Earnings Call Transcript - WTFC Q3 2024

Operator, Operator

Welcome to Wintrust Financial Corporation's Third Quarter and Year-to-Date 2024 Earnings Conference Call. A review of the results will be made by Tim Crane, President and Chief Executive Officer; David Dykstra, Vice Chairman and Chief Operating Officer; and Richard Murphy, Vice Chairman and Chief Lending Officer. As part of their reviews, the presenters may make reference to both the earnings press release and the earnings release presentation. Following their presentations, 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 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 with the SEC. Also, all remarks may refer to certain non-GAAP financial measures. Our earnings press release and earnings release presentation include a reconciliation of each non-GAAP financial measure to the nearest comparable GAAP financial measure. As a reminder, this conference call is being recorded. I will now turn the conference over to Mr. Tim Crane.

Timothy Crane, CEO

Thank you, Latif. Good morning, and thank you to those on the phone joining us for the Wintrust third quarter earnings call. In addition to the introductions Latif made, I'm joined by Dave Stoehr, our Chief Financial Officer; and Kate Boege, our General Counsel. In terms of an agenda, I'll share some high-level highlights. Dave Dykstra will speak to the financial results, and Rich will add some additional information and color on credit performance and loan activity. I will be back to wrap up with some summary thoughts on what we expect for the remainder of 2024. And, of course, we'll do our best to answer some questions at the end. Before we dive in, let me remind you that this quarter has a few more moving pieces than normal as it includes two months of the results for Macatawa Bank. We closed on that transaction during the quarter on August 1st. For the quarter, we reported net income of just over $170 million and reported record net income of just under $510 million for the first three quarters of the year. These results were in line with our expectations, and we remain encouraged by underlying activity and pipelines. We grew loans by $2.4 billion, $1.3 billion acquired from Macatawa and another $1.1 billion organically. We grew deposits by over $3.4 billion, $2.3 billion from Macatawa and $1.1 billion organically. Importantly, we reduced higher rate brokered deposits by over $800 million at quarter-end, an immediate benefit of the excess deposits from the Macatawa acquisition. The organic loan growth, organic, meaning excluding Macatawa, was balanced across all material product categories, which continues to illustrate the benefit of our diverse asset-generating businesses. The organic deposit growth included absolute growth in our noninterest-bearing deposits, and the percentage of noninterest-bearing deposits relative to total deposits remained stable for the quarter. Both the loan and deposit results are strong evidence that we continue to gain share in Chicago, the surrounding markets, and in our niche businesses. In fact, for the Chicago MSA, Wintrust increased deposit share to 7.7%. In contrast, the two largest banks in the MSA, Chase and Bank of America, lost deposit share. This is data from the June 30th FDIC reports. The net interest margin of 3.51% was in line with our expectations, and combined with organic growth and the Macatawa acquisition, produced record net interest income of $503 million, up approximately $32 million from the second quarter. I know many of you remember Wintrust as asset-sensitive and well-positioned for the rate increases over the past few years. It's important to note that we are currently balanced in terms of interest rate sensitivity and well positioned for an orderly movement of rates downward. We expect our margin to remain near current levels for the upcoming quarters and consequently should experience net interest income growth. On the credit front, nonperforming loans remained low, essentially flat from the second quarter, and charge-offs were down for the quarter. Again, Rich will walk through the credit results and will offer some additional detail on the loan growth in just a moment. A quick note on mortgages, although we tend to get a lot of questions. At current levels, mortgages remain relatively insignificant in terms of the financial impact, apart from the MSR valuation. On that front, as you know, it's rate-sensitive, and there can be some fluctuation. Rates since quarter-end are back up, and given today's rates versus those from the end of the quarter, it's likely the valuation adjustment has been recovered. In terms of new mortgage activity, there were a few days during the quarter where rates dropped, and it looked like we might see a pickup in mortgage production, which could have been helpful, but that has not lasted, and mortgage activity remains muted. Our mortgage business, however, remains an effective hedge for us if rates trend lower and is a core part of our client offering. Our two other major fee-based businesses, our treasury management activity and our wealth businesses continue to exhibit steady growth. Overall, a solid quarter. In particular, our team continues to do a very nice job with respect to pricing and credit discipline, which will continue to show up in our results and specifically in our margin going forward. With that, I'll turn this over to Dave and Rich and I'll be back to wrap up.

David Dykstra, CFO

Thank you, Tim. First, regarding the balance sheet growth, Tim highlighted the strong loan and deposit growth in the third quarter, which produced a balanced $1.1 billion growth for both loans and deposits, excluding the impact of Macatawa. The loan growth at the end of the acquisition was nearly 10% on an annualized basis, aligning with our previous guidance of being at the upper end of our mid- to high single-digit loan growth forecast. Additionally, including the Macatawa impact, we finished the third quarter with a slightly lower loan-to-deposit ratio of about 92%, compared to 93% at the end of the previous quarter. It’s worth noting that noninterest-bearing deposits rose by around $708 million in the third quarter compared to the second quarter, mainly driven by noninterest-bearing accounts linked to the Macatawa Bank acquisition. The total noninterest-bearing balances have remained steady at 21% of total deposits as of the end of each of the first three quarters this year. In terms of other aspects of the balance sheet results, total assets grew by about $4 billion to $63.8 billion, while our capital ratios saw a slight increase due to strong earnings and the influence of the Macatawa acquisition. Looking at the income statement results, this was a solid operating quarter for us; however, as Tim indicated, there were some complexities during the quarter. To start, I’ll emphasize what we view as the unique items for this quarter. We had a one-time provision for credit losses of $15.5 million related to the Macatawa acquisition, unfavorable mortgage servicing rights activity totaling $11.4 million, and acquisition costs of about $1.6 million, which were offset by security gains of $3.2 million. Each of these items is detailed in the second page of the earnings release if you want to refer back to them. The quarter was also affected by the inclusion of Macatawa operations for two-thirds of the period. I will address these topics in more detail in my further comments, but I wanted to lay the groundwork with that information. Our net interest income increased by $32 million from the prior quarter, reaching a record quarterly level. The rise was due to a $3.1 billion increase in average earning assets, including the addition of the Macatawa franchise for the final two months, as well as a stable net interest margin. Our second quarter net interest margin was 3.51%, stable compared to 3.52% in the previous quarter. Yields and rates across major balance sheet categories were relatively stable, with loan yields at 6.9% in both the second and third quarters, and interest-bearing deposit costs down by 1 basis point from the second quarter. Given the current rate environment and forecasts for further interest rate cuts by the Federal Reserve, we remain confident that our net interest margin will continue to be stable around 3.5% in the fourth quarter of 2024 and into 2025. With our stable net interest margin outlook and anticipated growth in earning assets, we expect to see another increase in net interest income in the fourth quarter. We recorded a provision for credit losses of $22.3 million in the third quarter, which included the nonrecurring day-one CECL provision of $15.5 million unique to the Macatawa acquisition. Excluding this one-time provision, the credit loss provision would have been around $6.8 million, down from $40.1 million in the prior quarter and $20 million in the third quarter of last year. The decrease in provision expense in the third quarter compared to the second quarter was mainly due to lower specific reserves on nonaccrual loans, better forecasted macroeconomic conditions, and to a lesser degree, portfolio changes resulting in an improved risk rating mix and a shorter loan portfolio lifespan. Rich Murphy will discuss credit and loan portfolio characteristics shortly. Regarding noninterest income and noninterest expense, noninterest income totaled $113.1 million in the third quarter, down about $8 million from the prior quarter, primarily due to unfavorable mortgage servicing rights activity of $11.4 million related to negative valuation adjustments as mortgage rates fell near the end of the quarter. Mortgage production revenue also decreased slightly due to narrower gain on sale margins amid slightly higher production volume for sale. These declines in mortgage revenues were partially mitigated by a $7 million positive change in gains on securities. It’s important to mention that the prior quarter included a gain of around $5 million from the sale of certain premium finance loans that did not recur in the third quarter. While we do hedge a portion of the mortgage servicing rights, large interest rate movements can lead to valuation impacts, both positive and negative. The decline in rates at the end of the third quarter resulted in negative valuation adjustment this quarter; however, as Tim noted, following the quarter's end, mortgage rates have risen, which would lead to a positive valuation adjustment in the fourth quarter. Turning to noninterest expenses, they totaled $360.7 million in the third quarter, increasing approximately $20.3 million from the second quarter. The increase was primarily due to noninterest-bearing expenses tied to the Macatawa Bank acquisition, amounting to about $10.1 million, which includes $3 million in core deposit intangible amortization. Since this additional $10 million only covers two months, we expect around $5 million of additional expenses related to Macatawa in the fourth quarter for a full quarter’s worth of activity. Nonoperating and acquisition-related expenses were about $1.6 million in the third quarter compared to $0.5 million previously. The remaining increase of around $9 million was mainly due to salary costs from increased staffing to support growth, higher incentives accruals, and rising software expenses linked to IT upgrades, information security infrastructure, and investments in digital products and services. Overall, we believe noninterest expenses were well managed, considering the acquisition's impact; even with that, noninterest expenses as a percentage of average assets fell to 2.36% in the third quarter from 2.38% in the previous quarter and 2.41% in the third quarter of last year. This shows improved operating leverage regarding expenses, and we will continue to aim for reductions. In summary, the third quarter featured record quarterly net interest income fueled by strong loan and deposit growth alongside a stable net interest margin. The quarterly outcomes also reflected effective expense management and stable credit metrics. To put it another way, without the nonrecurring Macatawa acquisition-related provision for credit losses and the mortgage servicing rights valuation adjustments, it was an exceptionally solid quarter for Wintrust. We are optimistic about the remainder of the year and into 2025. Additionally, we continued to enhance our tangible book value per share during the quarter. As demonstrated in this presentation, we have increased tangible book value per share consistently since becoming a public company and are on track to do so again in 2024. Following our participation in several investor conferences discussing total shareholder returns, we included a new slide in the presentation showing Wintrust's total shareholder returns over the past one, three, five, and ten years compared to the KBW Regional Bank Index returns. That slide illustrates Wintrust’s consistent outperformance against that index, highlighting the resilience of our business model across various economic cycles. Now, I will conclude my remarks and turn it over to Rich for a discussion on credit.

Richard Murphy, Chief Lending Officer

Thanks, Dave. As Tim and Dave both noted, credit performance continued to be very solid in the third quarter. As detailed in the earnings release, loan growth for the quarter was $1.1 billion or 10% annualized, excluding the $1.3 billion in loans which we acquired through the purchase of Macatawa Bank. As detailed on Slide 8, we saw a strong growth across all major portfolios. A couple of specific areas of note include our asset-based portfolio, which grew by $243 million as a result of bringing in a number of new customers and higher line utilization. The mortgage warehouse team had another strong quarter as a result of onboarding a number of new relationships, which also come with some great deposit opportunities. We also saw continued growth in core commercial loans, commercial real estate loans, and portfolio residential loans. I would also note that we remain highly focused on getting paid appropriately for our risk. As noted on Slide 8, we were able to keep our average loan yields consistent quarter-over-quarter. We believe that loan growth for the fourth quarter will continue to be strong and aligned with our previous guidance of mid to high single digits for a number of reasons. Fourth quarter volume for commercial premium finance loans has historically been very strong. We believe the hard market for insurance premiums should continue into next year. In addition, our core C&I and leasing pipelines remain very solid. Finally, we saw core C&I line utilization rates continue their upward trend from 37% to 39% quarter-over-quarter. Offsetting this growth will be pressure on our CRE portfolio as we anticipate higher volumes of payoffs as borrowers seek long-term fixed rate refinancing opportunities. In summary, we continue to be optimistic about our ability to grow loans at attractive rates and maintain our credit discipline. From a credit quality perspective, as detailed on Slide 18, we continue to see strong credit performance with signs of stabilization across the portfolio. This can be seen in a number of metrics. Nonperforming loans as a percentage of total loans were down slightly from 39 basis points to 38 basis points. While NPLs in total were up slightly for the quarter, it's interesting to note that NPLs in our CRE portfolio dropped by $6 million. We've also seen two straight quarters of lower NPLs in our commercial premium finance portfolio as we continue to manage the stress from the transportation segment of that portfolio, and we are pleased to see this trend improve as a result of tighter loan structures and enhanced underwriting. Charge-offs for the quarter were $26.7 million or 23 basis points, down from $30 million or 28 basis points in Q2. This reduction in charge-offs was a result of improved performance in our commercial premium finance portfolio and our core CRE portfolio. Our portfolio continues to be very solid, well diversified, and very granular. Additional evidence of this could be seen on Slide 18, where we saw stable levels in our special mention and substandard loans. We believe that this quarter's level of NPLs and charge-offs reflect a return to a more stabilized credit environment as evidenced by the chart of historical nonperforming asset levels on Slide 19. Finally, we are firmly committed to identifying problems early and charging them down where appropriate as evidenced by $18 million of this quarter's charge-offs, which have been previously reserved. Our goal as always is to stay ahead of any credit challenges. As noted in our last few earnings calls, we continue to be highly focused on our exposure to commercial real estate loans, which comprise roughly a quarter of our total portfolio. Higher borrowing costs and pressure on occupancy and lease rates continue to affect CRE valuations, particularly in the office category. As detailed on Slide 22, we saw promising signs of stabilization during the third quarter as CRE NPLs decreased from 0.40% to 0.33%. And as noted earlier, we also saw CRE charge-offs reduced from 53 basis points to essentially zero for the third quarter. On Slide 23, we continue to provide enhanced detail in our CRE office exposure. Currently, this portfolio remains steady at $1.7 billion or 13.1% of our total CRE portfolio and only 3.6% of our total loan portfolio. Of the $1.7 billion of office exposure, 44% is medical office owner-occupied. The average size of a loan in this office portfolio is only $1.5 million. We have only eight loans above $20 million and only five of which are nonmedical or owner-occupied. We continue to perform portfolio reviews on our CRE portfolio, and we stay very engaged with our borrowers. As mentioned on prior calls, our CRE credit team regularly updates their deep dive analysis of every nonowner-occupied loan over $2.5 million, which will be renewed between now and the end of the second quarter of 2025. This analysis, which covered 84% of all nonowner-occupied CRE loans maturing this period resulted in the following: Roughly half the loans reviewed will clearly qualify for a renewal at prevailing rates. Roughly 28% of the loans are anticipated to be paid off or will require a short-term extension at prevailing rates. The remaining loans will require some additional attention, which could include a paydown or pledge of additional collateral. We continue to back check the results of the portfolio reviews conducted during prior quarters and have found that the projected outcomes versus actual outcomes were very tightly correlated. And generally speaking, borrowers of loans deemed to require additional attention continue to support the loans by providing enhancements, including principal reductions. As we have stated on prior calls, our portfolio is not immune from the effects of higher rates in the market forces behind lease rates, but we continue to proactively identify weaknesses in the portfolio and work with our borrowers to identify the best possible outcomes. In summary, we are encouraged by the trends we saw in the third quarter, and we believe that our portfolio is in good shape and appropriately reserved. That concludes my comments on credit, and I'll turn it back to Tim.

Timothy Crane, CEO

Okay. Thank you. That was a lot. I hope it was helpful. To wrap up our prepared remarks, I'll be very brief. I would just emphasize Dave's reference to the historical charts that we've included in our presentation materials. We have performed well over various time periods and in different economic environments. We would expect that to continue. Our pipelines remain strong. Our credit approach is disciplined. We remain well positioned to build share in our Midwest markets and within our niche businesses. And with respect to Macatawa, it's still early, but our integration activities are on target, and we remain very encouraged and bullish on the opportunities that we have in West Michigan. Overall, we like our position going into the last quarter of the year and into 2025 and certainly appreciate the support of all of our shareholders. At this point, I'll pause, and we'll take some questions, Latif.

Operator, Operator

Thank you. Our first question comes from Jon Arfstrom of RBC Capital Markets. Please go ahead, Jon.

Jon Arfstrom, Analyst

Thanks. Good morning, everyone.

Timothy Crane, CEO

Hi, Jon.

Jon Arfstrom, Analyst

Tim or Rich, could you elaborate on the loan growth outlook and its drivers? Rich, in your previous comments, you mentioned both new customers and increased line utilization. It seems that line utilization might differ from what other peer banks are reporting. Can you provide more detail on this and discuss the mix and expected factors contributing to loan growth?

Richard Murphy, Chief Lending Officer

Yes, Jon. One of our key strengths is having a highly diversified asset portfolio, which is beneficial because while some areas perform well, others may not. For instance, during the period of very low interest rates, our life finance segment experienced solid growth, but as rates increased, that growth became more subdued. Over the last year and a half, our property and casualty premium finance group performed exceptionally well, driving significant growth in our overall loan portfolio. To address your specific question, we’ve also noticed excellent opportunities in our core commercial and industrial, as well as core commercial real estate portfolios, particularly due to changes in the competitive landscape in Chicago. Right now, our pipeline is fuller than ever, especially with high-quality mid-market companies. Our asset-based team has seen a notable increase in new opportunities. Additionally, we brought on a warehouse line of credit team from Comerica over a year ago, which has contributed a significant number of clients and balances. Leasing has been another important aspect of our success this year. It's a combination of various factors that contribute to our performance. We're encouraged by our utilization numbers; as rates increased, we saw utilization trends that may not last indefinitely, but we expect these rates to remain stable for a while longer. I hope this addresses your question.

Jon Arfstrom, Analyst

Yes, it does. Okay. So this does feel like a comfortable pace of growth for the company, what you just put up from an organic perspective?

Richard Murphy, Chief Lending Officer

Yes. No, I think that's right. I mean, we're not changing our guidance. We haven't changed our guidance in many years just because, again, when something's working, something else may not, but when collectively you add them all up, it kind of hits in that spot.

Jon Arfstrom, Analyst

Thank you for the clarification. Rich, I appreciate the exclusion of the $15.5 million day one CECL provision, and that would indicate a higher run rate for EPS. However, the $6.8 million related to legacy Wintrust core appeared lower than we anticipated. Could you provide some insight into what we might expect for the provision in the fourth quarter? I realize this is quite detailed, but it could help us with our expectations. Should we consider this as a new lower core provision run rate, or is there a possibility of returning to a higher number? Thank you.

David Stoehr, CFO

Well, we gave some detail on Slide 18 for the changes for the allowance. But from the provision, there was some benefit; the macroeconomic conditions got better. And so some of the forecast for commercial real estate pricing and some of the other factors that go into the model improved. So that was helpful to keep the provision lower this quarter. Prior quarter, we also had $9.7 million net more specific reserves, and those relate to some of the charge-offs that we took over this quarter. So we got ahead of those and then blew them out. So that was beneficial that we didn't have similar specific reserves and actually released some of them this quarter. So I'm not really sure, Jon, depending on where macroeconomic conditions go, but we would expect to have that mid to high single digits growth that Rich talked about and have to provide for that. And then when you look at portfolio mix, our criticized classified numbers have stayed very consistent, and we don't expect those to necessarily get worse, and they're pretty good right now. So there's not a lot of change there. So I think it's probably just growth that we would provide for going forward. Adjusted for whatever the economists do out there, but I don't know if the election will impact the positive or negative for the fourth quarter. But if you would provide growth from mid to high single digits on a standard provision for that, that's probably my best guess, because I just don't know which way the economic factors are going to go.

Jon Arfstrom, Analyst

Yes, okay. I think that gets us there. And I think Moody’s – the banking sector last night. So maybe that helps, but thank you guys. Appreciate it.

Timothy Crane, CEO

Yes, thanks, Jon.

Operator, Operator

Thank you. Our next question comes from David Long of Raymond James. Please go ahead, David.

David Long, Analyst

Good morning, everyone. Now that we have a rate cut in place, how has your deposit cost been affected? What has your deposit beta been since the cut? Additionally, how have you seen the competition respond to this initial rate cut, both in the commercial sector and on the consumer side as well?

Timothy Crane, CEO

Yes, David, it's Tim. So on the way up, our beta was mid-60s, and we would anticipate that it would be similar on the way down. And that, in fact, has been our experience with the first cut, which obviously we're not very far into. But what we can tell you is that, since the end of the quarter and as we start to see more of the cut work through the portfolio, the reduction in deposit costs and the reduction in loan yields have been about the same, which gives us confidence that the spread and ultimately, the margin should remain at the same level going forward here. With respect to competitors, we've seen rates come down, promotional-type rates from the low 5s and 5% level to the 4.25%, 4.5% level. And we believe, just given the kind of tepid loan growth that many competitors have had, that as rates trend down, they'll continue to try to move down. But obviously, that's the risk is that if we get some strange competitive behavior with respect to loan or deposit pricing that we'll have to respond; we have not seen that.

David Long, Analyst

Got it. Thank you, Tim. And then closing the acquisition of Macatawa and Grand Rapids. I know that's still going through the integration process. But as you look forward there, what are your plans for potentially adding veteran bankers and really leveraging that franchise?

Timothy Crane, CEO

Yes. Well, they have a terrific team. So number one, we like a lot where we start from. And over time, as we identify opportunities in the market, we'll certainly add the resources that they believe are necessary to fully penetrate the market. We are seeing inbound inquiries on ESOP loans and construction loans and other kind of specialty areas that they might not have pursued organically. And so we're very encouraged by the early feedback from the market.

David Long, Analyst

Great. Thanks, Tim.

Timothy Crane, CEO

You bet.

Operator, Operator

Thank you. Our next question comes from the line of Jeff Rulis of D.A. Davidson. Your question please, Jeff.

Jeff Rulis, Analyst

Thanks. Good morning. A couple of questions on the credit side. I think you said the majority of the charge-offs came in that C&I segment and particularly one relationship. Could you just remind us, again, the industry there? And is that fully exited?

Richard Murphy, Chief Lending Officer

There were multiple factors, but I would categorize the majority of the losses we experienced in the quarter as being related to transportation.

Jeff Rulis, Analyst

Got it. Okay. And Rich, hopping over to the office slide, there was an increase in that 30 to 89 bucket. Your commentary was pretty positive. I just want to see if that increase was largely administrative. Any kind of concerns with that early delinquency number?

Richard Murphy, Chief Lending Officer

No. It's interesting, and it kind of touches on something that kind of how the sausage is made. When you're sitting here having these conversations with customers as it relates to rightsizing a loan or thinking through how you go about renewing it appropriately. Those conversations don't happen overnight. And so occasionally, you will see things go fast maturity as we work through those. But ultimately, it's time well spent because we believe strongly that it's in everyone's best interest to get those repositioned appropriately. So I'm not overly concerned about that. I think that periodically, that will happen as we work with customers to try to make sure we get a good outcome there.

Jeff Rulis, Analyst

Okay. It sounds like the overriding trend was more positive. It's the front end just some mechanics. Maybe just one last one, maybe for Dave, just on the expense run rate, trying to figure out, we've got a full quarter of Macatawa maybe some cost savings in there, ex out some merger costs. So any type of discussion about where that settles in? And if you could hazard a guess on maybe a 25% growth rate, that would be great. Thanks.

David Stoehr, CFO

As I mentioned earlier, we had Macatawa for about two-thirds of the quarter, contributing roughly $10 million. For the fourth quarter, since we haven't completed the full integration and conversion yet, I anticipate that will increase by another $5 million as part of the run rate. I don't expect significant changes in the other line items, just some minor fluctuations of a couple million dollars in either direction, given the size of the company. Overall, I expect an addition of around $5 million to the run rate, plus or minus. Moving forward, we've generally seen mid-single-digit expense growth over the last few years, assuming high single-digit growth in deposits and loans, which provides some operating leverage. However, I’m not ready to make any firm predictions just yet. We need to assess how the mortgage business performs since that could bring additional commissions and costs if it picks up, but our visibility on that is limited at the moment.

Jeff Rulis, Analyst

Okay. That’s helpful. Thank you.

Timothy Crane, CEO

Thanks, Jeff.

Operator, Operator

Thank you. Our next question comes from the line of Chris McGratty of KBW. Please go ahead, Chris.

Chris McGratty, Analyst

Good morning. Dave or team, the capital improvement from the deal that was, I think, telegraphed, but a nice bump up for the growth. As you go into the next few quarters, can you just remind us where you'd like that CET1 ratio?

David Stoehr, CFO

I agree with your point. The Macatawa acquisition provided us with additional capital because they had excess capital and a minimal amount of marks in their portfolio. This positively impacted our capital ratios. As we've mentioned before, we believe our earnings can support mid- to high single-digit loan growth, which should allow us to steadily build capital moving forward, assuming we don’t experience significant growth, although that would be a good challenge to face. We expect this growth to continue, and our CET1 ratio, which is currently close to 10%, is projected to be in the 10% range by 2025. Regarding the preferreds, we will assess the market conditions when the time comes, and we are likely to refinance them at a lower spread. However, there's still quite a bit of time until then, so we will have to make a decision based on market conditions and interest rates when that time arrives.

Chris McGratty, Analyst

Okay. Perfect. And then maybe a couple of housekeeping on the average share count for the fourth quarter and then the tax rate is. Thanks.

David Stoehr, CFO

Yes. I think the tax rate this quarter is pretty clean. So you probably do that. Macatawa added 4.7 million shares to the total, and we would had two-thirds of the quarter for that. So you can just do the math on that.

Chris McGratty, Analyst

Okay. Perfect. Thank you.

Operator, Operator

Thank you. Our next question comes from the line of Terry McEvoy of Stephens Inc. Please go ahead, Terry.

Brandon Ruud, Analyst

Good morning. This is Brandon Ruud on for Terry. Most of my questions have been asked and answered. Maybe a couple of modeling questions. Following up on the expense question earlier. I heard the mid-single-digit comments, maybe just more of a medium or longer-term target for expenses. I think historically, you've looked at the net overhead ratio. And Dave, today, you mentioned the expense to average assets. Do you have maybe a target you could maybe share for us where you like that either of those ratios to settle out over the medium term?

David Stoehr, CFO

Yes. Well, it's hard to do a target on that unless you know what the mortgage business is because when the mortgage business is really strong, that number, the net overhead ratio, comes down. We certainly would like it less than 150 basis points to grow into there for the net overhead ratio. And then we just sort of expect to get continued operating leverage. But I don't think we have a long-term goal that we pointed out there. There are certain things in the operating expenses, like at least depreciation expense, we hope that goes up because the leasing income goes up on the noninterest income side. So I think we tend to focus for the net overhead ratio more than the expense ratio because some of our noninterest income categories like wealth management, and mortgages bring a lot of commissions with them, and we'd like those businesses to grow, but they bring with them operating expenses, too. So we sort of like to look at it the net overhead ratio, which incorporates both the noninterest income and noninterest expenses rather than to have a specific noninterest expense target. And our growth on noninterest expense is that's sort of what we've said in the last two years, and we would expect just to continue at that pace.

Brandon Ruud, Analyst

Okay. Thanks for that. And maybe just my last one. On the mid- to high single-digit loan growth. I'm sorry if you said this, but where are those incremental yields coming on at? Or maybe a spread opposed to SOFR or something?

Richard Murphy, Chief Lending Officer

It really depends on the different asset categories we have, which can vary significantly. The opportunities that will have more mid-market deposit-heavy spreads will be in the low 200 range. However, on the property and casualty side, we expect to achieve substantially more than that, with everything else falling somewhere in between. As we mentioned before, we remain very focused on ensuring we are adequately compensated for the risk. So far, we have managed to maintain our pricing effectively.

Brandon Ruud, Analyst

Got it. Thanks very much.

Operator, Operator

Thank you. Our next question comes from Jared Shaw of Barclays. Your line is open, Jared.

Jared Shaw, Analyst

Hi, Thanks. Yes, I think just the last thing I had was the impact of the hedges to margin going forward. I think it was 17 basis points in this quarter. What's the ballpark that we should expect going forward?

David Stoehr, CFO

Sort of the rule of thumb, generally, Jared, is for every 25 basis points of a reduction in SOFR, we should benefit by about 2.5 basis points—a little bit of timing difference because some of these recent the beginning of the month, etc., versus the daily. But I think we're a 17 basis point drag in the third quarter, and it should be less than that in software goes down. But if you sort of use it. We give all the details in the slides, but right now, the average is about 2.5 basis points for a 25 basis point benefit.

Jared Shaw, Analyst

Great. Thanks a lot.

Operator, Operator

Thank you. Our next question comes from the line of Nathan Race of Piper Sandler. Please go ahead, Nathan.

Nathan Race, Analyst

Yes. Hi, guys. Good morning. Thanks for taking the questions. I apologize I got on a little late. But just in terms of the gain on sale margin compression that we saw this quarter, it was a little bit more so than what we saw from some other larger banks that reported last week. So just curious if you have any thoughts on maybe a starting point for Q4.

David Stoehr, CFO

Yes, it was a little lower than we'd hoped, a little volatility when rates were falling in some of the secondary market hedging that we do when we do locks on those. We would expect that the gain on sale margins will be closer to the 2% range in the fourth quarter. Probably volumes are somewhat similar. And as Tim said, the rates backed up a little bit. So there's just not a lot of activity there, but we would not expect the gain on sale margin to be that low in the fourth quarter. We'd expect it to pop back up closer to 2%.

Nathan Race, Analyst

Okay. Great. Very helpful. Thanks, Dave. And again, I apologize if you already touched on it. But in terms of NII growth expectations, I know it's kind of a fluid environment in terms of thinking about next year, but assuming the margin kind of holds in around 3.50%, even if we get another 100 basis points of Fed cuts next year. Just any thoughts on just how much NII can grow assuming balance sheet growth remains at that mid- to high single-digit range?

David Stoehr, CFO

Well, I guess it's just math then, right? If we think the margin is going to be relatively stable, and you have mid- to high single-digit asset growth, you'd have the mid- to high single-digit NII. So that's the way we look at it. It's a relatively stable margin with mid- to high single-digit earning asset growth, which should produce net NII growth.

Nathan Race, Analyst

Okay. Great. Always helpful. Just to hear you guys indicate that. And then just lastly, just in terms of the expected growth in capital going forward. I think you mentioned you're just going to kind of remain opportunistic on the M&A front going forward. But just any other thoughts on just how you'd like to manage capital? Are you guys just comfortable kind of building excess capital over the next several quarters here in light of the preferred reset next year?

Timothy Crane, CEO

Yes. I mean, as Dave said, we'll look at the preferred options that exist as we get into the summer next year. But otherwise, absent a lot of loan growth, we should be building capital and are comfortable to kind of gradually continue to improve the company's capital ratios.

Nathan Race, Analyst

Okay. Great. Thanks, guys.

Timothy Crane, CEO

Yes. Thank you, Nath.

Operator, Operator

I would now like to turn the conference back to Tim Crane for closing remarks. Sir?

Timothy Crane, CEO

Latif, thank you very much, and thank you again for everybody that's joined us on the call. Good questions. And again, I would just characterize this quarter as solid growth organically as well as the addition of Macatawa, a stable margin, which we believe we've positioned the bank well for going forward, good credit at the moment. We're knocking on wood as we say that. And then continued investment in the franchise's future, and that's in technology and building share in the markets and hiring the right people. So we're actually very optimistic going into the fourth quarter and into 2025. And we appreciate all of your support and your questions. And if there's anything you didn't get answered on the call, please feel free to call us afterwards. Latif, that's it. Thank you very much, everybody.

Operator, Operator

This concludes today's conference call. Thank you for participating. You may now disconnect.