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

Okay. Thanks, everybody, for joining us this morning at the Morgan Stanley Financials conference. I'm pleased to have with me this morning, John Shrewsberry, CFO of Wells Fargo. John, thanks much for joining.

Good to be here, Betsy. Thanks for having me.

I wanted to just kick off a little bit on what you're hearing from clients in terms of how the economy is likely to evolve from here. From your consumer plans, from your corporate clients, what are you getting with regard to spend patterns and borrowing patterns that give you some insight as to how things are going?

Sure. There's a lot there. So on the corporate side, I would say that people are dealing with mixed signals. We said the market seemed very strong on the one hand. Then we got that unexpected, not as bad as anticipated, unemployment trends a week ago. But I think on the ground, people are -- they're cautious. They're -- they have a liquidity preference. This is corporate customers in particular. And they're very concerned about when the economy reopens, at what pace. Then you pile on the social unrest over the last couple of weeks has added even more uncertainty. So a relatively defensive posture, for sure. On the consumer side, in borrowing patterns, obviously, mortgage is strong because rates are so low. You've got people now moving out of cities into suburbs, a range of things that have caused -- in addition to refi, obviously, you've got plenty of demand for mortgage. Credit card down in borrowing levels, which reflects credit card purchase activity or spend activity. We'll talk about that in just a second. Auto was very quiet for a while because people weren't going to dealerships during shelter-in-place, but that's begun to open back up a little bit. And so the demand for auto loans is there. Across corporates, on the borrowing side, we all, I think, saw a big spike in March as markets were closed and people wanted to stockpile liquidity. That has abated. Those balances have come back down. And I'd say there's -- and that you've seen it in the H8 data, but there's not as much demand for corporate credit right now as people are behaving more defensively. There are people who are going to the market extending maturity, taking advantage of low rates, but incremental credit, other than just adding a little cash here or there isn't creating big demand. On the -- please, go ahead.

No. Go ahead. No, your turn.

On the spending front, I've seen some of the other banks talking about what they're seeing in their consumer businesses. So our debit card spend before COVID was up low to mid-single digits through the beginning of March, which is as it has been for some time. And obviously, we have a big debit card network and program. In late March, we had 3 weeks of down about 20%. By May 8, we got back to positive. So it was -- through April, it was improving and then the week ending May 8. And this is the week this year versus the same week last year. So we're up to about 3 weeks in a row of up low to mid-single digits in debit card spend, which is about where it was before March. Now that isn't all employment related. That includes the benefit of stimulus and other things, I'm sure, that are running through people's cash accounts. In credit card, we were down mid- to high 30% same week year-over-year. We're still down high teens as we sit here today in credit card spend. And the big losers there, the worst performers are travel, entertainment and restaurant. No surprise. I think we've been hearing that for some time. So hopefully that's helpful.

That's great. What about anything you're seeing in the open versus the locked-down geographies? And people are kind of wondering. In the open economies, are they even up yet year-on-year? Or are they still tracking down? Any color would be great.

It's hard to tell. I'm sure we'll see things like restaurants pick up as economies open up. But there's so much spending -- the consumer spending, in particular, these days happens via e-commerce, that to capture just what's happening in geography, really, you'll see more -- we'll more types of businesses that -- where the card is present when people are purchasing. And -- but it's still a little too soon to tell.

Yes. And then what about forbearance requests? How has that been tracking here?

Yes. So we made it really easy for our customers, both on balance sheet customers and the loans we service for others, to avail themselves of forbearance as soon as COVID became a reality and certainly in connection with the CARES Act with respect to agency mortgages. But in balance terms, we've received requests for forbearance relating to 12% or 13% of mortgage balances. That's both ours and service for other card, which is all ours, about 3.5% in auto, 10% or 11% to other consumer, very little. On the commercial and corporate side, it's a little too soon to tell. We obviously have some types of clients, who have -- whether it's in oil and gas or certain types of tail, where we're dealing with a bad outcome right now. But most of what we've heard from customers there is requests for nonmonetary forbearance, so covenant relief and things like that, as they're working through the early stages of the recession.

Got it. And just honing in on mortgage for a minute. 12% to 13% of balances are in forbearance right now. That seems a little high relative to what we hear industry average of mid- to high single. So could you give us a sense as to why you think that's the case for you?

Probably because we're a really big Ginnie Mae servicer. That certainly contributes to it. Those would tend to be first-time homebuyers, a slightly lower credit profile. And we service those for the Ginnie Mae program. So that's a piece of it. We also -- as I said, we made it really easy, kind of a one-button forbearance, just so that we didn't put people through a re-underwriting or a real Q&A to take advantage of it, and it's reflected in the numbers. Incidentally, you've heard this from others, but a not insubstantial percentage of customers in all of those forbearance categories are still paying. It was an option that they availed themselves of because we offered it. And some are using it and some aren't, but it's not as though they all immediately stopped paying. And very few of them were delinquent before this happened. And so I think whether it's for cash preservation or optionality or free carry or something else, people signed up for it.

What's -- do you have any numbers on that? Like what percentage are continuing to pay?

It's different by category. It's in the -- it's below 20%, but it's not trivial.

And then how do you think about when you take the forbearance off and start to count the delinquents -- delinquent loans as delinquent, when does that process happen? How does that happen? Is it loan by loan? Or is it asset class by asset class, geography? How should we think about that?

Well, I think it will be customer by customer, but the rules will -- may vary asset class by asset class. In mortgage, for example, we are servicing for others. We're following the playbook that Fannie and Freddie or the Ginnie program is offering. So that will matter. And with our own, we'll be re-underwriting. We'll be working with customers and talking about what's in our best mutual interest to preserve the future payment stream and maximize NPV. There will be a lot of work to do customer by customer. And now, again, some of these are 90-day forbearances. Some of them may end up going longer, again, depending on what we read in the reopening of the economy, whether we're still in a public health crisis or whether it's moved on to be something more akin to the average yet severe recession. But it will be between us and our customers.

Got it. Okay. So we should expect a little expense there to service those kind of loans, I would expect.

I think that's right. And it may be the case in the mortgage category that we're repapering our modified mortgages akin to what we're doing in the last -- over the last 10 years or the first half of the last decade. Hopefully not in the same amounts and under procedures that have -- at this point, have been well-vetted. But we'll see when we get there.

So just a couple of questions on credit. Can you give us a sense as to what your credit playbook is for a recession? Is there a checklist that you bring out that you go through? I'd be happy to understand that.

Yes. There's lots of them. So there's -- it depends on the category. We just talked about a piece of it on the consumer side, which is getting the right people in the right seats. So we anticipate greater collection activity, greater call volume, greater modification and working through individual credit situations with borrowers. On the corporate, commercial and commercial real estate side, we shift people from the customer-facing seats, underwriting new credit, originating new credit into workout-related seats, so that we've got people ready to go, the tools up and running, the rhythms of working through resolutions in an optimal way. We changed some of our products and some of our risk tolerances. You saw that we've curtailed home equity lending for a period of time. I think last week, we decided to stop accepting in direct auto paper from independent dealers, which, incidentally, I think, got a lot of play, but it's a very small percentage of our overall dealer population and the flow of assets that we generate there. There are other measures that are less advertised just in terms of tolerances for the risky end of the spectrum when we're lending for layered risks in areas where you may have more than one thing that's -- that is high risk in a particular credit situation. We'll back away from that a little bit to make sure that we're prepared for what might happen, whether it's the unemployment, home price appreciation, commercial real estate value direction, the leverage in corporate credit, et cetera. So we've got a little bit more of a defensive posture, like our customers are generally doing. And then we -- as we're doing now, we do very bottoms-up credit work in -- book by book to understand what our exposures are, how they're performing, what customers are having issues, the read across with other industries, customer groups, customer types to make sure that we're in front of the customer as early as possible in a prospective workout to make sure that we maximize this optionality for recovery.

Yes. When investors look at your book, I mean, we've got the consumer piece. And people look at unemployment as a forecast tool or housing prices, et cetera. But when we're looking at C&I and CRE, it's harder for us to get a sense as to how much reserve build we should have in that book because we don't know where you stack rank in terms of seniority of -- seniority in the debt stack or how much collateral you have. So investors look at things like the 2018/2019 stress logs to get a sense as to what could be a likely outcome here. Is that a good way of thinking about it? Or are there better ways that you would suggest investors should think about what the max loss should be in the CRE and the C&I book?

Yes. Well, so let's see. I would say that the published stress losses, at least in our estimation historically, have tended to be somewhat conservative, which is fine. That's what they're there for. As we go book by book, and, I guess, even from the outside, you can see that in our C&I categories, we have -- we talk a lot about the book of loans that we have to nondepository financial institutions, which I would describe as entirely secured or almost entirely secured. There may be a little bit of REIT unsecured or something in there. But it's usually -- it's receivable secured. It's generally to bankruptcy-remote entities where you really have access to your collateral. And then we'll have an attachment point that creates credit enhancement up to a level that we can withstand anything like the shocks that we're talking about. There are other operational risks and things. That's not a risk-free business. But compared to the average fully leveraged C&I loan, you'd describe it as a safer category of lending. And that's a big category for us. We're also the first or second largest asset-based lender, which is very collateral-intensive, hands-on type of lending. It's receivables. It's inventory. We tend to have very quick turnaround from the liquidation to the sale of the collateral. So again, I'd put that in the category of lower expected loss content than the average -- in the average commercial loan. We also have a big book of commercial loans. We've got family businesses. We've got private companies. We've got some public companies in the middle market space. We obviously have a lot of public companies in corporate banking. And there, our history is we tend to work really hard with families of private ownership to maximize the recovery because people want to continue to own and control their business if they're having trouble. We probably have less, for a company of our size, exposure to the most levered credit that probably have less to sponsors or other professional owners, which I think probably helps us through the downturn just in terms of the motivations of the people that we're lending to. But we will have losses in those portfolios. On commercial real estate, we have a big book. We're probably $150 billion all-in in commercial real estate, including construction. You can't really see this from the outside, but on an LTV basis, oh, gosh, 90% -- more than 90% of that book has less than 70% loan-to-value based on our own underwriting of that. So there's a lot of room. I mean, again, there will be losses. We've got -- we have hotels. We have other entertainment-oriented property types. We've got some retail property types, including malls, but we do tend to be lower LTV in the higher-beta property types. And where we're higher LTV, just thinking about what's above 80 LTV in that book, the biggest piece of it, by far and away, is multifamily. So it's a relatively small slice of the total distribution, about 80. It's less than $3 billion, but, call it, $1.5 billion of that is multifamily, which is a very stable property type. So we'll have losses. We'll have people who just can't make it. But the way we underwrite it, the way we service it, the customers we select, in general, for our commercial real estate business, we expect to perform well through the cycle. We do have commercial real estate exposure at the very small end, so owner-occupied commercial real estate or smaller investor commercial real estate. The dollars are smaller there, but that probably is another volatility asset type.

Got it. Okay. Great. So while we're on the credit topic, maybe we can flip to how you're thinking about second quarter. And usually, I start it like the top of the income statement and work down, but why don't we start at the credit line and then move the other way just because we are on this topic? So how are you thinking about reserves in 2Q? Obviously, unemployment's up, and there's been more bankruptcies. So hopefully, you can give us some color on how you're thinking about the reserve build in 2Q.

Yes. Well, we're not done with it yet because we finalize that at the end of the quarter. But based on the work that we've been doing bottoms-up, based on the change in the forecast for unemployment, the forecast for GDP and a handful of other inputs, I'm expecting the second quarter held to be substantial. It will be bigger than the first quarter. Not clear exactly how much bigger, but my expectation is that it will be bigger. Where -- CECL is part of it. The severity of the economic forecast is a big part of it, but we will be providing more in the second quarter to make sure that we're -- that all that we know at the end of the quarter that we're -- we've got full coverage for the losses that we can imagine.

Okay. And then let's talk about just the NII. In 2Q, rates are low. Curve actually picked up a little bit. So do we get any benefit from that at this stage? Or we've got to wait longer? It has to be more persistent? Can you give a sense of how NII trajects here?

Yes. I think it's going to wait a little bit longer. It's great to be closer to 1% on the 10-year than 50 basis points. I don't know how long it hangs in there. I've seen you've recently published some speculation that maybe this curve could get steeper from here. And we'd welcome that, but I'm not really relying on it. I think for the full year knowing what we know now, I would -- my expectation is that interest income is in the $41 billion to $42 billion range, which would be down 11-plus percent year-over-year, full year over full year. That's because we're at 0 in the front end. It's because we're as low as we are in the long end. We haven't been able to grow the size of our balance sheet to absorb some of what was available for the last couple of months, which we might have otherwise, which would have offset some of that. And then, of course, assets are pricing down as LIBOR has come down to -- has finally come down to close to 0. And deposits are taking a little bit longer to price down as expected. We do expect, however, by the end of the year that our all-in deposit costs look something like it did at its lowest levels in the early to mid-part of the last decade. So deposit costs have crashed as rates have come down to 0. So that will be a benefit later in the year. I mentioned new loan demand. On the one hand, we've got the asset cap. On the other hand, new loan demand is not really pushing up our utilization of cash that we have on hand. We could grow the balance sheet in other ways, whether it's securities finance or just investing more, which we're not doing. But all-in, accounting for the things that I mentioned, I'm guessing $41 billion to $42 billion for the year.

Okay. And while we're on asset cap, is there anything else you need to do to get under that level or -- because you're running right about at the asset cap right now today. Is there anything you need to do that you could get that pulled down or you -- where you need to be now?

So we've been working day in and day out since March and April when deposits shot up and loans shot up. And we're appropriately where we need to be, to be in compliance. We do have to work, continue to work to make sure that it doesn't creep back up. And the way that it creeps back up is usually by accumulating nonoperational deposits from a variety of customers. And so we work with different customers and help sort of draw the line with how we can help them with their every day deposit needs in their treasury services activity versus extra balances that are -- that could be sitting with us or could be sitting in money market funds or could be sitting with other banks for that matter. And those have very low liquidity value for us. So they really just do gross up the balance sheet. And that's probably the #1 lever for us to keep track of.

And is there anything you can do to get the asset cap lifted faster? Or is it just chug along day in, day out?

It's just continuing to work down the path of delivering against the commitments that we've made until they're complete to the satisfaction of the Fed. So the ball is -- it continues to be in our court to work hard and do that. And as Charlie has said, not putting a time frame on it, but we're positioning ourselves and preparing ourselves to live under $1.952 trillion of assets for the foreseeable future, so that we don't create any incremental pressure. And then we'll do the work necessary. So it's -- there's no specific time frame on it now, but there's no -- also no major gap of understanding or incremental work to do. It's the work that we know we have to do that we have underway.

And what is it that you have to do? I mean what are the major areas? I keep on getting the question from investors.

Yes. It's uniform, high-quality, operational risk and compliance activity across the whole company and in the way that and the other financial risks feed into board governance. That's -- well, I'm paraphrasing from the public consent order. But most of the work, I would describe as excellence in operational risk and compliance activity.

So it's essentially like tech investments, reporting and ensuring that flags are coming up when necessary?

Yes, it's that. But it's also business by business, activity by activity, making sure that the right controls are in place, so that how we execute our business, we understand the risk that it creates, and that we have controls in place to make sure that no unintended bad outcomes occur that could have an impact on the bank, an impact on customers, et cetera. And so that -- it really is wall to wall with respect to how all of our businesses operate. And it's been underway for some time, but it will be the completion of that.

Okay. All right. Let's go back to 2Q outlook. We talked about reserving. We talked about NII a little bit from a full year basis. But going back to 2Q, can you talk a little bit about some of the fee lines? I know there's been a lot of question around mortgage banking fees. For example, you mentioned it's a pretty hot market out there in terms of volumes. What should we be anticipating there on the origination and servicing side?

I think the origination volumes will be strong, and I think that the associated gains will be strong. On the mortgage servicing front, all of this refi activity in the market means that if we're not originating at the same market share percentage as we're servicing, it's likely that servicing is getting called away from us, which isn't the worst thing in some sense because our mortgage servicing asset is very big. But it's always possible, as we measure the mortgage servicing right valuation and outcomes at the end of the quarter that, that costs us a little bit. So that work is done at the end of the quarter. So we'll see. So I'm just -- I say that because, on the origination side, it should be strong. Servicing could be neutral, could be plus or minus. But I think, overall, it should be a good quarter for mortgage. On the market side, sales and trading, investment banking, I think it's true for everybody, have been real outperformers in the first quarter. So looking forward to that. On the wealth and asset management side, wealth management, in particular, we benefited in the first quarter from having priced those assets at the beginning of the first quarter. We'll pay for it in the second quarter from having priced those assets at the beginning of the second quarter. So that should be a little bit weaker. I talked about some of the card fees -- that the card volumes and fees will follow. So that should be a little bit softer because, in the middle of the quarter, we had -- or in the beginning of the quarter, we had such lower levels of spend running through. And on expenses, we haven't gotten there in your imaginary P&L yet. But there are expenses associated with being in this environment. I think Charlie mentioned some of that in a public statement last week. But whether it's the costs of incremental labor, incremental health care, the extra pay that we're giving people who have to be in branches, et cetera, the fact that people aren't taking time off because folks are working, so our accrual moves up a little bit there. There's a bunch of ins and outs, but it adds up to $400 million or $500 million. The expenses will be lower in the second quarter than the first quarter, but there are some one-timers in there related to the condition that we're in right now that are not insignificant. So...

Okay. And there's -- I was just wondering, when I heard that from Charlie a couple of weeks ago, my question was, well, there's also stuff that's coming down like travel and entertainment and that kind of thing. So...

Yes. We're up. We're up.

Yes. So like on a net basis, how should I think about that? 4% to 5% is gross or is that a net number?

That's a gross number. So there are some things going the other way, and we'll detail it at the end of the quarter. But I just wanted to put out there that it's not without costs to operate in the way that we're operating, including things we're doing for our own team members and things that we're doing for customers, all of the extra cleaning in our distribution center.

Yes. Yes. Now on expenses, obviously, this is a big piece of the Wells Fargo investment story. Expense ratio's high. Expectation is that you can get that down materially over the next several years. What's the trigger for beginning to realize that, in your opinion?

Yes. So there are a few now. I mean we -- now we have the fact that we're in a public health crisis, and we've committed to keep people on while that is true. There will come a time, and I assume at some point this year when we get back to executing on programs that are in place and some that are still under development that are designed to get our total expense base, which, for us, means our total headcount to as lean estate as we can responsibly operate. I've mentioned before that there are also some big catalysts as we move forward beyond the primarily risk and control-related work that we're focused on in order to -- whether it's process compression or automation, there's just -- there's a rich body of work that can be executed. But at this moment, it stands behind making sure the risk and control work gets done properly, so that we can be the company we need to be to have satisfied the reasonable expectations of regulators. But while we're doing it, the playbook is thickening for how to become as efficient as we can be. I mentioned before that Charlie thinks about this as going business by business and understanding who the most efficient and admirable competitors are by component piece of our business, charting the course to get at least there. Because we've got the same scale that the most efficient players do, and there's really no reason that we should operate in a less efficient way. Again, we're in this period of trying to get risk and control right, but that is -- that's the expectation of the Board, of Charlie, of the Operating Committee, including everybody that has joined in the last 6 months since Charlie arrived. But that's why it's part of the investment thesis over the next couple of years. Because it all has to be scheduled. It has to be executed, but it has to happen in the right way with the risk and control work that's going on today.

So then last question on the dividend. How are you thinking about that? Obviously, rates came down, and the dividend payout ratio went up a bit. And I know the dividend is relative to the capital ratio, makes a ton of sense. But relative to earnings, I've got some questions from folks on that. Maybe you can give us your thoughts.

Yes. So we're waiting to get feedback in the CCAR process and think about what our new regulatory capital requirements are. On the one hand, we're trying to get through the second quarter analysis of what the total provision will be, and that will have an impact both on capital and on earnings. But as we're thinking about it, it's really like what is the right level based on the run rate of, call it, pre-credit cost profitability? Because we're in a volatile period for credit costs. Right now, we're going to have -- so we've got big builds. And a year from now, we're going to have big releases. And neither of them, assuming we have adequate capital, which we believe we do, should really have an impact on the dividend. It's really more a reflection of what we're earning. So we're going to get the CCAR feedback, process it, think about what our forecast is. Again, pre-credit cost profitability is as we think about the next year or 2, et cetera, and then we'll put all that together and decide what the right level is, including whether the level and where we currently have it set is the right one for us. But that CCAR feedback, I think, will be useful in that. Because as you know well, there's some incremental work being done by the Fed that we -- that none of us have had a view of yet. We could have reasonably estimated what our stress capital buffer was before that work, but now we don't know. So we'll know in a couple of weeks. And then through June and into July, we have an opportunity to put it all together with the management team and then the Board to talk about whether there's any -- it's appropriate to -- if it's appropriate to do anything with our dividend.

Got it. All right. Well, that's super clear. John, thank you so much for your time this morning. Appreciate it.

Thanks for having me. I really appreciate it.

Okay.

Stay safe.

Take care. Have a good day. Bye.