The PNC Financial Services Group, Inc. (PNC) Earnings Call Transcript & Summary

Good morning, and welcome back, everyone. I'm Susan Katzke, and I cover the large-cap banks at Crédit Suisse. Next out for the banks, we turn to PNC. I'm happy to be joined by CEO, Bill Demchak; CFO, Rob Reilly. It's been a while since we had the privilege of hosting you at this conference, and I'm thrilled to have you back in the mix this year, even more so with all that's underway at PNC. So let's get started. And by all means from the investor population, please, if you have questions along the way as we run this fireside chat, e-mail to me, and I will do my best to read those in.

So Bill and Rob, let's start, if you will, with your views on just the macro environment. Let's level set here and talk a little bit about what we're seeing right now and what you see as the path to recovery.

I don't know that we have much differences than kind of the consensus view that we're going to build as we go through the year that depending on vaccination rollout, you've seen [ Paul ] talk about the potential for a 6% GDP growth, I think we'd be somewhat below that. We see rates trending up, closing -- the 10-year kind of closing in on 1.5% by the end of the year. And importantly, we see -- while we don't see it in loan volume as yet, we do see the surveys, our own surveys and others in terms of optimism by small business and midsized business in terms of the economy coming back. So I think we're set up in a reasonable place for growth from here. Notwithstanding we're going to continue to have problems in certain sectors of the economy, credit issues inside of real estate and some other things that I think will take some time to roll their way through the system.

Bill, you've been a bit of a realist, I would say, all through this over the course of the last 12 months. And the Fed stepped in very aggressively. You had fiscal support that was very aggressive at the outset. And I'm curious how surprised you were by that level of support. And when you look back, do you think of it as kind of a new playbook for recession? Or this was just so incredibly different, that it was just different?

Well, I think what was different here, the Fed kind of used its old playbook, perhaps in larger size, and they did so. If you remember, they were shrinking their balance sheet, and we actually saw a disruption in money market as there effectively wasn't enough liquidity in the system to do funding. And so they reversed that quickly and then went massively into asset purchases and other programs blown in your their balance sheet, putting liquidity into the system. That's kind of what they did the last time. The big change this time was we had the government step in with fiscal policy, which effectively completely replaced the drop in GDP with government spending and did it in a way where they put the money in the pockets of consumers and small business as opposed to through traditional government programs, which was obviously very effective. I suppose if we got into another situation at some point where we needed to literally take a time out from the economy, I mean they kind of shut it off. We would redo it. But this is anything but a traditional recession. So I don't expect that we would see the same response going forward in a more traditional cyclical pattern of the economy.

Fair enough. And any change to your risk appetite kind of looking back at how your portfolios have performed? And really that last decade of regulatory framework development and derisking across the industry. And here we are with very manageable loss trajectories. Any change to the risk appetite?

No. I think it would be a real mistake to assume that consumer credit is always going to be built out by the government, if that's kind of where you're going with it. We're in the -- we had the worst unemployment ever and hit lower people harder, yet our subprime credit has never been better on the consumer side. And that's just -- that's abnormal. And I think it'd be a real mistake to assume that, that's going to be that way forever. I think real estate, we're going to have to wait and see, right, because there's probably a permanent change, retail, which was already there, but the pandemic has accelerated it. We're going to have to wait and see what happens to office. And even in multifamily, which is other ways kind of doing fine right now, if you see -- as you see single homeownership increasing as people get out of the cities, that's going to change, too. So that could change the credit box going forward, but I'm not sure exactly how yet.

Okay. Okay. Fair enough. So let's talk about credit. Let's talk about loan demand and pricing a little bit. And what you're seeing right now in terms of commercial loan demand, and then we'll get into some of the attractiveness of it. But what are you seeing?

Not much. I mean if you take PPP out of the balance sheet for last year and this year, you basically would have seen a year-on-year drop in C&I loans, I think at 4% Rob, if that's right. And since the end of the year, we're down 1% plus, which is kind of consistent with the HA data. We continue to see demand in the specialty segments. But the stuff that we're putting on in that space continues to be dwarfed by just the drop and low absolute amount of utilization in the broader book. And so lots of capital liquidity out there, not much loan demand leads to tight pricing. We basically combat that, as you know, with broad-based relationships and fee income, which offset what is otherwise a lower return environment for credit. But the hope for loan demand, and I think it's more than a hope, I think it's realistic, is that as the economy comes back, you're going to see the utilization rates tick up simply because you're going to see inventory build and CapEx kind of go back to more normal levels. And if corporates are just holding inventory in effect at the rate they did pre-COVID, you'll see a dramatic increase in utilization. And that will be the driver for the bulk of loan demand this year, I think.

So do you worry a little bit, having seen the drawdowns and then the paydowns that followed and so many of those paydowns getting affected in the capital markets that some of the lack of demand for C&I loan growth is really a permanent shift to the capital markets?

I mean look, there's been a progressive shift for the last 20 years into the capital markets. But I wouldn't confuse the drawdown. So if you think about -- the drawdowns occur with large corporates, they have backstop lines. They see the markets freeze up. They remember the crisis and they say, "I'm going to draw all the liquidity I can draw." They didn't necessarily go into the capital markets to pay it down. They just paid it back because they didn't use it. Now having said that, corporates are more liquid now, particularly large-cap corporates, and they've been in a very long time because the prices in the capital markets were just really low. And so they raised buffers of cash. And I think if the markets are open and that cheap, they'll continue to do that. A large, large portion, the vast majority of our clients don't really have access to traditional capital markets. They can do private placements, they could do one-off term structures, but most of them are relying on a partially funded revolver for their financing needs and maybe a term loan B that goes along with that. So think about lines, big corporates have credit lines to kind of backstop CP, which, by the way, the whole -- the jury is out on how the CP market is going to function going forward, given what happened to money funds again. And mid-cap corporates have revolvers that are partially drawn, basically funding their working capital. And I don't know that that's going to change.

Especially -- Susan, if I can jump in there, especially the revolving nature of that component. That characteristic is important to a mid-cap capital structure, and we see that continue.

Okay. That all make sense. And we're going to get to kind of how this impacts the BBVA franchise later. But when you think about your commercial lending franchise, which I really think of as your core competency here at PNC and how you've built the profitability around the lending product with the treasury services business and some of the advisory capabilities. Let's talk about kind of where you're going with those businesses, where are you investing right now to enhance the return profile of that customer and really to stay ahead of the kind of more vanilla competition that doesn't necessarily have the skill set.

Yes. So just a soundbite. Our C&I fee income grew 21% last year. And I think hit records pretty much across all categories, led by TM. And once again, we were rated kind of first in products and services and our treasury management capacity. We continue -- we've invested in that business continuously for years, and we're -- we continue to do that. You might have seen that we recently bought or announced the purchase of Tempus Technologies, which is a payment gateway, which will be integrated. We already use them as a vendor, but we can now integrate them into our systems to basically do the full suite of initiate payment for customers in whatever form. And you'll see us continue to do things like that. You've seen Solebury this year had a record year. They advised on 106 IPOs and secondaries. $54 billion in total proceeds. And that's a very unique business model, where we're not committing capital to the equity markets, but rather we're using our advisory platform to help people access capital. Similar to our Harris Williams model, similar we bought Fortis, where we're basically warehousing cash prior to close. So there's a whole bunch of things that are -- I'm going to call them niche, but they add up to a lot of money that elevate dialogue with our corporate clients and become an important part of our relationship with them.

Okay. So let's switch gears for a moment into consumer loan demand. And what, if anything, you're seeing there, mortgage and then on the unsecured side?

Yes. Not much, right? We've seen the continual grind down in balances partially as people use stimulus to pay down debt and consumer spending, while rebounding, I think, was driven largely by people who don't revolve balances. So we continue to see that grind down. We did some of it ourselves because at the margin we tightened credit as we went into this thing. And I don't know that, that changes much until we see broader measures of employment and consumer spending that the lower end of the economy is driving as opposed to wealthy individuals. The mortgage activity continues, you can make that balance, however much you want, right? That's a function of what you choose to put on your books or not. And home equity has been active. But auto, student lending, card all kind of grinds down a little bit.

Okay. That's -- I would say that's pretty consistent with what -- obviously, with what we see in the HA data, but really, what we're hearing from the rest of the banks, very similar in terms of the lack of demand that's out there. So let's talk about -- you touched on this at the outset with the expectation that the 10-year hits 1.5% by the end of the year. But let's talk about the path of interest rates, on the short end and beyond this year and maybe dig into your NII guidance a little bit in terms of the puts and takes and whether or not the steepening in the curve helps.

All right. I mean in the broadest context -- and I'll let Rob give guidance if he wants to give guidance. But in the broadest context, at least at the beginning of the year alone, demand is at the margin weaker than we would have thought, [ not ] by much, but at the margin. Rates are better than we would have thought. And deposits are kind of following the path that I suspected and will accelerate my view because now you see the treasury is going to draw down on their balance at the Fed. So those are the moving pieces. I think -- did I lose you guys here?

We can hear you.

Hello?

Okay. You can hear me still?

Yes.

And you're a little frozen. We can hear you.

All right. Well, I'm not sure what's happening here, but I'll continue. The [Technical Difficulty] the end result is [Technical Difficulty]

All right. Susan, maybe I can jump in and then maybe Bill's will smooth out there a little bit.

[Technical Difficulty] are meant to drop, but is it lower yields.

You might not be able to hear us. Oh, there you are.

Go ahead, Rob.

I was just going to jump in while you're sort of smooths out a little bit. I mean what Bill was saying is, I think, particularly in terms of guidance, we still -- what we provided on our first quarter call still holds for the quarter and the year. We expected some pressure on NII, so down modestly for the year, down a bit for the quarter. And all the dynamics are there that we thought maybe a little bit more pressure in terms of less loan demand, obviously, that Bill was talking about. And then maybe a little bit of help, probably more on the back end on the steepening of the curve than in the first quarter. So there's pressure there, but not outside of what we expected.

Yes. I think the other soundbite, Rob. When we went into January, our reinvestment yield, we assumed would average around 80 basis points, and that's probably around 1% now.

Yes. And that's part of the steepening that's helping.

So I'm curious on that point. You're holding a lot of liquidity, obviously, on your balance sheet. In terms of what you're buying with the incremental liquidity and how comfortable you are extending duration at this point, even just to get to that 100 basis points from [ 18 ], where are you putting the incremental liquidity right now?

Wherever we can find something with attractive opportunity. Some of it, we're using swaps more, which actually isn't using any of the liquidity, but is otherwise adding to duration. We continue to be an agency backed paper, hefty component of treasuries, nothing abnormal inside of that mix. The other thing that's open here is the Fed's balance sheet continues to grow, and the treasury basically drops their T-bill issuance. You're going to see pressure on the front end of rates. And there's dialogue around interest on excess reserves potentially increasing. That would obviously have a very big benefit very quickly if they did that.

Okay. Okay. So let's switch gears a little bit, if you will. And let's have a discussion around your strategic priorities, the BBVA USA acquisition, and really, your path to becoming a national bank. So let's start with how you define optimal scale and put it in the context of the pursuit of becoming a national bank.

I don't know that I define optimal scale in terms of size of a balance sheet as much as I do relevance to our clients. And then importantly, I think ubiquity to consumer clients across the country and the importance of brand as part of that. So I don't know if that means we're supposed to be twice as large as we are today, or we're fine with the size we are. I just know that the end goal has to -- have with it a growth in our national brand that matches our brand inside of our existing footprint. BBVA obviously gives us a growth opportunity for multiple years to go, given that the large markets that we've entered and aside, we've already been hiring into those new markets. So we're not waiting for the close. We'll have teams on the ground between BBVA, our existing employees and people who we're hiring that will hit those markets hard. And I think that gives us a growth trajectory for the next 10 years that through time, we'll add to, my best guess would be, we'll continue to go organically. But when opportunities arise, where there's value to buy, we would buy. We've seen, obviously, financial prices go massively higher since we closed on BBVA. And so I don't know how attractive that would necessarily feel to me today. But there'll be times when things are attractive. And just a soundbite for you as to why we pursue this. You talked about the strength of our corporate franchise. And we were reviewing this at the end of the year. But our traditional highest income markets, our highest revenue markets, it's called, t,hat are, Pittsburgh, Philadelphia and the New Jersey region. Interestingly, over, if you go back to when we bought Riggs Bank, we had nothing in DC. DC today, their sales are as large as Pittsburgh, Philly or New Jersey. Their total bottom line is not yet there because sales kind of roll through time and build a revenue base. Chicago is the same way, which basically we built from scratch with National City. So now we're adding the Texas markets to that. We're going to be in California. We have Arizona and Phoenix and all the markets that we open on our own, gives us a massive growth opportunity through time if we execute basically the playbook, we've been doing going all the way back to market.

That makes sense. I'm curious when you talk about hiring in the BBVA USA footprint, I'm curious, I assume that's facilitated by the fact that you already had some Texas presence. And so you can leverage your own presence in that market, which you already had some insight into when you did that deal by having grown organically.