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spk00: Welcome to the OneMain Financial second quarter 2022 earnings conference call and webcast. Hosting the call today from OneMain is Peter Pollion, head of investor relations. Today's call is being recorded. At this time, all participants have been placed in a listen-only mode, and the floor will be open for your questions following the presentation. If you would like to ask a question at that time, please press star 1 on your telephone keypad. If at any point your question has been answered, you may remove yourself from the queue by pressing the pound key. We do ask that you limit yourself to one question and one follow-up, and please pick up your handset to allow optimal sound quality. Lastly, if you should require operator assistance, please press star zero. It is now my pleasure to turn the floor over to Peter Pullian. You may begin.
spk04: Thank you. Good morning, everyone, and thank you for joining us. Let me begin by directing you to page two of the second quarter 2022 investor presentation, which contains important disclosures concerning forward-looking statements and the use of non-GAAP measures. The presentation can be found in the investor relations section of our website. Our discussion today will contain certain forward-looking statements reflecting management's current beliefs about the company's future, financial performance, and business prospects, And these forward-looking statements are subject to inherent risks and uncertainties and speak only as of today. Factors that could cause actual results to differ materially from these forward-looking statements are set forth in our earnings press release. We caution you not to place any undue reliance on forward-looking statements. If you may be listening to this via replay at some point after today, we remind you that the remarks made herein are as of today, July 28th, and have not been updated subsequent to this call. Our call this morning will include formal remarks from Doug Shulman, our Chairman and Chief Executive Officer, and Micah Conrad, our Chief Financial Officer. After the conclusion of our formal remarks, we will conduct a question and answer session. Let me turn the call over to Doug.
spk06: Thanks, Pete. Good morning, everyone, and thank you for joining us today. This morning, I'll take some time to review our financial performance in the quarter. discuss the credit and macroeconomic environment, and also provide an update of our key strategic initiatives. I'm pleased with our financial performance in the quarter, as we generated $275 million of capital and demand for our loan products remained quite strong. Originations were $3.9 billion, up modestly year over year. Similar to last quarter, healthy demand for our core personal loan product was supported by our expanded products and new distribution partnerships. The strong originations in the quarter led to solid managed receivables growth of 10% year over year. Loan losses were 6%, below second quarter loan losses in previous years before the pandemic, And in a difficult funding market, we continued to show the strength of our balance sheet by raising more than $1.5 billion while also improving our liquidity. With regard to the macroeconomic environment, over the last several quarters, we've discussed our expectation that credit performance will follow an orderly path to normalization. And through the first quarter of this year, that orderly path was evident in our portfolio performance. We also said that we would be monitoring credit performance closely and be prepared to act in this evolving economic environment. As stimulus wears off, savings decline, and inflation persists. In May, we began to see an uptick in early stage delinquency for certain lower credit quality, lower FICO customers, primarily concentrated in 2021 vintages. We closely track various sources of credit performance of the non-prime consumer, including ABS trust information, as well as other public industry sources. And it is clear to us that there has been an increase in early stage delinquency across the non-prime space over the past couple of months. Having said that, our higher credit quality customers have shown performance very much in line with our expectations. And we continue to see very strong back-end collections and recoveries. that are contributing positively to our charge-off performance. As you know, what distinguishes us in the non-prime space is our long history with this customer and our ability to adjust our underwriting quickly when needed. We began selectively tightening our credit box as far back as late 2021, including reducing assumptions of collateral values adjusting our definition of thin file, and enhancing verification requirements on certain new loan applicants. We've taken more significant tightening actions in the last two months. We feel very comfortable with our current credit posture, having limited underwriting in the higher risk segments, and we continue to monitor the environment closely and will remain prepared to make further adjustments as necessary. Over the past few months, we've seen some competition pull back even with better credit quality customers, presumably due to a lack of balance sheet funding for loans. This has created opportunity for us to originate higher credit quality business and continue to drive receivables growth despite the credit adjustments we've made. We like this competitive positioning. using our incredibly strong balance sheet to move our overall portfolio to higher ground as we are starting to see some challenges in the lower credit quality consumer. Given what we are seeing, we now expect net charge-offs for the year to end about 50 basis points higher than our original range of expectations, which is still well within our long-term target range, and we'll continue to have robust capital generation. As a reminder, we underwrite our loans to a minimum 20% return on equity hurdle. This gives us significant cushion. Even the current vintages that have shown more elevated delinquency than anticipated in May and June in aggregate are expected to remain very profitable with returns well in excess of our 20% return thresholds. It's also important to note that despite a tighter credit box, originations remain quite strong. Demand for our core loan products has been bolstered by some positive competitive dynamics, as well as our continued investments in new products and channels. So while cutting our credit box at the lower end of the risk profile will reduce originations and receivables growth, we believe there are excellent opportunities to originate more loans at the higher end at very attractive returns. Let me say one more thing about the macroeconomic environment and our business model. It is not surprising that a subset of our customers have less cushion and are having a harder time making ends meet as government stimulus wears off and inflation pressures continue. The hallmark of our business model is to be there for customers in good times and bad. And we are very comfortable managing through difficult economic cycles. When we saw an uptick in early stage delinquencies, In discrete segments of our customer base, we quickly adjusted our underwriting, shifted resources to work with customers who need extra help, and activated our robust borrower's assistance programs. Let me now turn to our strategic initiatives. The strategic pivots we've made during the last few years continue to be a major focus at OneMain. We continue to invest in providing customers with an experience that meets their needs, whether in person, on the phone, or through our app and web properties. Our digital capability spans beyond just the ability to take digital applications and close loans outside of a branch. It includes digital servicing that allows us to contact customers and service loans more efficiently. We are investing in these capabilities across all areas of customer engagement. As you know, we are closing almost 50% of our loans digitally. We're using machine learning algorithms to generate high-quality workflow assistance to our team members. We're engaging more customers in two-way text messaging for servicing and collections with integrated text-to-pay capabilities. These are just a few examples of the digital enhancements we are making to serve our customers and continuously improve our performance. On our Brightway credit card, we are really pleased with the progress we have made and will be expanding in select segments in the second half of the year. As I've said in the past, we are executing a very careful and disciplined expansion. In late 2021, we tested the product value proposition and marketing, and we had excellent take rates, confirming that we had a unique card product to bring to market. We then tested activations, line usage, digital adoption, and other key metrics. Our last data point to test was credit. Most of the key metrics to date have been in line with or better than our initial expectations. Our test segments did just what we had hoped, revealing where we can have high confidence in unit economics. You should expect card balances to grow in the second half of 2022, albeit with a different mix than the original 70,000 cards issued over the last nine months. Those cards tested many, many combinations of product, channel, and risk segments. For this next expansion, we have selected certain lower risk segments and lower risk channels that met our return hurdles in the tests. I remain very excited about our ability to pair a daily transactional card product with our installment loan product thereby expanding our total addressable market and deepening our relationship with current and future customers. We also continue to see good traction through our product and channel expansion efforts. One example we discussed last quarter was our smaller dollar loan product, $2,500 loans that we offer to certain customers. We've also spoken about our channel distribution partnerships. with a focus on partnerships such as dealer track, which allows us to use our long history and expertise in auto underwriting to expand our lending. These distribution partnerships allow us to leverage our operational capabilities, including central underwriting and collateral verification and management, and our deep understanding of the non-prime consumer. These outside the branch channels are already tracking towards several hundred million dollars of originations in 2022 and the credit performance in our distribution partnerships has been strong. This is another example of a product and channel expansion that allows us to use our unique core competencies and competitive advantages to expand our business. We're also seeing more and more customers adopt Trim, one main money-saving and budgeting app. As a reminder, Trim helps people track, negotiate, and save money on everyday bills, such as cell phone, cable, and utilities. It also helps people compare rates on auto insurance and other products. As inflation continues to challenge hardworking Americans, This is another valuable tool we offer customers to help them improve their financial well-being, and it also helps us deepen and broaden our relationship with them. Finally, let me discuss capital allocation. Our first and highest priority remains investing in our business to generate strong returns with return on capital in excess of 30%. We will continue to prioritize investment in loans that meet our return hurdles, while also continuing to invest in key growth initiatives that will drive robust capital generation in the future. While we expect to maintain a strong and efficient capital position, we also plan to return excess capital to shareholders through our regular dividend and share repurchases. During the second quarter, we paid a regular dividend at 95 cents per share. The $3.80 annual dividend yields a very healthy return of approximately 10% at current share price. We also continued to execute against our share repurchase authorization during the quarter, utilizing $94 million to repurchase 2.1 million shares. Through the end of the second quarter, We've repurchased 4.4 million shares, representing about 3.5% of shares outstanding. With that, let me turn the call over to Micah to take you through the financial results of the second quarter.
spk03: Thanks, Doug, and good morning, everyone. Demand for our loans remains strong, and we continue to deliver on our customer value proposition with added digital enhancements and further adoption of our financial wellness tools. We continued Brightway credit card development and the measured expansion of our distribution channel partnerships. And while we've seen some elevated levels of early stage delinquency in certain segments of our book, we are very positive about the prospects for our business. Our Q2 financial results were strong. We earned $209 million on a gap basis, or $1.68 per diluted share in the quarter. Our results included a $28 million charge associated with the early redemption of a $600 million bond issued in May of 2020 at a coupon of 8 and 7 eighths. This redemption reflects the continued proactive management of our balance sheet that I discussed in detail on our last call. Capital generation in the quarter was $275 million, down $35 million from the second quarter of 2021. This primarily reflected an increase of $89 million in charge-offs from the historic lows we saw in 2021. That increase was partially offset by net interest income growth of 47 million year-over-year. On an adjusted CNI basis, we earned $233 million, or $1.87 per diluted share, down from $2.66 per diluted share in the second quarter of 2021. The difference is driven largely by the normalization of charge-offs, as well as in-period changes to our loan loss reserves, which you will see on slide 9 of our presentation. The second quarter 2021 provision reflected a $64 million net reduction in loan loss reserves, which included a reversal of 2020 pandemic-related bills, offset by an increase of $58 million associated with on-book receivables growth in that quarter. Our current quarter reflects a similar level of receivables growth and a resulting increase in our loan loss reserves of $55 million. As you may recall, under CECL, we reserved for projected lifetime losses at the time of origination, which creates a growth impact in our financial results. Our managed receivables reached $20.1 billion this quarter, up $1.7 billion, or 10% from a year ago. reflecting strong consumer demand and the continued positive impact from our investments in new products and distribution channels. Note this includes receivables sold through our whole loan sale partnerships and serviced by OneMain, as well as our credit card receivables. Our net interest margin remains strong at 18.6% in the quarter. Net interest income was $886 million, up 6% compared to the prior year quarter, driven by higher average receivables. Portfolio yield was 23.1% in the quarter, flat to last quarter. Interest expense was $218 million for the quarter, down 5% versus the prior year, despite an increase in debt supporting our balance sheet growth. Interest expense as a percentage of average receivables improved from 5.2% in the year-ago period to 4.6% this quarter. We accomplished this through the proactive management of our funding structure despite this year's increase in benchmark rates. Other revenue was $153 million in the second quarter, up $5 million from the prior year quarter. year over year increases from our whole loan sale program more than offset a $6 million current period market adjustment related to equity values within our $1.8 billion investment portfolio. As a reminder, this portfolio supports our insurance policy claims reserves. Our policyholder benefits and claims expense for the quarter was $40 million, down from $48 million in the second quarter of 2021, driven by positive year-over-year claims experience across several insurance products, including life and disability credit insurance. Let's now turn to slide seven to review our originations and receivables trends. Originations were $3.9 billion in the second quarter, up modestly from $3.8 billion in the second quarter of 2021. We are seeing continued strong demand for our core loan product, which has been a partial offset to the impact of our underwriting adjustments. We're also seeing continued strength in our product and channel initiatives. We've talked in the past about testing with better credit quality customers within the more price-sensitive and competitive affiliate channels. Very recently, we've seen stronger application flow in these better credit quality segments, presumably a result of competition lacking the strength of our funding programs and our balance sheets. Additionally, our distribution channel initiatives continue to show strong performance, with $90 million of originations in the quarter compared to $30 million in the second quarter of 2021. These loans are originated and serviced by a specialized central team and, importantly, outside of our branch network, demonstrating the value of our omnichannel model and giving us another scalable distribution channel for our loan products. Turning to slide eight and our credit performance. Personal loan net charge-offs were 283 million or 6.0% above the historic low 4.4% in the second quarter of 2021, but still below normal historical levels. After tracking in line with expectations throughout the first quarter, segments of lower credit quality, lower FICO customers concentrated mainly in our 2021 vintages began to show increased levels of delinquency in May and June amidst an evolving macro environment, specifically persistent and elevated inflation levels. 30 to 89 delinquency increased to 2.73% in the second quarter, while 90 plus fell to 2.15%. 30 plus delinquency at the end of the quarter was 4.88%. As Doug mentioned, we've been making selective adjustments to our credit box since late 2021. And while we saw good performance in the first quarter, we've done some additional tightening in recent weeks due to the trends we saw in May and June. We, of course, will continue to monitor the environment closely and will adjust our underwriting accordingly. We continue to see strong back end performance in the quarter with late stage roll rates and post charge off recoveries better than pre pandemic levels. recoveries were $68 million, including 7 million from a bulk charge off sale recoveries were 1.4% of average receivables significantly above our pre pandemic levels of approximately 90 basis points. Let me touch quickly again on our loan loss reserves shown on slide nine. We ended the first quarter with 2.1 billion of reserves and a reserve ratio of 11%. Our reserve ratio remains above CECL day one levels of 10.7%, reflecting a healthy level of caution given the continued uncertain environment. Turning to slide 10, second quarter operating expenses were $350 million, up 6% year over year. Note that operating expenses have been largely flat for the past three quarters. Our year-to-date operating leverage was 7.2%, 20 basis points better than a year ago. As you know, we have a culture of expense discipline within our company, and we've recently taken some proactive actions in accordance with the evolving environment. As an example, we are making some targeted adjustments to our marketing spend, especially in the direct mail segment, to better align with our tighter credit appetite and the competitive dynamics we are seeing in the market. While we are actively managing our expenses, we also continue to invest in new products and channels, technology, digital capabilities, and data science, all of which we expect will drive future growth and performance within our business. We now expect our full-year OPEX ratio to be approximately 7.1%. below our original estimate for this year and down from last year. Last quarter, I spent some time discussing the strength of our balance sheet and our funding programs, given the challenging rate environment with rising benchmark rates and widening spreads. The funding environment remained challenging in the second quarter. Despite that, we raised $1.2 billion in the ABS market. We completed a $600 million social ABS, the first of its kind, at 4.3% in April, and followed that with a $600 million ABS deal at 4.6% in June. We've seen demand from a steady group of returning investors and have also seen solid interest from new investors this year. As we mentioned on our last call, we also structured a $350 million private secured funding transaction with one of our long-term banking partners at very attractive rates in April. We redeemed $600 million of unsecured debt with a coupon of 8.78% that was issued in June of 2020 during the heart of the pandemic. That bond included for the first time a callable feature, providing us additional flexibility to manage our funding costs. Every subsequent bond issuance has included this callable feature in addition to our longstanding investment grade covenants, a true differentiator for our bond program in the market. We remain very well positioned during this period of rate and market volatility to be selective and look for windows of opportunity to access the markets. As you know, another hallmark of our strong balance sheet is our liquidity runway of over 24 months. This is the length of time in which we can operate the company under stressed macroeconomic conditions and with no access to the capital markets. A foundation of our runway is our committed bank capacity, which at the end of June was just over $7 billion, comprising nearly $5.8 billion of conduits and a five-year unsecured revolving facility of $1.25 billion. spread across a geographically diverse group of 15 bank partners. In the quarter, we added three new banks to our unsecured revolver and just recently closed a $400 million conduit with a new partner bank in early July. We now have over $7.4 billion of committed bank capacity, as well as over $9 billion of unencumbered loans. So our liquidity resources that support these facilities also remains robust. Our balance sheet investment over the years provides sleep at night assurance that supports the resiliency of our business through uncertain economic conditions. We are confident that our balance sheet positioning and our industry leading funding programs will continue to be a competitive advantage. Moving on to page 12, our strong capital generation of 275 million allowed us to repurchase 2.1 million shares for $94 million. and return another $120 million to shareholders through our regular dividend, all while maintaining our capital levels. Our net leverage at the end of the quarter was 5.6 times. On page 14, we've updated our full-year strategic priorities to reflect the current environment. Given our cautious stance on credit and the actions we've taken to tighten our underwriting, we expect managed receivables to grow at the low end of our previously stated range. and also at the lower end of our long-term operating framework. As we discussed earlier, there remains an abundance of attractive loans at the higher end of credit scale, given the competitive dynamics noted thus far in 2022. We also now expect full-year net charge-offs to be approximately 50 basis points higher than our original expected range, still comfortably within our long-term framework of 6% to 7%. We are also taking appropriate actions to manage our expense base under the current conditions and are updating the full year estimate for our operating expense ratio to approximately 7.1%. And to wrap up, we anticipate capital generation to be approximately 12% below our original expected range, but still generate a very strong return of 30% on our adjusted capital. With that, I'd like to turn the call back to Doug.
spk06: Thanks, Micah. As you can see, we had strong financial results in the quarter. While we are starting to see the impacts of high inflation and economic uncertainty weigh on a discrete segment of our lower credit quality customers, we are prepared for it, made credit adjustments quickly, and continue to originate loans to customers who meet our return hurdles. There is a lot of demand from better credit quality customers, as some of our competitors with less strong balance sheets have had to pull back. So we really like the business we are booking today with our tightened credit box. We continue to invest in our digital capabilities, new products, and distribution partnerships. We have been serving the non-prime consumer for decades, and through multiple macroeconomic cycles. We like our strategic position, strong balance sheet, plenty of cushion and profitability, a seasoned credit team, and new products and channels. We will be cautious and alert as we navigate through whatever the economy brings, while also taking advantage of our strong competitive position to serve our customers consistently generate robust capital, and build our business for the long term. Finally, as always, I want to thank our team members across the nation who come to work every day to make a difference for our customers and for you, our shareholders. With that, let me turn it over to the operator, and we are happy to take your questions.
spk00: The floor is now open for questions. At this time, if you have a question or comment, please press star one on your touch tone phone. If at any point your question is answered, you may remove yourself from the queue by pressing the pound key. Again, we do ask that while you poise your question, you pick up your handset to provide optimal sound quality. Thank you. Our first question comes from Michael K. with Wells Fargo. Your line is open.
spk10: Hi. Good morning. My understanding is that when you underwrite, you know, there's a cushion in your net disposable income calculation, which would seemingly handle a good bit of higher inflation. You know, if this is so, then why are delinquencies deteriorating to this degree, even with unemployment still, you know, very low? Could you perhaps be underestimating the bar's wherewithal in a higher inflationary environment?
spk06: Yeah. Hey, Michael. It's Doug. Thanks for the question. You know, we underwrite, as you know, to a 20% return on equity. There's a number of inputs and assumptions we have in our underwriting. There's price. There's the size of the loan, the size of the payment. There is the expenses we have, our cost of capital and assumed payment and loss rates. And then as you mentioned, we also do an ability to pay underwriting. So we look at income minus debt load minus people's expenses, and we look for the cushion someone has or the net disposable income. We had been underwriting, you know, especially in 2021. You know, we've now we've since changed our box, you know, assuming a certain net disposable income in a relatively non-stressed environment. What we've now seen is. You know, lower income, lower credit quality, lower FICO, however you want to define it at the lower end of the spectrum, people are having a hard time making ends meet with food, gas, rent, and they obviously have not enough cushion there. We've actually seen this, as I mentioned, kind of across the board in the non-prime space happening at the lower end. We've adjusted our box over the course of the year, but especially made more tighter adjustments. We've moved a number of folks who had been offered unsecured loans to only have secured loans, which having collateral leads usually to better payment. We put some caps on our loan sizes, and we have increased the expense assumptions. Within our net disposable income, we put some more buffer in there as we're doing our underwriting now. So, you are correct that we underwrite assuming an ability to pay. Generally, the portfolio's performing within expectations. We've got a segment of loans that aren't. We've now made adjustments.
spk10: Okay. an impact on asset yields, you know, moving forward, given this, like, refocus away from the lower quarter quality cohort, and likely, you know, 90-plus days or 90-plus-day delinquency rates are going to be increasing. And all the prior guidance was that 2022 would be around the Q4-21 levels, about 23.3%. Already in the first half, you're only around 23.1%. And, you know, potentially, I think it could, you know, Could it potentially move lower in the back half? Any update on that guidance for asset builds for this year?
spk03: Yeah, good morning, Michael. This is Micah. We're not giving any call-out specifically on guidance right now, but I'll give you a little color around it. Our pricing remains stable, so that's the top of the funnel when it comes to yield is our APR and our loans. And we've seen a lot of stability there over the last year, so that's certainly an important input there. That remains stable. We are seeing some opportunities given the competitive market to increase price in certain segments of origination. So we're doing that. That will take some time to play through our yield. In a $20 billion portfolio, those new originations do take some time to take shape. I think your observation is correct. I think in the second half of the year, we do expect to see some continued pressure from our efforts to help our customers and also the impact of the recent early stage delinquency as it moves into 90 plus. And while we're not giving any additional specific guide on yield, this is all reflected in the updated strategic priorities that we gave to you.
spk02: Okay. All right. Thank you so much. Thanks, Michael.
spk00: And we will take our next question today from Rick Shane with GP Morgan. Your line is open.
spk05: Hey, guys. Thanks for taking my questions this morning. A couple. Hey, Rick. I want to make sure I fully understand what is going on in the mix within the portfolio. Are you saying that there is a higher percentage of low FICO scores or are you saying specifically that the 2021 vintage of lower FICO scores is underperforming? Is it a mix shift specifically, or is it a vintage issue?
spk03: Rick, hey, it's Micah. Thanks for the question. I'll try to give you a little bit of color on it. You know, we called out that these are really where we're seeing a little bit of performance impact is in those lower credit quality, lower income customers with less cushion. It's not specifically a 2021 thing, but they happen to be concentrated in 21 vintages. So, you know, remember 2020 was underwritten to a much tighter standard during COVID and pre 2020 vintages also had the full benefit of government stimulus for a good, a good, six quarters. And so those pre 2020 vintages have also just amortized down significantly over the period of time. And so 21 just happens to be the dominant vintage that's in our book now. Um, and, and so that's why we're seeing a lot of this, uh, impact within those 2021 vintages. Got it.
spk05: Okay. That's helpful. Um, second question, and obviously May and June were pretty dramatic from a, uh, macro perspective. But I am curious, given the pace of the deterioration, I'm curious if you think that your borrowers or your customers are levering up away from you with alternative products like buy now, pay later. And is there a way for you to basically conduct surveillance so that you understand alternative leverage on your customer's balance sheet?
spk06: Yeah, look, Rick, it's a good question. First of all, we risk score our customers on an ongoing basis once they're on our book. And so all the publicly available data we can see, our internal data, so we're always kind of evaluating it. I think our customers generally, if you look across debt loads, you know, credit cards, loans, others, debt to income, savings, net disposable income, employment, there's some tailwinds and headwinds. And so I don't think you can, you know, isolate it to something like buy now, pay later is what's happening. Tailwinds are generally debt to income levels are below pre-pandemic, although this is less true with lower credit quality customers. Customers still have relatively strong balance sheets or saving rates, but again, coming down much quicker the lower your income. There's been some wage growth, but not enough to keep pace with inflation. And employment, unemployment remains low, but the idea of like underemployment and are you getting as many hours, all of that is in play. I think... You know, headwinds, obviously shrinking balance sheets as stimulus wears off, persistent and elevated inflation, a general feeling of uncertainty, so customers are kind of balancing their payments, and less net disposable income, as I mentioned in the last question, especially with customers with less cushion. So when we look across the non-prime consumer generally with all the data we see, conversations we're in, et cetera, and then our customers in particular, they remain relatively healthy. The rest of our book, you know, is performing within the range of expectations, and we feel generally good, and we're still making a lot of loans. But there's just strain at the lower end of the segment. You know, buy now, pay later, some of those are reported to bureaus, some of it's not. It's usually a lot lower ticket items than – You know, what we're talking about with lending, there's been obviously the last several months a lot of activity around that and that market shifting. So I would not isolate it. I just think, you know, there is a lot of moving parts going on right now in the economy. And the less cushion you have, the more you're living on the edge and the more, you know, you've got to keep an eye on things. And so we're watching all of this. What we've done with our credit box is – where we've seen the underperformance, we've cut that out, and that's very precise. But we've also added a little bit extra assumption of stress in our underwriting just to be conservative as this uncertainty plays out, and we're monitoring it on a daily, weekly, and monthly basis.
spk05: Okay. Thank you, guys. Appreciate it. Thanks, Rick. Thanks, Rick.
spk00: We will go next to Vincent Chiantek with Stevens. Your line is open.
spk07: Hey, thanks. Good morning. Thanks for taking my questions. I've got two of them. So first, are you seeing any performance differences relative to your expectations between your unsecured versus your auto-secured product? And relatedly, I'm curious if car price changes are having or will have an impact on your credit trends.
spk03: Yeah, Vince, Micah, thank you. You know, I think as we've called out here with this really kind of trying to isolate this to lower credit quality customers with that lower cushion. We are seeing impacts across the product. It's not really a product dynamic. Of course, the hard secured and our direct auto, our secured products in general, tend to have just better credit performance by nature of having that security as the collateral and the security that comes with it. You know, we are definitely seeing some of the same dynamics within those three products, particularly focused in the lower credit quality segment. As you may remember, with a lot of our hard secured product, in many cases, we're only able to underrate a secured loan to a customer based on the risk attribute. So we'll naturally see some of that performance down in that secured segment. And so, you know, I'd say broadly speaking, I don't think auto prices are necessarily factoring into that per se. As you know, over the last year or so, we've been moderating our loan sizes to accommodate for that as auto prices have risen. We've reduced LTVs on our loan just to make sure we have a little bit of protection there, just being conservative. And so I don't think that's really becoming a problem. I would say that just following along Doug's comment, auto payments are just another part of that, those obligations that consumers need to meet. So from that perspective, you know, I would say that's part of the mix, but not specifically our product.
spk07: Okay, great. Thank you. And then you touched on this in the earlier comments, but on the competitive environments, we've certainly been hearing some of these fintechs struggling because of funding issues. encouraging us here that maybe you're benefiting from that. Just maybe if you could talk about what the potential volume or opportunity set is and how you think about it in terms of taking share versus maybe there's opportunities for margin expansion. Thank you.
spk06: Yeah. Look, Vincent, I've said before, we don't have real growth targets. We set our box You know, we set our underwriting standards based on all the characteristics, you know, I talked about before with a goal of having a certain return and running a profitable business. And then we try to create a great set of products and services and a great customer experience. And a lot of what I talked about, you know, before we've been innovating around loan size. We've been innovating around outside of the branch business. closing our digital properties. We're really investing quite a bit on it. So when people come to us, they get really clear information. It's a great experience. It's a fast experience, but it still has all the hallmarks of what we do, which is income verification. figuring out how much people can afford. And then we're adding volume through new channels for the loan product, and we're obviously adding the card. So you take our box, what we're willing, our risk appetite against our customer experience, and the rest will come out. I think in the competitive dynamics, we've seen a real uptick in applications coming in from the above 660 FICO customer over the last several months. We've always played quite a bit in that market. We've booked a number of customers, but we've been very disciplined in our risk appetite and our pricing to make sure that our margins remained with that customer. And so we haven't dropped price as much as competitors have. And so I think what's happened is Some competitors that don't have as much long tenure on the balance sheet, the stronger balance sheet, they've seen their cost of funds go up, and so they've had to raise their pricing a lot quicker than we have. And then some funding is just dried up, depending on your business model. And so we find we're booking more of those loans. We think we do have some opportunities around pricing, but for that cohort of customers, We like the profitability ratio, and so we like the idea of picking up share. So, you know, we haven't sized it. It's coming in. But what I would tell you is, based on the cuts we've made over the last couple of months, we would be booking a lot less volume today if we hadn't seen that uptick in better credit quality applications coming in.
spk07: Okay, perfect. Very helpful. Thanks very much.
spk02: Sure.
spk00: We will move next to Kevin Barker with Piper Sandler. Your line is open.
spk08: Thank you. Could you detail what economic assumptions you have embedded in the credit reserve today, and then what economic assumptions you also have, I would assume they're the same, in what your underwriting standards are today?
spk03: Sure, Kevin. This is Mike. I'll take the reserve question. I'll probably jump in on the underwriting uh as you know with our reserves we've talked about for several quarters uh our prudent approach and you know i think we continue to take a prudent approach to our reserves we went through a very unusual credit situation with cecil over the last two years uh you know we could have built into our reserves an assumption that the the delinquency levels the roll rates the back end performance all of those dynamics that were very, very strong throughout the second half of 2020 and into 2021. We could have built those into our reserves and moved our reserves down a lot more. We didn't do that because we knew that this environment would eventually turn around. So as we were thinking about what does the future loss profile look like as embedded into our life of loan reserves, we would go back to what roll rates looked like pre-2020. pandemic. And that turned out to be a very, very smart approach. And it's been serving us well. When you look at our non-TDR reserve rates of putting our TDR book to the side, right now it stands about 40 basis points or about 70 or so million higher than CECL day one levels, which would have been at January 1st, 2020 pre-pandemic. And so we continue to take a prudent approach there. We think that has served us well given the uncertainty that is now somewhat emerging, at least in the non-prime consumer, and we remain well-reserved and feel very comfortable with the current levels.
spk06: Yeah, and look, we don't – as I mentioned, there's a lot of inputs that go into our underwriting – price, size – you know, our op-ex, our cost of capital, payment rate losses. You know, we've taken, you know, if you think about in 2021, our underwriting was very similar to 2019. Obviously, different characteristics move, you know, the market moves some, but think about it as pretty similar, assuming no stress. We had been over the last year, as we've said before, doing some tightening around the edges. Thin file, we've been increasing collateral. You know, we've been adjusting different loan sizes, that kind of tweaking. Some places we've asked, you know, we had mentioned with neobanks, we've asked for extra income savings. verification, all of which is, you know, some of it's operational, some of it's verification, but it all is net-net credit tightening. We've now done a, you know, a much more significant tightening once we started seeing things happen in May. And we basically, for the band where we saw underperformance, we either moved them to secured loans only or we just cut it out of our box. Because in June, you know, sometimes things happen in a month and there's aberrations, but we saw it continue in June. There's no reason to think that, you know, it will go on forever. But we said, let's just take a conservative stance because we tend to, as we think about underwriting a nationwide portfolio of risk, we look at a number of factors. Given the strong demand at the high end and our ability to continue to build the book with even better credit quality, We then put a larger, we put another stress assumption into our underwriting for the time being. And this is dynamic. This can go in and out, you know, every couple weeks or every month. We're watching the environment. So, you know, now our assumption is, if you think about a year ago with 2019, it was tighter than that, you know, going into the beginning of the year just as we tweaked around the edges. We then took out lower credit quality loans. We've now put another stress factor on, call it, you know, an 0-1-0-2 type of downturn stress. just to be cautious as we kind of watch this play out. So we have a pretty tight book right now.
spk08: So, I mean, obviously we've seen some economic deterioration here, the impacts of inflation. You know, we're seeing real savings rates decline. Are you assuming that we have labor deterioration, whether it's higher unemployment or higher – unemployment claims over the next six to 12 months, or are you using a lot of the assumptions that are out there for like Moody's or other rating agencies to benchmark your reserving?
spk03: Yeah, I mean, Kevin, we use all of that in our assumptions, and we make some judgments about where we think our appropriate level of reserves are. We've got some macroeconomic deterioration assumed in our reserves. Whether that plays out or not, we will see. But again, we take a conservative approach. We look at a lot of different factors. There's a lot of inputs to CECL as you think about a portfolio on lifetime reserves and losses over You know, call it a two-year period. So there's a lot that can happen. We put in appropriate macro assumptions. I'll leave it at that without getting into any more detail. But I will say we take, you know, that conservative approach and look at a number of different macro outcomes.
spk06: Yeah, but I mean, Kevin, just stepping back, though, I mean, if you – If we ask ourselves, you know, of the things that keep me up at night, do we have enough reserves? We've got plenty of reserves regardless of the situation and plenty of cushion in our book. And as I mentioned, you know, we feel really good about what we're underwriting today.
spk08: Okay. When you think about where your underwriting standards are today or what they've been throughout 2022, and we think about through the cycle net charge off rates, what would be your target net charge off rate on the book of business you're underwriting today?
spk03: Kevin, I don't think we want to get into that level of detail. I think the book of business we write today is going to be different from the book of business we write tomorrow. We have a long-term risk framework out there that says we'd like to see charge-offs in the 6% to 7% range in a normal economic scenario. We've also done a lot of downturn planning. While we're not necessarily calling a downturn, that's not our jobs, but we're mindful and nimble about our book. We've shown you over the past, going back to our 2019 investor day, that in the downturn, we still continue to remain profitable, and that's how our risk framework works.
spk00: And thank you for the question. We will move next to John Hecht with Jefferies. Your line is open.
spk01: Hey, guys. Thanks very much for taking my question. Actually, most of my questions have been asked. I'm wondering, you know, you guys had been – know you know selling to third parties your loans um you know i'm wondering in this environment if you kind of rethink yeah you'd sell a portion of your loans i guess are you rethinking that strategy what's the demand for the collateral uh just kind of kind of more kind of big picture kind of thoughts around that yeah john i mean remember we we put some agreements in some whole loan sale agreements over the last few years
spk03: We continue to have all three of those agreements in place. We continue to sell loans to those third parties. And they're private relationships. I would say the relationships are strong. We continue to foster those, have good conversations, and we hope over time some of these things will evolve into strategically important relationships where we may be selling some loans or collateral that don't necessarily fit our box. We're selling those over to those different third parties. But I don't have a whole lot to report there other than they continue. The relationships are strong, and we hope for a bright future with those folks.
spk01: Great. That's it, guys. Thanks very much. Thanks, John. Thanks, John.
spk00: And we will take our final question today from Moshi Orenbook with Credit Suisse. Your line is open.
spk09: Great. Thanks. And most of my questions have also been asked. I would say, you know, I'm wondering if you could just talk a little bit about, you know, what the timeframe would normally be for a vintage, you know, to kind of season and run through You know, whether you're talking about it where those, you know, the very high delinquencies you're seeing right now would start, you know, would start to normalize or those loans running through charge-off and what that might be, you know, given the enhanced collection kind of resources you're throwing at it in this, you know, in this environment.
spk03: Yeah, so I think very, very precise answer there. Moshe, our average life of loan is about 18 to 20 months. And so that should give you a good sense for how long the average vintage is. You know, I would expect these 21 vintages to roll through delinquency and charge off over the next four quarters.
spk09: Right. And just to kind of put a slightly finer point on that, Mike, you know, The risk of drowning in a lake that's six feet deep on average, the question is, are these loans in particular, I would assume, are at the shorter end of that, not the longer end, given that they tend to be your probably smaller dollar unsecured loans. I mean, is that a fair way to think about it?
spk03: Yeah, I mean, I think the question was asked earlier about across the spectrum with our products that we're seeing similar risks. similar friends for this product thing. It's more of a customer and lower credit quality customer attribute that's driving it. But, you know, maybe it's a help. I can tell you a little bit how we think about risk. Doug alluded to this very briefly earlier. We have an internal scoring methodology for our book. That takes all of our, it's basically all post-origination activities. So every month we will follow every loan through its life and rescore it based on current bureau attributes and how is that customer performing with us, what do we see in their bureau with other creditors. And we score that into deciles. We use this methodology to inform our internal borrower assistance and how we're interacting with customers that might be of the higher risk category. We use it in our collection strategies. And these customers that we're seeing that are starting to have some challenges have attributes like a little bit higher debt-to-income level. They tend to be a higher mix of below 600 FICO. They do tend to have a lower mix of secured, to your specific question, and also tend to skew towards more renters and thinner file customers. So, you know, that's sort of what we're seeing. I hope that gives you a little bit more context around you know, what we're saying with lower credit quality, but it is certainly not a product or necessarily loan-sized type of thing.
spk09: Thanks. That's extremely helpful. And just a quick follow-up, you know, given the comments in terms of moving forward on the card, is it fair to say that you're not seeing any of that kind of performance deterioration there?
spk06: Yeah, I think... Go ahead. Yeah, look, Moshe, the card, you'll remember, we tested a lot of different segments, you know, products, channels, customer types. The card that we're going to be expanding into is the lower risk both customers and channels is what we're going to be expanding into in 2020. So just like with our loans, there's lots of segments we feel really good about, and we're booking today similar with the card. These are, you know, we're not the test cells where we saw any issues. We assumed we ran pretty wide tests just so we knew the margins, but where we're expanding, you know, we haven't seen any issues.
spk09: Great. Thanks so much.
spk06: Yeah, no, thanks, Moshe. And look, thanks, everyone, for joining our call today. As always, our team is here, looks forward to hearing from you, happy to answer any further questions. So I hope everyone has a great day, and thanks for joining the call.
spk00: Thank you. This does conclude today's one main financial second quarter 2022 earnings conference call. Please disconnect your line at this time and have a wonderful day.
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