M&T Bank Corporation

Good morning. My name is Samantha, and I will be your conference operator today. At this time, I would like to welcome everyone to the M&T Bank Q2 2019 earnings call. All lines have been placed on mute to prevent any background noise. and marks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I would now like to turn the call over to Don McLeod, Director of Investor Relations. Please go ahead.

Thank you, Smith, and good morning, everyone. I'd like to thank you all for participating in M&E's second quarter 2019 earnings conference call, both by telephone and through the webcast. If you have not read today's earnings release we issued this morning, you may access it along with the financial tables and schedules from our website, www.mtb.com, and by clicking on the Investor Relations link and then on the Events and Presentations link. Also, before we start, I'd like to mention that comments made during this call might contain forward-looking statements relating to the banking industry and the Energy Bank Corporation. Energy encourages participants to refer to our SEC files including those found on Form 8-K, 10-K, and 10-Q for complete distraction or forward-looking statements. Now I'd like to introduce our Chief Financial Officer, Derek Hayes.

Thanks, Don, and good morning, everyone. As noted in this morning's press release, MSU's results for the second quarter include a continuation of several favorable trends. Loan growth continues to be in line with our expectations for low single-digit aggregate growth in 2019. We saw healthy growth in fees, particularly mortgage banking and trust income, compared with both prior quarter and the year-ago quarter. Credit quality remains solid, with net starts up just over half of our long-term average, notwithstanding an increase from the unusual low level we saw in the first quarter. We continue to return excess capital beyond what is needed to support growth of the balance sheet, including $402 million of commissary purchases, and $135 million of common stock dividends. During the quarter, we successfully completed the onboarding of $13 billion of owned mortgage servicing, as well as $17 billion of subservicing. These portfolios added to mortgage fee revenue, non-interest expenses, servicing-related purchases of mortgage loans, and non-maturity interest rating deposits. At the same time, news research environments have become more volatile than at any point in recent numbers, impacting the power outlook for net interest margins and spread revenues, which we will discuss in more detail in a few moments. Now let's take a look at the specific numbers. Diluted GAAP earnings for common share were $3.34 for the second quarter of 2019, compared to $3.35 in the first quarter of 2019, and $3.26 in the second quarter of 2018. Net income for the quarter was $473 million compared to $483 million in the length quarter and $493 million in the year-over-quarter. On a gap basis, MEC's second quarter results produced an annualized rate of return on average assets of 1.60% and an annualized return on average common equities of 12.68% This compares with rates of 1.58% and 13.14% respectively in the previous quarter. Including GAAP results in the recent quarter were the after-tax expenses from the amortization of an annual asset amounting to $4 million, or 3 cents per common share, little change from the prior quarter. Consistent with our long-term practice, MSP provides supplemental reporting of its results on a net operating of 20 cases so we have only ever excluded the asset tax effect of amortization of an intangible asset, as well as any gains or expenses associated with mergers and acquisitions that may occur. M&T's net operating income for the second quarter, which includes intangible amortization, was $477 million, compared with $486 million in the late quarter and $498 million in last year's second quarter. Diluted net operating earnings for common share were $3.37 for the recent quarter compared to $3.38 in 2019's first quarter and $3.29 in the second quarter of 2018. Net operating income yielded annualized rates of return on average tangible assets and average tangible common shareholder's equity of 1.68% and deep 10.83% in the recent quarter. The comparable returns were 1.76% and 19.56% in the first quarter of 2019. In accordance with the SEC's guidelines, this morning's press release contains a tabular reconciliation of GAAP and non-GAAP results, including tangible assets and equities. Both gaps in net operating earnings for the first and second quarters of 2019 were impacted by certain noteworthy items. Our results for the first quarter of 2019 included a $37 million tax distribution from Bayview Lending Group reflected in other revenues from operations. This amounted to $28 million after-tax effect, or 20 cents for diluted common share. Also affecting results for the first quarter was in addition to our legal reserve of $15 million relating to a subsidiary's role as trustee for customers' employee stock ownership plan. This amount is a $37 million after-tax effect, or $0.27 per diluted common share. Reflected in the second quarter of 2019's results was a $48 million write-down of M&T's investment in an asset manager, which is accounted for using the equity method of accounts. That amounted to $36 million after tax effect, or 27 cents per common share. In July 2019, MSU's self-investment in the asset manager was paid for the pain in the 2011 acquisition of the Wilmington Trust Corporation. Turning to the balance sheet and the income statement, taxable equivalent net income was $1.05 billion in the second quarter of 2019, down by $9 million, or 1% on the linked quarter. This reflects a narrower net interest margin, partially offset by growth in both loans and total earning assets. The margin for the quarter was 3.91%, down 13 basis points from 4.04% in the linked quarter. Factors contributing to that decline include a higher level of cash on deposit at the Fed which accounted for an estimated three basis points of the decline in margins. The higher day count in the quarter compared to the first quarter, which accounted for one basis point of that decline. We estimate that market rates, primarily from LIBOR, moving lower in advance of an anticipated cut in short-term rates by the Federal Reserve accounted for some two basis points of the decline. has been consistent with our recent experience where LIBOR moves in advance of Fed funds, only now it is in the opposite direction. A higher cost of interest-bearing deposits account for approximately seven basis points of the decline. Slightly higher mortgage and escrow deposits in conjunction with our growth in mortgage servicing, much of which are indexed to a mix of Fed funds and LIBOR, are the primary drivers of that increase. the expected continued migration of deposits into higher-yielding categories, notably commercial deposits into interest-deflating and on-balance sheets, as well as a higher cost of time deposits, as new certificates that are issued at higher rates than returning ones were also factored. Average loans grew by 1% compared to the previous quarter. Originations remained solid, while payoffs and paydowns picked up a little compared to the first quarter, Looking at the loan size category on an average basis compared with the mid-quarter, commercial and industrial loans increased 1% compared with the mid-quarter. Commercial real estate loans also grew 1% compared with the first quarter with a slightly lower proportion of construction loans compared with permanent financing. Residential real estate loans declined by about 1% compared with the mid-quarter. The continued, comparatively steady pace of planned paydowns of mortgage loans acquired in the Hudson City transactions was partially offset by the purchase of government-guaranteed mortgage loans out of the recently acquired servicing pools. While that process will continue, it was somewhat elevated this quarter in connection with the onboarding of the mortgage servicing reacquired. We expect the aggregate portfolio to resume consumer loans were up about 2%. Growth in recreation finance loans continued to outpace declines in home equity lines and loans. Recently, loan growth was somewhat stronger in our metro region, which includes New York and Philadelphia, as well as in the Mid-Atlantic. New Jersey continues to show solid growth off a low base. compared to the first quarter. This primarily reflects the escrow deposits we referenced earlier. Deposits received at the Plano Islands office increased by $275 million. As noted last quarter, commercial customers continue to seek a higher yield on excess funds in demand accounts and often achieve that by increasing them in the short term interest-bearing deposits. Turning to non-interest income. Non-interest income totaled $512 million in the second quarter compared with $501 million in the prior quarter. Mortgage banking revenues were $107 million in the recent quarter compared with $95 million in the late quarter. Residential mortgage loans originated for sale were $727 million in the quarter up substantially from $422 million in the first quarter, reflecting the lower long-term synthesis environment as well as seasonal strength. Total residential mortgage-pending revenues, including origination and servicing activities, were $72 million in the second quarter, improved from $56 million in the prior quarter. The increase is primarily the result of the additional residential loan servicing and subservicing that we acquired, combined with higher pin-on-tail revenues. Commercial mortgage banking revenues were $35 million in the second quarter compared to $29 million in the late quarter, reflecting seasonally stronger originating activity. Trust income was $144 million in the recent quarter, improved from $133 million in the previous quarter. This quarter's results include $4 million of seasonal fees earned in assisting clients with their tax filing. The equity markets from the sell-off in the fourth quarter of 2018 also contributed to the one-quarter build. Service charges on deposit accounts were $108 million, up from $103 million in the first quarter, reflecting higher levels of activity than what is usually a seasonally slower first quarter. The recent quarter also included $9 million in security gains, representing the valuation gains on equity securities while the first quarter of 2019 included $12 million of similar valuation gains. Turn to expenses. Property expenses for the second quarter, which exclude the amortization of intangible assets, were $868 million. As previously noted, the recent quarter's results include a $48 million write-down of our investments in an asset manager acquired in the Wilmington Trust Merchant. Also included in the quarter's results was a $9 million valuation reserve on our mortgage servicing rate, reflecting the recent decline in long-term interest rates. Salaries and benefits were $456 million in the quarter, down $44 million from the season-high level in the prior quarter. The year-over-year increase reflects annual merit increases use of consultants and contractors. The efficiency ratio, which excludes intangible organizations from the numerator and securities gains or losses from the denominator, was 56% in the recent quarter, compared to 57.6% in 2019's third quarter. Those ratios reflect legal-related accrual and write-downs we noted earlier. Next, let's turn to credit. Overall, credit quality remains in line with our expectations. Annualized net charge-off as a percentage of total loans were 20 basis points for the second quarter, compared with 10 basis points in the first quarter. That reflects higher net charge-off in our commercial loan portfolio. The provision for credit losses was $55 million in the recent quarter, exceeding net charge-off by $11 million. The excess provision primarily reflects loan growth. The allowance for credit losses increased to $1.03 billion at the end of June compared to $1.02 billion at the end of the previous quarter. The ratio of the allowance total loans was unchanged at 1.15%. Non-accrual loans declined by $16 million at June 30th compared with the end of March. The ratio of non-accrual loans to total loans Loans nine days past due, on which we continue to accrue interest, excluding acquired loans that had been marked to a fair value discounted acquisition, were $349 million at the end of the recent quarter. Of those loans, $320 million, or 92%, were guaranteed by government-related entities. Current capital. compared with 10.03% at the end of the first quarter. The 19 basis point decline reflects the impact of higher loan balances, earnings retention, and capital distribution. During the second quarter, MSU re-purchased 2.5 million shares of common stock at an aggregate cost of $402 million. The 2019 capital plan, announced late last month, contemplates over the four-quarter period beginning this month. Our reference to net distributions reflects our intention to examine the current non-common equity components of our regulatory capital structure in the coming months. Now, turning to the outlook. As we noticed at the beginning of the call, yield up for M&T as well. We continue to expect growth in total loans in 2019 to be at a low single digit pace with continued runoff in residential mortgages more than offset by aggregate growth in other loan templates. The forward curve is implying reductions in short-term interest rates possibly starting as early as the end of this month and continuing over the next few quarters. Recall that following the Fed by layering on additional received fixed, face-loading interest rates slots. While our balance sheet is much less asset sensitive than it was previously, we expect lower rates to result in less growth in net interest income than we previously saw. At this point, we estimate that all else being equal and holding aside volatility and With these changes in mind, we still expect year-over-year growth in managed income for 2019. The previously announced servicing and subservicing acquisitions have increased our mortgage banking revenues above the outlook we feared on the January call. Lower long-term interest rates have led to a pickup in residential mortgage loan originations but not enough to further change that outlook beyond the impact of the servicing addition. Our outlook for the remaining C categories within 10 teams with growth in the low single digit range except for trust income, which should be in the mid single digit range, but remains vulnerable to market volatility. The breakdown of the investment in the asset manager is obviously not contemplated in our earlier expense guidance. As we noted earlier, the acquisition of on payroll IT talent reflected in salaries and benefits over the first half could be offset by lower contractor and consulting expenses over the coming quarter. Beyond that, with the revenue outlook being more subdued than we previously thought, we are examining our spending as we look forward. Our outlook for credit remains little changed. Credit costs moved from levels still well below long-term averages during the second quarter. We're watching for the size loans, which look like they'll be down this quarter from the end of March. MIT's capital allocation philosophy and policies remain consistent with our previous thoughts. To summarize, we believe that our current capital levels are higher than what is necessary to operate in a safe and sound manner given our history of solid credit underwriting and low earnings volatility. As such, our intention remains to manage our capital to a more appropriate level over time. The 2019 capital plan is lower than the plan for 2018, basically reflecting the fact that the Fed's template used year-end 2018 capital levels as a start point, which were some 36 basis points lower than year-end 2017, combined with stress test losses calculated by the Fed for the 2018 CCR exercise. As noted earlier, the 2019 plan contemplates net capital distributions of some $1.9 billion, with growth distributions potentially higher as we examine the non-common components of our regulatory capital and monitor growth in loans and regulated assets. Lastly, we'll continue to watch the Fed's rulemaking on stress testing capital levels, including stress capital buffer and the liquidity coverage ratio as we develop our capital plan beyond 2019. Of course, as you're aware, our perceptions are subject to a number of uncertainties and various assumptions regarding national and regional economic growth, changes in interest, political events, and other macroeconomic factors which may differ materially from what actually unfolds in the future.

Ladies and gentlemen, as a reminder, if you would like to ask an audio question, please press star, then the number one on your telephone keypad. Again, that is star one to ask a question. And our first question comes from the line of John Pankaj with Evercore.

Good morning. Good morning, John. Just a little bit of color around the other expense line. I know being indicated, I had originally included the $48 million. And then was the legal charge also of that $50 million, was that also in that line item?

Yes. In the first quarter, other expense included the addition to the litigation reserve. And in the second quarter, it included the write-down of the asset manager as well as there was $9 million of the mortgage servicing reserve as well.

Right, okay. So excluding that, how should we think about a good basis to go off of as we go into the second half of that line?

I guess if you look at the other expense line and you look at it over the last five quarters, excluding kind of what I would describe as the special, so the litigation addition and the write-down of the equity investments, You'll see that that line is relatively consistent around 160, 365, 170, moves up and down a little bit. And that's the place where over time we'll expect that we can decrease in the professional services related to our IT spend. And that will start to come into play over the last half of 2019 and into 2020. But it will take a little bit of time for those expenses to ramp down as we bring on new staff, train them, and deploy them on projects. There's a bit of a tail effect where it takes a while for the outside IT professionals to finish the work that they're doing. It doesn't make sense to replace them midstream. And so we're going to see some of that. And also, while we added to the litigation reserve in the first quarter, there's still some ongoing expense. line as well. So that said, if you exclude those things, look at kind of where the average has been for the last few quarters and use that as a start point and start to decline it, probably more in 2020 than in 2019. That's the way I think about it.

Okay.

All right. That's helpful.

And then also on the expense front, as we look out into 2020, And given the backdrop that you acknowledged around the RAID environment, how do you think about operating records for 2020? Is that still a high expectation that you'll be able to achieve that, or is the risk of that giving me a great backdrop?

You know, it's a great question, John. We're in the process of going through forecasts in 2020 and starting to look at where we think revenue will be and what that might mean for expense growth. It's probably a little early to handicap where 2020 looks, but obviously given a slower net interest income growth picture, That makes the positive operating leverage a little tougher to achieve. And we're obviously also not going to shortchange the investments we need to make in the business for, you know, the face of a couple quarters of positive operating leverage. You know, I don't think it will be wildly negative if it is. But we've got work to do before we comment on what 2020 will be. And we'll see you guys in October. You obviously will be doing that. Okay, got it. Thanks, guys.

The next question comes from the line of Ken Houston from Jefferies.

Hi, thanks. Hey, Darren.

Just to follow up on your comments on the rate, thanks for the commentary about what each 25 basis point means. If I'm doing the math right, I guess five to eight basis points on a 25 cut, that's what, like 50 to 80 million, depending on annually? I guess the question is, what's based into your forecast then in terms of that new expectation that NII will grow a little bit this year relative to your prior expectations? Have you built cuts into that forecast formally? And if so, how many? Thank you.

Yes, we've run our ELCO model off of the forward curve.

And so we would look at the forward curve at the end of June and use that as the basis for forecasting our NII for the rest of the year. You know, you can kind of see in where LIBOR's moved that some of that's already started to happen. So the question is how much incremental movement there is in LIBOR when an exercise actually moves. So I think a little bit of it's already kind of happened. And then we'll see where things end up. But the direct answer to your question is they stop the forward curve and run at the end of June. Okay. Understood. That is what I was getting at. Thanks. And then on the ability to control deposit costs and anticipate the mix shift, what are you seeing in terms of customers and what are you deciding in ALCO about how you're pricing deposits relative to that view of the curve? Yeah, so when we look underneath the second quarter activity on deposit pricing, there's really two things. So the one is the addition of the escrow balances that came with the servicing at the beginning. And actually, those grew through the quarter, and we actually expect them to grow into the third quarter as well. When you hold back to the size, what we saw in the second quarter was a continuation of the trends that we saw in the first where we still see some commercial excess balances moving into second and into unbalanced complete and we continue to see some consumer migration into time although that's slowed down a little bit and really the time increases in the second quarter were driven by renewals of CDs that were actually coming off at a lower rate than where rates were and still in the one to two year and greater than two year space. If we look at the increase in time deposits in the second quarter, it was less than it was in the first and looked a lot more like what it did in the fourth quarter. And so most of the reactivity in deposit pricing that happened early on was in the commercial space and in the institutional space and in the wealth space. And many of those accounts are tied to an index, and so as the index comes down, those will move down faster. On the consumer side, they'll probably be a little bit slower just because the recycling cycle never fully matures. And the way it tends to work is people move money into CDs first, and then once those rates stabilize, they can look for liquidity and then move back We'll be there for a while, and we'll take renewals for those rates to come down. I guess the big news is they shouldn't probably go up much from here either. Okay.

Our next question comes from the line of Erica with Bank of America. Hi, good morning.

Good morning, Erica.

If I could follow up on Tim's question, as we, you know, thank you for giving us some of the assumptions that you have for the phasoric basis compressive compression. I'm wondering for each 25 basis points, what is the reverse data that you're assuming specifically on the deposit side? Does it, is it naturally wider for the, you know, let's say the third cut versus the first cut?

Sure. When we disclose in the SKU our ELCO runs, they're obviously kind of basis point increments. When we do our work, we do it in 25. And what we expect to see is the continued lag effect of deposit repricing continue into the third quarter. It usually takes two or three quarters for that to slow down after the Fed stops. So even if there's increases rates at the end of July we're likely still to see a little bit of movement in the deposit rates and then as we go from there we'll start to see them come down. The rates of increase in the deposits will be kind of consistent with what I mentioned before with 10 and that's for the index deposits obviously they'll be 100% reactive and then for our Other customer deposits, movement of a fleet back into GBA will be a function of customer businesses and cash flow. I'm not sure how quickly that will change, but we'll obviously be paying attention to pricing that. And then on the consumer side, I think we'll continue to see a slowdown of the remixing, but the pressure will be as the older TVs mature and come on to the books that have played at higher rates. a little bit of repricing there. I think as it relates to the third quarter and deposit costs specifically, I'll just remind you again that we're expecting to continue to increase the natural balances and those are linked to an index either to live or to fed funds. There's a little bit of different pricing depending on which portfolio it is and so those will have an impact. in the third quarter.

Got it. And just as a follow-up, could you give us a sense of how much of your interest earned deposits are indexed and would be priced immediately? And could you please remind us of the size of your swap book and the average price, please? The total new notional since you added some swaps on in the quarter. Thank you.

Sure. And if you look at the remainder that's out there, which will show around $39 billion in this queue, is all full respect. And so that's the sense of where the slots are. And those should go out approximately two to two and a quarter years based on where we are right now. minor than your first question.

Apologies, so how much of your interest there in deposits are tied to an index and therefore would we price immediately when something goes down?

Um, it's approximately 12%. That's a total deposit, a total deposit.

Got it.

Thank you. Thank you.

Your next question comes from the line of Frank with Sandra O'Neil.

Good morning. Just wondering, Darren, just one more on the margin on the five database points. It seems like that's basing in the expectation that this drag in deposit pricing is going to continue here for a little bit. If we don't get a rate hike, or a rate cut rather, I'm just wondering what the margin would look like and your expectation of sort of margin outlook without those baked in rate cuts going forward.

Sure. So within the margin and the go forward, there's a couple things that are important to keep in mind. So when we talk about the prices, we were specific about saying holding some of the deposit categories constant that creates volatility in the market. So obviously cash balances we've talked about a lot. They were worth five pages points of expansion. The decrease in cash balances in the first quarter expanded the The other thing that's moving around right now is just the more digestible balances and as those roll on and get to what we think is a more stable balance, we'll be able to give them a little bit better And so any movement would be on top of that, excluding what's already been priced in. If you didn't have the escrow balances and you held stack balances constant and you didn't see a change in rates from the Fed, I think you'd see pretty stable margins. You know, it might be plus or minus two to three basis points, some because of the natural

Okay, and then there's been some recent reports out in the media talking about some branch reduction in the Philadelphia area, some consolidation and reinvesting into tech and I guess modernizing the remaining branches. Just kind of curious if you could talk maybe a little bit about that, but more generally just your branch strategy here more broadly.

So, you know, I'll talk specifically about Philadelphia. So, if you look at our market position in Philadelphia, we have about 1% of the product there and a fairly similar branch there. But even as things move electronic, we find that customers still value branches as a place that they can go and get advice and solve problems as well as It provides a sense of security to be there for a long period of time. And our focus in Philadelphia, by current things, isn't to ignore those things, but more to recognize that our strength there has really been in the commercial space, and in particular with small business customers. And we're aggregating or concentrating our efforts in Philadelphia in the markets where there's a concentration of small business customers and where we've had some success there. And we'll really orient the brands and the activities there to support the activities of our small business and commercial customers. Our experience has been that small business customers tend to use only one brand and that one tends to be close to their business, so we think that that's a better way for us to compete there. As we reduce the footprint, we'll take some of the savings and invest it in When you look more broadly, we have markets where we have really high share, both in terms of deposits and branches, and markets where we have a little bit less. We're going to be looking at what we do in Philadelphia and how that works in combination with the investments we're making in digital to learn from that and see how that works. Depending on how that goes, we'll adjust our strategy there. If we like it, we'll probably see it roll out into a few other geographies. And then when you look at the markets where we're a little bit more dense, I would describe our branch spots as consistent with our prior practices whereby we look at the total network each year. We look at which locations both branches and ACMs are favored by our customers. And then we make adjustments to the network each year given that information. We're always trying and access to our customers and while managing our cost structure so that we can be competitive. You know, the nice part of engaging customers, vote with their feet every day and we get to use the results of that vote to help us save the network and that's the way we've always thought about distribution and will continue to.

Got you. But it's just more thought of as a reinvestment opportunity as opposed to a cost-cutting initiative? Is that fair, or maybe both?

Yeah, I think it's really both. You know, we will clearly, over time, have to date, but for all of our colleagues in that geography, they will be placed in one of the branches that we've been building. You know, usually there's turnover in those offices, and over time, whether that is replaced or not will be a function of how busy the locations are. but we will be saving some of the options we spent. We'll reinvest a little bit of that into the existing locations and some of that we'll save.

Great, thank you.

Your next question comes from the line at Falls Martinez with UBS.

Hey, good morning. Couple questions, more clarifications. than anything. First, on the Net Interest Income Guide, I forget the exact terms you used, but you said you expect to see some growth in 2019 full year versus 2018. My next calculation is that you're basically thinking, and I think something in the neighborhood of a billion exchange in that interest income run rate for the second half of the year quarterly, is that, in my, I'll just probably say it's some reduction in the run rate, but is that more or less correct, that math?

Yeah, that's correct. It's probably, you know, based on the current forward curve, it probably comes down a little bit each quarter, but will be a little bit over a billion dollars, yeah. Okay.

And then, again, a clarification. The gray color on all the moving parts on deposit costs is why you think it could be stickier even as the Fed cuts. I guess putting all of that together, would you expect deposit costs to actually rise in the third quarter versus the second quarter?

If I'm looking at your overall cost of expense deposits, that wasn't clear. To me, at least, that's what you're basically saying. The short answer is yes, and I'll give you color on that. It's yes because of the growth in the Mordegesto balances that we anticipate. If those weren't there, we would expect a little bit of increase in our deposit costs just because of the last little bit of remixing that tends to happen for two to three quarters after the Fed stops. and we anticipate that the third quarter would be lower still, and then it would kind of be done by the time we get to the fourth quarter. You know, will it slow more quickly? You know, it's a zero in the third quarter if the Fed reduces. Part of the handicap, you know, just given some of the repricing of TV and the fact that they're rolling off at a lower rate than they will roll onto, there's probably still a little bit of course there. the two elements and I want to make sure I'm explicit about what's driving it because one of the things is kind of in the five days and the other one is kind of not. Okay. So if we were to cut, say, one July, I don't know, September, October, when would you think you would actually start to see deposit costs start to come down? Is it sort of late year for the early part of next year? And how do you think about that line difference pipeline? Yeah, that's, you know, so again, with the nuance of the escrow balance, and again, holding that to the side, you would see a modest increase in deposit costs in the third quarter, and I think you'd start to see them either flatten out or decrease in the fourth quarter, you know, just because of the fact that there are several categories that are in that, so it would give you a benefit right away. I would expect that you see a little bit in the third quarter, and by the time you get to the fourth quarter, you'll probably start to see a level outage increase. Great. Thank you very much.

Our next question comes from the line of Kevin St. Pierre with KFC Research.

Good morning. Thanks for taking my question. Just circling back to expenses in conjunction with overall strategy, Dan, both you and Renee have characterized M&T as being somewhat behind from a tech perspective and needing to catch up. Maybe you could characterize for us you know, where you think you are from that perspective along the timeline in tapping up to competitors from a mobile and digital perspective. Sure. So I think over the last 18 months, we've made some really great strides in our technical environment. Our mobile apps are continuing to get updated. on a regular basis with new feature functionality coming basically every six months if not sooner. And it's been a pretty good spot. When we look at the feature functionality that is most used by customers, we feel pretty good about what we have. I think the next focus in there is on security features and more self-service on security features. When we look at the commercial part of the bank, We've just gone into production with our loan origination system, and so we're getting that up and running and the team up to speed. We've been doing these investments in our treasury management platform, which will make things easier both for our employees and for our customers, and it should bring us a lot closer to parity with our peer groups, if not towards some of the larger players. and we're making investments in our merchant capabilities. Within the bank, we continue to invest in infrastructure. We invest in security, things like cybersecurity and how we protect the bank and our customers, as well as in data. So we're investing along all of those categories, and we continue to make progress. But I think as you know and we all know that it's a bit of a moving target too. So each time we catch up someone does something to get a little bit ahead and I think that's the nature of Renee's comments and my comments about you're never really there because the bar is always moving and you're continually investing. And we can kind of think about our tech spend as you've got to extend to keep in the game to stay competitive and to react to the things that are happening in all of our businesses, whether it's in the commercial business, the consumer business, the wealth and private banking business, or the institutional business. And that's just going to be a way of life. And because of that, that's why we're making the investments we are in the tech hub and in having IT professionals to our on-stack team. Because, you know, as technology continues to become a bigger part of banking, then I'm you want to control that resource and not have to lock out the door into someone else's operations the next day because they're an outside contractor. The outside contractor can help you get there quickly and maybe bring a skill set that you don't have in the short term. But over the long term, we accept the strategic asset that we would rather control and that's why you see us making those investments. Great. And so as we think about upward drift as I could continue to invest in people. Yes, you'll see that happen. We'll see some from the first half to the second half just because of that as well as the full effect of mortgage servicing that we brought on and the people that helped with that. The offset over time will be in that other cost of operations line that we talked about. The thing to keep in mind is just the timing of that. to add the new facility and build it out and get people there before we can consolidate other states. So we have some double counting, if you will, in that time frame. If you bring on new folks to the team and train them up, whether sometimes they're experienced professionals and they come up to speed faster or they should be recruits and take a little bit longer, you've got that overlap in time series where you get the new ones up to speed before you can reduce the expense on the other side. We don't expect that this is you know, because we'll take it in increments. We think that's also a better way to manage the change as well as the cost. But it's going to be something that will be consistent over the next several quarters. Got it. Thanks.

The next question comes from the line of Gerard Chassidy with RBC.

Hi, Gerard. Morning, Gerard. How are you? Good. Thank you. A couple of questions. As We see some of the smaller banks report numbers this quarter. The trend of these one-off credit events seem to be popping up again. Are you guys seeing, now that the margin pressure is picking up for everyone, is there any evidence yet of more aggressive loan underwriting by banks to grow their balance sheets to offset this margin pressure?

It's an interesting question. When we look at payoffs and paydowns and we talk about that, we track it by what the source of the payoffs and paydowns was. And kind of to your point, what's been interesting this year so far is other banks have been a bigger source of payoffs and paydowns for us than it has been private equity or funds or insurance. So there might be a little bit to that. I guess when we compete in the market From our perspective, we always feel like others are a looser on structure and lower on flex than we would want to be. So it's hard for me to say that there's a specific thing. But it was notable when we were going through the numbers that we did see a little bit higher proportion of other banks as a source of payoffs and paydowns in the first half of this year.

Very good. And then based on your experience, You pointed out that you guys have used the forward curves to forecast out your margins. This is not something new, of course. How accurate, in your opinion, are the forward curves in predicting where rates actually go in this kind of a new rate environment we're in when you have to forecast out 12 months? I would think they're very accurate over a very short period, 30 days or so, but how about if you go out into 6 and 12 months in your experience, are they very accurate?

I don't know, Gerard, that sounds like a loaded question to me. I think we've all seen the charts that have been put together that always show the forward curve at the moment in time against the actuals, and I guess is that the forward curves are not very good predictors of the actuals, but they're good predictors of the direction. So we obviously use that in the absence of a better way to forecast, but also that's why we use the hedges. Is that we look at where the margin is and how that compares to the long-term average and we take into account some of the deposits reactivity and just the shape of the balance sheet and that's why we use the hedging to try and take that volatility out of our earnings and you know that's what gives us the wherewithal when things get a little volatile like they did in late year to not have to be overly draconian on expenses and allows us to make sure that we can maintain the investment you know back to the

Very good. Thank you.

Your next question comes from the line of Brian Klock with Keith Brewer in Woods.

Hey, good morning, Darren. Morning, Brian. One real quick question. I know there's a lot of conversation around the expenses, trying to keep up with everything, but directionally, if you want to take that operating expense base from the second quarter, does it sound like that's going to be higher in the third and fourth quarter before you start to see, like you said, some of the double spend that you have come out in 2020? Is that the right way to think about it? Yeah, so the way that I would look at the second half is if you look at our expenses in the first half and we take out the big things, the write-down and the asset manager and the litigation reserve, that's probably a good a guide for where the second half will show up. It should be pretty similar to that. That takes into account the investments that we're making in the tech hub, the full year cost of the mortgage servicing college that we added, and some of the other expenses that we've received in the second half. Okay, great. That's helpful. And just another follow-up on the capital discussion. It does sound like when you look at the $1.9 billion net that you talked about, you know, having in the capital plan, and now yesterday the board approved up to, what, $1.645 billion in a buyback. Does that imply that you're, as you mentioned, something in the neighborhood of $300 million or $350 million of a preferred influence possible in the future? Is that what you're thinking? Yeah, that's the ballpark of where our thought process was. I think the logic there is when you look over the last several years of CCAR, year one capital has become our binding constraint as much as CEC one. And so as we contemplated the plan this year, we were looking at the mix and the races of Tier 1 to CDT1 and this is an opportunity for us to just reset the CAPA a little bit to make sure that we're in good shape going into CCAR 2020. Okay, thank you for your time. Very helpful.

There are no further questions at this time.

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This does conclude today's conference call. You may now disconnect your lines.