Capital One Financial Corporation

Good day, ladies and gentlemen. Welcome to the Capital One first quarter 2021 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answered period. If you would like to ask a question during this time, simply press the star key, then the number one on your telephone keypad. If you'd like to withdraw your question from the queue, please press the star key, then the number two. Thank you. I would now like to turn the call over to Mr. Jeff Norris, Senior Vice President of Finance. Sir, you may begin.

Thanks very much, Keith, and welcome everybody to Capital One's first quarter 2021 earnings conference call. As usual, we are webcasting live over the internet. To access the call on the internet, please log on to Capital One's website at CapitalOne.com and follow the links from there. In addition to the press release and financials, we have included a presentation summarizing our first quarter 2021 results. With me today are Mr. Richard Fairbank, Capital One's Chairman and Chief Executive Officer, and Mr. Andrew Young, Capital One's Chief Financial Officer. Rich and Andrew will walk you through this presentation. To access a copy of the presentation and the press release, please go to Capital One's website, click on Investors, then click on Quarterly Earnings Release. Please note that this presentation may contain forward-looking statements. Information regarding Capital One's financial performance and any forward-looking statements contained in today's discussion in the materials speak only as of the particular date or dates indicated in the materials. Capital One does not undertake any obligation to update or revise any of this information, whether as a result of new information, future events, or otherwise. Numerous factors could cause our actual results to differ materially from those described in forward-looking statements. And for more information on those factors, please see the section titled Forward-Looking Information in the Earnings Release Presentation and the Risk Factors section in our annual and quarterly reports accessible at the Capital One website and filed with the SEC. With that, I'll turn the call over to Mr. Young.

Andrew. Thanks, Jeff, and good afternoon, everyone. I'll start on slide three of tonight's presentation. In the first quarter, Capital One earned $3.3 billion, or $7.03 per diluted common share. Pre-provision earnings increased 1% in the quarter to $3.4 billion, and we recorded a provision benefit of $823 million. After recognizing $535 million of gains during 2021 on our snowflake investment, we had a loss on our position in the first quarter of $75 million, or 12 cents per share. We have now fully exited our position with a cumulative gain of $460 million. Turning to slide four, I will cover the quarterly allowance moves in more detail. In the first quarter, we released $1.6 billion of allowance. The release was driven by strong credit performance across all of our businesses and a more favorable economic outlook that includes the 1.9 trillion stimulus package passed in March. Our allowance continues to assume that the relationship between economic metrics and credit performance reverts to historical patterns. And despite the strong credit performance and more favorable economic outlook, we continue to hold significant qualitative factors to account for a number of remaining uncertainties. Turning to slide five, I'll provide some detail on the allowance coverage by segment. After the impact of the $1.6 billion allowance release, our coverage levels declined modestly across all segments from the prior quarter and remain well above pre-pandemic levels. Our domestic card coverage is now 10.5%, down from 10.8% last quarter. Our branded card coverage is 12.1%. Recall that the difference between branded and domestic coverage is driven by the loss sharing agreement in our partnership portfolio. Coverage in our consumer business declined 38 basis points to 3.6%. And coverage in our commercial banking business fell 23 basis points to 2%. Moving to slide six, I'll discuss liquidity. You can see our preliminary average liquidity coverage ratio during the first quarter was 139%, well above the 100% regulatory requirement. Our liquidity reserves from cash, securities, and federal home loan bank capacity ended the quarter at approximately 151 billion. The 7 billion increase in total liquidity is largely attributable to strong inflows of consumer and commercial deposits in the last few weeks of the quarter. Turning to slide seven, I'll discuss our net interest margin. NIM declined six basis points in the linked quarter due to a 14 basis point headwind from having two less days in the quarter, as well as a higher mix of cash. These factors were partially offset by the full quarter effect of deposit pricing actions we took in the fourth quarter and a modest increase in loan yields. Lastly, turning to slide eight, I will cover our capital position. Our common equity tier one capital ratio was 14.6% at the end of the first quarter, up 90 basis points from the fourth quarter and 260 basis points higher than a year ago. We continue to estimate that our CET1 capital need is around 11%. Recall that in January, our board of directors authorized a repurchase plan of up to 7.5 billion of the company's common stock. In the first quarter, we repurchased 490 million of common stock at an average price of approximately $114 per share. Based on the Fed's extension of the trailing four-quarter average earnings rule, our share repurchase capacity will be limited to approximately 1.7 billion in the second quarter. The timing and amount of all future stock repurchase activity will be a function of any regulatory restrictions, stock trading volumes, and our holistic view of our capital position. With that, I will turn the call over to Rich. Rich?

Thanks, Andrew, and it's great to have you as our CFO. I'll begin on slide 10 with our credit card business. Year over year, credit card loan balances and revenue declined in the first quarter, driven by the continuing impacts of the pandemic. Purchase volume rebounded compared to the first quarter of 2020. And the biggest driver of quarterly results was the provision for credit losses, which improved significantly. Credit card segment results are largely a function of our domestic card results and trends, which we show on slide 11. For the third consecutive quarter, the story of our domestic card business continues to be two sides of the same coin. Historically high payment rates, amplified by the effects of government stimulus, continue to put pressure on loan balances. And on the flip side, the same factors are driving exceptional credit performance. Looking first at growth, we continued to see purchase volume rebound from the sharp declines early in the pandemic. Domestic card purchase volume for the first quarter was up 8.4% year over year, with growth accelerating in March. Compared to the first quarter of 2019, purchase volume is up 17%. Most spend categories are now exceeding the pre-pandemic levels we saw in 2019. T&E spend is still lagging pre-pandemic levels, but it's catching up. T&E purchase volume is growing faster than overall purchase volume. But payment rate, which has risen to a historically high level, continues to put pressure on loan balances, even with the pickup in consumer spending. At the end of the first quarter, domestic card ending loan balances were down $18.5 billion or about 17% year over year. Excluding the impact of a partnership portfolio moved to held for sale last year, first quarter ending loans declined about 15% year over year. The year over year percentage change in ending loan balances this quarter was approximately the same as it was last quarter. Strikingly strong credit was the biggest driver of domestic card financial results in the quarter, just as it has been for the prior two quarters. The domestic card charge-off rate for the quarter was 2.54%, a 214 basis point improvement year over year. The 30-plus delinquency rate at quarter end was 2.24%, 145 basis points better than the prior year. First quarter provision for credit losses improved by nearly $4 billion year over year. We had a large allowance release in the first quarter this year versus a large allowance build in the first quarter last year. Strong credit and purchase volume growth were also key drivers of domestic card revenue margins which was up 229 basis points year over year to 17.2%. Total company marketing was up modestly compared to the first quarter of 2020. Our choices in card marketing are the biggest driver of total company marketing trends. In the midst of the pandemic, we're finding opportunities to continue to build the business and we continue to lean into marketing. Pulling up, our domestic card business is delivering significant value and building momentum. Slide 12 summarizes first quarter results for our consumer banking business. Auto growth, continued strength in retail deposits, and exceptional auto credit are the main themes in the first quarter consumer banking results. Driven by auto, First quarter ending loans increased 10% year-over-year in the consumer banking business. Average loans grew 9%. Auto originations were up 16% year-over-year and up 20% from the linked quarter. We've seen competitive intensity increase through the second half of 2020 and in the first quarter of 2021. And with most competitors holding excess deposits, we expect that competitive intensity will continue to increase going forward. First quarter ending deposits in the consumer bank were up $36.4 billion or 17% year over year. Average deposits were up 16%. On a linked quarter basis, ending deposits were up 2% and average deposits were flat. Elevated consumer savings rates, fueled by continuing government stimulus, are driving year-over-year deposit growth. First quarter consumer banking revenue increased 22% from the prior year quarter, driven by growth in auto loans and retail deposits. First quarter provision for credit losses improved by $986 million year over year, driven by an allowance release and lower charge-offs in our auto business. Credit results in our auto business are strikingly strong and continue to benefit from historically high auction values and government stimulus. Year over year, the first quarter charge-off rate improved 104 basis points to 0.47%, and the delinquency rate improved 217 basis points to 3.12%. A sharp uptick in used car values coupled with a stimulus-driven surge in customer payments resulted in a negative net charge-off rate in March. We expect the auto charge-off rate to increase from its unusually low level as auction prices normalize and stimulus impacts play out. The consumer banking business continues to deliver resilient growth in auto loans and retail deposits. Moving to slide 13, I'll discuss our commercial banking business. First quarter ending loan balances were down 9% year over year. Average loans were down 3%. In C&I, we've seen a reduction in commercial line utilization, which peaked early in the pandemic as customers facing elevated uncertainty drew down their lines. That behavior has since diminished. In our commercial real estate business, originations were down and paydowns increased compared to the first quarter of 2020. Quarterly average deposits increased 24% from the first quarter of 2020 and 4% from the length quarter as middle market and government customers continued to hold elevated levels of liquidity. First quarter revenue was up 4% from the prior year quarter. Higher loan and deposit spreads and growth in average deposits were partially offset by lower average loan balances. Provision for credit losses improved significantly compared to the first quarter of 2020, driven by a swing from an allowance build to an allowance release. and lower net charge-offs. For the first quarter, the commercial banking annualized charge-off rate was nine basis points. The criticized performing loan rate was 9.2%, and the criticized non-performing loan rate was 0.9%. Our commercial banking business is delivering solid performance as we continue to navigate the pandemic and build our commercial capabilities. I'll close tonight with some thoughts on our results and our strategic positioning. Three key themes are evident in our first quarter results. High payment rates continue to put near-term pressure on loan balances and revenue growth, particularly in our domestic card business. On the flip side, strikingly strong credit drove a third consecutive quarter of record earnings per share. And our investments to transform our technology and transform how we work are paying off. Our modern technology is powering our response to the pandemic and putting us in a strong position for opportunities that emerge as sweeping digital change transforms banking. Pulling way up, we continue to focus on the things that create enduring value when delivered and sustained over the long term. Continuing to transform our technology from the ground up. Capitalizing on our transformation to drive innovation and growth. Generating positive operating leverage and improving efficiency over time. and managing capital efficiently and effectively, including significant planned capital distribution. And now we'll be happy to answer your questions. Jeff?

Thank you, Rich. We'll now start the Q&A session. As a courtesy to other investors and analysts who may wish to ask a question, please limit yourself to one question plus a single follow-up. And if you have follow-up questions after the Q&A session, the investor relations team will be available after the call. Keith, please start the Q&A.

Thank you. Ladies and gentlemen, if you would like to ask a question, please signal by pressing star 1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow everyone to allow your signal to reach our equipment. Again, star 1 for questions. We'll pause a moment to allow everyone an opportunity to signal for questions. We'll take our first question from John Bakari with Evercore ISI. Please go ahead.

Good evening. I wanted to see if you could talk a little bit about the loan growth outlook, perhaps maybe a timing of the inflection just given as stimulus benefits ultimately abate and payment rates peak. And I want to see similarly when you would expect to see that peaking of payment rates or at least an inflection there. Thanks.

thanks John good evening you know the growth story is you know I'm sure you're mostly focused on card with that question so let me let me turn there you know it is really striking that of all the asset classes one really stands sort of unique in the industry as the one asset class that shrank in since the start of the pandemic. And that's credit cards. And of course, that's because it is a discretionary spending and borrowing product. In the current environment, the biggest drivers of card growth are spend and payment behavior. And of course, the traction that we're getting in the marketplace.

You know,

Let's just talk about spend for a minute, which is recovering. In the first quarter, you saw the domestic card purchase volume was up at 8.4% year over year, and we're seeing just about every spend category rebounding. And even, by the way, on T&E, while it's down, it's certainly accelerating. Let's just give you a few stats here. T&E spending... at the beginning of the pandemic was down more than 80%. And by December, it was down about 50%. And in March, it was down about 25%. So from a growth point of view, both the growth of purchase volume and loan growth, you know, there's some strength, you know, that we see on the spending side. You know, turning to payment rates, which are, of course, historically high, the government stimulus, how big a driver is that of what's going on in payment rates? Obviously, consumers have been very conservative as well, but it's certainly really amplifying the payment rates. And I think While not a perfect proxy for our overall domestic card results, you can get an idea of what's happening with payment rates in our publicly disclosed trust results. For example, in March, the payment rate in our master trust was just under 46%. You know, that's an all-time high for Capital One and up more than 12 percentage points year over year. Now remember that the payment rate represents the percent of the prior month ending balance that was paid off. So a 46% payment rate means that nearly half of our beginning balances in the trust were paid off in March, which is just remarkable. You know, said another way, all else equal, each percentage point increase in payment rate is a percentage point in year-over-year growth. Now, you know, we need to always remember, and this is a really important point, the flip side of high payment rates is strikingly strong credit performance, which drives, you know, strong profitability and capital generation. Now, the other big driver of growth is what happens with originations and line increases. And as the pandemic has played out, we're seeing some attractive origination opportunities. And these opportunities are enhanced by our technology investments. And so we are continuing to lean into marketing. That's origination. We are also gradually increasing credit lines as well. So pulling way up, you know, we are certainly very pleased with our opportunity to continue to grow our customer franchise. The net growth of outstandings will, of course, be affected by payment rates. So here is, you know, we're not... Now to your question, John, we're not predicting... the timing of an inflection point. I think we have certainly learned that high payment rates while they slow down growth are just a really good guy for not only the earnings power of the company, but just the performance quality of the consumer. We encourage our customers to pay down whenever they can. We find every opportunity actually to encourage them and remind them to pay down So I think there's certainly a good thing going on. What we're focused on from a growth point of view is what we can do to drive the underlying franchise. And we like our opportunities there. And so we're not predicting exact timing of inflection points and things like that. What I would leave you with is, We like our opportunity on growing the underlying franchise. And, you know, we'll see how payment rates play out in terms of driving sort of the final kind of standings growth number. But to us, an underlying, you know, growth of the franchise and the really strong dynamics that are going on with on the payment side of the business is It's just a healthy place to be, and we feel really good about that.

Thanks, Rich, for all the detail. That's helpful. Just one quick follow-up on the marketing side, and they indicated that you're still continuing to lean in there. The low single-digit growth year-over-year marketing expense was better than we had expected. Could you just possibly give us a way to think about how much of a lean-in that you're looking at here incrementally as we look at the remainder of the year? Thank you.

Thank you, John. From a marketing point of view, this first and foremost is going to be powered by what we see on the opportunity to grow originations. Marketing and originations are really something that's very linked. Of course, Outstanding's growth is is not as closely linked in time or as directly. But so we see good opportunities to grow account originations. And we're investing in marketing consistent with those opportunities. You know, in CARD, we're certainly, in all our businesses, we're leaning in where we see signs of strength. We also are continuing and sort of increasingly so to, you know, tell our story in terms of the customer experience we're building, some of the benefits of the technology we're building, and that's part of our story. That gets reflected in the marketing, and, you know, that's something that powers the growth as well. And then we're continuing to invest in our brand and our national banking strategy. So, you know, that's why kind of pulling way up with the collective set of opportunities we're seeing, we're continuing to lean in to the market.

Great. Thank you. Next question, please.

We'll take our next question from Ryan Nash with Goldman Sachs. Please go ahead.

Hey, good evening, guys. Maybe to ask about capital. So, you know, if I look at the 11% target, you have over 10.5 billion of excess. You've got 3.5 billion of reserves above day one. And, you know, if I look at expectations, I think the market's looking for almost $10 billion of earnings the next few quarters or so. I wanted to get a sense for how we should think about capital allocation, timing of the execution of the $7.5 billion you previously announced, and could we see either upsizing of the current program into the next year, or how do we think about the ability to sustain capital returns at these levels? Thanks.

Sure. I'll take that. Andrew, you know, The first thing I would highlight is, as you know, we are still under the capital preservation rules from the Fed. So in the second quarter, as I mentioned in my prepared remarks, our purchase capacity is going to be limited to just under $1.7 billion, and we will also be limited to our prior dividend. And so we recognize that capital distribution is an important component of our returns and our current position and at least the prospects of earnings from here. So how quickly we complete that $7.5 billion that the board has already authorized is going to tie back to any unforeseen return additional regulatory restrictions, but also trading volumes in our stock, and then just taking a step back and looking holistically at our capital position. But what I can say is we're excited at the prospect of moving under the SEB framework in the third quarter, so we'll have more flexibility in our choices looking ahead.

We'll take our next question from Sanjay Sakrani with KCW. Please go ahead.

Thanks. Rich, you mentioned the strikingly strong credit backdrop. I'm just curious, you know, using your analogy of sort of burrowing through the mountain, sort of do you think we'd get through to the other side with this round of stimulus? And maybe I'll just ask my follow-up now. Andrew, maybe you could just give us some sense of how the NIMH projects for the rest of the year, understanding those different puts and takes. Maybe you could just walk us through your sort of baseline assumption. Thank you.

Yeah, Sanjay. So, you know, I think the main factor, particularly in the near term with NIM, is going to depend on the, you know, how the pandemic impacts our balance sheet, most notably what you've seen over the last few quarters in terms of, you know, asset mix and Deposit balances and our cash position, I think those are the things that are mostly going to have the impact for the next few quarters. I think over the longer term, I'd expect our cash position and the size of the investment portfolio to come back down to more normal levels, I'll call it. and be a tailwind to NIM all else equal. But again, important to know that the uncertainty of what we're seeing in deposit volumes and the impact of payment rates, as Rich said, on loan growth, those are all factors that are going to create some variability and uncertainty in NIM in the near term.

Sanjay, with respect to your credit question and the burrowing through the mountain metaphor, let me just kind of pull up and give thoughts about what's going on with credit. The U.S. consumer continues to demonstrate striking resilience. Consumers went into this downturn with like twice the savings rate that they had before the Great Recession. Lower payment obligations and none of the structural issues they faced a decade ago with the housing sector. And because everything sort of went into vertical a drop at once as the pandemic began, they certainly reacted strongly and rationally. And you know, launched this trilogy of behaviors of spending less, saving more and paying down debt. And then of course, a year into the pandemic, you know, direct government support to consumers, you know, including enhanced unemployment benefits remains in place. And in fact, last month in March, was the single largest month of direct government payments to consumers in dollar terms since the pandemic began. And the consumer savings rate was 17% in the first two months of 2021, more than double what we saw before the pandemic and something like five times what it was in the years before the Great Recession. And then we also have the forbearance factor. Although forbearance is winding down in card and auto, it is still relatively widespread for student loans and mortgages. And as we've said before, the benefits of some of these effects, like higher savings, are probably cumulative to some extent. improving consumer balance sheets in ways that could lead to some sustained credit benefits. And now to the metaphor that I know I use all the time. Every month that the consumer remains healthy, we're burrowing a longer tunnel underneath the mountain of still high unemployment, and we're reducing the cumulative losses through this downturn rather than just delaying the impacts. Now, we should all keep in mind a few things here. There remains a great deal of uncertainty. As you know, COVID cases remain elevated. New variants continue to emerge. And while the US has been moving in a pretty good direction, of course, a lot of the world is moving in the other direction with respect to COVID. The economy, while improving, still has a lot of strain elements in it. And so that we still look at this just extraordinary kind of paradox of the separation of some of what happened to the economy and what happened to consumer credit. But we should all keep in mind, you know, the uncertainty that still remains out there. And then there's one other point that I'd just like to, you know, put on the table here. In the spirit of pattern recognition, I do want to flag that this period of unusually strong credit could lay the groundwork for credit worsening down the road. as an industry point. And let me elaborate on that just for a moment here. Reliance on consumer credit characteristics that may be more temporary, driven by things like stimulus and forbearance, can be a real challenge for credit modeling. the benign rearview mirror could encourage lenders to reach for growth and to loosen underwriting standards, which, as you know, can invite adverse selection. And then overlay on top of that the excess liquidity and capital that's out there, and that could push lenders to stretch for less resilient business. So what we have here is a pretty benign period where we are right now. We're also watching the physics of how markets, not only economic markets, but how credit markets work. And so what we're doing at Capital One is leaning into the opportunities that we have, but by having a view of how the physics of some of these things work we're very much watching out for that in all the choices that we make. And it's again, another reason why we're focusing as always on making sure that we book resilient business. So pulling way up, we're not ready to, you know, predict that the tunnel comes out, you know, just all the way across the mountain. And we are talking about, you know, some, topography that can exist out there longer run as a consequence of some of the physics of how the current situation lasts. But those are some thoughts on the credit environment, Sanjay. Next question, please.

We'll take our next question from Don Fandetti with Wells Fargo. Please go ahead.

Rich, can you talk a little bit about what you're seeing on used car values in April? We've heard from some competitors that cars are barely on the lot for a day. And then what is your strategy on loan growth? Because competition obviously is picking up across the board, yet the returns are still very attractive. How are you thinking about that business?

So, Don, the used car prices are pretty electrifying here. Auction prices ended the quarter at all-time highs, driven by strong demand and persistent constraints on new vehicle supply. And over time, we still expect auction prices to normalize as these vehicle supply constraints work themselves out. But the time horizon for normalization has expanded given the strong recovery of demand and the continuing stress on global supply chains. So for example, microprocessor shortages have held back new vehicle production for some time. The first quarter saw disruptions due to winter weather events and You know, that impacted petrochemical supplies used for parts. And then most recently, rubber shortages have manifested themselves. So, you know, the supply shortage, there are signs of it everywhere. And, you know, for example, we see rental car companies are normally a source of used vehicle supply, but they have very lean fleets at the moment. with little excess to sell. So we still expect auction prices to normalize over time. And a very important thing is in our underwriting, we make conservative assumptions with faster normalization. Now, with that very unusual context there, and again, my view is that you know, we cannot underwrite under an assumption that we're going to get the benefit of those things. It's certainly something we're enjoying on our portfolio. But as we always do, and particularly at this point, you know, we need to look past that in our underwriting. And that's certainly what we're doing. With respect to growth, you know, industry retail auto sales, were strong in the first quarter, and especially in March. And, you know, in addition to tax refund seasonality, you know, I'm sure payments, you know, stimulus payments likely really helped strong sales, both in the new and the used vehicle segments. So at Capital One, over the course of the pandemic, we actually have, you know, we tightened up in certain segments, especially early on, but we are still probably net tighter than we were at the outset. We're watching things closely, but we have benefited by the tide rising for everyone in the industry. Certainly, it's been a very exceptional time, but also On top of that, our investments in industry-leading technology products have allowed us to maintain very strong relationships with dealers during these uncertain times and generate the ability to have less in-person face-to-face interaction during the pandemic has also really helped lift the digital products and the digital capabilities that we have both for customers and for dealers. So, you know, we have found on top of the rising tide, maybe a little bit of extra boost at Capital One, But I've also said that even more so than the card business, the auto business is hypersensitive to sort of the level of competition. And that's because a dealer sits there and holds an auction in ways that doesn't happen in a direct-to-consumer business like card. So it's not lost on us that You know, the tide rising everywhere in auto has caused quite a buoyancy in the auto business. So what we're going to do is, you know, continue to lean into the opportunities at that moment. But again, to use my physics term again, really keep a watchful eye on the physics of how the markets work and be looking for some of those things that can come on the side of excessive competition, as well as over time, a breaking of the extraordinary things going on, a normalization of the used car prices. Next question, please.

We'll take our next question from Rick Shane, JP Morgan. Please go ahead.

Hey, guys. Thanks for taking my questions this afternoon. When we look at the non-interest income, particularly in the domestic card business, it seems to be decoupling and outperforming the increase in spend. I'm curious how much of that is being driven by some sort of release of suppressed fees or how we should be thinking about the catalyst for that.

Hey, Rick, it's Andrew. The suppression is actually flowing through net interest income, so that's not driving it. I think the biggest driver, if you're looking at it on a margin basis, is we're seeing spend volume and interchange spend growing at a faster rate than loans. So that's providing a little bit of a tailwind to non-interests. income as it relates to overall revenue margin in CARD.

Okay, great. I think that helps, but if we look at the year-over-year increase in spend and we look at the year-over-year increase in non-interest income, there's still a pretty significant gap. One of the things that's always a little bit hard to figure out with Capital One is is where some of the rewards run through. Is it a function potentially of lower reward rates given what's going on in the market, or is there something else as well?

I don't think there's a big story there with respect to rewards or interchange, Rick.

Okay. I will follow up offline. Thank you, guys. Thank you.

We'll take our next question from Moshi Ornbuck with Credit Suisse. Please go ahead.

Great, thanks. Rich, I was hoping to go back to the competitive dynamic and maybe a little less from a credit standpoint, but you guys have taken some actions recently with respect to your T&E products. Just talk a little bit about the rewards environment at your high-end consumers and then maybe some you know, the things that you did discuss with respect to kind of concerns about the competitive environment and what it kind of, how it informs, you know, your credit line increase side of the business.

Okay, Moshe. Great questions there. Let's kind of pull up and talk about card competition. You know, competition is can show up in a variety of ways, including the marketing intensity, the product offers, including there the upfront bonuses, enhanced rewards, pricing, and other things. Competitive intensity is back to its high levels, particularly as you point to, Moshe, in the reward space. At the higher end, the heavy spender end. So, you know, let's talk about marketing. Marketing and media spend obviously dropped dramatically in the second quarter, and since then, activity has steadily increased. We get our data on a bit of a lag basis, but, you know, I feel it's very likely that marketing levels are now at or above pre-pandemic levels. The rewards offerings remain intense. And let's talk about some of the elements of that. Upfront bonuses have actually been relatively stable with some modest increases, mainly in the travel space and, you know, likely in anticipation of returning demand. You know, as for rewards, you know, earned on spend, we've seen additional categories like groceries and restaurants qualify for enhanced rewards over the past year. And while these shifts have slowed down, reward levels overall remain high. And, you know, we've even seen a couple of, a few competitors talk about still planning to be tinkering with their, their rewards here. So I think it's a very natural thing that's happened with, you know, spending haven't been way down. And also some of the things Moshe that are naturally rewarded are not the activities people tend to be doing that much of right now. There's been somewhat of a mixed change and I think a forward lean by the industry on this. So, I think it's, you know, the thing that I've said so often about the card business, you know, these days, I think it's very competitive industry, but there's a rationality to it that I'm pretty struck by and one that I would not use some of those terms to describe some of the other markets that we're in. So what are we doing? We are continuing to you know, look at our opportunities, lean into where we have opportunities. Uh, I think we feel, you know, good with the, the general structure, the rewards products we have, but we do know that competition is high and it's probably going to be increasing. Uh, we ourselves are going to lean into, to, to marketing. And, uh, but, um, you know, I, I don't necessarily see some, um, you know, um, sort of dramatic changes in the structure of offers out there to change to us the attractiveness of this. Part of the thing is most of us operate on a relatively thin net margin because while interchange rates are high, we are passing most of the interchange rates on to consumers in the form of really attractive deals. So pulling way up, we continue to like our opportunities. We have a lot of years of experience with the high level of intensity, and I think we should probably prepare for that.

And then on the other side of the equation, the credit line increases?

Yeah. Sorry, Moshe. Yeah. So, you know, as you know – Gosh, think about the number of years we talked about, even before the pandemic, probably for 18 months, maybe, Moshe. We were talking about kind of, you know, pulling back on lines when the recovery was so long in the tooth, and we saw some of the things going on in the marketplace. So we, we took a pretty conservative policy with lines and then during the pandemic, we took a particularly conservative, uh, you know, strategy with lines. And so, you know, that, that, that contains some potential energy as we've always talked about, it turns into kinetic energy when of course, you know, we grant the line increases and, um, you know, there's, there's more opportunity for people to spend. And the opening of lines has been something we've been doing over the last number of months. It's been kind of invisible to the outside world in terms of growth because it's getting washed over by the extraordinary payment rates. But we continue to see an opportunity to open up some of the lines gradually, and Moshe, I think that represents an extra part of growth opportunity. We're not doing anything really dramatic, but it's just part of the gradual leaning into the opportunity with what we're seeing with the performance of our customers.

Next question, please.

We'll take our next question from Bill Kirkacchi with Wolf Research. Please go ahead.

Thank you. Good evening. I'll ask my questions up front on efficiency. Rich, can you give us an update on how you're thinking about the strategic significance of your physical branch footprint? Is there any room for further branch optimization, either to fund further investments in the digitization of the business or simply extract greater efficiencies? And then also, if you could give us an update on the cloud migration, that would be great.

Okay, Bill, so let me start with the branches. You know, as you know, Capital One has, you know, over the years sort of leaned into the closing of branches in conjunction with our building of our more national banking business and also all the digital investments we were making because we spent so much energy on creating an experience that doesn't need to have a branch on every corner. And, you know, we've been, you know, pleased with our strategy so far, but, you know, there's, you know, we don't, I think that there's more of a continuation of where we are. I think we're continuing to lean into the same strategy we've had for quite a period of time there. So I wouldn't look at our network and say, wow, there's a huge kind of potential to unleash there. We've just been gradually making our choices and continuing to develop our digital watching customer behavior, and then just continue down the same path. With respect to our cloud strategy, as you know, we completely exited data centers last year. So we are 100% in the cloud, and we are – you know, enjoying the benefits of being in the public cloud, you know, the, the hassle free access to infrastructure, um, the ability to ride the incredible wave of innovation that's happening on the cloud, both from the cloud providers, as well as from the rest of the world, software companies that are building on the cloud. Um, we, um, So, you know, this is something we've been, you know, many years in the making. And we, you know, we're happy to be all in on the cloud. But it doesn't mean our journey is done on the cloud. We find as we get there, there's, you know, there's, you know, the opportunity to build, you know, many more capabilities, the opportunity to really enhance resilience operating resilience, failover capabilities, efficiency, the ability to over time move. Basically, one of the real benefits of the cloud is the ability to abstract the developers from being burdened with the details of the infrastructure that they're operating on. And over, you know, the cloud itself is an abstractor of, um, of that, uh, the infrastructure, um, work for a developer, but within, if you just look at what's happening to cloud, the, the continuing migration sort of, uh, abstracting up the tech stack. Um, and you know, where cloud has gone with containers. And now where it's going with serverless just continues to liberate developers so that they can focus on doing what they came to do, which is to create great things and ship products. Now, all of that doesn't happen automatically. Companies have to continue to stay on the forefront. So Capital One is continuing to invest in the serverless side of the business, for example, as we continue to move the level of abstraction up the tech stack and create more opportunity for the software to be developed faster, more effectively, and safer.

Next question, please.

We'll take our next question from Betsy Gracek with Morgan Stanley. Please go ahead.

Hi, good afternoon.

Hey, Betsy.

I had a couple questions. One, just, Rich, in thinking about, you know, the marketing investment spend and also the opportunity to, you know, pick up some new customers, I just wanted to understand the kind of timeframe that you think you'll be getting that return on investment relative to, you know, maybe pre-COVID. And I'm wondering if it might be a longer timeframe to get that return on investment given the stimulus that's in people's pockets right now? Or could it be the same because, you know, the target market you're going after is not a stimulus receiver? Just trying to think a lot about how that's going to happen.

Well, the first thing to think about marketing always is that marketing is you know, while it can influence balance levels, marketing is really about growth of a franchise, you know, growth of accounts and, you know, building brand and those kinds of things. So I think a way to think about the pandemic is that it took a company like Capital One in our card business and just set us back like 15% behind the starting line. And that's a pretty jarring thing to happen in our flagship business and our very successful and profitable business. But this whole payment phenomenon essentially did that. Now, in that context, as we start farther behind the starting line, as we look at the opportunity to grow accounts, the opportunity to build the franchise, the opportunity to get out there with some of our really great, uh, digital products and, and, and things like this, the ability to, uh, you know, and, and of course on the banking side, the ability to grow the national bank, uh, that is still very, um, you know, that opportunity is still very much there and, um, you know, isn't really, um, It isn't really that changed by the pandemic. Now, on the outstanding side, you know, you first of all have the pay down story. So that definitely is, you know, pushing us and others, you know, farther back, all other things being equal. There's sort of the issue for how much credit demand there is that we'll see from folks today. We certainly have the spend weakness on the travel side of the business as well. So I think that we feel the effectiveness of our marketing in building the franchise is very much like it was before. The outstanding metrics of the company started farther behind and they have headwinds to them. But Since we've always talked about if payment rates stay high, we're going to have to live with all the great credit performance that we have and the earnings and the ability to distribute capital. So the benefits come in a different way. But we are very focused on continuing to build the franchise, and I think Capital One is in a similar position to do that, um as we were pre-pandemic in many ways maybe even a little bit better position because we're farther along on our tech transformation we'll take our final question this evening from john hecht with jeffries please go ahead uh afternoon thanks for uh fitting me in here um

We've talked about competition quite a bit on this call, but maybe an extension of that, I guess, how does the calculus of competition change with all these neobanks and the other kind of digital product platforms competing for first-time customers? Does it change anything with respect to the opportunity set?

John, let's talk about that from a couple of perspectives first. First of all, as I often say, Capital One was one of the original fintechs before anybody used that word. So I think fintechs are particularly near and dear to my heart, and I watch with tremendous interest at the growth of fintechs, some of the really clever innovation they're coming up with, We should all know, of course, that all of these fintechs are born in the cloud. They're starting with modern technology. And that already gives them a bunch of advantages relative to a lot of banks. I think, you know, Capital One being, you know, in the cloud, I think it's in a, you know, a sort of much better position competitively relative to that. But we What we should all savor about the Pentax is the modern tech platform they have, and I think those advantages are larger nowadays than they were in the past because the difference between being built on a modern tech stack versus not is just a greater advantage and something that's motivated us to do a very big tech transformation, as you know. So the – and the FinTech's journey is not just sort of use some clever technology. They're also very much positioning themselves to take advantage of some of the opportunities to gather more data, different data than is typically gathered, and to leverage it in real time. So there's some bunch of impressive things there. When we – When we look at the fintechs, we are both generally impressed. We think that they do represent threats to the business, but to us, I think they are very much also just good examples of the kind of innovation that's possible and the kind of innovation that companies like Capital One who are in the cloud on a modern tech stack, the kind of things that we can do as well. So, you know, we look at it from that perspective and we fire it. We're worrying and inspiring at the same time. Then you have the lending side of business. I want to make a special comment about lending. You know, a half an hour ago I put a caution note out there that we've got to, you know, that I worry about where in the marketplace lending goes from here with people building models that are looking at a recession that was very, very unusual with sort of spectacular credit. I worry particularly about fintechs who are not that experienced in some of the credit choices they can do and the impact on our marketplace. So I think the fintechs, and you can see in the commentary by banks, I think banks are becoming a lot more sort of realizing the scale, the growth, the collective size of, the growth rate, and the innovation that the fintechs are bringing. And, you know, they're going to be a force to reckon with. And, you know, to us, they're a continued impetus that we've got to lean forward. We've got to continue on our tech transformation, and we need to lead the way ourselves with innovation.

I appreciate that. Thank you.

Well, thanks, everyone, for joining us on the conference call this evening, and thanks for your interest in Capital One. And as a reminder, the investor relations team will be here this evening to answer any further questions you might have. Have a great night, everybody.

Ladies and gentlemen, this concludes today's conference. We appreciate your participation. You may now disconnect.