Oceanfirst Financial Corp Q2 FY2024 Earnings Call

Good morning, all, and thank you for attending the OceanFirst Financial Corp Q2 '24 Earnings Release Conference Call. My name is Brika, and I'll be your moderator for today. Thank you. I would now like to pass the conference over to your host, Alfred Goon, Investor Relations at OceanFirst Financial Corp to begin. Thank you. You may proceed, Alfred.

Thank you, Brika. Good morning and welcome to the OceanFirst second quarter 2024 earnings call. I am Alfred Goon, SVP of Corporate Development and Investor Relations. Before we kick off the call, we'd like to remind everyone that our quarterly earnings release and related earnings supplement can be found on the company website, oceanfirst.com. Our remarks today may contain forward-looking statements and may refer to non-GAAP financial measures. All participants should refer to our SEC filings, including those found on Forms 8-K, 10-Q, and 10-K for a complete discussion of forward-looking statements and any factors that could cause actual results to differ from those statements. Thank you. And now I will turn the call over to Christopher Maher, Chairman and Chief Executive Officer.

Thank you, Alfred. Good morning and thank you to all who have been able to join our second quarter 2024 earnings conference call. This morning, I'm joined by our President, Joe Lebel; and our Chief Financial Officer, Pat Barrett. We appreciate your interest in our performance and this opportunity to discuss our results with you. This morning we'll provide brief remarks about the financial and operating performance for the quarter, and some insight regarding the outlook for our business. We may refer to the slides filed in connection with the earnings release throughout the call. After our discussion, we look forward to taking your questions. Anticipating that there may be some questions regarding the impact to bank operations as a result of the global CrowdStrike IT issue, I'm pleased to report that the bank is operating with minimal disruption. We've had no issues with customer access to our online banking, mobile banking, customer care center, OFBCONNECT, which is our mobile platform for business clients, ATM machines, card, and wire systems. Our branches are open and serving customers as well. We appreciate the hard work of our IT team this morning. Our financial results for the second quarter included GAAP diluted earnings per share of $0.40. Our earnings reflect net interest income of $82 million, representing a decrease compared to the prior linked quarter of $86 million, as the yield curve remains inverted and we experienced elevated paydowns in higher-yielding loans. Operating expenses remain stable at $59 million. Asset quality metrics continue to remain strong. Criticized and classified assets, which were already lower than our peers and below our long-term averages, decreased 15% or $25 million to $143 million. The quarter included a net ACL build of $1.6 million and net charge-offs of $1.5 million, which includes a $1.6 million charge-off on a single commercial real estate relationship that was moved to nonaccrual in the third quarter of 2023. The remaining exposure for this credit is $7.2 million and the sale of the collateral is contracted to settle during the third quarter. Capital levels continued to build with our estimated common equity Tier 1 capital ratio increasing to 11.2% and continued growth in tangible book value which increased by $0.30 to $18.93. Tangible book value per share has grown 7% over the past year. Capital growth was sustained this quarter while the company repurchased an incremental 338,000 shares under the company's repurchase program. Through June 30th, 2024, we have purchased nearly 1.3 million shares at a weighted average cost of $15.35. The company has 1,638,524 shares available for repurchase under the authorized repurchase program. Further on capital management, the Board approved a quarterly cash dividend of $0.20 per common share. This is the company's 110th consecutive quarterly cash dividend and represents 50% of GAAP earnings. With the solid credit metrics and our bolstered capital position, we are now increasingly focused on driving organic growth in the back half of the year into 2025. At this point, I'll turn the call over to Joe to provide some more details regarding our performance during the second quarter and our efforts to increase organic growth rates.

Thanks, Chris. The bank's loan pipeline of $259 million reflects a marked increase over the $137 million in Q1 and was the highest in the past five quarters as the bank continues to pivot our organization’s origination engines to growing and expanding C&I lending relationships from our historical CRE focus. The recruitment of C&I lenders continues with the addition of five new bankers this year and four offers accepted or pending, with additional recruiting ongoing. This includes a new team build-out with a focus on middle-market C&I and government contracting. We've also added a middle-market banker well-known in the grocery space which should expand opportunities for us in that industry. While origination of new loans were modest in Q2, I expect growth in the C&I business in the second half of the year, which will bring with it new deposits and fee income while offsetting any small decline in CRE. For the quarter, our C&I loan balances were impacted by five borrowers who paid down or paid off loans in the normal course of business in the amount of $86 million. Overall, the impact of declines in loan and other earning asset balances accounted for approximately $2 million of our decline in net interest income from the prior quarter. Our CRE portfolio continues to perform well and we remain committed to methodically rebalancing our commercial loan portfolio towards C&I relationships over time. Moving to deposits. Balances declined by approximately 2% as nonmaturity deposits decreased 4% compared to the prior quarter. This decline includes our continued runoff of brokered CDs of $142 million and a decline in high-yield savings balances of $96 million, driven by targeted refinements to both marketing efforts and rates offered. As Chris noted, we booked a net ACL build of $1.6 million and net charge-offs of $1.5 million, representing a $3.1 million provision for credit losses during the quarter, increasing our coverage ratio to 0.69% of total loans. The net ACL build was driven by external macroeconomic forecasts in our modeling rather than credit quality indicators within our own portfolio. Asset quality metrics remain strong with nonperforming loans and criticized and classified assets representing only 0.33% and 1.42% of total loans, respectively. Meanwhile, loans 30 days to 89 days past due as a percentage of total loans remain minimal at 10 basis points. These metrics remain low compared to pre-pandemic levels and reflect strong credit performance in our portfolio. With that, I'll turn the call over to Pat to review margins and expense outlook.

Thanks, Joe, and good morning to everybody. Net interest income and net interest margin were $82 million and 2.71%, respectively, reflecting a combination of higher funding costs associated with a mix shift in funding and modestly lower average earning assets. Funding costs reflect cycle-to-date deposit betas of 42%, up from 40% in the prior quarter. We continue to believe that we're at or very near our trough in both net interest income and margin, but our outlook for both could shift modestly subject to interest rates, loan growth or repayments, and funding mix trends in future quarters. We've said in the past that we're in a very conservative posture around new business growth and are unlikely to expand our longstanding risk appetites to stimulate short-term growth. As Joe mentioned, we increased our provision by $3.1 million, increasing our coverage ratio to total loans to 0.69% at the same metric was 0.75%, including purchase accounting credit marks. Despite strong asset quality metrics and stress test results, we've remained prudent and steadily continue to build reserve levels to address the uncertainty risk in the overall environment. It's worth noting that we've nearly doubled our allowance coverage ratio since adopting CECL four years ago, despite reporting an average of only 7 basis points of annualized net charge-offs during that same timeframe. Noninterest expenses remain flat from the prior quarter at $59 million. We continue to make every effort to hold operating expenses stable in the $58 million to $60 million per quarter range, but modest quarterly volatility may occur. Finally, as Chris mentioned earlier, capital strengthened appreciably with growth in our CET1 ratio to 11.2%, and we're pleased to report capital accretion even while repurchasing the 338,000 shares or $5 million during the quarter. Looking ahead, we would not expect meaningful repurchases in the near term. At this point, we'll begin the Q&A portion of the call.

We will take the first question from the line of Frank Schiraldi with Piper Sandler. You may proceed.

Good morning.

Morning, Frank.

Curious to talk about the margin here. Obviously, the quarter in terms of loan yield, you saw as much pickup as you would otherwise expect which you noted should be temporary. But I'm just trying to think through some of the specifics around the potential pickup in loan yield as the book turns over here, and also what it might mean for credit migration in terms of criticized classified balances. So like the $300 million or nearly $300 million in CRE repricing, I guess in the back half of the year, those are at rates of looks like a 5.8%, is that right? And then where are the new rates that you're repricing to? And do you expect a decent amount of this will migrate off balance sheet?

Okay, Frank, there are a few things to discuss. I'll share some insights and then hand it over to Joe for comments on loans and Pat regarding margin. To begin with margin, we anticipated the modest increase in deposit costs as it's been our trend. The paydowns of higher-yielding loans were a slight surprise on the earning asset side. The compression we experienced this quarter was largely due to these paydowns, as the average yield on those loans exceeds 8%. We don’t expect this to happen again, which is actually a good sign for credit, indicating that our customers have sufficient cash to reduce their debt levels. Soon, I'll ask Joe to provide more perspective on future loan growth and bookings. Regarding your point about credit and rolling commercial real estate loans, we conduct extensive stress testing on our CRE portfolio. A key test we perform involves evaluating the rolling loans, their current coupon rates, and their ability to service that debt as they roll over, not only for the rest of this year but also through 2025 and into 2026. We have not found any significant issues with rolling loans, so we expect those loans to continue with us, paying their current rates and remaining at the bank. There is some competitive pressure in certain areas, particularly from market players like Freddie Mac, which may impact our positioning. However, we prefer to maintain good client relationships and won't compete on price in that market; our focus will be on commercial and industrial loans. I’ll now pass it over to Joe for insights on loan originations in Q3 and beyond, and then Pat, if you have any additional thoughts on the margin discussion.

So I'll talk about just the outlook for loans. Look, Q2 was a pretty quiet quarter. It's evidenced by even our conservative approach and the way we report in terms of the pipeline as to where we're headed. The pipeline is very strong, and I anticipate that we'll have a significant increase in activity in Q3, and that should bode well for Q4 as well, not only with the existing team but the team members that we're adding. So I think we had a very small amount, $56 million in commercial closing in Q2, which is a very small number. I would anticipate that we're probably going to head back toward where we were in June of '23. I think we had much higher activity in that period of time. That’s probably the path. And then yields are much better as well. I think that the pipeline shows that a weighted average yield of 7.98%. That's a function of both floating rate C&I and floating rate construction, which dominate the pipeline content.

I guess this is Pat. Regarding the margin we observed and what we expect, as Chris mentioned, the paydowns contributed to the margin decline, which was somewhat unexpected for us. Without that, we may have seen around 3 to 4 basis points of compression due to balance migration and rate changes, but it was likely more mixed than anything else. On the funding side, we continued to reduce our brokered CD balances and some higher-cost institutional accounts. We were pleased to see our noninterest-bearing balances remain quite stable, so that was not a surprise. Looking ahead, despite any potential accelerated paydowns or growth, I believe our margin should remain relatively stable. We're optimistic about generating some growth in the second half of the year that will positively impact the margin, and we hope to avoid further payoffs and paydowns. Sorry for all the hopes.

Right. So I guess as you guys grow in the back half of the year, you feel like you're going to be in a place, I mean, that you're not going to see NIM contract further because of that growth? I mean, would you give up some NIM in the near term, maybe to do something like position yourself a little bit better for a downward environment? Is there any potential to see loan growth here in the near term, kind of exceed deposit growth and be funded with short-term borrowings with the idea that maybe you could lock in some lower deposit costs down the road? Or how do you think about, as you grow the loan book, the loan-to-deposit ratio here in the near term?

I'll take that. Two parts, Frank. It's Chris. There's no question that we're in the relationship business. We want to build those relationships every quarter. The margins may be a little bit better or worse because of that. So we find the opportunity to add good relationships, and if we have to be a little more competitively priced, we'll do it. I kind of differentiate between net interest income and margin. We have our eye more focused on net interest income and building that. So if we had the opportunity to grow the loan book a little bit, improve net interest income, and have to give up a point or two on NIM, that's a good trade-off as long as we're bringing in high-quality clients and good relationships. So that's kind of the way we would look at things. And we're confident, We've got the teams in place. We know how to grow the loan book. We're just taking our time and doing it very thoughtfully and methodically.

Right. Okay. I appreciate that.

Frank, I wanted to touch on the loan-to-deposit ratio you mentioned. Our perspective on that remains unchanged. We are comfortable operating at or near a 100% loan-to-deposit ratio and prefer to be in the 90s. If we find ourselves at 100% or 101% in a given quarter, that’s not an issue for us. However, we will not aim for 110% or 120%. We won’t push that boundary. We feel confident that we can generate deposits to support loan growth in the second half of the year.

Appreciate it. Thank you for the color.

Thanks.

We now have Daniel Tamayo with Raymond James. Your line is open.

Thank you, guys. Just...

Good morning.

Hi, good morning. So I guess I just wanted to ask more about the loan growth topic. You mentioned you're trying to reduce CRE concentration. You've got the C&I initiatives. How should we be thinking about the CRE book growth in the next couple of years? I mean, is that a book that you expect to see modest growth, stable as it relates to the CRE concentration? Like, how quick do you expect that to come down?

The best way to approach this is that we are pleased with our commercial real estate portfolio, despite the current market sentiment surrounding it. We are not in a hurry to achieve a specific ratio, nor do we have a goal to reduce it significantly. However, we recognize that diversifying our asset mix will enhance our value as a franchise. Over time, we expect the proportion of commercial and industrial loans on our balance sheet to increase, while the CRE proportion will likely remain stable or decrease slightly. Within the CRE portfolio, we are focusing on optimizing our strongest relationships. This is a noteworthy period due to the overall contraction in CRE lending across the sector, where some of our best clients are presenting us with attractive opportunities. We will continue engaging in CRE lending, but we anticipate the percentage of these loans on our balance sheet will decline. Additionally, you may see our investor CRE ratios go down gradually as well, but we are not rushing to sever ties with customers we value.

I appreciate that. I understand this next question may be challenging as it pertains to discussions with regulators. However, it seems the market reacted negatively to the first foundation equity issuance during the quarter, particularly affecting banks with significant commercial real estate concentrations. Can you provide any insights or comments regarding regulatory discussions or pressures that you are experiencing, or share any thoughts on what those conversations with the regulators are like?

Yes, I understand your question. We can't discuss our conversations with regulators. However, our financial statements and outlook should provide some reassurance. If you examine our portfolio's performance and how we've managed geographic and asset class concentrations, you'll see we have a diverse distribution. We haven't experienced significant growth in commercial real estate recently, and that growth factor is crucial for regulators' attention. Our credit metrics appear to be stable, and there's no reason for concern. The stress testing we've shared indicates our approach to managing interest rate risk over time in that portfolio. Overall, we have a solid portfolio and feel positive about it. Additionally, we've taken a proactive approach to capital preservation and growth to safeguard against potential environmental changes, and we're pleased with our current capital position. We view this positively: our portfolio is performing well without much pressure, and our capital ratios have improved over the last couple of years, which is how we ideally manage our commercial real estate concentration. We feel confident, but I won't make any comments regarding our regulators.

I understood. I appreciate you giving me some commentary there, Chris. I'll step back. Thanks, guys.

Thank you.

Thank you. The next question comes from Tim Switzer with KBW. You may proceed, Tim.

Hi, thank you for taking my questions. I had a quick follow-up on your comments there about you're happy with where your capital is right now. You still have a good amount of capital, though, and you've been doing buybacks for the last two quarters. Why do you not expect to do any more in the rest of the year? Is that given some sensitivity to valuation, given the recent rise of shares, or is it more you're trying to preserve capital for either a potential downturn or maybe opportunities on the M&A side?

First, I would say that there's no reason we wouldn't buy shares back. We're just thinking about the best use of capital, which is organic growth. And we're playing that off against the opportunity to repurchase shares over time. So I think as Joe builds out his teams and the pipelines build and we get a sense of exactly how much capital we're going to use for organic growth, any excess capital beyond that, as long as we're trading below tangible book value, I think it's a pretty attractive financial decision for us to buy back shares. So number one priority is supporting organic growth. Number two priority is taking advantage of a valuation we think is attractive. So I wouldn't say zero, but we just said it should maybe a little bit. You might not see a lot of it, so.

Okay. So it's more based off of the anticipation of more loan growth, given the pipeline you've seen.

Yes. We believe that our current capital levels are sufficient for our company's risk profile. We are not using repurchases to leverage the company. Instead, we are taking excess earnings and applying them toward repurchases. As long as we do not need the capital, we will maintain our capital ratios around this level and utilize any excess earnings for repurchases, which we do not require for growth.

I was also interested in your comments about the hiring efforts in the Commercial and Industrial space. I know the competition there has been tough, especially regarding loan growth as banks try to diversify. How has the competition been on the recruiting side? Has that been challenging? And what approach does OceanFirst take to attract potential new bankers?

I think that competition is tough in any environment, particularly for revenue-generating roles, whether it's classic C&I bankers, deposit gatherers, or investment professionals. Our approach has been consistent. We maintain a steady presence in the markets and do not waver in our commitments. It's straightforward and clear. The management team is reliable, and our low turnover indicates that when people join us, they tend to stay. We have built a strong reputation in the market, which benefits our sales team. Salespeople are particularly cautious about the firms they join, especially those coming from major regional and national banks that often shift focus. We, on the other hand, commit to businesses and prefer to remain in them long-term. We assure potential partners that they won't have to worry about sudden policy changes; if they bring us quality business, we will pursue it. This message consistently resonates with them.

We found over the years that the best bankers just want to know they can support their clients, and as long as you can demonstrate to them that they're going to have the tools and the support, the capital on the balance sheet to do that, they're going to feel pretty comfortable. So, and we have joked over the years, some of these sales processes for new bankers can take a while. We've had bankers we've pursued for up to five years before they actually sign up. So the folks we bring on, we bring on kind of deliberately, but they're top-quality folks. They stay with us a long time. They build really durable relationships and extend our brand. So we're adding people every quarter. We're going to add more between now and the end of the year, and we've got a positive outlook for it.

Great. That's a lot of good color. Thank you, guys.

Thank you. We now have David Bishop with Hovde Group. You may proceed with your question.

Yes. Good morning, gentlemen.

Hi, Dave.

Chris or Pat, I'm interested in the funding aspect. While we've discussed loan growth extensively, I noticed you mentioned reducing some brokered and high-cost savings accounts this quarter. Are there any significant tranches of CDs or broker deposits maturing soon that could be repriced in the upcoming quarters? I'm curious about the repricing outlook for the funding side of the balance sheet.

Hi, David, it's Pat. It's actually pretty steady around, I don't know, $200-ish million on average that rolls every month, I guess, over the next six to nine months or so. So we deliberately ladder into these so that we don't have any big slugs of it coming due at any one time. And so that gives us opportunities to manage how we roll. Brokered CDs are a little bit lumpier than that. So I'm talking about more on the retail CD side, but we only have about $250 million, I think, that's rolling between now and year-end, and we'll continue to look at that and decide whether we want to keep it or not. If it's economic, we generally would roll the brokered CDs. It's proven to be less economic this year. You'll remember last year when we layered in about 8% or 9% of our total deposit base, it was actually a 20 basis point to 30 basis point advantage over other sources of funding, and so we thought it was a good deal, and we've been slowly letting it roll as it became less economic to do that. So, it'll be pretty steady in kind of normal way cash flows for us.

Got it. Appreciate that. Then, Chris, sort of a holistic question, maybe a tougher question maybe to answer and ask, but obviously ROA has been depressed here. It's been a tough yield curve over the past couple of years. From a Board perspective, is there sort of a sense that, is there a bright line ROA that you have to hit to sort of earn or maintain independence? Does that come up as a dialogue if any, is that something that's in the lexicon these days in terms of reaching a set return on equity or return on assets?

Certainly. As you might expect, this topic often arises in discussions with management and the Board. If you consider our leverage, there's a specific range that seems feasible for a regional bank like ours. Once we establish that leverage, we need to achieve a certain return on assets to cover our cost of capital. We believe that our long-term required return for investors should be in the upper teens, reflecting our risk profile, including factors like dividend yield and liquidity. This is our goal. Based on our leverage position, we need an ROA exceeding 1%, likely around 1.20%. We've achieved this before, and we believe we can reach it again. The past two years of an inverted yield curve have been challenging, and it's uncertain if that will change in the next few quarters. We think the inversion might persist for a while, but we are optimistic that with the loan growth we expect in the latter half of this year and into 2025, we can improve our operating leverage and regain that level. We understand that to maintain our independence, we must have a clear path to exceed a 1% ROA. At this moment, we feel confident about our visibility on that, although there is considerable activity in the rate markets. Interestingly, while there's ongoing discussion about the Fed's actions, we might be more affected over the next couple of years by the performance of the five-year and ten-year rates, which have a significant influence on our business. Thus, we monitor the longer end of the yield curve closely, just as we do the shorter end, even though it often receives less attention.

Got it. I appreciate the color.

Thank you. We will move on to the next question. And we have Manuel Navas with D.A. Davidson. You may proceed.

Hi, just a quick follow-up on that 1.20% ROA long term. Does that also assume a kind of return to, I think, more aspirational 10% longer?

Yes, I believe that's the approach to take. It's a gradual process. While it won't be achieved this quarter, there are additional complexities that may extend the timeline. We are not solely focused on rebuilding the loan portfolio; we are also undergoing a shift in our mix. Although we believe this shift is beneficial for the company's long-term growth, it does take additional time. Most of our commercial and industrial relationships are only partially utilized, meaning we are not deploying capital as quickly as we would in commercial real estate. We consider this strategy to have greater value for our company, but it complicates the timeline for rebalancing and reaching our target growth rate of 10%. We have always viewed this growth rate as a prudent level that should be sustainable year after year. I would like to note that before COVID, in the fourth quarter of 2019, we achieved a 1.20% return on assets after focusing on operating leverage for several years; COVID impacted our progress. We reached that level again in the fourth quarter of 2022 before experiencing a liquidity crisis. We understand how to reach our goals and are confident in our ability to get back on track, but I would be cautious about providing a specific timeline for when we expect to arrive at that target.

I appreciate that. Stepping back towards discussing the C&I team, some of the new lenders and those that are still to come, have they been ramping as expected, or has competition kind of slowed their ramp rates, could be part of it too? And how is the C&I team doing on the deposit generation as well?

So I tell you that the folks that we've hired have met or exceeded expectations. I think that the interesting sort of semi-answer to the question is I'll use the example of the last quarter. We had five of our better C&I borrowers pay us down on their loan balances because they're doing so well and they have cash. So the good news is I have cash from my C&I borrowers in the bank at reasonable rates and some in operating accounts where I'm not really paying a rate. The bad news is they're done so well with cash that they're paying down my floating rate-yielding assets because they have the ability to do so. So it's a little bit of a balancing act. Look, there's competition out there. The only thing I really worry about in the C&I space today in terms of competition is we have an environment where there are people getting into this space that don't understand this space. And you always worry about people putting on assets in the C&I space that are not structured properly. I'm happy to compete on price within reason. I'm not going to compete on the structure aspect. That's just a long-term road to ruin. But our folks so far that we put in place have done fine.

That's good to hear. Regarding the NIM outlook, you mentioned some upcoming wholesale funding. What are the assumptions surrounding that funding? Are you assuming it will stay at current levels and just be repriced, or is there an expectation that you will pay it off? Is deposit growth a potential wildcard in this situation? How should I understand your views and plans regarding wholesale funding payoffs?

We don't have a ton of overnight wholesale funding that's out there. We've got about $800 million or so of borrowings, but $600 million of that is termed. Seems like years and years ago, I guess it was about five quarters ago, we termed out three buckets of $200 million per bucket FHLB borrowings, and those start to mature in 2025 and then 2026 and then 2027. So that's three quarters of that. We also, aside from that, really don't have much in terms of longer-term funding that's out there, even in our CD book. It's relatively short. So we're pretty well positioned to take advantage of lower funding costs as they occur. The flip side of that is just to maintain our current liquidity levels. Growth means that we're funding it at today's shorter-term higher rates, which again can squeeze profitability, but does make us think carefully about the profitability of any loans that we're going to do because we are kind of funding incrementally as we go along. Does that help or answer your question?

That does. That does. Shifting gears for my last question. Can you discuss the upward trajectory of the loan loss reserve? It's just ticking up and you're not responding to regulatory pressure. But you are building capital and building reserves. Is that kind of part of seeing the landscape and trying to be proactive? Is that the right way to think about it, rather than being responsive to any particular regulatory concern on the CRE concentration issue?

It's exactly. So first part of the question is easier than the second part, but I would say it's completely an external function where we're thinking about the environment. We're considering pure loan loss reserves. We're looking out at what the credit conditions might be. Let's say the soft landing isn't quite as soft as people would like it to be. I just want to have a little bit of an extra margin there. It's not a giant difference. There is nothing inside our loan book that is driving us to feel that we need any significantly higher reserve than we have today. So it's just been a gradual evolution as we've watched things like the Moody's forecasts and where unemployment is going and things like that. We just want to make sure we're a little bit more prudent. I would say that it is clear to us and CECL is terrible in this regard, but CECL really anchors you back to your loss histories, and our loss histories have been really good. So it's hard to kind of satisfy the standard you would need around quantitative balance. As we build the C&I book, I think we also have the opportunity to maybe have a little bit higher reserve level against C&I. First of all, it tends to deserve that anyway. And although we've done C&I for decades, this is a little larger concentration for us and into some new verticals. So I think we're taking the opportunity, and I wouldn't be surprised if you see us take the opportunity to build a little reserve as we build that book up to a bigger part of our balance sheet. But at the end of the day, we're not going to change our credit discipline. We don't expect different outcomes in credit performance. So I don't see us heading towards a reserve-heavy bank. But you might see what you've seen over the last year. You might see if economic conditions continue to be a little questionable, you might see a couple of basis points a quarter from here from time to time. No big moves.

Thank you. I appreciate the commentary. I'll step back in the queue.

Thanks, Manuel.

Thank you.

We now have Matthew Breese with Stephens.

Hi, good morning.

Good morning, Matt.

I was hoping you could provide an update on the percentage of loans at a pure floating rate, I mean priced off something like prime or SOFR, and what the blended yield is on those loans.

Sure. Hi, Matt, it's Pat. So our pure floating rate is just under 29% of our loan book, about $2.9 billion. And those are split about one-third prime, two-thirds SOFR. I don't have the exact numbers right in front of me, but I want to say it's about $900 million. That's based off prime. So the remainder when we talk about our fixed and floating rate is, make up of being 55-ish, 45-ish, which we've said in the past. Frequently it's 54/55 fixed rate. The floating includes adjustable, when we talk about that, which is about $1.7 billion, and then the fixed rate is 5.5%.

And is it safe to assume that the pure floating rate paper is capturing a spread of, call it 2 points over SOFR, 2.5 points over SOFR? I'm trying to get a sense for, if we look at that fixed rate portion of your book, what is that yielding and what's the repricing opportunity, and when does that start to kick in for the NIM?

Yes, I think historically it depends on the age and the vintage of it, but we have typically averaged about 2.50 over benchmark. This has obviously decreased over time due to competition. It's likely more than 2 to 2.25. So I think you're in the right range.

Hi, Matt, it's Chris. One of the things that we do watch really carefully. This was my comment about watching, say, the five-year is a lot of those adjusting loans as they roll, they're indexed off the five-year. So as the five-year and the 10-year kind of fall a little bit, that can affect outcomes as well.

So just for the fixed rate in the ARM book, what is kind of the roll-on versus roll-off dynamic that you're referring to, Chris?

If you examine our maturity wall, it provides a clear overview of our loans coming due and the rates they are associated with. I want to clarify that we are presenting the rates that customers are paying, rather than the rates we are earning, which are slightly higher due to swaps. There is probably a 30 to 40 basis points difference between the rates shown in that maturity wall and what we are currently receiving. You can project that forward and estimate around 2.25 over the curve as they mature.

Okay. And just playing this out, I mean, at what point do we start to see this dynamic really take hold and propel the margin higher? And in quarters past, we've talked about kind of a natural landing point for the NIM, for a bank like yours being in kind of the 3% to 3.25% range. When can we start to see meaningful progress towards that?

I think, look, we can make progress between where we are now and just kind of pick a number and say 3% over time. But to get much above 3%, you're not going to see that in an inverted yield curve. So we would need a normalization of the curve to get much beyond that. It is really important, the new growth we do and what rates that comes in at. As Joe mentioned, our pipeline today which we're really concentrating on that C&I borrower carries almost an 8% handle. That will help. That will help us get back towards 3%. But if you're looking at our long-term average, closer to 3.25%, I don't see us being able to achieve that without moving the yield curve.

Okay. And then what is a good tax rate to use from here?

24%. I keep saying 25%, approximately. And we keep printing 24%, so I'm changing it. It's 24% now.

Okay. And then just the last one for me. You have, I think, $125 million of sub-debt reaching its call date about this time next year, maybe a little earlier. One, what is kind of the current thinking around that in terms of paying it off or re-issuing? And then secondly, just curious, at this point in the game, does the subject count towards the CRE concentration or have we moved to the Tier 1 plus allowance methodology?

I'll give you the first part of that, and then Pat will follow up on the second. So the thinking on it is, look, when it matures next May, if rates are what they are today, it's going to be more expensive than we'd like. And we'd probably look to refi that. At the issuances that we've seen in the last call, it was about 60 days. We're not excited or anxious to do anything with that today. We're watching carefully whatever the Fed does. We're watching carefully to see if capital markets activities by other regional bank issuers come out. We're kind of watching that market, but it's conceivable. We might take an opportunity to issue in advance of that, but not at today's rates, and we don't feel any pressure on that. So, and look, it still continues to be available to us next year, just reprices, and with the margins, it would be more expensive than today's issuance rates. So there is an opportunity for us to refi that. But, Pat, just on the capital treatment.

Yes. Typically, everyone issues subordinated Tier 2 debt from the holding company, and if you need Tier 1 treatment for your bank, you would inject that capital into the bank. This affects the calculations of your Tier 1 capital, including any subordinated debt placed into the bank. Most of your loans and capital will be located in the bank. Additionally, I want to remind you that in May of next year, we have $125 million that will reprice, along with approximately $57 million of preferred stock that will also reprice, with rates of 5.25% and 7% respectively. The subordinated debt is benchmarked against longer-term treasuries, making short-term rates less significant compared to where the long-term rates may be at that point. The difference is minimal, mainly due to the additional months of carrying the debt before those rates reset in May. As we approach that date, the urgency decreases, and we prefer to act when we can rather than when we must. We have been considering this for much of the year and plan to be opportunistic and thoughtful about it. Ultimately, in this environment, having more capital is favorable, just as having more allowances is beneficial. There is a trade-off between the cost of carrying that capital and the perception of balance sheet strength.

Great. I appreciate all the color. I'll step back. Thank you.

Thanks, Matt.

We now have Christopher Marinac with Janney Montgomery Scott. You may proceed.

Thanks for hosting us this morning. Chris, want to follow up on the allowance point you made two calls ago. So when you have the idiosyncratic losses, like you had just this one-off credit, does that give you any positive evidence to build that component, particularly as you have new loan growth?

It would be beneficial if we could identify other loans in our portfolio like that one. Unfortunately, we don't have any. Our concentration in the central business district is currently $125 million, and we've thoroughly reviewed it to understand all details. We lack any additional credits that align with the criteria of the one that posed an issue last year, making it challenging to project future outcomes. During our stress tests, we evaluated the maturity wall and different asset classes, including all of our construction loans. As we analyzed these factors, we were looking for data to either support our current allowance or prompt adjustments. The good news is that the results from these stress tests have been very positive, indicating no immediate need to alter the allowance in any specific direction. However, we recognize that our allowance size is somewhat unusual, and we prefer not to be outliers. Therefore, we meticulously review it every quarter and make careful decisions.

Thank you for that. I have a broader question regarding the anticipated production over the next couple of years. How much of that production is expected by region? I'm particularly interested in whether there will be a higher concentration in the Northeast and the Baltimore Washington area, as those are newer and could contribute significantly.

The majority of our activity will continue to take place in our primary market, which is the corridor between Philadelphia and New York. However, we are also seeing significant contributions from other regions. Some of our recent hiring has occurred in the Baltimore Washington area, particularly in government contracting. There will be steady growth in these other areas, but since our franchise is quite large, our strongest markets remain those closest to home. I expect that around 50% to 75% of our growth will be generated in our core market in the Northeast. We appreciate being in the Northeast, especially given the current volatility in the multifamily sector in some regions and the fluctuations in residential home prices and rents. Fortunately, the Northeast generally avoids these significant ups and downs. We feel positive about our market and do not plan to make any substantial changes.

Great. Thanks again for taking all of our questions this morning.

Thanks, Chris.

Thank you. I would like to hand it back to Chris Maher for some closing remarks.

All right. Thank you. We appreciate your time today and your continued support of OceanFirst Financial Corp. We look forward to speaking with you again after our third quarter results are published in October. Thanks very much.

Thank you all for joining. I can confirm that does conclude the OceanFirst Financial Corp Q2 '24 earnings release conference call. Please enjoy the rest of your day. And you may now disconnect from the call.