Wintrust Financial Corp Q4 FY2020 Earnings Call

Welcome to Wintrust Financial Corporation's Fourth Quarter and Year-To-Date 2020 Earnings Conference Call. Following a review of the results by Edward Wehmer, Founder and Chief Executive Officer; and David Dykstra, Vice Chairman and Chief Operating Officer, there will be a formal question-and-answer session. During the course of today's call, Wintrust management may make statements that constitute projections, expectations, beliefs or similar forward-looking statements. Actual results could differ materially from the results anticipated or projected in any such forward-looking statements. The company's forward-looking assumptions that could cause the actual results to differ materially from the information discussed during this call are detailed in our earnings press release and in the company's most recent Form 10-K and any subsequent filings on file with the SEC.

Hi, everybody. Welcome to our fourth quarter earnings call, and thanks for dialing in. With me as always are Dave Dykstra; Dave Stoehr, our CFO; Kate Boege, our General Counsel; Tim Crane, our President; and Rich Murphy, our Vice Chairman in charge of credit. We have the same format as usual; I will give some general comments regarding our results, turn it over to Dave Dykstra for a more detailed analysis, other income and other expenses and taxes, then back to me for some summary comments and talk about the future. Of course, then time for questions. And given all that 2020 brought to the table, I think Wintrust really had a remarkable year. Pretax pre-provision earnings increased 13%, which exceeded our 10-year CAGR, which stood at 10% — not too shabby. I know that we may not have beat the analyst estimates this quarter for PPP income. We're much closer than you think, considering the one-timers of $13 million and the $7 million of foregone income when we made the decision to keep 10% of mortgage production on our books; more on this later. CECL required huge provisions: $214 million versus $54 million in 2019, an increase of $160 million. Meanwhile, net charge-offs in 2020 were $40.3 million, $9.2 million less than the previous year. NPLs and NPAs as a percent of loans and assets, respectively, were 40 basis points and 32 basis points at year-end, and in and of itself that was an excellent credit year. One would think there was even a crisis going on. You're going to have to write a nice note to Moody's, FASB and our auditors and thank them for putting CECL in when they did. Asset, deposit and loan growth all exceeded 10-year averages. Assets grew 23.2% versus a 12% CAGR over 10 years. Loans grew $0.197 billion versus a 12% CAGR and deposits grew 23% during the year versus a 13% CAGR. We now have over $45 billion in assets. Again, mortgage area hit the cover off the ball. By design, we hope it would do that because when rates go low, we use the mortgages to cover so we can catch up on the margin side. What's most amazing is we accomplished this really by working remotely for the most part, taking 5,300 people and flipping into remote and being able to accomplish what we did — our asset growth, what we did with PPP and the like — is just incredible to me. Incredible. The entire Wintrust team showed great strategic ability and a can-do attitude that is unsurpassed. I couldn't be prouder of them, and I told our Board this — 2020 really continues to be our finest hour.

All right. Thanks, Ed. As usual, I'll briefly touch on the significant non-interest income and non-interest expense sections that had changes from the prior quarter. Starting with the non-interest income section, our wealth management revenue increased $1.8 million to $26.8 million in the fourth quarter compared to $25 million in the third quarter of 2020, and up 7% from $25 million recorded in the year ago quarter. This revenue source has been positively impacted by higher equity valuations, which impact the pricing of a portion of our managed asset accounts. Mortgage banking revenue, as Ed referred to, was seasonally strong due to the continuing low interest rate environment, but declined 20% or $21.7 million to $86.8 million in the fourth quarter from the record level of $108.5 million posted in the prior quarter, and was up a strong 81% from the $47.9 million recorded in the fourth quarter of last year. The company originated approximately $2.4 billion of mortgage loans for sale in the fourth quarter, a record, up from approximately $2.2 billion in the prior quarter and up substantially from the $1.2 billion of loans that we originated for sale in the fourth quarter of last year. The decline in the category's revenue from the prior quarter resulted from, first, a decrease in the value of the mortgage servicing rights related to the fair value model assumptions of $5.2 million in the fourth quarter as compared to a decrease of $3.0 million in the prior quarter and a drop of approximately $500 million in the pipeline of mortgages being originated for sale, including a reduction of approximately $200 million that the company has earmarked to be originated and held for investment during the first quarter of 2021.

Thank you, Dave. 2020 was a pretty interesting and challenging year to say the least. In some respects, it's very rewarding here. That being said, it would be nice to return to some degree of normalcy. At the company, our mascot is Sisyphus. And remember what Sisyphus — I think I said this before in earlier calls — had to push the rock up the hill every day, and every night it would fall down and they had to push it up the next day. On 12/31 every year, I tell everybody, listen for the rock falling down, we have to push it back up. We're well on our way to pushing up this year. I think we're very well-positioned. We started 2021 in a very good place. We have to take what the market gives us and we need to grow through this low interest rate period, invest in a way that maintains an above-normal interest rate sensitivity position and maintain conservative credit standards. Earlier, we discussed all the levers we're pulling to increase earnings and improve the margin. Loan pipelines remain strong and PPP round 3 gives us an unexpected lift for the year. We continue to cull the portfolio for problem credits to improve on our already stellar credit statistics. We will also continue to find other cost-saving ideas. However, we're always going to invest in the business; we won't do so to a fatal extent. Capital levels remain more than adequate. On the expansion front, a number of new branches are planned for the next 24 months into areas we do not currently serve. On the acquisition front, we continue to search out deals in all areas of our business. The recent rebound in our stock price gives us a currency to use in deals. Remember how much we abhor dilution, so it's nice to get a little bit of currency back. You can be assured of our consistent conservative approach to potential deals. I wanted to end by saying, 2021 marks our 30th year in business. On December 27, 2021, we will hit the 30-year anniversary of opening our first bank. We came a long way from the car tables and beer, 1,100 square feet and 11 employees. We've never lost sight of our basic operating principles. This has served us well. It's kind of funny. I think there's a reasonable chance that we could hit $50 billion at 30 years. I can assure you that 30 years ago, this was never in our wildest dreams, but it's kind of cool if you think about it. As always, you can be assured of our best efforts. We appreciate your support. Now we can go over to questions if there are any out there.

Our first question comes from the line of Jon Arfstrom with RBC Capital. Your line is now open.

Pretty good. Doing well. A question on the decision to put some mortgages on the balance sheet. Can you just — not critical of it, but talk a little bit about that decision strategically. Why you did it? What you're putting on the balance sheet? And how far you want to take that?

Well, we're going to stay within that 10% to 15% GAAP position that we always desire, but I don't want to go and buy a bunch of mortgage-backed securities, so if I can keep jumbo loans on the books at 3% to 3.25% it's attractive. I know it has a payback of, call it, a year. But why not? We have put this liquidity to work. These are very good deals. The returns are pretty good on them. We probably gave up between the $200,000 that we booked this quarter — $200,000 next quarter — we gave up probably $8 million in revenue to get the 4% production margin or — $400,000 would be a lot more — $16 million, maybe $13 million, $14 million. If you wanted to add additional revenue this quarter, certainly would have kept everybody happy on the PPP front. But it just makes sense: rather than go out and do it that way, we can book them and put them in the margin and make some money as opposed to buying mortgage-backed securities at half the price.

And Jon, as Ed mentioned, we're targeting maybe 10% of our production. So it hurts a little bit, but we're not doing like half of our production. But it still provides a long-term benefit and an earnings lever to use going forward, although it sacrifices current quarter revenue.

Right. Right. Okay. And then, Dave, just sticking on mortgage. I know this kind of comes up every quarter. But talk a little bit about maybe your near-term expectations for volumes. And maybe this matters more than ever, but just remind us of your ability to accordion some of the mortgage expenses, if volumes do really continue to come down in 2021? And is that something we should be concerned about for the bottom line? Thanks.

Yes. We'll have to see where applications come in, but our pipelines are down at $0.5 billion. If you look at that and say, between investments and closings, we did $2.5 billion, it will probably be $2 billion plus or minus as far as reduction in the first quarter. And then quite frankly, we'll have to see what the spring buying season is like. Second quarter could be more than that. But I think, all in, including investments and presale, $2 billion plus or minus is reasonable. So we still think it's going to be a strong quarter. A lot of the increase in salaries expense related to temporary contract workers, so that addresses your accordion point. Those can go up and down rather quickly. And so I think we can accordion the expenses well and we manage for that. Unfortunately, the pipeline and the production has been strong recently. So we haven't had to do this. It's more of an issue of do you have enough people to process record volumes of production. And so we added this quarter because we did have record production and record associated expenses. So we do think we can accordion well. We do think the volume will be strong in the first quarter, not quite as strong as the $1.5 billion all-in closings we did this quarter, but still historically a very strong quarter.

Thank you. Our next question comes from the line of Terry McEvoy from Stephens. Your line is now open.

Hi, Terry. Terry?

Yes, can you hear me?

Now we can hear you.

Okay. Sorry about that, the old mute pun. My apologies. Maybe start with the net interest margin. Could you just talk about the outlook for the margin with and without PPP fees? And then a couple of times, you've mentioned that 15 to 30 basis point margin expansion as you kind of redeploy that excess liquidity and just over the next 12 months, the opportunity to achieve that NIM expansion through that event?

Of course, it will depend really on loan growth. Deposit costs will have room to come down, that's going to happen. Loan growth is going to happen. But what it really depends on is we figure we could put $1 billion to $1.5 billion worth of work in the investment portfolio. We're going to lag that in though because rates seem like they're going up, and why put it all on now. Why not hedge or bet a little — things do go up before they go down. So I think you've got to deal with those numbers we gave you. It may be a little bit more staggered than you'd like, but we'll take advantage of what the market gives us. I think that next quarter you should start seeing some benefit of it, depending on where LIBOR goes. And we think we'll be in pretty good shape. But I can't give you more than that because I gave you all the tools, the levers we're pulling. It's just a timing issue and we gave you the ranges of where it's going to come. I don't want to be totally specific because it's all a function of where market rates are, where we think they're going and we don't want to lock in this margin, but we do want to leave room for expansion. So as of today, I think we've put about $600 million to work, and that's a fair number in the first quarter and it'll roll to work in the first quarter. Of the $1.5 billion we think we have to play within the investment portfolio, and we'll see where it goes from there.

Well, the thing I would say, Terry, is that I think the margins basically bottomed out. It went down a few basis points this quarter, but we had significant liquidity come in again that you're earning 12 or 13 basis points on. Barring additional significant liquidity coming in, which could put a little pressure on margins, we think the margins really bottomed out and the margin goes up from here as we do the investments that Ed talked about. PPP loans — the new PPP loans will come in to help offset the runoff of the old PPP loans. We're in pretty good shape. I think the margin has really bottomed out here and barring some big swing in the curve environment, that would be negative to us if the curve flattened even more and went inverted, but we don't expect that. We think the margin has bottomed, and now it's just timing how and when to put liquidity to work.

Thank you. And then just as a follow-up question, the advertising and marketing costs were lower this year because of the pandemic, and I believe earlier you mentioned stadium and sporting events starting to open up again. Could you just talk about your thoughts for 2021 on that line? I don't want to be surprised, assuming they go back to more normal levels, which a year ago in the fourth quarter was $12.5 million?

Well, it just all depends on when people are allowed back in stadiums. We cut deals when no one's in the stadium; we shouldn't have to pay as much as we paid in the past on ticket guarantees and the like. But with the onset of vaccinations, I think by June or July, you're going to have people in there. So I don't know if it's going to be as high as it was in our highest years. We're still obligated to pay if it is, but I just don't think you're going to have fans in the stands for half the year, in which case, it'll be less. What can I say? Just follow baseball. Baseball is our biggest cost. If there aren't fans in the stands, we don't have to pay as much. Basketball is the same. We still have Northwestern, Marquette and DePaul and with no fans in the stands, we don't have to pay as much. So because they're playing, it will be more than last year, but less than our peak years. Does that make sense?

Thank you. Our next question comes from the line of Chris McGratty from KBW. Your line is now open.

Hey, good morning, Dave. I just want to go back to the question on the mortgages you put on the balance sheet. I've seen some of your broader peers do similar strategies, buying loans out of the warehouse. I'm wondering if you could speak to the credit characteristics of these loans that are being put on?

Murph, you want to do that? Why don't we let Murph do that?

Chris, as you probably have seen from other banks right now, credit quality through our bank and also through our warehouse customers has really never been better. If you look at average FICO scores, the books have tightened over the last number of years. But what we're seeing right now is just outstanding credit quality. I feel very good about holding these on our balance sheet.

And these are conforming? Or are these some — you said the jumbo, are they prime or do they have other characteristics?

No, these are all prime. Prime jumbos.

Okay. And then just another question tying growth into capital. I guess I was positively surprised you bought back stock in the quarter. Maybe you could speak to expectations going forward. I've always kind of viewed you as more optimized capital versus massive excess, but interested in your thoughts, putting the pandemic easing a bit?

Well, we really dislike dilution. We like the accretive aspects of what we've done to date — being able to buy below tangible book value has helped earnings. With the stock price up, it's a little tougher, but you never know what's going on in the world. If it goes down again, we're prepared to buy it back. We hate dilution; we abhor dilution. We want to be accretive. So as long as it makes good sense, we'll buy some. We still have some capacity to buy under the existing authority.

Yes. So our initial authority was $125 million, and we bought back $92 million to date. In the first quarter of 2019, we did $37 million and then in the fourth quarter of 2020, we did $54.9 million, so a total of $92 million out of that program. So we have $32.9 million left that we could do. We try to be opportunistic and generally, our average price in the fourth quarter was $56 a share. We'll monitor the price and look at what other opportunities there are for capital deployment as far as growth and the like and play it by ear.

And then maybe one more, if I could. Obviously, there's a big merger in the Midwest with Huntington and TCF. Interested in any potential opportunities from dislocation, either from that or from the Fifth Third/MB deal a couple of years back?

Oh, dislocation — we love it when that happens. Dislocation is kind of our middle name. With the Huntington deal, TCF was not that strong in Chicago with most of their locations being in grocery stores — not really our cup of tea. Recall, TCF years ago was the fee king of the world and we don't play that game. So those customers are welcome at our place, but I don't think they'll care much; it's just going to be a product sort of thing. We'll see where that goes. The disruption caused by Fifth Third buying MB is still ongoing. We've hired a number of their bankers and we're getting good business from them. We actually started a new treasury/currency division that's coming from them. It's a business that has been very profitable. So it's not just the business you pick up, it's the lines of business you can pick up, too. Disruption is good. There's recently announced a $1.2 billion local bank sale in a market we compete in being bought by a downstate Illinois bank. That will be an opportunity for us. So we love the disruption. We love to take advantage of it. Right now, we're excited about our prospects in the PPP world. Our system worked well, opening up before many others in the market with flawless execution. We're seeing a lessened demand from our existing customers who have already gotten assistance, so we're outreaching prospects and low-to-moderate income customers. We're running local workshops where people come in and actually do their applications with a proctor to answer questions and help them get through it. We think the halo effect from the previous PPP rounds will carry over into this one. Our decks are pretty well cleared because of the efficiency and hard work of our people. It's been awesome. So there's a lot of disruption, a lot of opportunity in the market. Our pipelines are extremely full. We continue to take business from our competitors.

Our next question comes from the line of Nathan Race from Piper Sandler. Your line is now open.

Just going back to the last point on PPP. I guess with the third round opening up recently, what are your expectations in terms of volumes coming out of that over the next quarter or two?

Well, we're already at, what I would say, $1.175 billion. I think there's still some room there if it goes to $1.5 billion or $2 billion. It gets kind of tricky where we don't really open it up broadly because of the broad aspects. Knowing your customer is important. We have so many on the prospect list that we do know in one shape or form, and we're doing outreach. For existing customers who haven't taken advantage of it, prospects and certainly the low-to-moderate customers, we're working very hard on those. I would think we could be anywhere between $1.5 billion and $2 billion. If we're $1.175 billion now, I think $1.4 billion to $1.5 billion on the low side, $2 billion on the high side should be a good number. It just depends how long it goes and whether it's restocked. SBA is being kind of particular on deals over $2 million because if you — for second draws, they are being cautious on larger deals. Murph, do you want to talk about that a little?

You hit it right on the head. We're getting some interesting feedback from the SBA as it relates to some of these larger borrowers. I think there's going to be heightened audit attention placed on them. With the transition in Washington right now, it's a little up in the air. But generally speaking, as it relates to volumes, Ed's right. We've seen a tremendous amount of growth early on in this latest round by those highly affected customers. It's good from outstanding balances and some fee recognition. Most importantly, we're seeing customers who've been pounded over the last 10 months getting some help. It's great to watch and to see the effect on our portfolio.

Got it. That's helpful. And kind of changing gears along those lines — you back out PPP, it looks like loans were up 10% year-over-year in 2020. With onboarding more production on the residential side in 2021, what are your growth expectations in 2021 keeping in mind the hires and so forth?

Just in general, our guidance has been mid-to-high single-digit loan growth over a number of years. Going into this year, I thought it might be one of the more challenging years to get that. Fortunately, we have many different loan engines and if you take a look at this year, every one of them had a solid year. Premium finance had a spectacular year. CRE had a good first half. C&I had a great second half. One of the benefits of this granular approach to portfolio growth is stability. Based on pipelines and feedback from business leaders, we should be right back at that mid-to-high single-digit growth range. A lot depends on how the economy rebounds, but overall we're feeling pretty good.

I think Rich covered it. We do believe the PPP process will continue to yield good prospects for us, and that will help us get to those numbers.

One thing to keep in mind is that as vaccinations ramp up, there's a lot of pent-up demand. You see it in supply chain delays and low inventories; an inventory build will require more line usage. Our line utilization sits around 49% to 50%, but I think you may see a little more coming as the economy reopens. I think we'll really see a strong rebound in June and July when you get to broader immunity if everything works right. Notwithstanding, we were expecting high-single-digit growth this year based on the information we had, but reopening could enhance that.

Okay. And if I could just ask one more on expenses. Trying to pull together all those items discussed earlier: the MBA is forecasting volumes to be down 20% to 22% this year, advertising spend perhaps not likely to get back to full run-rate levels, branch consolidations and closures and contingent consideration perhaps going away entirely. Is it fair to expect expenses versus 2020 to be up low single-digit or flattish? Any thoughts overall along those lines?

A lot depends on where the mortgage number comes out. If you follow the MBA forecast, then all else equal, mid-single-digit expense growth is where I would expect it to come out because we do have salary increases, we're growing, and we are investing in digital improvements, etc. So mid-single-digits is about right.

One thing to keep in mind is we did double up on mortgage production by keeping 10% of the books this quarter and taking 10% out of the next quarter, so we had all the expenses and different revenue timing effects. It's a timing issue with a lot of it. But I don't think expenses are as bad as everybody thinks they are once you adjust for one-timers and timing issues.

Thank you. Our next question comes from the line of Michael Young from Truist Securities. Your line is now open.

Hey, thanks for taking the question.

That's the first Truist Securities question I've heard — what's up, Michael? Everything good?

Yes, doing well. Just wanted to ask maybe a higher-level question. You in the past referred people to the net overhead ratio to balance growth and investment with earnings and profitability. Is that still how you're managing the business? Coming out of this fog of war, where do you think we can get to on that ratio, if that's still the right ratio to look at?

Yes, I think it is. We're fortunate to have the mortgage business because when rates go down it can pick up for us and it certainly helps the overhead ratio. If you look at the run-off in the margin, there will be a period with influx and then a period where the margin moves. We've always said less than 1.5% was good. With our size, something in the 1.25% to 1.35% range would be a good number for us in the budget. Tim, do you remember?

We typically don't give out exact budget numbers, but in a more normal mortgage market, I think the low- to mid-1.30s is probably where we would expect to be given the current environment. We're better than that right now because mortgage is so strong. But if mortgages fall off, that target in the 1.30s is reasonable.

We would hope that if we were up 30 basis points in investments, the margin goes up 30 basis points, too. That's kind of how we think about it — the math is straightforward.

Okay. And maybe just as a follow-up, you've mentioned efforts to cut some branches. You still have multiple bank subsidiaries. Would there be opportunities to consolidate one or two of those? I know you've used them as part of the wealth strategy in the past and you haven't thought that made sense, but has anything changed there?

Everything is on the table. Right now, we're very happy with where we are. The overhead ratio isn't just a cost issue because many functions behind the scenes are already consolidated. It's more a morale and marketing issue for us plus the ability to get low-cost deposits because of our ability to offer extended FDIC coverage across charters. Would we consider merging some together? Yes. That would likely come with geographic expansion. If we move out of the Chicago area in the next two to four years, we might start collapsing charters. I like the number 15 — it's nice to have people who know the markets running their shops and feeling good about it. So yes, we could do it, but it would be a function of growth. Nothing on the horizon now; we're growing fast, doing well, credit is good — why would we try to screw it up?

At this time, I'm showing no further questions. I would like to turn the call back over to Mr. Edward Wehmer for closing remarks.

Well, thank you. We appreciate you all listening in today. Get your shots if you can — I'll let you know how it goes for me. They never bothered me that much. This is going to be an interesting time and an interesting year. I think you can see that we have our hands around what we want to do, and let's see if we can get there. If you look at our history, at 10% pretax pre-provision growth and with our loan growth over the last 10 years, take it back 30 years and the numbers are even better. Over the last 10 years, we've had terrific growth in earnings, tangible book value, assets and deposits. I want to thank everybody. Keep the faith. We're working on everybody's behalf. If you have any additional questions, feel free to call me or Dave or Murph or Tim or Dave Stoehr or Kate Boege. Have a great day, everybody, and thank you very much.

Ladies and gentlemen, this concludes today's conference call. Thanks for participating. You may now disconnect.