Western Alliance Bancorporation Common Stock (DE)

Welcome to Western Alliance Bank Corporation's second quarter 2022 earnings call. You may also view the presentation today via webcast through the company's website at www.westernalliancebankcorporation.com. I would now like to turn today's call over to Myles Pondelik, Director of Investor Relations and Corporate Development. Please go ahead, sir.

Thank you and welcome to Western Alliance Bank's second quarter 2022 conference call. Our speakers today are Ken Vecchione, President and Chief Executive Officer, Bill Gibbons, Chief Financial Officer, and Tim Bruckner, our Chief Credit Officer. Before I hand the call over to Ken, please note that today's presentation contains forward-looking statements which are subject to risks, uncertainties, and assumptions. Except that for primary law, the company does not undertake any obligation to update any forward-looking statements. For more complete discussion of the risks and uncertainties that could cause actual results to differ materially from any forward-looking statements, please refer to the company's SEC filings, including the form AK filed yesterday, which are available on the company's website. Now, for opening remarks, I'd like to turn the call over to Ken Beccione. Thanks, Miles. We had solid performance this quarter as the company passed the $66 billion asset milestone. and the strong earnings power of our diversified passive sensitive business model was on display, even as we are keenly focused on the economic uncertainty around us. For the second quarter, Wall generated total net revenues of $620 million, net income of $260 million, and EPS of $2.39. Record earnings were propelled by accelerating net interest income quarterly growth of $75 million, or 17% from prior quarter to $525 million as the rising rate environment expanded our net interest margin 22 basis points to 3.54%. Interest income rose three times faster than interest expenses, inclusive of deposit costs and ECRs. We maintain industry-leading performance with return on average assets and return on average tangible common equity of 1.62% and 25.6% respectively, which will continue to support capital accumulation and strong capital levels in the quarters to come. Balance sheet expansion continued with quarterly organic growth of $5.3 billion, or 52% year-over-year, excluding the $1.9 billion of loans transferred from held-for-sale to held-for-investment, which was done to avoid income volatility from rising rate marks. Dale will speak to this later. Deposits rose by $1.6 billion, or 28% from the prior year, as we continued to effectively attract and deploy liquidity. Loan growth was broadly diversified this quarter, with regional banking divisions contributing 16% of organic growth, or $863 million, our specialized national business lines adding 55%, or almost $3 billion, and residential loans composing 28%, or $1.5 billion, excluding the hell for sale transfers. Deposit growth trailed loan growth in our $2 billion guide as a few large customers were pushed to July. Mortgage banking-related income modestly declined by $5.4 million as the mortgage origination market continues to face headwinds from higher rates, affordability issues, and inventory constraints. We believe the rationalization of the mortgage sector will take time, but we have already positioned AmeriHome to profitably operate in a lower origination market and to unlock value as a bank-owned mortgage business by attracting custodial deposits and deploying liquidity into low credit risk loans. Finally, asset quality continues to remain stable as total non-performing assets decline $6 million to 15 basis points of total assets and net charge-offs for only $1.4 million. We are cognizant of the macro uncertainties and possibly more difficult credit environment in the future, but we have deliberately positioned the portfolio to expand these pressures through credit leak note issuance, government guarantees, and cash collateral that now cover 27% of our portfolio. In addition, another 33% of our loans are in low to no-loss loan categories. At this time, Dale will take you through our financial performance. Thanks, Ken. For the quarter, Western Alliance generated net income of $260 million, EPS $239 million, and PPNR of $351 million. total net revenue to $620 million, an increase of $64 million during the quarter, and $114 million, or 22%, year-over-year. Net interest income increased $75 million to $525 million during the quarter, driven by robust loan growth and the impact of higher rates on the margin. Overall, non-interest income declined $11 million to $95 million from the prior quarter, driven primarily by a $10 million loss on mark-to-market adjustments for preferred securities as credit spreads widened and lower mortgage banking-related income, which fell $5.4 million during the quarter to $72.6. This decline was partially offset by a $9 million gain on credit recoveries related to credit banknotes sold during the quarter. which is reported in non-interest income as really a contra expense to the provision for credit losses using the same CECL methodology. Finally, non-interest expense increased $20 million in the quarter, resulting in an efficiency ratio of 42.8%, primarily due to higher deposit costs from earnings credit rates as rates rose and processing expenses from a larger balance sheet. All in, net revenues grew 3x out of the increase in expenses. Turning now to our net interest drivers, our growing asset-sensitive balance sheet benefited from the rising rate environment. Investment yields increased 17 basis points from the prior quarter to 2.94%. On a link quarter basis, loan yields increased 21 basis points to 419. Loans held for sale also benefited from rising mortgage rates and increased 85 basis points to 399. Funding costs were higher, with interest-bearing deposit costs increasing 17 basis points to 37, while balances grew 1.4 billion. Total costs for funds increased 11 basis points to 38, as the rate and utilization of short-term borrowings increased as loan growth exceeded deposit growth. Net interest income increased $75 million during the quarter, or 17% unannualized, to $525 billion as average interest-earning assets grew $4.5 billion, and NIM expanded 22 basis points to 354. To put our asset sensitivity into perspective, our total funding costs, inclusive ECR expenses, only grew 30% of the $95 million increase in interest income for the quarter. Okay. After recent Fed actions to rapidly increase interest rates, we continue to remain materially asset sensitive since our variable rate loans moved above their floors. Given that the Fed has increased rates by 125 basis points since last quarter, our proportion of variable rate loans at their floors is now only 16%, down from 80% in Q1. Based on expectations of an additional 75 basis point rate increase by the Fed next week, nearly all of our loans will be at this variable rate at that point in time. In a rate shock scenario of 100 basis points over 12 months and on a static balance sheet, net interest income is expected to rise 5.3%. Using the same scenario on a growth balance sheet, we expect NII to grow over 25%. Under a plus 200 basis point rate shock scenario on a static balance sheet, net interest income is expected to climb by 10.8% in the coming year, and over 40% at this rate environment were to materialize when balance sheet growth expectations are also incorporated. Our efficiency ratio fell to 42.8% from 44.1 in Q1 due to rapidly increasing net interest income. Non-interest expenses rose 20.3 million or 8% during the quarter, primarily due to an 8.8 million increase in ECR-related deposit costs and non-interest-bearing deposits and higher loan servicing and data processing expense from a larger balance sheet. Total deposits subject to ECR is $14.5 billion at quarter end. We expect our efficiency ratio to remain in the lower 40s for 2022. Supervision net revenue was a record $351 million during the quarter, or 34% increase from the same period last year, an increase of $44 million, or 14% quarter over quarter. This resulted in a PPNR ROA of 2.19% for the quarter, an increase of nine basis points compared to 210 in Q1. Despite our strong balance sheet growth and volatile rate environments, our PPNR ROA has remained quite stable over time. Strong balance sheet momentum continued during the quarter as loans held for sale called Health Corps Investment increased $5.3 billion. Net of the HFS to HFI loan transfer were 13% to $48.4 billion. And deposit growth of $1.6 billion brought balances back to $53.7 billion at quarter end. As Ken mentioned, during Q2, we transferred $1.9 billion of government-guaranteed early buyout residential loans from the health for sale to the health for investment portfolio to eliminate the mark-to-market volatility of HFS loans. Since these loans are targeted to re-perform or roll off the balance sheet in various forms of liquidation, they have significantly lower duration than other mortgages. Mortgage servicing rights balances declined $124 million in the quarter to $826 million as we optimize capital for certain MSR portfolio sales. Total borrowings increased $4.4 billion over the prior quarter to $6.1, primarily due to an increase in short-term borrowings of $3.9 billion and the influence of $494 million in credit-linked notes, providing first-loss credit protection on a pool of $2.2 billion in capital call loans and $3.9 billion in residential loans. Finally, tangible total value per share increased 46 cents Decreased $0.46 or 1.2% over the prior quarter to $36.67, primarily due to unrealized fair value losses on available-for-sale securities recorded in all other comprehensive income. And local value per share increased by 11.6% year-over-year. We continue to generate attractive organic loan growth from our flexible commercial business strategy and see broad-based loan demand between our regional banking divisions and national business lines. Loans held for investment grew $5.3 billion, driven by an increase in C&I loans of $2.9 billion, as demand for capital call lines and regional banking remained strong, contributing $1.1 billion and $863 million to growth, respectively. Commercial real estate loans grew $969 million and residential grew $1.5 billion, representing 28% of loan growth, including the EBO transfer during the quarter. We expect residential loans to remain at this lower proportion of loan growth going forward than it has been historically. Turning to deposits, we continue to see growth across our diversified channels that will generate stable, low-cost funding in different rate environments through deep-rooted banking relationships with our clients. This quarter, our special lead deposit non-national business lines drove most of the net deposit growth, while regional banking divisions were flat. In total, deposits grew $1.6 billion, or 11.9% annualized in the second quarter, driven by increases in currency needs of $760 million, interest-bearing deposits of $592 million, and non-interest-bearing DDA of $201 million. Non-interest-bearing accounts comprised 44% of our total deposit mix. Our specialty deposit franchises continue to provide ample opportunities to generate attractive funding to support loan growth with deposits from warehouse lending higher by $520 million, HOA of $219 million, and settlement services up $135 million. Going forward, we expect deposit growth to more closely match our loan growth as 2Q is impacted by a few deferrals of new deposit relationships to the current court. Our asset quality continues to remain strong and total classified assets and special mention loans as a percentage of total assets and funded loans are lower than 2019 levels. Total classified assets declined 19 million during the quarter to 346 or 52 basis points of total assets as the temporary impact of the Omicron variant on hotel loans continues to wane. Special mention loans decreased 33 million during the quarter to 66 basis points of funded loans and our historical lows as a percentage of assets. As the economic environment continues to evolve, we believe that our portfolio is structurally well-positioned to sustain superior asset quality through cycles based on our deliberate, decade-long business transformation and diversification strategy that emphasizes underwriting discipline. Our national reach and deep segment expertise enable selective relationships with the strongest counterparties, leading profitability, and superior company risk management. Approximately 56% of our loans are in low to no loss categories and 27% of the portfolio is credit protected through government guarantees, credit late notes, first loss protection, or is tax secured. We do not currently see signs of a notable recession or credit stress. but are prepared for these events should they arise. Quarterly net credit losses were $1.4 billion or one basis point of average loans. Our total loan allowance for credit losses increased $26 million from the prior quarter to $327 million as the provision exceeded losses due to strong loan growth, and we adjusted economic assumptions for unexpected tail risks. In all, our total loan ACLs and funded loans declined five basis points to 68 basis points. Adjusting for the $11.2 billion in loans covered by credit-linked notes where ample first-loss coverage is assumed by a third party, the ACL coverage ratio rises to 88. Finally, given our industry-leading return on equity and assets, we continue to generate capital to fund organic growth and maintain well-capitalized regulatory capital ratios. Our CET1 ratio was stable at 9% as our net income and risk-weighted asset reduction from credit link notes offset the capital necessary to support our exceptional loan growth. However, our tangible common equity to total assets fell to 6.1% this quarter, reflecting negative fair value marks on available-for-sale securities. It's notable that the TCE ratio does not consider the increased value of low-cost deposits in this higher-rate environment. Inclusive of our quarterly cash dividend payment of $0.35 per share, our tangible book value per share declined $0.46 during the quarter to $0.3667, primarily reflecting the adverse available for sale marks at quarter end. While rates have continued to rise, the rate of increase we witnessed in the first quarter and the second should subside later this year. Given our robust capital generation, we still expect that 2022 will again be a year of tangible book value growth. I'll now hand the call back to Ken. Thanks, Dale. I was very pleased with Q2's results and the management team's ability to adapt to the changing interest rate and economic environments. Loan and deposit growth was strong. Net interest growth accelerated with expanding NIM. Credit remained solid and clean, and expenses were balanced for both near-term efficiency and long-term investments. Looking forward, we expect loans held for investment and deposits to grow in excess of $2 billion per quarter. Our loan and deposit pipelines, bolstered by client confidence, gives us reassurance that our balance sheet will continue to grow in a safe, sound, and balanced manner. Managers' margin is expected to grow throughout the year, accelerating net interest income growth and driving higher PPNR. Ventures income expansion in the third quarter is expected to exceed the increase in the second quarter. Strong ventures income growth will continue to drive total revenue higher, inclusive of mortgage banking slowdown. Mortgage banking related income is likely to more closely track changes in overall mortgage sector volumes going forward. The bank's asset quality remains solid. We are not seeing emerging delinquencies or defaults within any segment. However, we believe we are in a technical recession and are planning for a further slowdown and are prepared for a more dour economy if that occurs. Regarding capital, we believe our internal capital generation can support up to $3 billion to $4 billion of loan growth depending on minutes. capital ratios to remain fairly stable at current levels throughout the remainder of the year. In conclusion, we continue to see EPS of $9.80 for full year 2022 as a four from which 2023 can ascend. At this time, Dale, Kim, and I would be happy to take your questions.

Ladies and gentlemen, we will now begin the question and answer sessions. If you would like to ask a question, please press the star followed by the number one on your telephone keypad. If you would like to withdraw your question, please press the star followed by the number two. Please stand by while we compile the roster. Your first question comes from Casey Hare of Jefferies. Please go ahead.