Wells Fargo & Company (WFC) Earnings Call Transcript & Summary

Good morning, again, everybody. Our next speaker is Wells Fargo. We have CFO, John Shrewsberry, back again. I'm happy to have you join us pretty consistently throughout the conference. And I know you're going to start us off with some formal comments and then we're going to go to a fireside chat, and we will have time for Q&A after that. So with no need for some lengthy introduction, because you will say it all, John, I will turn the podium over to you.

Thanks, Susan. Good morning, everybody. I appreciate your interest in Wells Fargo. This presentation includes certain forward-looking statements regarding our expectations for the future. A number of factors, many beyond our control, could cause actual results to differ materially from management's current expectations. Please refer to the appendix for information regarding our forward-looking statements and where you can find more information on our risk factors, information about any non-GAAP financial measures referenced, including a reconciliation of those measures to GAAP financial measures can be found in our SEC filings at wellsfargo.com. So let me start quickly with a reminder of our fourth quarter results. We continue to have positive business momentum with stronger customer activity, and I'm going to highlight some of these trends over a longer time period during this presentation. Our fourth quarter results included a number of significant items, including $1.5 billion of litigation accruals for a variety of matters, including previously disclosed retail sales practice matters. Along those lines, last Friday, we announced that we had entered into agreements with both the DOJ and the SEC to resolve their outstanding investigations into retail sales practice matters. And as part of this resolution, we agreed to payments totaling $3 billion, which was fully accrued for at 12/31. In our 10-K filings this morning, we disclosed at the high end of the range of reasonably possible potential losses in excess of our accrual for probable and estimable losses was approximately $2.6 billion as of the end of the year, down $1 billion from the third quarter. Loans and deposits both grew in 2019 and have now grown on both a linked-quarter and year-over-year basis for 3 consecutive quarters. As you can see on the chart in the upper left, total loans declined in 2017 and 2018. One of the drivers of this was the reduction of our auto portfolio as we were making fundamental changes in that business. We centralized functions by consolidating 57 business centers across the country to create 4 regional hubs, with automated pricing and decision-making. After completing most of the transformational changes to this business, our auto portfolio returned to growth in the second quarter of 2019, and auto originations in full year 2019 increased 44% from 2018, while maintaining our credit discipline. Loan growth was also impacted by the $10.2 billion of consumer real estate PCI loans we sold in 2018 and 2019. At the end of last year, there were only $519 million of Pick-a-Pay PCI loans outstanding. Since 2016, commercial loans have increased $9.2 billion as growth in C&I loans was partially offset by declines in commercial real estate loans, reflecting continued credit discipline. As you can see on the chart on the upper right, deposits grew 3% in 2019 after declining 4% in 2018. The decrease in 2018 was primarily driven by customers allocating more cash to alternative higher-rate liquid investments as well as actions we took in early 2018 to reduce financial institutions deposits in response to the asset cap. The growth in 2019 was broad-based, with 5% growth in wholesale banking deposits and 3% growth in consumer and small business banking deposits. Net interest income was down 6% in 2019 compared with 2018 primarily driven by lower interest rates. Lower long rates resulted in higher MBS premium amortization costs, reflecting higher prepayment speeds. As you can see on the chart in the upper right, MBS prepayment amortization increased throughout 2019, and we expect it to remain elevated through the first half of 2020 and then to start to decline in the second half of the year. On a full year basis, we expect 2020 to be higher than 2019, although these expectations could change given the evolving interest rate environment. Our average deposit cost continued to increase during the first 3 quarters of 2019 before declining 9 basis points in the fourth quarter, reflecting lower rates in wholesale banking and WM. We did not run any broad-based retail banking marketing promotions for deposits during the fourth quarter. However, retail banking deposit cost increased 2 basis points due to the continued impact from previous promotional campaigns and deposit-gathering strategies in early 2019 when rates were higher. While we continue to offer our customers competitive promotional savings and CD rates within our branches, retail banking deposit costs are expected to start to decline in the first quarter as previous promotional rates expire. Given how loan rates have trended lower through mid-February, we currently expect net interest income to decline in the mid-single digits in 2020, which doesn't yet fully capture what's happened this week. Well, today, we have a 120 handle on the 10-year. However, as always, it will be influenced by a number of factors, including loan deposit growth rates, asset mix, pricing spreads, the level of interest rates in the slope and shape of the yield curve. Earning asset growth is less of a lever for us than it is for peers because of our business mix and our asset cap. Our revenue has also been impacted by trends in noninterest income, and we're encouraged by some improvements that we've seen in customer-driven activity. As you know, we made a number of customer-friendly changes over the past couple of years to reduce our service charges on deposit accounts. However, even as we helped over 2.7 million customers avoid overdraft fees in 2019 with Overdraft Rewind, service charges increased by 2% in 2019. As a reminder, approximately 40% of deposit service charges are from commercial customers. Trust and investment fees benefited from the strong capital markets during the year, including growth in investment banking fees. We raised $115 billion of debt capital for our clients in 2019, and we're pleased that, for the first time since 2016, California recently picked Wells Fargo as a bond underwriter for an upcoming municipal debt issuance. Card fees grew 3% in 2019 driven by higher debit and credit card purchase volume, which we highlight on Slide 6. Mortgage banking income declined 10% in 2019 from lower servicing income primarily driven by a decrease in servicing fees as well as lower hedge carry income from a flatter yield curve environment in 2019. Net gains on mortgage loan originations increased 33% during 2019 from higher origination volumes and production margins. We expect mortgage originations to be lower in the first quarter due to normal seasonality, while production margins are expected to increase modestly from the fourth quarter. Also for the first time in 2019, we had a month where more than half of our mortgage applications came to us through our online mortgage application. The online mortgage application allows for the capability to leverage a fully digital experience, which shortens the time from application to a customer approval by approximately 30%. Going forward, our ability to grow these categories of noninterest income will be influenced by customer activity, and we highlight some of the trends on the next 2 slides. Despite the challenges we faced over the last few years, our number of primary consumer checking customers has increased 3% from the fourth quarter of 2016, reflecting higher retention and engagement from our customers. Our customers continue to interact with us more digitally with mobile active customers up 24% since 2016, while teller and ATM transactions declined 16%. Reflecting these changes, we've reduced the number of our branches by 713 or 12% since 2016. However, we still have branches in more states and approximately 2x as many markets as our large bank peers. We've enhanced training and coaching for our team members in our branches, including an increased focus on educating our customers about our industry-leading digital capabilities, and the increase in our branch customer experience survey scores reflects our efforts to improve customer service. Improving the customer experience across Wells Fargo remains a priority. And as part of this focus, we're implementing the Net Promoter System to allow even more dynamic customer feedback and benchmarking. As a result of this implementation, as I mentioned on our fourth quarter earnings call, we'll no longer be reporting branch customer experience survey scores. However, we will continue to share key business drivers that reflect the progress we're making to improve the customer experience and drive loyalty. Some of these key business drivers are highlighted on Slide 6. Since 2016, debit card purchase volume has grown 21%, consumer general purpose credit card purchase volume has grown 17% and commercial card spend volume is up 28%. As I've said on our last earnings call last month, our expenses are still too high, and becoming more efficient remains a top priority. We're asking each business and functional leader to show us what best-in-class efficiency looks like and the path to achieve it. Many of these leaders are new, and we've enhanced our expectations for running a well-controlled organization. The result of this work is designed to provide us the plans to not only improve our performance within each business, but also to enable us to understand our opportunities across the company. Our ultimate goal is to have best-in-class efficiency. While we have a lot of work ahead of us to become more efficient, it's worth noting, as we show on the slide, that our noninterest expense, including operating losses in excess of $600 million and excluding deferred compensation expense, which is P&L-neutral, has been relatively stable the last couple of years, even as we've been making significant investments in risk management and technology. Our expenses would have been substantially higher if we hadn't been generating efficiency in other parts of the company. As we stated on our fourth quarter earnings call, we're conducting these business reviews, and it's still too early to provide any specific guidance for our expectations for 2020 expenses. In the short term, though, I wouldn't expect expenses to vary too much from our recent run rate, excluding outsized -- previous outsized operating losses and deferred comp expense. Although as a reminder, we have seasonally higher personnel expenses in the first quarter. Turning to credit quality. Our credit quality has been strong, and our net charge-off rate was 32 basis points of average loans in the fourth quarter. Our nonaccrual loans continued to decline at the end of the fourth quarter, and there were 56 basis points of total loans, the lowest level in over 10 years. We adopted CECL on January 1 of this year and recognized a $1.3 billion reduction in our allowance for credit losses. This reduction predominantly reflects $2.9 billion reduction in the allowance for commercial loans, partially offset by a $1.5 billion increase in the allowance for consumer loans. As we've previously -- as we've noted previously, we anticipate the amount of our allowance for credit losses to be more volatile under CECL due to economically sensitive forecasts and the impact of changes in the credit cycle. Our first quarter results will reflect CECL adoption. On Slide 9, we've been increasing the amount of capital we've returned to shareholders, while our capital ratios remained very strong. In 2019, we returned a record $32.9 billion to shareholders, including higher common stock dividends and increased gross common stock repurchases. Even with the 30% increase in our quarterly common stock dividend over the past 2 years from $0.39 per share in the first quarter of '18 to $0.51 per share currently, the total quarterly dividend amount of approximately $2 billion is only slightly higher today. Shares outstanding have declined by nearly 900 million or 18% since 2016. At the end of 2019, our estimated CET1 ratio was 11.1%, well above both the regulatory minimum of 9% and our current internal target of 10%. As a reminder, our target may increase modestly to 10.25% to 10.5% due to the implementation of the stressed capital buffer and possibly impacts of CECL in stress testing. Our estimated eligible external TLAC as a percentage of total risk-weighted assets was 23.2%. We've issued over $7.8 billion of senior long-term debt during the first quarter of this year to fund both maturities and long-term debt that's rolling into the 12-month and in maturity bucket and no longer qualifies for TLAC. Additionally, we issued $2 billion of Series Z preferred stock this quarter, as we announced earlier this month. Parts of the proceeds will be used to redeem a portion of our outstanding Series T preferred stock as well as to redeem the remainder of our Series K preferred stock, which will reduce EPS in the quarter by approximately $0.06 as a result of the elimination of the purchase accounting discount recorded on these shares at the time of the Wachovia acquisition. I want to conclude by highlighting some of the organizational changes that were announced a couple of weeks ago. This new model creates a flatter business structure and provides leaders with clear authority, accountability and responsibility. As we highlighted on this slide, the new model has 5 principal line of business CEOs, each reporting to Charlie. In addition, we're making fundamental changes to the way we manage operations in order to strengthen how we serve clients and customers, drive operational excellence and execute on our regulatory priorities. Each of our lines -- each of our business lines now has core operations functions led by operations leaders who report to Chief Operating Officer, Scott Powell, with shared reporting relationships to business line CEOs. Separately, we created a new strategy, digital platform and innovation group, also reporting to Charlie, which will enhance our focus on planning for the digital future and investing in the customer experience. These are some of the transformational changes that we're making at Wells Fargo. And I'm excited and optimistic that they'll result in a company that's well positioned to benefit all of our stakeholders. And now I'll take your questions.

Welcome to the hot seat. So you've given us a lot of material in the first 10, 15 minutes, but I want to follow up on a few things that you spoke to, and I want to start with the business line reviews. And my sense is you can't really answer this question, but can you give us an update? Charlie is moving through each and every business. I think everybody is anxious to get to a conclusion of these reviews and to understand kind of a time line and a path to becoming best in class from an operating efficiency standpoint, et cetera. Can you talk to us about where you are in the review process and where the compliance initiatives and consent orders factor in to coming to a conclusion?

Sure. So the nature of these road maps accounts for where we are today, but presumes a normalization and an approach to efficiency, even for the things that we're doing to become better controlled and compliant and -- for each of the lines of business. And if there's 5 larger lines of business, there's probably 2 or 3 or 4 component pieces for each of them, and each of them deserves their own rep -- requires their own road map over time. So there's a -- it's an early version of each. Some of these businesses, as I've just described, don't have their leaders in place yet. We're looking for a new head of wealth and investment management, maybe from within, maybe from without. Jon Weiss is now new in the CIB leadership role. Mike Weinbach hasn't joined us yet, who will be running consumer lending. So a lot of work is going on from the teams that are close to the action. Obviously, the new leader in each of those cases have to really make their imprint. So it will take some period of time. And it'll get better -- they'll get better each time we work through them over the coming quarters. So Charlie hasn't put a time frame on when he wants to talk about what the outcomes are, but the work is going on extensively underneath the surface in order to drive to those particular outcomes.

And just to be clear, does it take -- do you need to have consent order relief or asset cap relief to really be able to put targets and a plan out there with confidence?

Ultimately, I think if you put targets out with the existence of the asset cap, you need a second set of targets to describe what the company would look like without it. And so I think these leaders are imagining best-in-class outcomes after having satisfied the conditions for the asset cap. So that's what the long term looks like.

Okay. So in your formal remarks, you answered question #4 on my list, which was your NII guidance for the year. But let's backtrack into -- you made the comment that you're now looking at NII down mid-single digits this year as opposed to low to mid-single digits. And that's before considering what's happened to the curve in the last 2 to 3 days. So can you talk about what key factors are impacting the change in guidance today and then where the additional pressure comes from?

Sure. I wouldn't read too much into today versus the last time we talked about it. Low to mid is mid, I mean, it's not very different. The issue from here forward is what does the Fed do, if anything. They say they're likely to stay on path, and the market doesn't seem to be looking at it that way. And then what happens at the long end? Do we persist in the [ $1.20, $1.30 ], who knows, versus probably 50 basis points higher the last time we had this discussion? So we'll keep forecasting scenario, analyzing. When we come to the quarter, we'll have a better view of how long rates have remained low, what the sentiment is, what the forecast is, what implies they're telling us about the rest of the year, and we'll get some updates then.

And this is largely securities portfolio reinvestment and premium amortization that will weigh on you?

Yes. At the long end. And in the front end, if we start moving down in Fed funds and LIBOR, then that would have an impact, of course.

Of course. So if we talk then about kind of one step further into component parts and what you're seeing right now in terms of loan demand, the appetite on your end to extend credit across the spectrum as well as client demand for financing.

Sure. Let's separate the coronavirus impact from how we felt over the -- before a months ago, something like that. I'd say open for business on all fronts. Commercial real estate, we've probably been a little bit more cautious than others. But in mortgage, in auto, in card, in a wide variety of the C&I loan categories, very competitive environment. Mix, in terms of customer demand for loans, I think, overall, for this year, we're probably imagining loan demand up in the, call it, 4% range. And the component piece, auto will be a piece of that, mortgage will be a piece of that, C&I will be a driver of that. Now more recently, family were -- markets are reflecting, obviously, a real risk off tone. It hasn't really -- it certainly hasn't filtered through to consumer customers. And our business clients are dealing with it, depending on what their swim lane is and what they can imagine. So we've got airline, cruise, hospitality, hotel, et cetera, who are all feeling an impact in the first quarter and imagining what the impact is going to be. So we have to -- you would imagine that, that curtailed their enthusiasm for incremental leverage. On the other hand, because debt capital markets are not closed, but people are more reluctant to use them, I mean, with this intraday volatility like what we've had, so the possibility that bank lines actually get used during this environment for people who might have otherwise accessed capital markets to fund themselves. So we'll see how that plays through. In the fourth quarter of '18, you may recall, we had a big bump in C&I loans for that very reason. The market wasn't hospitable and so people chose to use their banks, and that -- that's what we're here for, right? So that could be a benefit. The big question from a loan demand and credit quality perspective is what happens if this business climate remains -- or gets worse from where it is today and if that leads to issues in employment, which leads to issues in consumer credit demand. We're not anywhere near that stage right now, but that -- we should be thinking about that if it is -- if like the average daily confirmed case of the virus is not ticking down and if it's spreading more broadly around the world, certainly, in this country, then that's likely to have an impact.

Fair enough. In terms of mortgage, you noted that in the first quarter, the volumes were trending down seasonally, and I'm not asking for real-time updates. But given where the long end of the curve is that has to be probably a pretty dynamic forecast.

Yes. So yes, refi -- well, it's pipeline versus closings because there's a window. There's nothing you can do today that's going to change the closing forecast materially for the first quarter. But yes, applications are picking right back up on the -- in the refi channel and purchase applications have continued to be very strong. So...

Right. So that's a source of offset to some of the net interest revenue weakness that you might feel from the long end being down, and it's a pretty significant business for you.

Yes. That's right.

Okay. So in terms of -- I like the chart on the deposit pricing because deposit pricing and balance sheet management should also be a source of offset to some of the curve-related pressures that you're feeling. And you noted that in the fourth quarter, you did not do any deposit pricing promotions.

Right.

So talk about the appetite kind of longer term for promotions and how to build deposit balances back in the retail segment at a low cost with the longer-term aspirations that has to be a recapture, your deposit pricing advantage.

Sure, yes. So I've talked in other forums about our approach of using yield rather than heavy marketing promotions. We all have -- our mailbox is staffed with $500, $600, $700 offers from other banks. That's been the last of our approach. We do some of that. My guess is, if we're really competing hard for deposit accounts and relationships, we probably, at the margin, do more of that, certainly less on the yield front. We're not in a rising rate environment any longer, so using that to attract deposits, the strategy is a little bit different in a flat, let alone, a declining rate environment, which we may very well end up being back in. So I think we're forecasting retail deposit growth for the year in the plus or minus 4% range, which is reasonable now because we're try to keep the size of the pie relatively constant given that an asset cap will take down short-term wholesale funding to account for that. But that's using the strength of our capabilities, our brand. About half of our deposit accounts are opened digitally in about half of our branches, so there's a little bit of ubiquity of our physical presence and then our -- using brand, our online presence as well.

Right. But if you are successful on those efforts, that should reduce your overall cost of funds.

Sure, it should.

With the mix advantage on the short-term wholesale funding reductions.

Yes. I would think about that as a lever to offset what's otherwise going on in rates. The difference between what our total cost of retail deposits isn't 0. It's not that big of a number. So that -- there's not a ton of room for that. But it was fantastic when they were approximately 0 cost a couple of years ago. But to get from the 20s or wherever we are down to 0 doesn't leave you that much room.

Understood. Okay. So let's switch gears for a minute into operating efficiency and the consent orders. And it was very clear, Charlie pointed on the fourth quarter call to the number of consent and regulatory orders. It wasn't just the Fed. It's 12 different regulatory items or enforcement actions that are out there. And I'm curious, when you think about those actions and your technology initiatives and getting to best-in-class operating efficiency, and we're all trying to figure out how long does it take.

Yes.