Fifth Third Bancorp (NASDAQ:FITB) Q1 2024 Earnings Call Transcript

Fifth Third Bancorp (NASDAQ:FITB) Q1 2024 Earnings Call Transcript April 19, 2024

Fifth Third Bancorp beats earnings expectations. Reported EPS is $0.74, expectations were $0.71. FITB isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day. My name is Ellie, and I will be your conference operator for today. At this time, I’d like to welcome everyone to the Fifth Third Bancorp First Quarter 2024 Earnings Conference Call. All lines will be placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] I’d now like to hand over the call to Matt Curoe. You may now begin the conference.

Matt Curoe: Good morning, everyone. Welcome to Fifth Third’s first quarter 2024 earnings call. This morning, our Chairman, CEO and President, Tim Spence, and CFO, Bryan Preston, will provide an overview of our first quarter results and outlook. Our Chief Credit Officer, Greg Schroeck, has also joined for the Q&A portion of the call. Please review the cautionary statements in our materials, which can be found in our earnings release and presentation. These materials contain information regarding the use of non-GAAP measures and reconciliations to the GAAP results, as well as forward-looking statements about Fifth Third’s performance. These statements speak only as of April 19, 2024. And Fifth Third undertakes no obligation to update them. Following prepared remarks by Tim and Bryan, we will open up the call for questions. With that, let me turn it over to Tim.

Tim Spence: Thanks, Matt, and good morning, everyone. At Fifth Third, we believe that great banks distinguish themselves not by how they perform in benign environments, but rather by how they navigate challenging ones. In that sense, the uncertainty we face in the current environment provides us with an opportunity to demonstrate that our focus on stability, profitability and growth in that order will produce consistently strong, some might even say boring, financial results. This morning, we reported earnings per share of $0.70, or $0.76 excluding the Visa, Mastercard settlement litigation charges and the additional FDIC special assessment. All major income statement captions were in line with or better than the guidance that we provided in our January earnings call.

Our adjusted return on equity and return on assets are the highest of all peers who have reported thus far and the most stable when compared to results from the first quarter of 2023. We grew period-end deposits compared to the prior quarter and generated annualized consumer household growth of 3%, punctuated by 7% growth in our Southeast markets. Since 2018, we have built more than 100 de novo branches in the Southeast. As a portfolio, they are exceeding our expectations, having achieved 112% of their household growth goals and 132% of the deposit goals built into the business cases. Florida is our top performing de novo market, with deposit dollars at 195% in gold. J.D. Power also recently named Fifth Third number one for retail banking customer satisfaction in the Florida market.

Importantly, net interest margins improved in the quarter, driven by stabilizing deposit costs with interest-bearing deposit costs increasing only 1 basis point sequentially. Consistent with our guidance last year, the fourth quarter of 2023 marked the low point for NIM and we believe the first quarter of 2024 will mark the low point for NII. While end-of-period loan balances were down 1% compared to the prior quarter, we saw solid middle market loan growth across our footprint with Tennessee, the Carolinas, Kentucky, Indiana and Texas achieving the strongest results. Our footprint continues to benefit in an outsized way from federal incentives to bolster investments in domestic manufacturing and energy infrastructure. The Midwest and Southeast have received more investment per capita than other US regions in industries as diverse as multimodal logistics, semiconductors, batteries and pet food.

Treasury management and wealth and asset management were the strongest contributors to fee income, driven by the strategic investments we have been making in both areas. Treasury management revenue grew 11% year-over-year, driven by our software-enabled managed services payments offerings, and Newline, our embedded payments business. Over one-third of the new treasury management relationships added in the quarter were payments led and had no credit extended. Wealth and asset management fee revenues grew 10% year-over-year, highlighted by strong growth in Fifth Third Wealth Advisors. The RIA platform we launched in 2022, which recently crossed $1 billion in assets under management. Our credit performance remained stable, highlighted by continued strength in our commercial real estate portfolio.

We posted another quarter of zero net charge-offs in CRE and have less than $3 million of NPAs in our non-owner-occupied portfolio. While we expect that broader credit trends will continue to normalize, our emphasis on client selection and credit discipline helps to ensure that we have a well-diversified portfolio, not overly concentrated in any asset class, industry or geography. Expenses are well controlled. Adjusted for discrete items highlighted in the release, expenses declined 1% year-over-year driven by savings realized through process automation and our focus on value streams. Expense discipline is what has allowed us to make the long-term investments in our business necessary to generate superior returns and operating leverage through the cycle.

Looking forward to the rest of the year, we remain cautious given the wide range of potential economic and geopolitical scenarios that could materialize. Depending on how you read the most recent data, inflation is either sticky at 3%, slowly moving down to 2%, or moving back up past 4%. Geopolitical tensions remain elevated and deficit spending, green energy investments and the domestication of supply chains are all inherently inflationary in the medium term. We believe the best way to manage in uncertain times is to stay liquid, stay neutrally positioned and stay broadly diversified while investing with the long-term in mind. That is what we intend to do. I want to thank our employees. Your hustle, heart and dedication are why we’ve been recognized thus far in 2024 as one of the World’s Most Admired Companies by Fortune, one of the Best Brands for Customer Service by Forbes, and one of the World’s Most Ethical Companies by Ethisphere.

Thank you for keeping our shareholders, customers and communities at the center of everything we do. With that, I’ll now turn it over to Bryan to provide additional details on our first quarter results and our current outlook for 2024.

Bryan Preston: Thanks, Tim, and thank you to everyone joining us today. Our first quarter results were a strong start to the year, reflecting our balance sheet strength, disciplined expense and credit risk management and diversified fee revenue streams. We saw new household growth accelerate and new quality relationships in commercial post steady gains. For over a year, we have highlighted the importance of maintaining balance sheet strength and flexibility in an uncertain economic and interest rate environment. Our first quarter results evidence the strength of our current position, which should produce strong and stable returns across a wide range of economic outcomes. This approach has served us well as rate cut expectations are pushed out.

As Tim mentioned, our profitability remains strong as we have the highest ROA and ROE, and among the best efficiency ratios of our peers that have reported to date in a quarter in which we have outsized seasonal compensation expenses. On a year-over-year basis, we were the most stable for both ROA and ROE, and among the most stable for NII and the efficiency ratio. Our consistent and strong earnings added 15 basis points to CET1 during the quarter inclusive of absorbing 8 basis points impact from the CECL phase in. Turning to the income statement. Net interest income for the quarter was $1.4 billion and consistent with our expectations. Interest-bearing deposit costs were well managed and increased only 1 basis point compared to the prior quarter.

The balance sheet continues to be reflective of defensive positioning with optionality to navigate the changing economic and interest rate environments. Net interest margin improved 1 basis point for the quarter. Increased yields on new production of fixed rate consumer loans and day count benefits contribute to the growth and were partially offset by the deposit balance migration from demand to interest-bearing accounts. This increase in NIM is the first sequential improvement since the fourth quarter of 2022. Excluding the impacts of security gains and the Visa total return swap, adjusted non-interest income decreased 1% from a year ago quarter due to lower revenue in commercial banking, leasing and mortgage, partially offset by strong growth in treasury management and wealth and asset management fees, where both saw double-digit revenue growth over the prior year.

The securities gains of $10 million reflected the mark-to-market impact of our non-qualified deferred compensation plan, which is more than offset in compensation expense. Adjusted non-interest expense decreased 1% compared to the year ago quarter due to our continued focus on expense discipline and the ongoing benefits from our process automation efforts. While expenses are down versus the prior year, we continue to invest in opening new branches and increase marketing spend to drive household growth. Adjusted non-interest expense increased 8% sequentially as expected due to seasonal items associated with the timing of compensation awards and payroll taxes in addition to $15 million of expense from the previously mentioned non-qualified deferred compensation plan.

Moving to the balance sheet. Total average portfolio loans and leases decreased 1% sequentially. Average commercial portfolio loans decreased 2% due to lower demand from corporate banking borrowers and the average balance impact of last year’s RWA diet, which reduced both total commitments and loan balances during the second half of 2023. Middle market loans increased during the quarter as we drive for more granularity and our winning private bank relationships. As Tim discussed, we saw solid middle market loan growth across our footprint. Period-end commercial revolver utilization was 36%, a 1% increase from the prior quarter, also driven by middle market. Average total consumer portfolio loans and leases were flat sequentially due to the overall slowdown in residential mortgage originations given the rate environment, offset by growth from solar energy installation loans and indirect auto originations.

Average core deposits decreased 1% sequentially, driven primarily by normal seasonality within our business. Decreases in DDA balances and CDs were partially offset by increases in interest checking. By segment, average consumer deposits decreased 1% sequentially, while both commercial and wealth deposits were flat. Consumer deposits rebounded towards the end of the quarter to finish slightly higher than at the start of the quarter. As Tim mentioned, we are very pleased with the results of our multiyear Southeast branch investments, which are driving both strong household growth and granular insured deposits. DDA as a percent of core deposits was 25% as of the end of the first quarter compared to 26% in the prior quarter. Migration of DDA balances continued during the first quarter and we expect that trend to carry on in 2024, but at a slower pace than in prior quarters.

We ended the quarter with full category 1 LCR compliance at 135% and our loan to core deposit ratio was 71%. The strong funding profile continues to provide us with great flexibility. Moving to credit. Asset quality trends remained well behaved and below historical averages. The net charge-off ratio was 38 basis points, which was up 6 basis points sequentially and consistent with our guidance. The ratio of early stage loan delinquencies 30 to 89 days past due decreased 2 basis points sequentially to 29 bps. The NPA ratio increased 5 basis points to 64 basis points. We have maintained our credit discipline by generating and maintaining granular high-quality relationships and by managing concentration risks to any asset class, region or industry.

In consumer, our focus remains on lending to homeowners, which is a segment less impacted by inflationary pressures and have maintained our conservative underwriting policies. We continue to see the expected normalization of delinquency and credit loss trends from the historically low levels experienced over the last couple of years. From an overall credit risk management perspective, we assess forward-looking client vulnerabilities based on firm-specific and industry trends and closely monitor all exposures where inflation and higher for longer interest rates may cause stress. Moving to the ACL. Our reserve coverage ratio remained unchanged at 2.12% and included a $16 million reserve release, driven by lower end-of-period loan balances and modest improvements in the economic scenarios.

We continue to utilize Moody’s macroeconomic scenarios when evaluating our allowance and made no changes to our scenario weightings. Moving to capital. We ended the quarter with a CET1 ratio of 10.44% and we continue to believe that 10.5% is an appropriate near-term operating level. As a reminder, at the beginning of the quarter, we moved $12.6 billion of securities to held to maturity. This represented one quarter of our AFS portfolio and was done when the five- and 10-year treasury rates were below 4%. The move reduced AOCI volatility to capital due to our investment portfolio by around 50% during the first quarter. Our pro forma CET1 ratio, including the AOCI impact of the AFS securities portfolio, is 7.8%. We expect improvement in the unrealized securities losses in our portfolio given that 60% of the AFS portfolio is in bullet or locked-out securities, which provides a high degree of certainty to our principal cash flow expectations.

Approximately 26% of the AOCI related to securities losses will accrete back into equity by the end of 2025 and approximately 62% by the end of 2028 assuming the forward curve plays out. Moving to our current outlook. We expect full year average total loans to be down 2% compared to 2023, consistent with our prior expectations. The decrease is primarily driven by the impact of the 2023 RWA diet on average balances as well as lower mortgage production due to the higher interest rate environment. While we expect full year average total loans to decrease, we expect average total loans in the fourth quarter of 2024 to be up 2% compared to the fourth quarter of 2023, with both commercial and consumer balances up low single-digits by the end of 2024.

We are also assuming commercial revolver utilization remains stable. For the second quarter of 2024, we expect average total loan balances to be stable. We expect softness in commercial due to uncertainty on the interest rate and economic outlooks to be offset by consumer loan growth, which is expected to be up due to solar and auto originations. Our retail household growth and commercial payments growth remained robust in the first quarter, and those outcomes will drive deposit growth in 2024. However, we are mindful of potential economic and market headwinds for monetary policy. Therefore, we are forecasting full year average core deposit growth of only 2% to 3% compared to our 5% growth realized in 2023. While we expect DDA migration to continue given the high absolute level of interest rates, the pace of migration has declined.

If rates remain at current levels, we expect to see the DDA mix dip below 25% during the middle of the year. Shifting to the income statement. Given the stabilization in our deposit costs and the benefit we are seeing from the repricing of our fixed rate loan book, we continue to expect the full year NII to decrease 2% to 4%, and as Tim mentioned, we expect the NII and NIM trough is behind us. This outlook is consistent with the forward curve as of early April, which projected three total cuts. However, our balance sheet is neutrally positioned so that even with zero cuts in 2024, we expect stability in our NII outlook. The primary risk to our NII performance would be a reacceleration of deposit competition. Our forecast also assumes our cash and other short-term investments, which ended the quarter at over $25 billion, remain relatively stable throughout the remainder of 2024.

We expect NII in the second quarter to be stable to up 1% sequentially, reflecting the impact of slowing deposit cost pressures and the benefit of our fixed rate loan repricing. Our current outlook assumes interest-bearing deposit costs, which were 291 basis points in the first quarter of 2024, would increase about 6 basis points sequentially if we see no rate cuts. We expect adjusted non-interest income to be up 1% to 2% in 2024, consistent with our prior guidance, reflecting growth in treasury management, capital market fees and wealth and asset management revenue. We expect second quarter adjusted non-interest income to be up 2% to 4% compared to the first quarter, largely reflecting higher commercial banking revenue. Consistent with our prior guidance, we expect full year adjusted non-interest expense to be up 1% compared to 2023.

Our expense outlook assumes continued investments in technology with tech expense growth in the mid-single digits and sales force additions in middle market, treasury management and wealth. We will also open 30 to 35 new branches in our higher-growth markets and close a similar number of branches in 2024. We expect second quarter total adjusted non-interest expense to be down approximately 6% compared to the first quarter due to the seasonal compensation and benefits cost in the first quarter. In total, our guide implies full year adjusted revenue to be down 1% to 2% and PPNR to decline in the 4% to 5% range. This outcome will result in an efficiency ratio of around 57% for the full year, a modest increase relative to 2023, driven by the decrease in NII.

We continue to expect positive operating leverage in the second half of 2024. Our outlook for 2024 net charge-offs remains in the 35 basis point to 45 basis point range as credit continues to normalize, with second quarter net charge-offs also in the 35 basis point to 45 basis point range. We expect to resume provision builds in connection with loan growth assuming no change to the economic outlook. Loan growth and mix is expected to drive a $75 million to $100 million build for the full year with the second quarter build being approximately zero to $25 million. As we mentioned last quarter, our consistent and strong earnings provides us the flexibility to resume share repurchases of $300 million to $400 million in the second half of 2024, including $100 million to $200 million in the third quarter, assuming a stable economic and credit outlook and capital rules that are no worse than the current NPR.

In summary, with our well-positioned balance sheet, disciplined expense and credit risk management and diversified revenue growth, we will continue to generate long-term sustainable value for our shareholders, customers, communities and employees. With that, let me turn it over to Matt to open up the call for Q&A.

Matt Curoe: Thanks, Bryan. Before we start Q&A, given the time we have this morning, we ask that you limit yourself to one question and one follow-up, and then return to the queue if you have additional questions. Operator, please open the call for Q&A.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from Mike Mayo from Wells Fargo. Your line is now open.

Mike Mayo: Hi. Can you hear me?

Tim Spence: We can. Good morning, Mike.

Mike Mayo: Hey. I’m just trying to figure out how you get away with interest-bearing deposit cost going up only 1 basis point quarter-over-quarter when the group is like around up 10 basis points? And I mean, is this sustainable? Is it due to your tech? Is it because of your Southeast expansion? What’s your secret here, or maybe it’s just ways to bite you in future quarters? Thanks.

Bryan Preston: Thank, Mike. It’s Bryan. Great question. I think one of the things on this front, we very early last year made the decision to grow deposits very aggressively. We viewed it as a very consistent theme with being focused on the long-term, focused on stability, and quite honestly, focused on returns. We viewed it as worst case. We’re going to generate some low cost wholesale funding with no prepayment penalties. Best case, it gave us an opportunity to have 12 million interactions with prospects and customers. And we have a lot of confidence in our ability to win relationships, when we can get our team in front of our customers. And so with that, as we’ve moved into this more stable environment, there clearly was some costs as we brought those promo balances in, but it gives us an ability to actually manage and recycle interest expense where we’re able to pulse offers through different markets, where we can basically harvest some savings and reintroduce that back into interest expense on new offers and ultimately have a lower net overall cost.

We just feel like it’s being very efficient with every dollar we’re utilizing. As I mentioned in the guidance, there’s certainly some risk that the competition can reaccelerate, but it does feel like overall deposit competition did soften at the end of last year and that continued to [indiscernible].

Mike Mayo: And just to follow up, I mean, you are expanding share in the Southeast. You said you went from, what, 8% to 6% year-over-year. I mean, don’t you need to price competitively and offer higher rates to gain that share?

Tim Spence: We definitely took advantage of the fact that we have I think at this point with the investments that have been made down there, Mike, a higher natural share than we did existing market share rights. So, we were able to use the Southeast as a mechanism to raise deposits without repricing existing relationships to the same degree that we would have if we were using those rate offers in markets where we had high existing shares. I think though, what’s important is that what’s driving the growth in the Southeast is the household growth. And those relationships are that vast majority momentum banking relationships, which means the core deposit product is a non-interest-bearing deposit product. So, the 7% growth in the Southeast when you break it apart, the research triangle is like 25% year-over-year.

Most of the major markets in Florida were in the mid to high teens, Tampa 11% or 12%, Broward County and north in Southeast Florida 17%, 18% year-over-year household growth rates. So, we’re gaining share in a way that then allows us to make decisions about whether we want to move more of the deposit wallet where obviously rate is part of it, or where then we have the opportunity to introduce the fee-based businesses on the consumer side of the equation, and in commercial third of the relationships that we added in treasury managers, we mentioned this last quarter, were payments led. So, they’re not driven by deposit rates or credit as the entry point.

Mike Mayo: All right. Thank you.

Tim Spence: Yeah.

Operator: Our next question comes from Scott Siefers from Piper Sandler. Your line is now open.

Scott Siefers: Good morning, everyone. Thanks for taking the question. Was hoping you could spend a moment discussing on demand trends in more detail. Kind of soft for the group, though, you noted some specific states that have generated stronger middle market growth. And then maybe within the response, if you could also please discuss the outlooks for the specialty businesses such as dividend and provide?

Tim Spence: Yeah, sure. Happy to. I’ll start that one, and if need be, Bryan can fill in here, Scott. So, I mean, listen, I think in general, the commentary we’ve provided about what we hear from clients is more or less the same. They are not pessimistic at that current point, but they’re also not leaning forward in the saddle here, whether it’s capital investments or pushing forward on M&A opportunities or building inventories or otherwise. The prospect we now face with rates being higher for longer definitely will weigh on plans. And so, I do expect that in general that if we’re going to get growth, we have to get it principally through taking market share. I mean, the byproduct of that is that the places where we are expecting to see growth in the second half of the year are the places where we made investments to be able to do it.

So, middle market C&I was strong in the first quarter. I gave a little bit of a breakout on the markets. A driver there in the Midwest and the Southeast both is the benefit that we get, the early benefit that you see from the federal stimulus programs on manufacturing, energy transition, infrastructure and otherwise, because our regions have gotten a disproportionate share of those dollars. I think in addition to that, we have a much larger sales force in the Southeast today than we did three years ago, and again the byproduct of that is we will continue to see an accretion of market share attached to those investments as those RMs become fully productive. Texas has been a really nice story for us. We’ve been in Texas for a little more than a decade now.