. So we are making investments; Signature's growth organically is the model. It's very similar entrepreneurially in how they look at the business as a high-touch service, focusing on boots on the ground and making their clients very comfortable on a banking perspective. The focus here is that there's dislocation in the marketplace. It's very competitive. I'm going to pass it on to Eric, but before that, I just want to tell you that we're super excited to have them, stay tuned as there is a lot of activity out there and hopefully we continue to be successful in convincing these team members to become part of the new Flagstar. Eric, if you want to give some more color there.

Eric Howell, President, Commercial & Private Banking

Yes. I mean, each one of these teams comes with a book of billions of dollars of deposits and loans as well as wealth assets in AUM. So very excited to have all of them. They're three in New York, three in California thus far as Tom alluded to. And we just feel that we're the best, without question, the best cultural fit for these bankers. We have an entrepreneurial model like they had that truly caters to the client's needs with that single point-of-contact. So this is a great home for them. It's a great cultural fit. We have the products and services that we need to go to market, which is critical. And we're really looking forward to their future success here. But typically, it's billions in deposits and loans per team.

Steve Moss, Analyst, Raymond James

Okay. Appreciate that color. Eric, you mentioned that deposit momentum remains strong. It sounds like it's into July. Is there any color you could give around the trends you've seen after June 30, just to kind of get a feel for what's coming on?

Thomas Cangemi, President and Chief Executive Officer

Well, I'll start off by saying we're overall for the bank in total very stable. I will tell you that we still have to deal with some assets that are going to be sold in the market that are attached to the core franchise of Signature, in particular ventures. So we anticipate to see that runoff eventually and that the deposits will follow. But outside of the anticipated businesses that were not acquired through the transaction, we see strong stability. In addition, the community bank franchise has been very stable. Maybe Reggie can share some commentary on what we're seeing on the community bank, but we're a diversified company. Reggie, you can add some color to what we're seeing on the retail side.

Reginald Davis, President of Banking

Sure, Tom. Yes, as Tom said, through the balance of the year, we had lost about 3% of deposits through the liquidity challenge that the banking industry faced. But we're starting to see those deposits come back. They have definitely stabilized and we're actually starting to see some modest opportunity for growth. We're projecting that deposits stay relatively flat through the balance of the year, and that our weighted average cost is de minimis in terms of the increase. So we feel really good about the stability of that portfolio. I think it reflects the strong relationships that our bankers have with our clients. And on the commercial side, we're seeing some opportunity to actually gather some deposits because we look at opportunities to strategically bring on clients who are maybe disenfranchised from other lending organizations that cannot lend in the current environment. So we're actually picking up some relationships on that side as well. So very positive momentum on the deposit side.

Thomas Cangemi, President and Chief Executive Officer

That's great color. I would just add—culturally, the focus here is relationship deposit gathering in all of our lines of business. That's the culture going forward. I've said it many quarters: deposits, deposits, deposits; culture, culture, culture. And on the culture build, we're really meshing well putting three companies together to build a new Flagstar. And clearly, on the lending side, our lending teams truly understand that we're leading with the deposit opportunity. We really want to make sure that we fund the balance sheet like a commercial bank, and our transition from dependency on wholesale funding will dissipate over time. But we've made significant strides in that way over the past few years. Notable, if you look at the percentage of wholesale to total deposits. So we're excited about that, but that is the culture and that's what we're building here.

Steve Moss, Analyst, Raymond James

Great. Appreciate all the color there. And one last one for me, just on expenses. As you look to integrate all three banks, curious as to where you think the expense run rate could shake out post integrations at some point in 2024?

Thomas Cangemi, President and Chief Executive Officer

I mean, we gave public guidance; it was about $2 billion to $2.1 billion. Is that right, John? That was the public guidance we gave. But that's fully loaded with the anticipation of being a $100 billion-plus bank, the First Republic teams that we anticipate bringing on. So we think we have some reasonable conservatism around that. Given the nature of the growth story, this is going to be a very powerful opportunity for us to capitalize in the marketplace. We feel that as we go into 2024, you'll start seeing a lot of integration benefits of putting the systems together. So the significant adjustment that we'll see next year will be through consolidations of systems, and we're looking forward to that. John, do you want to add some more color?

John Pinto, Chief Financial Officer

Yes. So when you look at that $2 billion to $2.1 billion, that's our 2023 guide. As Tom mentioned, with the conversions that we have coming in 2024, we're comfortable that our non-interest expense base is not going to grow dramatically off of that guide from 2023 to 2024. So that's where we're comfortable, very consistent with what we said in our last call where we mentioned we might see some of the upcoming quarters be a little bit higher, but we think it will stabilize over time.

Eric Howell, President, Commercial & Private Banking

Ultimately, we see the deposits and loan growth that will be coming in getting us to breakeven in about a year and a total earn-back in 18 months on that, which is pretty normal for team growth. When you acquire these teams, they come with nothing initially—there's no loans, there's no deposits. It's not like acquiring a bank. So it does take a little bit longer for them to ramp up and get to breakeven because you just don't have those revenue streams out of the gate. But what happens over a multiple of years is that they continue to grow. They don't stop growing because of the way that we align their interests with those of the overall bank. So when you look down the road after three years, they're well into 20-plus percent ROE and that'll continue to ratchet up over time.

Thomas Cangemi, President and Chief Executive Officer

And as we pay down expenses—finance—that's the goal.

Steve Moss, Analyst, Raymond James

Great. Thank you very much.

Operator, Operator

Thank you. Your next question comes from Manan Gosalia with Morgan Stanley. Please go ahead.

Thomas Cangemi, President and Chief Executive Officer

Good morning.

Manan Gosalia, Analyst, Morgan Stanley

Hey, good morning. Question on just the NIM benefit from those $5.9 billion of custodial deposits from Signature this quarter. Should we think of that as those $6 billion of deposits at the roughly 5% rate you get with the Fed— is that the benefit to NIM this quarter from that?

John Pinto, Chief Financial Officer

Yes. That's the benefit. We did keep that money at the Fed; that was the number at June 30. The average number was a little higher. When you look back at especially April and May, the average is probably closer to $8 billion, but yes, it's at about 5%.

Manan Gosalia, Analyst, Morgan Stanley

Got it. So as these deposits come down—and I think you're saying they should only really start coming down in the fourth quarter—so over the next quarter or so, should you still get some benefit?

John Pinto, Chief Financial Officer

No. The large piece—and that's why you see the guide on the margin being lower than the 3.21% actual in Q3—the large amount of the payoff of the custodial deposits we believe happened in the second quarter. We think that the payoffs in the portfolios have slowed a little bit. So we're collecting a lot less right now. Plus the announcement that the fund banking business is expected to hit market and potentially be sold in October, we're going to see a drop in the third quarter just because of the way that the cash flows from that portfolio occurred in Q2 compared to what we're expecting to occur in Q3. So we're going to see that that $6 billion go out very, very quickly in July.

Thomas Cangemi, President and Chief Executive Officer

It's in our margin guide.

Manan Gosalia, Analyst, Morgan Stanley

Got it. All right. Perfect. And then separately, just on regulation, we're expecting the Basel III Endgame rules today. Now that you're over $100 billion in assets, can you talk about how you're planning for any increase in capital requirements and how you think about the right level of capital that you'd like to maintain?

Thomas Cangemi, President and Chief Executive Officer

So I'll start off and I'll defer to John, but obviously this is—until the rules come out, we'll have the clarity, so we will have it when you have it, hopefully very soon, sometime today. At the end of the day, we spend a lot of time thinking through it, and obviously we believe there'll be some type of implementation period, but this company is building capital. This company for the first time in a long time is generating tangible book value creation by the earnings power of the company. So we feel very confident that we have adequate capital, and when the rules come out, we'll be able to assess how that impacts our position at a $100 billion. Just bear in mind, over the past decade, actually going back to 2012, we've been preparing to be a CCAR bank, and right before the Flagstar transaction, we were preparing to be a $100 billion bank under the new rules. So clearly this is going to have some impact, and when we see the actual literature on it, we'll assess it and run the analysis to see how it'll impact us, but clearly we're prepared for it. John, if you want to share some color there as well.

John Pinto, Chief Financial Officer

Yes. For some of the items that we're expecting will be in the proposed rules, including the lack of an AOCI opt-out, we actually screen really well when you look at us compared to our peers in the $100 billion-plus range—when you include the loss on securities, we jumped to the top quartile of capital ratios against a lot of our peers. So there's a lot of analysis we'll do once the proposed rules come out and we'll analyze it. And as Tom mentioned, we'll deal with the implementation period and go forward from there. No doubt there'll be higher needs for capital, but we are generating it on an organic basis right now, which is really nice to see.

Manan Gosalia, Analyst, Morgan Stanley

Right. And your forward expense guide would also include any investments that you need to make on the regulatory side to become a larger bank or to be a large bank.

Thomas Cangemi, President and Chief Executive Officer

That's right.

Manan Gosalia, Analyst, Morgan Stanley

Great. Thank you.

Operator, Operator

Thank you. And next question comes from Bernard von-Gizycki with Deutsche Bank.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Bernard.

Bernard von-Gizycki, Analyst, Deutsche Bank

Hey guys. Good morning. Just on loan growth. So it was modest, but you noted it reflected some of the diversification efforts and the disciplined client selection underwriting. You did have some growth in mortgage warehouse. I was just wondering where you are seeing demand across your verticals and what is your outlook for loan growth in the back half of the year?

Thomas Cangemi, President and Chief Executive Officer

It's interesting. We've had a disrupted market since the Fed was very proactive on raising interest rates. On the multi-family CRE side, the portfolio is relatively flat and our coupons are rising significantly as customers are opting to go into a SOFR option as they get ready for what they anticipate, hopefully, lower rates in 2024 and 2025. We've had about $3.4 billion that opted to take the SOFR option, which puts it in a very good position—slightly south of 8% coupons— and they're paying the bills, which is phenomenal. These are wealthy customers and they're making business decisions not to lock in a fixed-rate structure. On the other side, we are also offering synthetic structures that allow them to lock in a swap tied to a fixed-rate option if they feel it's the right time to lock in over the next five to ten years. That's been a new strategy for the bank. On the multifamily side, activity hasn't been high; we think that will turn in 2024-2025 as rates may go lower, and we'll have a lot of opportunity. At the same time, we're gearing up for the Signature portfolio that's interrelated to customers, so we'll look at those opportunities and bank the relationships that we have. We have a lot of cross-relationships, so we think there will be good growth there as we go into 2024 and 2025. The largest component of our balance sheet is operating as expected given the environment. For the other lines of business, it's been a reasonable growth story. We're allocating capital based on hurdle rates of return. It's more of a philosophical view how we look at the businesses. We're setting higher hurdles because credit trends are tighter right now, so we're able to earn much higher spreads in the marketplace. There's a tighter credit market across our businesses. We're seeing strong opportunity in builder finance. You mentioned warehouse—warehouse is doing extremely well because of dislocation. Many banks that were in the warehouse business can't be in the warehouse business given what happened in March, and we're seeing the overflow into our book and we welcome that opportunity. MSR finance is also active. Lee, maybe you want to talk a bit about MSR, warehouse and the mortgage side.

Lee Smith, President of Mortgage

Sure. Thanks, Tom. So let me start with warehouse: average balances were up $600 million quarter-over-quarter. Part of that was due to mortgage volumes being up about 35% quarter-over-quarter given industry trends, so we got the natural lift. But as Tom mentioned, there's been dislocation in the warehouse space and we've seen a number of players announce they're exiting; we can take advantage of that. We've already seen toward the end of the quarter some of the clients that were with those exiting banks reach out to us. As you know, we're already the second-largest warehouse lender in the business. As we move into the second half of this year, we think we can take more market share as a result of the dislocation and some of these other players exiting. Warehouse turns very quickly and we're generating strong returns; we feel confident we can continue to show market share growth in the second half of the year given the dislocation we're seeing. This dislocation is also impacting the mortgage servicing lending arena; we've seen players pull back to preserve capital. We've got a very strong capital position and so we've seen good growth from an MSR servicing-advance lending point of view and we think we'll continue to see that as we move through the year. On mortgage originations generally, as Tom mentioned, there has been dislocation. We've seen a major player exit the market and other players reduce activity. Our fallout-adjusted locks quarter-over-quarter increased 70%—that's what drives gain-on-sale. The vast majority of that increase is in the TPO channels, particularly correspondent channels, given the dislocation I mentioned. We feel we'll continue to take advantage of that in the back half of the year. We've been in the mortgage business 35 years and in warehouse 30 years, and we're performing very well right now.

Thomas Cangemi, President and Chief Executive Officer

In addition, we're focused on complete banking relationships. We're seeing good deposit flows; we want to do better and have higher compensating balances, but that's the mandate. Given the dislocation, we are seeing higher deposit compensating balances in these lines of business, which is encouraging for our deposit-focused culture going forward.

Bernard von-Gizycki, Analyst, Deutsche Bank

I appreciate that's great color. If I have one follow-up, it's for Eric. Legacy Signature had a specialized banking team that focused on EB-5 deposits. I'm curious: was that team acquired? If so, could you comment on any pipeline growth that could be there?

Eric Howell, President, Commercial & Private Banking

We actually exited that team while maintaining the book and moving it to another team that had experience in that field. We do anticipate growth in that area. EB-5 is now a bit more stable since the government approved the EB-5 program for five years. Previously it was approved on an annual basis and often wasn't approved timely due to congressional matters. The program is now in place for an extended period and we are adding more capabilities. We're bringing on a banker from another institution to rejoin us and we expect to see significant growth in that space as deposits build.

Bernard von-Gizycki, Analyst, Deutsche Bank

Is it similar to prior projections or is there anything you could provide on that?

Eric Howell, President, Commercial & Private Banking

I think it's a little too early to say. We need to see how clients plan to use EB-5 funds in various project stacks. I would think we'll see billions over time in deposits, but it will take a bit longer and more lead time than in the past.

Bernard von-Gizycki, Analyst, Deutsche Bank

Okay, great. Thanks for taking the questions.

Operator, Operator

Thank you. Your next question comes from Dave Rochester with Compass Point. Please go ahead.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Dave.

David Rochester, Analyst, Compass Point

Hey. Good morning, guys. Great quarter. Just going back to the conversation on the teams, it seems like you guys have a great opportunity to capture even more of the First Republic teams as well as successful teams from other banks given the incentive structures you now have in place. I was wondering how the new team pipeline looks at this point after capturing those teams? Was curious if that got people's attention? I would think it would have and might bring you even more interest. And then going back to what Eric mentioned on what these teams are bringing over, it was great hearing about the billions of deposits and loans, but you also mentioned AUM, which was a big part of the First Republic business. Do you need to develop or build out any functionality to support those wealth assets or the wealth business in general? Is that going to be a big focus in terms of bringing on more teams with wealth management assets and growing that business?

Thomas Cangemi, President and Chief Executive Officer

I'm going to be short and defer to Eric. Stay tuned, things are fluid. Eric?

Eric Howell, President, Commercial & Private Banking

Sure. The opportunity is real. The banking landscape has mega banks that we're built to compete against, and they're more arrogant than ever, which is great for us. Bankers at the regional banks don't have the ammunition to go to market. We not only have a balance sheet to utilize, but we have a team-based compensation model and practices attractive to these bankers. This is creating buzz in the industry. We are actively engaged with a number of teams to bring on board and we will certainly be adding to our wealth capabilities. We did add some people already that we'll be announcing. Broadly, we have the capabilities on the wealth side to meet the needs of the teams and the clients they're onboarding. We always look to improve, but we have the majority of capabilities to meet their clients' needs right now. So we feel good and it's now about attracting wealth management to work with those banking teams.

David Rochester, Analyst, Compass Point

Great. That sounds good. Maybe a smaller one on the margin and borrowings rolling off: it sounded like you've got another roughly $5 billion or so in the back half of this year. I was curious what that opportunity looks like for next year as you try to offload the rest of this wholesale funding?

Eric Howell, President, Commercial & Private Banking

Next year it's $2.9 billion at a cost of 2.27% that we have coming due. The portfolio has gotten quite low compared to our past levels. But yes: $4.9 billion this year assuming some of the portables get put, which we are assuming they will given their current cost, and next year $2.9 billion at 2.27%.

Thomas Cangemi, President and Chief Executive Officer

Dave, just to be specific: when we announced the Signature transaction, our plan was to pay down the wholesale and be more deposit focused. This is part of our strategy. As John indicated, a lot of the higher-cost funding has paid off already and we've replaced it with demand money and liquidity from the transaction. Holistically going forward, we want a much more deposit-focused loans-to-deposits ratio indicative of a commercial bank model. We want to be relationship-driven, and there's a lot of low-hanging fruit as we put this organization together. Another area we don't talk much about is the corporate banking opportunity; we can be more active in leading deals for middle-market clients. There's a lot of opportunity to put companies together and lead corporate finance, and that's exciting.

David Rochester, Analyst, Compass Point

All right. Sounds great, guys. Appreciate it.

Operator, Operator

Your next question comes from Matt Breese. Please go ahead.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Matt.

Matthew Breese, Analyst

Good morning, everybody. Tom or John, on the custodial deposits, when do you expect them to draw down to a near-zero balance? By the end of the year or really next year?

John Pinto, Chief Financial Officer

We're going to see a big drop in the third quarter because of the nature of the paydowns that we saw early on. So that $6 billion will still have some remaining balance over the next couple of quarters, but it's going to drop dramatically. My guess would be in the $1 billion to $2 billion range in the third quarter and then drop even further from there. It ends up going to zero if and when the FDIC sells the loans and if we don't retain servicing from whoever the new buyer is of that portfolio. So it's just the collection of principal and interest and any paydowns and then remittance back to the owner.

Matthew Breese, Analyst

Great. I appreciate that. And then I wanted to follow up on expenses. For the full year 2023, you have a $2.0 billion to $2.1 billion guide. Can you provide where you are relative to that number year-to-date? I see $909 million, but I wanted to confirm because it implies a ramp-up in expenses for the back half of this year and then a significant ramp down in 2024 as we think about flattish expenses.

John Pinto, Chief Financial Officer

Yes. So you're right: when you look at the six months, we're just under $1 billion right now. If you look at the second quarter run rate, it's just under a $2.1 billion run rate annualized. We will have some expenses, as Tom mentioned, in this guide which include the costs related to becoming a $100 billion bank under the potential new rules we'll see later today. So we're going to see some increased expenses in 2023 for that. Then we believe once we can get the systems conversions done, that'll allow us to stay pretty close to flat in 2024 when you compare to 2023. So I mentioned earlier that we're going to see a ramp-up in expenses in the next couple of quarters, and there's a lot of work going on, including work related to the FDIC loans. Remember that the benefit right now is showing up in non-interest income; that will drop over time, and as that drops we'll be able to get efficiencies on the non-interest expense side depending on servicing retention and disposition of the assets going into 2024.

Thomas Cangemi, President and Chief Executive Officer

Matt, just one other point: we're also investing into the PCG model. So we have some teams coming on board projected into this run rate and that will come with revenue opportunities. As Eric indicated, we anticipate a one-year breakeven on bringing teams on. From there, we have a hurdle rate targeting 20-plus percent returns over a short period. So that is embedded in our forecast.

Matthew Breese, Analyst

Understood. Okay. Maybe if we think about the back half of 2024, should we think about getting to a $2 billion to $2.1 billion annualized run rate and expect a bell curve-shaped rise and decrease in expenses until then?

John Pinto, Chief Financial Officer

I don't know about a bell shape, but yes: I would assume that when we get to Q3 and Q4 2024, all things being equal, those expenses would be lower than Q1 of 2024. We're expecting the Flagstar conversion in February 2024, so the back half of 2024 will be more of a run-rate perspective once we get through that. So yes, you'll see lower run-rate expenses in Q3 and Q4 of 2024 compared to Q1 of 2024.

Matthew Breese, Analyst

Got it. Okay. Thanks for that color. Last one: can you describe the interest rate position of the bank at this point and how the NIM would respond in, say, a down 100-basis-point scenario? Maybe adjusted for liquidity?

John Pinto, Chief Financial Officer

Yes. As of the first quarter, we were moderately to very highly asset sensitive given the amount of cash on the balance sheet. We are now slightly asset sensitive, and with the passage of time, utilization of cash on hand and some loan growth, we believe we'll get very close to neutral. So we're not an outlier anymore on the liability side. Right now we're slightly asset sensitive with a trend to get less asset sensitive.

Thomas Cangemi, President and Chief Executive Officer

Just to add, think about our multifamily customers: if rates go lower in 2024, many customers will look to take floating-rate instruments and lock into fixed-rate structures, creating prepayment activity. We've had virtually no prepayment activity the past year, so we anticipate more activity that will organically hedge the balance sheet toward neutrality. We want to be agnostic to interest-rate movements; we don't want to be too liability-sensitive or too asset-sensitive. We want to make money in any rate environment. The goal was to get to a 3% NIM and we think we got there earlier than anticipated given the current environment, partly due to transaction stability. Our loan book is reacting favorably on spreads. It's a tight credit market and we're being paid for the risk.

Matthew Breese, Analyst

Appreciate all the color. That's all I had. Thank you.

Operator, Operator

Thank you. And next question comes from Peter Winter with D.A. Davidson.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Peter.

Peter Winter, Analyst, D.A. Davidson

Good morning. Could you give an update on the office portfolio? And secondly, are you seeing any type of stress on the multifamily portfolio between inflation pressures, higher interest rates, and the difficulty in increasing rents on rent-stabilized apartments?

Eric Howell, President, Commercial & Private Banking

I'll start and defer to John, but clearly it's been resilient. On the multifamily side, we have many wealthy customers and the environment has seen coupon moves from low to much higher levels. Many customers are choosing SOFR options and are holding until they feel it's right to lock into fixed rates in the future. They are paying their bills and the portfolio exhibits strong asset-quality performance. Cash flows are being squeezed by rate increases, of course, but the portfolio is weathering the storm. We're not seeing late pays or delinquencies on multifamily overall, and the commercial real estate portfolio is resilient. We can discuss any specific items, but overall performance has been solid given the interest-rate ramp.

John Pinto, Chief Financial Officer

To add some detail specifically on office: the portfolio is $3.4 billion, pretty consistent with the prior quarter with average DSCRs and LTVs and average balance. About 40% of our office exposure has been appraised or reappraised in 2022 and 2023. Approximately 15% is rated special mention or substandard. The portfolio has been strong. We have seen some early delinquencies which we think the bulk will clear in the third quarter, but we are working through a couple of items. Importantly, there's not much coming due in the rest of 2023 and 2024; the bulk of the portfolio hits repricing or maturities starting in 2025 and forward.

Peter Winter, Analyst, D.A. Davidson

Got it. Thanks. A follow-up on mortgage warehouse: you had nice growth. Are you able to get deposits with the mortgage warehouse business? And typically Q4 tends to be seasonally weak; do those deposits flow out?

Thomas Cangemi, President and Chief Executive Officer

I'll defer to Lee.

Lee Smith, President of Mortgage

Yes. The answer is yes: we can bring in deposits with the warehouse lending business as we can with other lending businesses, and it's a focus of the bank—Tom has been clear: deposits, deposits, deposits. We can bring in deposits from warehouse customers. Also, as part of the Signature acquisition, we acquired a cash and treasury management team focused on the mortgage ecosystem. Think of all the TPOs: we work with 3,500 TPOs and have 400 warehouse customers and we subservice or lend to many MSR owners. So we think there is a big opportunity to bring in more deposits from that mortgage ecosystem.

Peter Winter, Analyst, D.A. Davidson

Got it. Thanks.

Operator, Operator

Thank you. Your next question comes from Christopher McGratty. Please go ahead.

Thomas Cangemi, President and Chief Executive Officer

Good morning, Chris.

Christopher McGratty, Analyst

Hey, good morning. John, just a follow-up on the balance sheet rate positioning more holistically: does the company make more money in a down-rate environment? Could you speak to the potential opportunity for better loan growth and mortgage if the forward curve is right in 2024?

John Pinto, Chief Financial Officer

There are a lot of levers. Even being slightly asset sensitive, depending on how the curve moves, the mortgage-banking business and the warehouse business could perform very well and offset income lost elsewhere. If rates decline substantially, prepayment fees would pick up. When we were smaller, we had years with $120 million of prepayment fees. So depending on the rate curve, multiple levers on the balance sheet can help in any rate environment. We'll continue to try to get the balance sheet as agnostic as possible to interest rates. We also don't forget the mortgage business which will pick up if rates decline.

Christopher McGratty, Analyst

Thanks. And John, on the accretable yield, could you help with what's in your guide for the back half of the year? I think you said $25 million from Flagstar, $75 million from Signature in the quarter, but what's the right level and what's left to burn through over the next several quarters?

John Pinto, Chief Financial Officer

If you combine the two, the actual accretion for the second quarter was about $100 million and the guide is about $70 million on a combined basis. That will slowly decline over time with the exception of paydowns—which can cause spikes depending on which loans pay down. The Signature piece ended up being higher than expected due to faster paydowns. So the guide is conservative, but it is dependent on market activity and paydowns.

Christopher McGratty, Analyst

What's the total pool that'll come back over the next couple of years—the remaining balance of the accretion?

John Pinto, Chief Financial Officer

On the loan side, originally the Signature piece was over $700 million. So we still have almost $1 billion in total in loan marks when you look at both banks combined. I'll make sure we get that exact number out to everyone.

Christopher McGratty, Analyst

All right. Thanks, John.

Operator, Operator

Thank you. Your next question comes from Steven Alexopoulos with JPMorgan.

Thomas Cangemi, President and Chief Executive Officer

Hey, good morning, Steven.

John Pinto, Chief Financial Officer

Steven, good morning.

Steven Alexopoulos, Analyst, JPMorgan

Good morning. So on the balance sheet, you've had a huge transformation over the past year and have been clear about custodial deposits coming out and high-cost borrowings rolling off. Beyond that, are there any big structural changes on the rise that we should be thinking about? Are we getting to a more steady state where loans and deposits will primarily drive net interest income?

John Pinto, Chief Financial Officer

Yes. I think that's right. The deposits and maturing wholesale borrowings we have in the next couple of quarters and next year are not at high rates. So it's much more business as usual: using deposits to fund loan growth. Over time we could continue to pay down wholesale borrowings, but that depends on deposit growth. The paydown of high-cost borrowings was largely accomplished in the second quarter.

Thomas Cangemi, President and Chief Executive Officer

To add, Steven, our team model has historically driven 40% to 50% of deposits as demand-money inflows. We forecast about 40%, but actual tends to be closer to 50%, which will be a significant catalyst as we change our deposit mix. We're focused on operating accounts, payroll accounts and other relationship balances. That's a cultural shift to be relationship-led deposit gathering across all lines of business.

Steven Alexopoulos, Analyst, JPMorgan

And on the NIM: I understand why the NIM is coming down in Q3. Do you feel the bias is still to the upside longer term? Once we get beyond the custodial deposit runoff, should we expect some expansion?

John Pinto, Chief Financial Officer

A quarter ago we said we thought we'd get to around a 3% NIM by year-end. We think we got there a couple of quarters earlier. If you look at the business mix, loan growth at higher spreads and the funding mix, getting to mid-3s on the NIM is reasonable. The current environment is a tight credit market and money is expensive, and we're getting paid for the risk. So yes, there's upside potential depending on funding trends and asset growth.

Steven Alexopoulos, Analyst, JPMorgan

Great. Thanks and best of luck.

Eric Howell, President, Commercial & Private Banking

We're back at it here and very pleased. From when I first texted Tom the evening of the transaction, they embraced us immediately. They appreciate our culture and what we're doing. I'm very pleased to be here; it's the best cultural fit and there's an opportunity to seize the moment. We will see further M&A in the mid-market and we will be well-positioned to capture it.

Thomas Cangemi, President and Chief Executive Officer

Thank you, Steven.

Operator, Operator

Last question we have is Casey Haire with Jefferies. Please go ahead.

Casey Haire, Analyst, Jefferies

Good morning. Quick question on the cash position—still strong at $16 billion. It sounds like a lot of the low-hanging borrowing paydown has been picked. What opportunities do you have to optimize the margin with that excess cash? And more longer-term, what would be your minimum cash position versus that 13% of assets today?

John Pinto, Chief Financial Officer

We look at cash and unencumbered securities together from an on-balance-sheet liquidity perspective and we're comfortable with where we are. We can manage cash utilization and reposition high-cost funding like brokered CDs where appropriate to maximize margin. But the real long-term driver will be deposit growth; bringing in non-interest-bearing demand deposits will drive future margin expansion. How successful we are at that will drive much of the margin story going forward.

Thomas Cangemi, President and Chief Executive Officer

I'll add that relative to other banks over $50 billion, we have a relatively low percentage of securities assets by design and limited HTM and AFS positions. As we right-size the securities book over time to industry norms, that could generate additional income for the company.

Casey Haire, Analyst, Jefferies

Got it. And just last one—of the 127 teams you mentioned, is that the number today?

Thomas Cangemi, President and Chief Executive Officer

That's the estimate as of June 30. I believe we started at 130 and had a handful that ran off. The deposits are stable and we've seen full stability following the transaction, with no exits since our last public release. The teams are motivated and we're focused on rebuilding deposit levels and growing the business.

Eric Howell, President, Commercial & Private Banking

To add, clients didn't close accounts; many moved funds to other vehicles because of insurance concerns. They find it difficult to do business at the mega institutions they moved to, so we're seeing operating accounts come back—DDA was up this quarter. Excess funds are coming back on-balance or in off-balance money market funds we provide, which will drive fee income without tying up capital. Every team report indicates clients are unhappy elsewhere and are starting to come back.

Casey Haire, Analyst, Jefferies

Got it. Thanks, guys.

Operator, Operator

Thank you. And there are no further questions at this time. I'll now turn the call to the management team.

Thomas Cangemi, President and Chief Executive Officer

Thank you again for taking the time to join us this morning and for your interest in New York Community Bancorp.

Operator, Operator

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines.