Bank of N.T. Butterfield & Son Limited (The)

Your program is about to begin. Good morning. My name is Nikki and I will be your conference operator today. At this time, I would like to welcome everyone to the second quarter 2023 earnings call for the Bank of NT, Butterfield and Sun Limited. At this time, all participants are in a listen-only mode. Later, you will have the opportunity to ask questions during the question and answer session. You may register to ask questions at any time by pressing the star and 1 on your touch-down phone. You may withdraw yourself from the queue by pressing star 2. Please note this call is being recorded and it will be sent in by should you need any assistance. I would now like to turn the call over to Noah Fields, Butterfield's Head of Investor Relations.

Thank you. Good morning, everyone, and thank you for joining us. Today, we will be reviewing Butterfield's second quarter 2023 financial results. On the call, I am joined by Michael Collins, Butterfield's Chairman and Chief Executive Officer, Craig Bridgewater, Group Chief Financial Officer, and Michael Scrum, President and Group Chief Risk Officer. Following their prepared remarks, we will open the call up for a question and answer session. Yesterday afternoon, we issued a press release announcing our second quarter 2023 results. The press release and financial statements, along with a slide presentation that we will refer to during our remarks on this call, are available on the investor relations section of our website at www.butterfieldgroup.com. Before I turn the call over to Michael Collins, I would like to remind everyone that today's discussions will refer to certain non-GAAP measures, which we believe are important in evaluating the company's performance. For reconciliation of these measures to U.S. GAAP, please refer to the earnings press release and slide presentations. Today's call and associated materials may also contain certain forward-looking statements which are subject to risks, uncertainties, and other factors that may cause actual results to differ materially from those contemplated by these statements. Additional information regarding these risks can be found in our SEC filings. I will now turn the call over to Michael Collins.

Thank you, Noah, and thanks to everyone joining the call today. The second quarter results continue to demonstrate the strength of Butterfield's leading bank franchise and market position as well as our conservative and well-managed balance sheet. We delivered consistent quarter-over-quarter non-interest income and expense discipline, which helped offset lower net interest income. As a reminder, Butterfield is comprised of well-established bank and private trust businesses located in premier offshore jurisdictions. We maintain leading bank market shares in Bermuda and the Cayman Islands with targeted growth in the Channel Islands. In the Bahamas, Switzerland, and Singapore, we provide private trust services in addition to our prime central London mortgage offerings available to high net worth borrowers. I will now turn to the second quarter of 2023 highlights on page four. Butterfield reported solid results with net income of $61 million and coordinate income of $57 million. We reported a core return on average tangible common equity of 26.3% for the second quarter of 2023 with core earnings per share of $1.14. The net interest margin was 2.83% in the second quarter, a decrease of five basis points, with the cost of deposits rising to 127 basis points from 110 basis points in the prior quarter. Deposit pricing increased across jurisdictions as fixed-term deposits rolled into higher rates due to rising market interest rates. Our business in the Channel Islands, which has a higher proportion of corporate banking customers, continues to be the most competitive market and the most significant contributor to the increase in the cost of deposits. Our TCE to TA ratio of 6.5% has improved to the conservative end of our targeted range of between 6% and 6.5%. As a result, we have been able to continue with the execution of our balanced capital return strategy accelerating our share buyback program in the second quarter with a repurchase of 723,000 shares in the quarter. We expect to continue repurchasing shares throughout 2023, subject to market conditions. Our liquidity position and strong capital profile also allowed us to redeem our 2018 issuance of $75 million, 5.25% supported aid debt in June, which will lower our interest expense going forward. The redemption had a one-time $900,000 interest cost impact in the quarter due to the accelerated amortization of issuance costs. I am also pleased that we completed the second closing of our planned acquisition of trust assets from Credit Suisse. To date, 374 relationships representing $21.1 billion of assets under administration have now transferred to Butterfield, significantly expanding our footprint in Asia. Work is continuing on a client due diligence for subsequent tranches, which will include additional relationships in Singapore as well as Guernsey in the Bahamas. We continue to expect to add between $8 million to $10 million in annual trust fees from the deal in 2024, with anticipated associated running costs of around $6 million per annum. I will now turn the call over to Craig for more detail on the quarter.

Thank you, Michael, and good morning, everyone. Looking now at slide six, here we provide a summary of net interest income and net interest margin. In the second quarter, we reported net interest income before provision for credit losses of $92.5 million, a decrease of 5% versus the prior quarter. The decrease was mainly due to lower average balance sheet volumes, higher deposit costs, and the accelerated amortization of issuance costs from the 2018 subordinated debt issue. During the quarter, the net interest margin decreased five basis points due to increased deposit costs and the early redemption of the sub-debt, which had a three basis point negative impact, or NIM, in the quarter. Average interest earning assets fell 4.5% to $13.1 billion due to customer deposit outflows. The yield on interest earning assets increased 12 basis points to 4.1% from 3.98% as investment portfolio runoff was invested in cash and short-term securities at the shorter end of the yield curve. The yield on Treasury assets during the quarter was 4.06% versus an investment portfolio yield of 2.07%. Average investment balances were down $105.5 million, or 1.8% compared to the prior quarter, as paydowns and maturities were deployed into cash and short-term investments. We continue to evaluate the market interest rate environment and expect to resume investment into longer-dated securities over time, subject to market conditions. Turning to slide seven, non-interest income was unchanged sequentially quarter over quarter as increased asset management, trust, and foreign exchange revenues offset lower banking and other income earnings. Non-interest income continues to be stable and a capital-efficient source of revenues with a fee income ratio of 35.5%. During the quarter, we saw the impact of the fresh tranche of clients awarded from credit suites and increased ad hoc services on trust revenue. Slide 8 provides a summary of core non-interest expenses. Total core non-interest expenses were $83.6 million and improved compared to the $84.1 million in the prior quarter. The lower expenses are primarily attributable to lower staff-related costs, partially offset by higher technology and communications expenses, related to the implementation of the new core banking system upgrade in Bermuda. Expenses were somewhat better than expected this quarter. However, we anticipate a quarterly run rate of between $85 million to $86 million over the next few quarters due to the investment in planned bank branch upgrades in Bermuda and Cayman, as well as the costs associated with the go-live of the cloud-based core banking system in Bermuda and the expected completion of a similar upgrade in Cayman during the second half of 2023. I will now turn the call over to Michael Scrum to review the balance sheet.

Thank you, Craig. Slide 9 shows that Butterfield's balance sheet remains conservatively managed with a high degree of liquidity. Period and deposit balances decreased to $12.2 billion from the prior quarter end. The decline in deposits of approximately $150 million is the result of typical crime activity and some seasonality. As the year has progressed, we now expect to see post-pandemic stabilization of total deposit levels at around $12 billion. This is broadly in line with the longer-term deposit trends prior to the pandemic and adjusted for the 2019 acquisition of ABN Amro Channel Islands. Butterfield's low risk density of 34.3% continues to reflect the regulatory capital efficiency of the balance sheet with the low risk weighted residential mortgage loan portfolio, which now represents 71% of total loan assets. Turning now to slide 10, we provide additional detail on our deposit composition by segment. Butterfield's deposits remain well diversified across jurisdictions, with Bermuda holding the largest deposit share, followed by Cayman and then the Channel Islands. We continue to offer term deposit product alternatives for clients seeking additional yield, and we are seeing consistency in the mix with core non-interest-bearing deposits remaining at approximately 23% of deposits and at $2.8 billion at quarter end. As we have discussed in the past, deposit balances can fluctuate quarter to quarter as our larger corporate and trust clients manage their commercial interests. Turning to slide 11, we provide details on loans by type, business segment, and rate type. The chart on the bottom left shows the growth of loans in Cayman and the Channel Islands compared to Bermuda, which has seen a net reduction as the portfolio amortizes. On the bottom right, we have seen a significant increase in the proportion of fixed rate loans in 2022 and the first half of 2023. The larger proportion of fixed rate loans is expected to help stabilize yield and mitigate any potential credit issues. The recent change in mix has also significantly decreased the overall asset sensitivity over the past five quarters. Turning to slide 12, we display two charts that demonstrate the conservative nature of Butterfield's balance sheet versus peers. A high degree of liquidity is a structural feature for Butterfield, as our banking entities do not have access to a central bank or a Fed window. Butterfield has significant holdings of cash and cash equivalents, interbank deposits, and short-dated sovereign securities, as well as liquidity facilities with correspondent banks. Butterfield's loan-to-deposit ratio remains low at 41% as we have conservative lending standards and only offer credit products in our home markets. On slide 13, we show that Butterfield continues to have strong asset quality with low credit risk in the investment portfolio, which is comprised of 95% AAA-rated US government-guaranteed agency securities. Credit quality in the loan book also continues to be strong with non-accrual loans standing at 1.2% of gross loans and a very small charge-off rate at two basis points. On slide 14, we present the average cash and securities balance sheet with a summary interest rate sensitivity analysis. We continue to model modest asset sensitivity to result in improved NII with higher market rates. Unrealized losses in the AFS portfolio included in OCI stood at $207.3 million as of June 30, 2023. At the current implied forward curve, we expect the OCI burndown to be $68 million or 33% of the total in the next 12 months and an expected decrease in OCI of $105 million or 51% in 24 months. Slide 15 summarizes regulatory and leverage capital levels. Butterfield's capital levels continue to be significantly above regulatory requirements. Our tangible leverage capital ratio has further improved to 6.5% from 6.3% at the end of the prior quarter. This has allowed us to gradually increase share repurchase activity this quarter in addition to our regular dividend. I will now turn the call back to Michael Collins.

Thank you, Michael. As a management team, we regularly evaluate our operations, capital levels, and efficiency. Our current outlook anticipates the Fed holding rates at an elevated level for a period and then begin to ease economic conditions to encourage growth. As a result, we will sharpen our focus on efficiency, credit risk mitigation, and expense management with a continued emphasis on conservative liquidity and capital management. We have successfully navigated interest rate cycles in the past and remain well positioned for a more moderate rate environment when that emerges. Over the past year, we have upgraded our core banking system in Bermuda and onboarded the first two tranches of the Credit Suisse Trust Client while navigating the challenges of the recent liquidity crisis. Following the official end of the global pandemic, we now look forward to continued recovery in tourism activity and we will continue to focus on delivering exceptional services and products to our customers to help them reach their financial objectives. Thank you, and with that, we'd be happy to take your questions. Operator?

Thank you, and at this time, if you would like to ask a question, please press the star and 1 on your touch-down phone. You may withdraw your question at any time by pressing star 2. Once again, to ask a question, please press the star and 1 on your touch-down phone. We'll take our first question from Eric Spector with Raymond James. Please go ahead.

Hey, good morning, everybody. This is Eric on the line for David Feaster. Appreciate you guys taking the questions. Just wanted to touch on the funding side to start off. Just looking at the period end balances versus the averages, it looked like there might have been some migration towards the end of the quarter. Just curious if you could provide some color on flows throughout the quarter, whether you're seeing non-interest-bearing balances stabilize and then how – They're trending here early in 3Q and how deposit costs are trending as well. Appreciate any color on that end. Thank you.

Yeah, good morning, Eric. It's Michael Scrum. I'll start off just on the balance side, and then Craig can talk a little bit more about the cost of deposits and how that's trending. I think we sort of – when we look at average balances, you're absolutely right. There's been some movement throughout the quarter. Mostly sort of normal commercial movement, really. We're not seeing a lot of pressure. So we're kind of thinking stabilization is mostly what we've seen towards the end of the quarter. So at this point, I think the period imbalance is probably a good reflection of where we see things kind of shaking out. Obviously, there's ongoing conversations with customers around on-off balance sheet strategies as well as laddering strategies. But I think what we've seen, market rates kind of stabilizing a little bit. So we've also seen our deposit rates kind of stabilize. And I think coming out of the pandemic and then the central banks kind of shrinking their balance sheets, we've certainly seen the impact of that in a higher rate environment as well. And we continue to balance the cost of deposits versus the flows. But so far, what we've seen is really normal commercial flows. I'll let Craig just talk about cost of deposits.

Yeah. And I guess just to kind of add to that in regards to just the mix, if you kind of look on, you know, slide 10 of our presentation, the mix of deposits between non-interest-bearing, interest-bearing demand deposits as well as term deposits is relatively stable. On a group basis, you can see it's stable. We did see a little bit of mix shift in Bermuda and Cayman. And that's just a result of customers kind of just looking to get increased yield and kind of putting some duration on those deposits. We're seeing average duration is about three months, so three and a half months is the average duration. And as a result, we will expect to see a little bit ticking up in the cost of deposits as those roll over as they mature. But overall, as Michael said, kind of we're seeing some stability. Kind of the beta cycle to date is 24%, and we're modeling somewhere around 27%, so we're going to see some more creeping up in the cost of deposits, we think, over the next couple of quarters as well.

Great. I appreciate all the color. Just wanted to touch, going off that, onto the loan growth side. You saw some continued declines this quarter. Just curious your thoughts on the lending environment and growth and how pipelines are trending and your appetite for growth going forward.

Yeah, sure. Thanks, Eric. So, I mean, the first thing is we've never really been a low growth story. We've always sort of said low single digits growth sort of in line with the economies that we lend into. We only lend in our home markets because we know the markets quite well and we tend to favor lower risk density assets, loan assets such as residential mortgages that have a better diversification and a more efficient you know, regulatory capital treatment as well. So, you know, mostly resi, and we warehouse all the loans on our balance sheet, so we get amortization coming through, obviously, the repayment cycle, but that conversely results in a pretty good LTV profile of the loan book overall, because the different ventures obviously have amortized significantly. Some of them are, you know, contractually up to 20, 25 years. And, you know, so the loan work is one that we've consciously changed from being primarily commercial about six, seven years ago to primarily resi at this point. We don't lend outside of our home market, so we only really lend into Dundon, Prime Central, into, you know, Bermuda, and Cayman, and obviously the Channel Islands. More recently, we've started a resi program there as well. So we continue to see good opportunities, I would say, particularly where we see higher growth, and that for us is at the moment in the Cayman Islands. Bermuda, as you can tell, quarter over quarter, is kind of going a little bit backwards, and London's kind of been mostly stable. But we do have some good opportunities in the pipeline in the Cayman Islands, both on the resi side, but also on the commercial side. So again, I think low single digits is probably where we normally see ourselves. It's obviously a little bit slower at the moment because of where rates are, but I think we're sort of a through cycle consistent lender into the market. And at this point, I think we'll just continue to see sort of a slightly slower than average growth, but As rates sort of get normalized a little bit more, people have more certainty about their cash flows, and then we'll probably start to see that pick up a little bit. We don't really stretch for credit in that way.

Yeah, I think we'll always be about 40% loans to deposits. That's about what's right for us.

Got it. That's helpful. And then just wanted to touch on just liquidity deployments. strategy plans, like 13% of your balance sheet is now in cash. I know you obviously want to be prudent with that, but just curious your plans for deploying excess liquidity with a normalized level of cash balance. It was good to see that the debt repayments are in the quarters. Is there any appetite for further debt paydowns? Just curious any color on that end.

Yeah, so it's Michael Skromick, and so we're running, you know, we're running the AFS and HTM down a little bit. You can see that the balances are coming in through the maturities there. It will take a little bit of time, but as a result of that, we're also getting the OCI burned down and improvement in tangible value as a result of that. I think for the last nine months, we really just put all the maturities into cash and short-term securities because there was a significant amount of uncertainty around where central banks were ultimately going to end up doing. And we didn't want to increase or exacerbate the OCI risk any more than what was already in the book. And so that's worked out quite well for us in terms of the short end. We are conscious, though, that we – We do need fixed rate assets. At the moment, we have also swapped quite a lot of our customers have actually originated quite a lot of fixed rate loans. So that's providing some duration on the balance sheet that is non-investment assets related. And so ultimately, we do need to start laddering back out. And I think we're probably at that point pretty close here in the next couple of quarters where we have now recovered you know, significant amount of TCE. We're back in a range where we need to be. And I think we're kind of reaching the, you know, slowly reaching the crest of the rate cycle. We do have a couple of pretty chunky maturities coming up here in the next couple of quarters. So I think we ultimately would want a systematic way of laddering out the balance sheet We do have a lot of cash on a balance sheet. Approximately 20% of the balance sheet is always going to be held in cash because we don't have a central bank or lender of last resort. And we deal in multiple currencies across all the four different balance sheets. And so that results in a holdback position that's significant because we have to fund our own deposit flows. But as we see the positive flow stabilizing and TCE recovering, you know, we want to kind of put that back on a systemic track over the next couple quarters.

Great. Thank you for taking the questions, and I'll step back. Thanks.

And we'll take our next question from Timur Roslier from Wells Fargo. Please go ahead.

Hi. Good morning. Good morning, Timur. Sticking on the bond book, can you just talk through the dynamic again as to what drove yields in the bond book lower this quarter? And then I guess bigger picture question, as we look out at margin and NII going forward, just some of the headwinds this quarter, is the expectation that we're going to get top line growth and NIM expansion from here given the forward rate curve?

Hi, Tim. It's Craig. I think, I guess, in regards to the investment portfolio and the slight decrease in the yield on that, it's really driven by, I guess, the increase in paydowns. So we're getting paydowns of just above $30 million a month on that, so about $100 million a quarter. So it's an increase in paydowns over the quarter as well as this amortization of premiums, or discounts, I'm sorry, on those securities. So that's what drove it down. While also coupons actually remained flat, it was really the amortization that drove it down slightly by about two basis points on that. In regards to the outlook, we're thinking that is that NEM will remain flat. As to where we are now, we do have some headwinds in regards to cost of deposits, but we also have some tailwinds as well. So, again, we paid off the sub-debt, so that's going to result in increased savings. And then, obviously, we're not going to have that accelerated amortization coming through every quarter as well. And then we also have – we've seen some rate increases. We saw a Fed increase last week. In Bermuda, we passed that on to the personal base rate. 25 basis points. So we have that one that will come through in October, obviously a 90-days notice, and we have another one coming through or becoming effective next week. That would be a rate that we announced back in May. So I think you have some tailwinds, but they'll be offset by cost of deposits and as term deposits roll over into higher rates, it would offset that. So we're thinking level to where we are now.

Okay, and then looking at slide 14, the asset sensitivity profile, I guess I'm a little surprised to the magnitude of decline on negative 100 basis point move, especially given your comments about laddering out kind of longer term in the bond book again. In reality, is that, I guess, included in that negative 5% expectation? And, you know, what should we expect from the deposit base on the way down? Are you going to be able to move as quickly or does the addition of Channel Islands and kind of that competitive dynamic limit your ability to move rates on deposits down in tandem with falling rates?

Yeah, thanks, Timo. It's Michael Scrum. So the negative 100 is obviously a parallel shock that we model. Most of that from where we are today really relates to the fact that there will be a lag in cost of deposits coming down on term deposits, but we obviously flawed on non-interest-bearing deposits right away because we're paying zero on that, obviously. And a lot of the, even the interest-bearing demand deposits of Bermuda and Cayman is also paying zero. So that's going to have a pretty pronounced effect. And we're not at the floors on the fixed rate loans on the first 100. And so that's really why you're seeing that minus 5%. I think we continue to model obviously modest asset sensitivity in the current environment. And some of the things that we're looking at at the moment is obviously how can we moderate that down scenario as we get towards the top of the cycle through additional fixed rate assets in the investment program.

Okay, that's helpful. And then just last for me, I appreciate you reiterating the $10 million in revenues, $6 million in expenses for CFs. I guess what's included in the existing numbers? How much of that 10 and 6 is captured in the second quarter balances?

Hi, Tim. It's Craig. So I guess we had, as you know, we had the fresh tranche that closed just at the end of Q1. So we have a full quarter of the impact of that. So then what we did have, we had a revenue of about $600,000 on those newly acquired relationships over the quarter. And then we had expenses of around $400,000 in the quarter. So that would include salaries expense as well as onboarding those employees and kind of getting them operational as well. So $600,000 in revenue and $400,000 in expenses. That's on that first tranche. And then I guess when we come back in Q3, we kind of have an update in regards to what we are continuing to earn on those relationships year to date.

Got it, okay, so the vast majority of both revenue and expenses are still to come.

Yeah, yeah. Great. Yeah, so we have, obviously we had the first close at the end of the first quarter. We just had another close. Then we have a close at Bahamas, which is relatively small, end of July, so just kind of just yesterday, I guess. And then we have another close at the end of September, which will be Guernsey. and then a late close the end of November. So that's the expected sequencing of that transaction. So by year end we should be complete, but Singapore will be pretty much on board, and then Guernsey at the end of September.

Great, thank you for the questions.

We'll take our next question from Michael Perito with KBW, please go ahead.

Hey guys, how you doing? Morning, Mike. Morning. Thanks for taking my question. Just a couple follow-ups. So just on Timor's last line of questioning, the 10 and 6. So, Craig, the 85 to 86 near-term expense run, right, though, that will capture, you know, the 6 that needs to come in, correct? Or would that be theoretically on top of it, you know, particularly in the fourth quarter of all the closings as you just laid out?

Yeah, so that'll be on top of that. So the guidance that we did give is the full annual run rate that we would expect. So again, to 2024, that'll be the full annual run rate. Obviously, as we bring on the various challenges this year, it will come along proportionately. But that's the full annual run rate. And the guidance, the 85 to 86, is operating expenses also taken into account. The expenses related to the new core banking upgrade, the amortization of that, as well as kind of cloud-based fees. Now also us bringing online branches, the new branch in Bermuda, and then some branch upgrades in Cayman as well. So we expect to see some increases in costs related to those. And those are coming online now. So the Bermuda branch just opened this quarter, and the Cayman kind of refits are happening as we speak.

Yeah, and like we do have, obviously, a sharp focus on, we have a sharp focus on expenses right now, obviously. where we are in the interest rate cycle. So we're working on a program that we'll talk about in the coming quarters, but we're very focused on total compensation expenses given where we are in terms of NIM. So we'll make some progress in expenses for sure a little bit down the road.

Got it. So the 85 to 86 near term, maybe a little upward pressure on that if the deal closes as expected and then opportunities in 24 to hopefully close. you know, reduce net expense growth that you'll communicate in the coming quarters?

Yeah.

Fair? Okay, perfect. Then on the NIM, also following up on Timor's question. So, I mean, stable in the mid-280s from here, but is it fair, you know, I mean, obviously the NIM bottomed, I think, just below 2%. you know, in the prior zero cycle? I mean, is it just structurally with the fixed assets you've put on, you know, the idea would be that the rate of attrition, if rate cuts did indeed occur, which obviously the forward curve is not pulling it now, but you would expect something more optimistic than that as long as kind of the current duration of the asset side of the balance sheet, you know, holds stable. Is that generally fair? I mean, it seems... It seems it, but I just wanted to make sure that that's how you guys were thinking about it.

Yeah, I mean, I think, sorry, it's Michael Scrum. So, I mean, if you look at the asset sensitivity disclosures, obviously, with the implied forwards, you know, we are thinking there is a possibility of getting some modest NIM expansion as we get through. But for the near term, it's probably in the mid-280s, obviously. You know, the subnet not being there will help NI effectively in future quarters. But over the medium term, if we have a longer elongated, you know, elevated rate cycle, then that would be a net positive for us.

Right. Got it. Okay. And then just last for me, on the non-interest income side, you guys mentioned it's been fairly stable on a core basis the last two quarters. You know, between some seasonality pickup and the fees coming on, is it fair for us to be thinking that that quarterly run rate could, you know, see a healthy step higher in the back half of the year? Is that kind of in line with what you're budgeting? Or how are you guys, how would you have us think about, you know, where that run rate could go in the next six months based on what you know today?

I think based on what we know today, it is, I mean, that's a reasonable run rate subject to seasonality. As you know, when we get to Q4, as an example, kind of with the Christmas and the shopping season, we usually see an increase in banking fees. So we would expect that. But absenteeismality, and then as we bring on the kind of credit suites assets as well, we would expect the run rate that we're seeing now to be a reasonable proxy for the way forward.

Got it. Great. Thanks. And then just one last kind of bigger picture question for me. You guys mentioned the cloud-based core on the Bermuda platform now. Can you just maybe give us a little bit more flavor on what that means exactly? So like how much of your core-based system is in the cloud today? And, you know, what do you guys view as kind of the biggest benefits of that moving forward as you think about, you know, managing the tech costs, you know, particularly the technical debt and then, you know, being more nimble to move forward if opportunities arise to, you know, plug in upgrades. We just would love a little bit deeper, you know, in terms of, you know, what that looks like and what the benefits could be longer term as you guys see it.

Yes. Sorry, Mike. You broke up a little bit. I think you were asking about what are the sort of longer term benefits of having the IT migration. Is that

Yeah, sorry, can you guys hear me okay?

It's breaking up a bit, sorry.

No, sorry, it was just about the cloud core-based system and what some of the benefits of that would be longer term, you know, why it's worth the investment today, as you guys see it. Okay, great, yeah.

I mean, obviously, you know, it's a transit, sorry, I got that perfectly, Mike, thanks. So, obviously, we're going through a transition where we've had a 10-year amortization period to have broadly a five-year amortization period, and so with sort of broadly the same run rate. So I think that certainly is helpful from a financial perspective. In terms of the functionality, going to cloud means that we don't need to have as big an IT team internally, effectively, because where we previously had a big contract with DXC, we actually owned all the racks. And so now we've kind of grown into a software-as-a-service kind of model where effectively Oracle, who is the owner of the banking system, is also responsible for the maintenance. So, you know, on the risk side, you know, there's a single point of failure. On the positive side, obviously, we just push it to Oracle right away if there's service issues, and they're, you know, pretty significant issues. vendor in this space and so we have a pretty good relationship with them. It will allow us to move to more frequent updates in the future and therefore quicker time into market for new functionality that's rolling out. The upgrade that we just did was quite a major migration update. So even though it was a version upgrade, it was fairly significant in terms of the new functionality that was added to the platform in addition to going to the cloud. So effectively, it becomes a sort of more independent model where we're not in the IT business, we're in the banking business, and ultimately will allow us to pass the time into market for new products and functionality coming through the platform.

Great. Thanks, guys. And sorry for the technical difficulties, but appreciate you taking my question. Thanks, Mike. Thanks, Mike.

We'll take our next question from Alex to our adult with Piper Sandler. Please go ahead.

Good morning.

Good morning, Alex. Hey, first question for me, just can you talk us through a little bit, you know, with the loan fixing, you know, the moving to fixed rate, you know, the 51% you've done, sort of what those new loans look like? I think you alluded to there being some floors on some of them, but just so we fully understand, you know, exactly what the product is in terms of the new timeframe on them and new duration and what could impact them in the future, and then also just maybe the geographic breakdown or the breakdown by product on what's been fixed so far?

Sure. I'll start out, Alex, in regards to just the movement to fix loans. And I guess as you kind of, you'll be familiar with that, we've seen a significant increase in that. So from about 21% at the beginning of last year to 51% now. So it kind of turned it around in regards to the split between fixed and variable. And I think we've kind of seen a lot of that come on. There were some historically in Channel Islands, but in Bermuda and Cayman, as you work with our larger commercial customers, that's largely where it's coming from. And then in regards to some residential, we're working with customers just to help them to understand and just to solidify their cash flow requirements going forward so they're comfortable with that. But largely, most of our commercial customers are now on fixed. So we expect, I guess, the rate of increase in that to slow down a bit. But it has been able to just kind of help them to secure and understand their cash flows And also, as you know, kind of on the way down in the interest rate cycle, it will give us some protection. But just as a recap, that is just a between two or three-year fixed within a longer loan duration. And then, so when we get to that, at the end of that three-year period, we all need to renegotiate where it goes from there, whether it stays on fixed or it goes back to variable.

Okay, so yeah, perfect. That's incredibly helpful. And so in the residential, like you alluded to the residential rate increases in Bermuda, the way that's going to impact the residential portfolios, you know, you said some of that maybe has moved to fixed, but it's certainly not 51% that's on the residential book.

Yeah, I mean, I think at this point we're not seeing any credit stress, if that was the question, I think, on the residential book. It does help that we have a higher proportion of fixed-rate loans at this point in the cycle than we've ever seen in the past. So that happened pretty quickly. So I think, you know, two things. It will help us on the way down, obviously, but it's clearly helped us on delinquencies and, you know, 30 days. delinquencies in Bermuda and Cayman are pretty much where they've been, so we're not seeing any credit stress at this point. Some of it's because it's fixed, but I think both islands are pretty flush with cash right now, so I think we're seeing a little bit better experience in this part of the cycle than we have seen in the past. And I just also point out, obviously, we don't have any commercial real estate exposure, so it's two-thirds residential, a third commercial and the commercial is really pretty straightforward stuff. So we're pretty pleased where we are with the credit portfolio right now.

And I guess if we look kind of in detail around delinquency rates, again, we haven't seen a significant uptick in delinquency rates, just a little bit, kind of 30-day. But as we kind of look past that and get to 60 and 90-day, it gets back to expectation. So it just shows that, you know, those are kind of one-offs, if you will, and then they are being corrected before they get to 90-day past due and non-accrual. The increase that we did see in non-accrual that you might have noted in the presentations is really specific facilities. There are some late interest rate payments that have been remediated after quarter end. And what we do is just kind of hold them in that non-accrual status for, you know, one or two months to make sure they're back on track, and then we move them back into pass and be comfortable with those. So working really closely with those customers, trying to understand those, but they are unique circumstances that some have been remediated, some are waiting for sales of properties to happen. And then in the first quarter, and I think it's kind of worked through now, we had a proceeding that was going on. So, selling other assets in order to satisfy the loan proceeds, but it's just kind of a long legal process for that specific facility.

Got it. And then I think the press release alluded to a higher ACL associated with credit cards as well as worsening economic conditions. Is there anything specific that you're seeing in credit cards or is it just Is it more tied to the change in the economic conditions and how that impacts the modeling?

Yeah, it's more tied to economic conditions. And just looking at the forward-looking rates or GDP rates or macroeconomic rates, we actually are seeing kind of good performance in credit cards. That's good. We're keeping a very close eye on that. You know, we kind of think that potentially credit cards could be a leading indicator to other other issues when it comes to customers and being able to satisfy their commitments and then potentially have some issues around other credits in the residential. But we're actually seeing good performance on credit cards, which is a good thing to see at this point in the rate cycle.

Yeah, we're not really seeing utilization moving up either. People are paying off their credit card and using it as normal, really.

Great. And then just a final question just with respect to capital, M&A, et cetera. I mean, it seems like, you know, given all the AOCI that you mentioned will be coming back in over the next 24 months combined with earnings, that TCE ratio target of 6.5%, you're going to be well above that, you know, before you know it. As you think through capital return and sort of utilizing the capital, does that push you to look more towards some M&A or additional M&A, I guess, or increasing the buyback, or just how you're kind of thinking about, I guess, you know, one, you know, the updates to the long-term TCE targets, and two, you know, remind us, you know, how you're thinking about achieving those targets.

Yeah, thanks, Alex. It's Michael Scrum. So, I think we've We set a target of 6% to 6.5% on TCE. Obviously, we do hold a lot of cash on the balance sheet, so we have to capitalize that. And you're absolutely correct in terms of the USCI burn down. We could expect to see that TCE drift higher if forward rates are holding the way they are at the moment. You know, we're not really too concerned about being a little bit on the high side from a TCE perspective. We feel that the credit content or the credit profile of our book, you know, should allow us to run a slightly, you know, slightly below peer leverage. But, you know, at this point in the cycle when we're just coming off, you you know, the sort of whole regional bank crisis in the U.S., you know, having a little bit of extra resources, you know, maybe to a slight detriment of ROE, you know, for this part of the cycle is actually not a bad thing. In terms of capital return, absolutely focused. We view the current situation as sort of cyclical, if you will, and so we would tend to favor share repurchases, which has the flexibility for us to dial up or dial down during this period. Obviously, the board continues to be committed to the stable dividend rate of 44 cents per quarter per share. And then we obviously look then at acquisition pipeline You know, and there's still ongoing discussions. We absolutely are focused on betting in the trenches and getting that, Chris, we steal over the line at the end of this year, but there's still ongoing conversations around other potential works of business that we could buy. So that factors into, you know, how much capital we want to utilize for the share repurchases. But we have dialed it up this quarter as we saw sort of TCE coming back, and I think we'll continue, obviously, to do that, subject to my conditions, of course.

Perfect. Thank you for taking my questions.

Thanks, Alex.

It appears that we have no further questions at this time. I would now like to turn the program over to management for closing remarks.

Thank you, Nikki, and thanks to everyone for dialing in today. We look forward to speaking with you again next quarter. Have a great day.

And this does conclude today's program. Thank you for your participation. You may disconnect at any time.