Welcome to Wintrust Financial Corporation's Second Quarter and Year-to-Date 2020 Earnings Conference Call. Following a review of the results by Edward Wehmer, Founder and Chief Executive Officer and David Dykstra, Vice Chairman and Chief Operating Officer, there will be a formal question-and-answer session.

During the course of today's call, Wintrust's management may make statements that constitute projections, expectations, beliefs or similar forward-looking statements. Actual results could differ materially from the results anticipated or projected in any such forward-looking statements.

The company's forward-looking assumptions that could cause the actual results to differ materially from the information discussed during this call are detailed in our earnings press release and in the company's most recent Form 10-K and any subsequent filings on file with the SEC. Also, our remarks may reference certain non-GAAP financial measures.

Our earnings press release and slide presentation include a reconciliation of each non-GAAP financial measure to the nearest comparable GAAP financial measure. As a reminder, this conference call is being recorded. I would now like to turn the conference call over to Mr. Edward Wehmer..

Thank you very much and welcome to our second quarter earnings call. With is always Dave Dykstra; our Vice Chairman and Chief Operating Officer; Dave Stoehr, our CFO; Kate Boege, our General Counsel; Tim Crane, President of Wintrust; and Rich Murphy, Vice Chairman and Lending Officer.

So the same form as usual, I'm going to -- I'm talking funny because I had a one, two moved. It's not because I have a mask on I'm wearing.

But I'm going to give some general comments regarding our results, turn over to Dave Dykstra for a detailed analysis of other income, other expense and taxes, tax meaning for some summary comments and thoughts about the future and then always questions. In my 45 years being associated with the bank industry, I thought I'd seen it all.

I was super amused to be arrogant enough to think that.

The COVID pandemic resulting unprecedented government economic intervention, interest rate falls, falling to basically nothing, remote work environment for pretty very much the entire staff, the implementation of [indiscernible] latest and greatest pronouncement, pronouncement, how to determine loan loss provisioning, certainly made life interesting and to add, social unrest and presidential election had a very, very spicy part of chili we're working in, volcanoes and earthquakes and floods to make this more difficult.

In times like this when a high-tech, high-touch relationship-based distribution model are consistent with conservative reports to credit and liquidity and diversified asset base actually shine and the strategic agility born out of our structure and culture and we look forward to whatever the current environment throws at us.

Sticking to the basics we know they're more important. Now the results of the quarter, a quarter can be summarized in a couple of bullet points. Great asset and deposit growth spearheaded by 11,000 PPP loans totaling $3.4 million resulting in halo effect.

Even better margin results despite approximately $15 million onetime expenses first had been $7.4 million and certain evaluation adjustment you have to wonder how low they can go now, I mean we've really written down to basically nothing. So we can move up we have a bond to order there and $7.3 million in additional contingent consideration.

The contingent consideration as a result of us buying a mortgage company a number of years ago and setting up a liability for the contingent consideration with the moves, with the strong mortgage market, they're outperforming the more money.

That number is a one time because we basically have projected out where we think they're going to be for the duration of the contingent period. So that's close to $15 million of onetime associated mortgage.

Outside provision expense -- outsized provision expense of $135 million despite traditional -- consistent traditional credit metrics, the loan modification so to speak then appears to be decreasing, increasing net interest margin and the low rate environment that's just liquidity increased NII to our overall asset growth and net overhead ratio of 493% lots or ins and outs here of $5 million of onetime conversion expense related to acquisition expense related to our DP conversion.

We actually think it is a detail momentarily. Pretax pre-provision, pre-MSR earnings were $173.1 million up approximately $23 million not including the organic expenses previously financed and including in our onetime expenses previously referenced.

We completed our preferred stock offering of $270.4 million new capital to support growth taking advantage of dislocation in the current market and anything else that may come along. The next slide, we had $21.7 million of earnings down 66% due to the earnings per share of $0.34 down 67%.

Talking about the pretax, pre-provision, pre-MSR numbers, our net interest margin dropped 39 basis points due to the low interest rate environment and excess liquidity and the numbers come out accordingly.

Margin really got clobbered down 939 basis points scored due to that rate environment going to basically zero and excess overnight liquidity held on our balance sheet. Liquidity totaled $4 billion up $2 billion from Q1, which results in overall liquidity and an overall liquidity portfolio duration 1.7 years compared to 6.1 years since 2019.

We did talk on liquidity being in the crisis and being the prudent thing to do as we did not know if and when any available funding of PPP loans.

Now things have settled down a bit, we'll be returning some of the excess liquidity in Q3 knowing that there are alternatives for PPP funding which we've not taken advantage of today balance sheet for the time being. Today in the third quarter, we're deleveraging about a $1 billion. This part is basically held at zero spread, the margin going forward.

Also there are some deposit side rates approximately $133 billion of CD deposits with average about 1.6% that's scheduled to mature and being repriced in next six months. Also in July and August additional $1.3 billion account 2.23% were also repriced.

We expect the majority of PPP loans to be given in the third and fourth quarters of this year based on surveys we did with our PPP borrowers. The congress approves automatic forgiveness of loans under $150,000 that should expedite the process two thirds of outstanding loans will be covered by this mandate. This will help the margin in the short term.

As we discussed momentarily, our commercial and CRE pipelines remained strong as a momentum in the niche businesses specifically, from premium finance and leasing. We still expect the margin notwithstanding the effect of PPP loans to settle in the 2.7% to 2.8% range as the dust clears. There should be no around of two PPP stimulus.

Net interest income should also increase. Other income and other expense, table cover in detail and needless to say our mortgage company did the cover of them all, $2.2 billion in production over $102 million in gross income, almost double of previous quarter.

Margins were strong in this business on a negatives of $7.4 million MSR valuation downward MSR valuation adjustment of $7.3 million contingent consideration expense. As I said earlier, the letters are ironically a good thing because we expect above normal credit mortgage lines for the foreseeable future.

Finally wealth management fees were down around $3 million due to the market fluctuations as most fees are based on the prior quarter end asset levels. Assets under administration and of 63 [ph] grew $2.9 billion quarter-versus-quarter.

So we expect a rebound in fee income in quarter three pertaining to any other wild generations or other things we want to anticipate in the market. On to the provision, provision for quarter totaled $135.1 million versus $53 million in Q1 and $25 million in Q2, a low CECIL.

Approximately 20% of that provision can be attributed to portfolio changes, the majority of which are a result of loan modifications. The remainder of the provision rates of the economic in our models.

All traditional credit metrics are relatively constant and charge-offs totaled $15.4 million or 20 basis points, $9.2 million of those charge are related to credits that had specific reserves assigned to previous quarters. NPAs of $198.5 million or 0.39% of total assets equate to $190 million or 0.4% at March 31.

The majority increase related to premium finance, a portion of the premium finance loans we'll discuss later however the ticket size of our premium finance loans was up a lot and accordingly, the amount of nonperforming commercial premium finance are mostly are increased.

You should know however that every one of those or 99% of those, the losses are taken earlier and those are confirmed -- we are confirmed to return premiums, currently outstanding really kind of in place are number but GAAP is GAAP. Loan modification in the quarter of $1.7 billion and 9.2% related to loan totals.

The growth curve related to loan amounts flattened in so far in Q3. We've included a lot of information on our exposure to this effect industries and loan modifications in the earnings release, rather than regurgitate all the information to you now, that is Rich Murphy, our Chief Lending Officer can handle inquiries in the Q&A.

Total credit reserves on the core loan portfolio stood at 1.85% related to balances, premium finance loans securing to 14 basis point reserve, which is appropriate given $7 billion of those in the live portfolio that has never had a knock on wood has never had a loss. Purchase loans carried 230 basis points of reserve.

Needless to say while we are going reserves and provisions and numbers that we know we're closer ones to the quarter.

After we're naïve enough to think that these are extraordinary things will not result in all the credit losses, but I guess time will tell when the CECIL is accurate or whether the industry will be subject to the whims and declines and model makers if one loses a girl friend or has a hangover, you never know what they can do to the industry now based on these two models.

Then we're well reserved now and we'll see what the future brings. The balance sheet side, we had great growth of $4.7 billion, loans grew $3.5 million we'll talk about that in a second.

Average loans were obviously higher than period end loans we should -- period end loans, I am sorry, the higher than average loans, so we should be able to achieve the benefit of that going forward. Our loan to deposit ratio of 87.8% was in the high 70% when we do that PPP loans.

So we have loans to plenty of liquidity and room to invest that in our loans. We discussed our excess liquidity and the overall effect of on liquidity management and our marginal order. Loan growth now included the $3.4 billion of PPP loans was driven in our premium finance portfolio.

Commercial premium finance grew $535 million, was driven by higher average ticket sizes. 38,400 was the average ticket size in this quarter versus 31,500 in Q1 and 30.2 from a year ago. This bodes well for future quarters. The life insurance portfolio also grew almost $180 million.

Commercial real estate loans were basically flat for the quarter and our core commercial loans were down $502 million. Approximately $300 million of that decrease related to line usage comparing to normal levels. At the end of the quarter -- at the end of the first quarter we had 56% live visits. We're down to 49% at the end of the second quarter.

As many clients drew on their lines in the first quarter to enhance their liquidity for the uncertain future. We estimate another $300 million plus or minus of PPP proceeds we use to pay down all this debt and those amounts will actually show growth for the quarter. Speaking of PPP loans, today we have 11,632 loans or $3.41 billion.

We could not be proud of our team for satisfying all these clients and our clients. With a great service we're currently working on landing the relationships with over 450 new prospects who could not be served by other competitors. This is approximately 1.5 -- this represents 1.5 use of new business resulted in a Halo effect of our people's good.

As a result 90 new pipelines are very, very full. Deposits grew nicely in the quarter as we mentioned. We completed our preferred offering gaining $278 million -- $287 million Tier one capital -- capital will support our growth.

We also take advantage when the asset dislocations that may result for these uncertain times and provide a cushion for any unexpected contingencies that may arise. Tier one and Tier two capital ratios were 10.1% and 12.8% respectively. I'll turn the call over to Dave to provide some additional details on other expense and other expense..

Thank you very much and touched a little bit on some of the noninterest income and expense sections, but I'll just give a little bit more detail.

In the noninterest income section, our wealth management revenues decreased $3.3 million to $22.6 million in the second quarter compared to $25.9 million in the first quarter of the year and down 6% from the $24.1 million recorded in the year ago quarter.

The decline was impacted by the volatile equity valuations during the first half of the year, which impacts the pricing on a portion of our managed asset accounts and also due to some lower trading and the brokerage accounts. Given current market conditions as indicated, we would expect those revenues to rebound in the third quarter.

Mortgage banking revenue increased by a whopping 112% or $54 million to $102.3 million in the second quarter from the $48.3 million recorded in the prior quarter and was also up strong 174% from the $37.4 million recorded in the second quarter of last year.

The company originated $2.2 billion of mortgage loans for sale in the second quarter and this compares to $1.2 million of originations in the first quarter of the year and also the second quarter of last year. So up a $1 billion from last quarter and the year ago quarter and production.

The increase in the category's revenue from the prior quarter resulted primarily from net increased volume as well as expanding production margins, which led to an increase in production revenue of $44.1 million, capitalized mortgage servicing revenue also positively impacted the mortgage revenue as capitalized MSRs net of payoffs and paydowns activity was approximately $9.3 million higher than the prior quarter.

These positive revenue measures were offset by a negative MSR adjustment net of the hedging contracts during the second quarter of approximately $7.4 million compared to a negative MSR adjustment of $10.4 million in the prior quarter.

The mix of loan volume originated for sale that was related to the refinance activity was approximately 70% compared to 63% in the prior quarter. So the refinance volume increased slightly during the quarter and the pipeline is predominantly filled with refinance applications as of now.

So we expect to have another strong third quarter as Ed indicated as a continuation of that refinance activity is represented in a strong commitment pipeline as of this time. However, production margins may compress a little bit from the recent lofty levels.

They topped about over 4%, we expect them probably drop back down into the 3% level, but we'll see what happens for the remainder of the quarter. Table 16 of our earnings release provides a detailed compilation of the components of the mortgage servicing revenue and MSR activity and levels.

Other noninterest income totaled $14.7 million in the second quarter down approximately $3.6 million from the $18.2 million recorded in the prior quarter.

The lower revenue in this category was due to lower capital market activity from loan sales and syndication, a lower card and merchant, certain base services due to lower card activity and losses on investment partnerships. These decrease were partially offset by $3.2 million of higher BOLI income.

The BOLI investment supported deferred compensation plans are positively impacted by equity market returns during the quarter. You should note though that the BOLI income in the second quarter resulted in a similar increase in compensation expense as the deferred compensation and BOLI investments move in tandem together.

Turning to noninterest expense categories, noninterest expense totaled $259.4 million in the second quarter up approximately $24.7 million or 11% from the $234.6 million recorded in the prior quarter. Relative to the prior quarter, there were three main factors that have contributed to the increase.

First the company recorded approximately $6.9 million of additional contingent purchase price consideration related to the acquired mortgage banking operations sort of the difference between the contingent consideration expense in the first quarter and the second quarter and $6.9 million.

Second, we incurred approximately $14.6 million of additional commissions and incentive compensations during this quarter relative to the last quarter, primarily due to the mortgage business and third, approximately $2.9 million of additional FDIC insurance assessment that was recorded due to the growth in the balance sheet and the impact of the PPP loans on our leverage ratio.

So if you add up those three items, they combine to $24.5 million of the $24.7 million increase. So essentially all of the increase was related to those three items. With that being said, I'll talk about these and a few more items in a bit more detail.

Salaries and employee benefit category increased by $17.4 million in the second quarter from the prior quarter of this year.

The majority of the increase as I mentioned related to incentive compensation accruals, which are approximately $14.6 million higher than the prior quarter with that change being largely driven by additional commissions on significantly higher mortgage loan production closed during the quarter.

Additionally, salaries expense was up $5.8 million from the first quarter.

The primary causes of that was related to the $3 million of deferred compensation costs tied to the BOLI investment gains that I had mentioned earlier and additionally, the company incurred approximately $1.6 million of overtime temporary help expense in the current quarter to support the significant mortgage volume being processed through the system and incurred approximately $2.6 million of elevated paper COVID-related compensation matters.

Offsetting these increase was a higher level of deferred salary cost recorded as significant loan volume during the quarter, occurred primarily related to the PPP loan category.

Further offsetting the aforementioned increases in salary and incentive compensation expenses, the employee benefit expense was approximately $3 million lower in the current quarter than the prior quarter, primarily due to a reduction employee insurance claims as we're seeing that our employees are doing less discretionary doctor visits during pandemic work from home time periods and social distancing time periods.

Data processing expense increased approximately $2 million in the second quarter compared to the prior quarter due primarily to a $4.5 million conversion and charge related to the countryside bank acquisition versus $1.4 million of de-conversion charges incurred in the prior quarter, so delta there of $3.1 million.

I should note that all acquisition-related conversion and de-conversion costs are behind us for all the completed acquisitions and accordingly the third quarter should be void of any such charges. As I mentioned, FDIC insurance expense was up $2.9 million in the first quarter compared to the prior quarter.

The increase was primarily due to an increased assessment rates at our subsidiary banks as a result of balance sheet growth and lower leverage ratios.

Although relief was provided for FDIC insurance premiums related to increases in assets from PPP loans for the asset size component of the assessment, relief was not provided for the leverage ratio unless the bank utilizes the feds PPP LF funding program.

Because we did not need the PPP LF funding program to fund our PPP loans, we did not receive the FDIC insurance release on the leverage ratio component of the rate determination.

So it was unfair that may seem relative to a bank that that funded using feds program, it is what it is and our assessment rates were higher for that reason and also due to other growth in the balance sheet.

Professional fees increased to $7.7 million in the second quarter compared to $6.7 million in the prior quarter and other professional fee category's averaged approximately $7.3 million over the last five quarters.

So it's in line with our average and is a variety of -- relates to a variety of matters such as legal services related to litigation problem, workout, consulting services and legal services related to acquisitions. Advertising marketing expenses in the second quarter decreased by $3.2 million when compared to the first quarter of the year.

The decline was primarily related to a decline in sponsorship spending including our sponsorships of various major and minor league baseball teams which have not been active as well as other summer event-related sponsorship troops have been canceled due to the coronavirus pandemic.

This expense category also had a lower level of mass media advertising cost as a result of reduced mass media spending, which was not incurred due to the cancellation of the major league baseball events and our related media surrounding those events.

OREO expenses increased by approximately $1.1 million in the second quarter as the company recorded a gain of approximately $1.3 million on a sale of an OREO property during the prior quarter and only a small OREO losses recorded in the current quarter.

So although this expense category increased the total expense for the quarter was only approximately $237,000. The miscellaneous expense category totaled $24.9 million in the second quarter compared to $21.3 million in the first quarter, an increase of $3.6 million.

This increase was caused by the aforementioned $6.9 million of additional contingent consideration related to the previously acquired mortgage banking operations.

The increase is a result of higher anticipated contingent purchase price payments resulting from both current volume closed so far in 2020 as well as forecasted revenues out through the end of respective earn-out periods for our previous mortgage banking acquisitions.

Offsetting that charges, a lower level of travel and entertainment expense and a variety of other smaller fluctuations.

So without the contingent consideration accrual, the miscellaneous expense category would've actually declined during the quarter and as Ed mentioned we think we have taken care of the contingent consideration based upon current mortgage volume projections.

So other than the expense categories I've just discussed, all other expense categories were down on an aggregate basis by approximately $169,000 from the first quarter.

And Ed mentioned the net overhead ratio stood at 0.93% which is down 40 basis points from the 1.33% recorded in the first quarter, aided by the growth in the balance sheet and a strong mortgage quarter. On a year-to-date basis, the overhead ratio was 1.12% and again aided by the balance sheet growth in the mortgage results.

So with that I'll talk about the tax rate just briefly as I'm sure somebody will have a question on that. We generally think of the tax rate of being in the 26% to 27% range. This quarter it was at 29.46% and really the result of the increase of the FDIC insurance expense, which is not fully tax-deductible.

So that caused the increase in the rate because of the increased expense and because of the lower pretax earnings numbers due to the provision adjustment. So the dominator was smaller and the numerator was a little bit bigger because of a lot FDIC insurance expense. So with that, I'll wrap up my remarks. Turn it back over to Ed..

Thank you, Dave. Interesting times as they say, but we're well prepared for whatever comes our way. Our capital levels are robust, forgiveness of PPP loans should accelerate recognition of fees and we're prepared for round two if and when the government approves. The Halo effect from that effort should provide additional core loan and deposit growth.

Our loan pipelines ass mentioned remains very strong. Commercial premium finance should continues to still benefit from that higher market we're all in. Tailwinds in the mortgage business should allow for normal business for the rest of the year.

Credit metrics remain strong as reserves were at the highest level because in company history and as I said earlier and that may the current situation we've credit unscathed and as of now we don’t see it. We're prepared with the terms.

Credit losses will continue to our practice of calling our loan portfolio to early identify cracks and deal with issues. Historically, we've operated a credit metrics that have been a fraction of peer group due to our conservative lending practices, product mix and our diversified portfolio. We expect that to continue.

Loan deferrals which were below peer metrics to begin with are declining. Managing liquidity, earnings were down in the future while retained assert levels will account to the uncertain future. We believe that there will be dislocations as a result from the current state of the world.

So the acquisition market will open up until some of the uncertainty goes away. We always said we take what the market gives us, right now it's given us organic growth opportunities. Our goals have prudently grown in this period in time as the zero interest rate environment will not provide much opportunity to grow the margin.

We continue to prepare our balance sheet for prior rates. To me it feels like the 1970s are all again. Now that would be breaking down my old bellbottoms of disco records anytime soon but it appears higher interest rates around our future based on a level of activity of the government printing presses. So we're preparing for that.

We're trying to optimize earnings to keep the balance sheet ready for higher rates. Probability of the loans going lower is certainly also has diminished by the zero environment and them the opportunity then to hire if this came true, we should be there.

So with that, I am going to turn over to ask -- you'll always be considered our best efforts and we appreciate your support and now time for questions..

[Operator instructions] Our first question comes line of Chris McGratty from KBW. Your question please..

Ed or Dave, the outlook for net interest income I am interested, I probably appreciate there are a lot of moving parts with PPP.

I guess the first question is was there any up $91 million fees that you booked in Q2 and how should we think about the cadence of that $91 million?.

Yeah so the approach we took on this which we think is the right way to do it under GAAP is we're doing a level yield method on the PPP loan fees and we did a survey of all of our customers and get input from them as to when they thought they would submit their application and what sort of forgiveness level they thought they would have and based upon those responses and based upon communications with our customers, we think that most of probably at least 80% of the loans will be forgiven and we would get our funds from the SBA by the end of the year.

And then the rest we would assume would go out over the remainder of the contractual terms of the loans at 20%.

So we put that schedule together and we created a level yield chart, which we can adjust as time goes on here as we know the SBA could change their rules, they could go to this one-page form and have some of the smaller loans repay much quicker and they could potentially process them much quicker, but we've gone on the assumption that 80% will be paid off by the end of the fourth quarter through the forgiveness process and the rest would be projected forward and so we have taken the fees and based upon that schedule, so in the second quarter, we recognized approximately $25 million of the $91..

This represents 2.5 months not a full three months..

Okay so 66 in the remainder, is that right?.

Yes because we continue the book loans. We're booking probably in an average of $1 million a day. We don’t open the portal but we archive taking customers who didn’t take advantage of it, we continue to book more of these loans as available. So little bit more, I would categorize will add materially to it but there is still some more coming in..

Okay. And I think Ed in your remarks, once we get through the next six months currently -- I think you said 270 to 280 is kind of an exit margin for the business in this rate environment.

Is that the right way to think about it?.

Yeah I think that's fair, depends on where life goes but our loan pipelines are very strong. We had a lot of liquidity on the balance sheet right now put to use and an 80% loan to deposit ratio taken the PPP loans out, we have room to grow that side of it.

We can shrink a little bit because we did book up our liquidity because back at the -- remember the end of the first quarter we feel that it was appropriate to have an oversize amount of liquidity just in case. But we did know that the government as well the PPP loan funding we could -- the government side of this counterparty can't trust.

So for [ph] anything, so we relied on ourselves there. So there are a lot of moving parts here, but we think that that's about the number we would like to offer..

Okay. And then just a housekeeping, the FDIC insurance cost Dave, does that gradually go back to where it was as these loans pay down.

How does that work?.

Yeah as the loans -- the reason we got deemed was not because of the size of the balance sheet, because they did allow you to exclude the PPP loans on the asset component of that calculation, but where we get deemed was our leverage ratio. So as if the leverage ratio increases then our FDIC insurance rate would come down.

So as we make more money, the leverage ratio goes up hopefully then we could do that or if we downstream some capital into the banks we can potential reduce it, but I would suspect that it would be similar amount in the third quarter because the leverage ratio wasn’t going to shoot to the moon even if those PPP loans pay off from a leverage racial perspective they'll still be in our average assets.

They'll just switch from a loan to liquidity..

What really happened was back in March, nobody knew what's going on. And we made the decision to pull some dividends out because we hadn't done our capital offering yet. Didn’t know we would be able to get one-off, cash at the holding company that came here. So we did -- we did not jeopardize the banks.

We did pull their capital levels down because they aren’t as the PPP loans go up and then we had a lot of cash with the rolling company, we very well could. We put some in and bring that level down, but that's to be determined, but I would tell you it was a prudent thing to do to bring cash out to as they have at holding co ecers.

The cash is king at the holding copy if you don't have it expect that by, we do know that..

And so that will steady, but that $7 million contingent number will come out Dave next quarter right?.

That's correct unless for some reason the mortgage market went way, way higher because we're forecasting now over a few year period for these deals. So we're making our best guess based upon talking to the business people, but I would think that that would not go higher.

It could get tweaked a little up or down as volumes change a little bit, but that should be -- it's sort of Cecil. You're making your best guess right now based upon forecast and it is what it is, but I can't imagine that we can actually handle much more volume than what we're doing right now. So I think that should be a good number and not recur..

Thank you. Our next question comes from the line of Jon Arfstrom from RBC Capital Markets. Your question please..

I wanted to ask about the reserve build that especially that $96 million in economic factors, curious if you guys were surprised by that amount particularly relative to last quarter.

When you look think about your qualitative overlay, what we need to change for you guys to have another build in that economic factor?.

Well, I guess I am a little surprised by the magnitude of it, but the models spit it out, but if you look at it, the movies models really that they have, the economic factors that we use generally is the commercial real estate price index, which is the thing that drove most of that and those projections were down quite a bit at the end of the second quarter versus the first quarter.

BAA credit spreads impact us too and those were a little bit wider and GDP impacts some of the factors as well as the Dow Jones. So the big impact there was the commercial real estate price index impacting the macroeconomic factor.

So if you saw the commercial real estate price index deteriorate further, could be that we might have some additional expense, but it is aligned through the line in the sand at June 30.

That's our portfolio and that's the provision and so assuming conditions they're relatively stable going forward, you should have much more provision unless you grow your balance sheet. So the reserves are out there and we think we got them marked pretty good.

They're for some reason the commercial real estate price index improves a little bit, the forecast for that improves a little bit. You could actually see some relief on that number.

If that number gets substantially worse, then there might be a little bit more pain, but as Ed said, if you look at our charge-offs, you look at our past dues, you look at our NPA, you look at the curve flattening and new deferral request that are coming down and actually the overall deferral request declining, you don't get the feel right now that you're going to need to add to that reserve anymore, that the economy is getting worse.

So a little bit surprising to us but 80% of that increase in the allowance was really related to GDP being worse in the second quarter and more importantly in the commercial real estate price index. Those are the two big factors. So those are the ones we track.

We do some qualitative overlays to it based on certain portfolio characteristics, but that's what's driving the increase and that's what you should follow I think..

If you think about the other 20% that's related to downgrades in the portfolio, those was downgrades occurred because the loan on that.

So Rich you want to talk about where loan amounts are because we see them going down?.

No I think that as we talk about in the last earnings call and the highly affected industries, we've seen that activity really come pretty aggressively during those first couple weeks of April, particularly in the franchise base. We track that very closely.

We follow it as the management team by segment and what we're seeing now as we get through the first 90 days now into the second 90 days results come off, we're seeing a fairly steep decline in the customers asking for that next round. So that coupled with as Dave pointed out, really new request for deferrals are very, very slow.

So we're starting to see those that seem odd percentage dropping up pretty dramatically. So as Dave also pointed out those risk ratings that go with those set mods. Hopefully, that is a very good sign that those will be upgraded as the cash flows improve certainly in the franchise portfolio.

As we talked about last quarter, we're seeing material improvement in just over a level of cash flow operating performance in that segment. So we're mildly encouraged right now look at that element..

It seems like it backs off quite a bit or much better for Q3 and then Dave you backed us off a little bit on the mortgage banking margin and I understand that, but what do you think about volumes? Sometimes it shows off in Q3, but it sounds like you’ve got such a pipeline of finance that you're not suggesting that?.

We don't necessarily have visibility through the end of the quarter, but $2 billion plus or minus, I think what we probably will have another $2 billion a quarter if applications continue to come in at the level they are right now. If you look in our press release, we showed we have about $1.9 billion of loans that are locked in the pipeline.

So some of those go beyond 90 days and some of them drag out, but based upon the pipeline we have there, people could walk away if rates went down. We could have people walk away, but given the pipeline we had in the applications that are coming in and the time that's taken to close them now, I think it's $2 billion plus or minus.

But we didn't see many people walk away from their deals in the second quarter. They just didn't want to get back in line. So even though rates fell a little bit, most people follow through and disclose on their mortgage. So we'll have to see if that pulls through rate continues, but if it, does I would think plus or minus $2 billion again..

My applications are now slowing through. I think about July and August is based already through September and those applications are still coming in at the same level. So gives a good feeling of..

That's for Q3?.

Exactly, one of my bellbottoms and my records..

I still have all my keys flamer..

Oh boy! Hope you're doing better alright. I hope you feel better..

Our next question comes the line of David Long from Raymond James. Your question please..

Thanks hey everyone..

Hey David, you still have your bellbottoms aren’t you?.

If you keep your clothes long enough, you'll use them again. Doesn't matter what that type they are and the cycles do rotate though. I guess I am hard but yeah. So and just wanted to see if I heard you correct, did you say in quarter to date in the third quarter that deleveraging has already been about $1 billion in the balance sheet..

Yes..

Okay. Got it.

And then I didn't see it in the release but you guys disclose what the purchased loan marks you guys still have on the books are at this point?.

Well, our reserve was at 2.3%..

Specific reserves, we didn't disclose that but it's very small David. I don't have the number in front of me, but it's very small..

Okay. And then you talked a little bit about the marketing dollars and the sponsorships with major league baseball kicking in here based in a couple days or tomorrow maybe with a couple games.

What type of increase are we expected to see here from the second quarter, third quarter from those sponsorships that actually will that you'll be taking on?.

My guess is about $2 million to $2.5 million, there is no tickets, it's just a sponsorships. So we are so reluctant in October than you might have in another $0.5 million to $1 million..

But we're counting on the Socks playing the Cubs in the series. So may go up a little..

As I said, there aren’t ticket. So it will probably bump up a little bit in the third quarter but not like it was in prior years because you still don’t have all the ticket cost..

Thank you. Our next question comes the line of Nathan Race from Piper Sandler. Your question please..

Just a question on the excess liquidity builds on the quarter. I am curious to know how much you guys. How much of that you guys think is going to translate. I know almost two thirds of that has been tied to PPP and what not, but any sense just in terms of the other deposit growth that you had in the quarter.

How much of that made to the ground and what are kind of your reinvestment plans as some of that excess liquidity as well going forward?.

I'll give that to Tim Crane. I'll take the first part of that for sure and that we've see ins and outs, municipal deposits were up quite a bit. Obviously to your point there is probably $2.5 billion of PPP related deposits that remain on the balance sheet. I don't know exactly what to expect, but I don't think it's going to go down a ton.

We've seen good inflows, the press release references MaxSafe deposits up about a $0.5 billion in the quarter. So I expect sort of pretty flat pre any PPP movements or even up..

And then Dave with respect to utilizing some of the liquidity, I am really not excited about locking in these rates more than 0.5% on mortgage-backed. Our loan pipelines are very strong right now and I think we would rely on those premium finances. Those are nine months old payout loans.

So we're returning those every nine months and with $10,000 increase in average ticket sizes, that's going to take and an additional loan pick up additional market share, that's going to help.

The life insurance portfolio is doing very well, our overall leasing portfolio which is throughout the balance sheet is over $2 billion now, shows no sign of where they're up and the commercial side, again with a total of $1.8 billion or $1.9 billion growth in the pipelines coming out about $1.3 billion in estimated draws on that.

There as estimated success rates and that $1.3 billion of loans that's a Halo effect. It's unbelievable what happened and they will bring another $1 billion of deposits and so if I had to guess, I'd say we're going to be flat. The assets may be up a little bit in the third quarter.

Loan to deposit ratio is PPP loans are forgiven, will start working their way up again and we may or may not do some mortgage-backed just to make a little more money but I'm more concerned about retaining our GAAP position and now again these low rates, I truly believe that maybe that this year, maybe the next year, but with the amount of money in the economy right now and those pretty impresses continuing to harm especially if Phase 2 of the release comes to.

So you go back in time and those dollars result in higher rates, maybe the rest of the world but inflations got to kick in really around the rest of the world. So we'll see..

And then just think about core loan yields maybe the PPP program, any circumstances of how those came down in the quarter, I've just began just trying to isolate the impact apart from those lower yielding loans..

How they came down in the second quarter, are you talking about what we're thinking about moving forward?.

I am just trying to understand the magnitude of the decline in core loan yields outside of PPP in the second quarter?.

We'll probably commercial and commercial real estate were probably down from April through June. They're probably down early in the quarter. They were probably 40 to 50 basis points higher than later in the quarter..

[Operator instructions] Our next question comes the line of David Chiaverini from Wedbush Securities. Your question please..

Hi thanks. Couple follow-up questions here. So you mentioned about the Moody's model and the CRE price index projection being the main driver for the provision in the quarter.

I was curious are you able to share what that projection is? How much are commercial real estate prices expected to come down based on the Moody's model?.

Yeah well what we had in the CRE price index would decline through the fourth quarter and recovers into 2021, but still would remain below what it was at the end of the first quarter. So it declines down. It does go down.

It's probably down I think the commercial real estate price index was near 300 at the end of the first quarter and depending on which Moody's model you look at, but the ones we're looking at is sort of if you look at baseline or even if you look at the S1 model, they're coming down in the 240, 250 range.

So could be down 20%-ish and then recover into 2021 is what they show..

Okay. That's helpful.

And then I hear you right given all the moving parts and the utilization rates coming down in the second quarter but looking out to the third quarter for loan growth did I hear you say think of it as flattish given the paydowns and run off of the PPP will offset some of the growth in pipeline built you're using in the other categories?.

Well that was PPP which you we expect to come down substantially. We believe our core portfolio our non-PPP portfolio should grow nicely based upon all of our niche business doing well and our commercial pipeline, say commercial real estate pipelines being very full.

So yeah we think PPP loans in the third and fourth quarter be gone barring round two and however we'll make up $3.3 billion in that period of time, but we'll manage our liquidity accordingly. We expect our core portfolio to continue to grow..

But we also would expect unless they do this SBA program quickly here and the SBA actually turns, the SBA has got 90 days to turnaround the forgiveness applications once they get them.

They could turn around in 30 days or 15 days or quicker I suppose, but my guess is they're not going to work at lightning speed just because all they’ll have a lot of activity from every bank around the country that did these, that most likely you'll see most of that payoff occur in the fourth quarter.

So probably through the third quarter, we'll have the PPP loans generally in place..

And then the last one is more of a housekeeping question, you mentioned about how the FDIC assessment was elevated in the second quarter and you expect that to be kind of stable in the third quarter and you mentioned about the tax rate how it's normally 26% to 27%, but because of the elevated FDIC assessment that's where it was in this 29.5% range.

So as we think about the tax rate going forward, should we think about 29% to 30% given the elevated FDIC assessment or how should we think about that?.

No I don’t think so because the denominator really is your pretax income and our pretax income was so depressed because of the $135 million worth of the provision. So if we go back to the normalized provision, the denominator is going to get much larger and should bring that right back down.

So I'd still sort of say 26.5% to 27% is probably a decent rate and early sort of depends on the pretax income number, but because it was so depressed because of the elevated provision this quarter that that was the other reason for the increase in the rate..

Thank you. Our next question comes from the line of Brock Vandervliet from UBS. Your question please..

Given this wash of liquidity just wondering if you really have much scope to further reduce the CD component of your funding mix? It's not large on a percentage basis right now. I just kind of curious if you thought you could work it down further..

Actually I think it will come down just as we don’t want to lock up money market and people loan either. So I think it will move in the money market and I think we're losing deposits. I think people just wait, but yeah I think it's natural that CDs would come down a bit..

Okay.

And on the deferrals, what do you think the endgame is there? You can obviously re-differ, did those you decided some point to re-underwrite and modify some of those that I believe in the Cares Act would not be considered a TDRs if you did that, but just wanted to talk that through?.

I'll sort of Rich in a second but on round one, we shared the pain. We just don’t hand them out like candy. We actually re-underwrite and look at them at that point in time and say what you can do X, Y, and Z the same cash why it comes to us.

So we put provisos out there to share the pain and enhance our position and second time around there is more pain..

I think there's as we walk through the time here, the first round I think a lot of if you were to really more pretty much looking at that as just kind of a pretty path, we looked at it. We certainly wanted to be there help out our customers who were stressed, but we also did that.

We wanted to really think about what other things could we do to make it a better structures in terms of additional collateral, personal guarantee think about that and as we refer to it as rumbles in terms of the deferral process. As we get into the second go around, we're looking to bump that up a little bit.

If you have -- somebody is looking for another 90 days deferral of principal or principal and interest, and those requests are going to get a little bit more elevated and at that point in time we also want to understand what is the game plan? In fact to your original question, how do you -- how is the customer planning to get to the other side and those are the -- that is the endgame question.

For a lot of our customers as they talked about earlier, we're seeing those deferral rates coming down pretty dramatically.

I think that as the economy has reopened, a number of our impacted industries have really seen substantial improvement and as we get into this next phase, we'll really start to be able to see which of those industries within our portfolio still have some really long-term residual impact and then we're going to have to one a time walk through what is the endgame for that situation.

But at this point in time, we're mildly encouraged that the people are coming in for deferral requests. They're not interested in throwing in the towel. They see a path to being cash flow positive again and so we're feeling okay right now..

I think our matters, we don’t want to kick the can down the road, which is explosion our capital by later. There's no way out.

Their first lots are best lots for the clients and figure it out that way, but as I said mostly these guys see then and we do underwrite at that point in time if we can do anything in terms of rewriting the loan and doing it that way, then the sense we do it, but most of the underwritten properly in the first place, their business hasn't changed that much to require that rather than other additional collateral or other things that will benefit us..

Our next question comes line on Michael Young from SunTrust. Your question please..

Thanks.

Quick follow up on kind of the first losses that's lost comment, just what areas are you more aggressive in just going ahead and moving problems out where you maybe see less opportunity for a recovery or a better market to kind of liquidate this time, maybe just any color there?.

Yeah I wouldn't say that there is an industry-specific issue there.

I think that as we disclosed in the release, there are a number of highly impacted industries that generally speaking we're feeling pretty good about, one that we see in some of our peers as being particularly problematic or two would be energy and hospitality have been really highly impacted. For us it's just not that many credits.

So we can look at those individually and try to figure out exactly what we're going to do, either of those portfolios do we feel like we have a whole lot of exposure from a loss perspective to at this point in time. So we're feeling okay.

I think the one that is probably most interesting to me to see how it ultimately works out is the CRE retail portfolio. I think that that's one that everybody has highlighted for this quarter amongst our peers and certainly for us we've done a pretty deep dive understanding what that portfolio looks like.

We do think that there's a lot of room in that portfolio from an LTV and debt service coverage perspective. We've got a lot of personal recourse in there. So we've got some handles to pull. So in terms of just going in and doing a wholesale sale of chunks of the portfolio, we just don't see that right now.

There are certainly loans within the portfolio that have shown more stress than others, but generally speaking, borrowers want to work with us and we want to work with them. So I wouldn't say we're cutting and running out any segment of the portfolio right now..

Okay.

And maybe switching gears more of a strategic question maybe for Ed, but you over the last 6 to 12 months, you guys have been growing the branch footprint with some infill opportunities and obviously even some deposits as I assume most of that activity obviously has been curtailed or suspended indefinitely, but are there opportunities to kind of go the other way and cut some costs on physical distribution and infrastructure and what needs to be have on kind of the technology investment side in light of the pandemic and new customer trends?.

On the technology side, we're constantly upgrading our systems in one of our main operating switches, better products and better order systems go into service. That's going very well and I think we're very competitive there but the market moves very quickly. So we're and we continue to make investments in the digital side of the equation.

On the branch side of the equation, by the end of the year, we will have completed a full review of our smaller branches to make sure that we mutually wanted to have market share in our branches when we as a period of time in terms of year and a half it should be one or two of market share. Some of that achieve that.

We're going through a full review of those branches to see we have a lot of people in a lot of locations. Some of them are acquired should we close them. So there are always opportunities there and we always look at them but maybe a little bit more fulsome really time by the end of the year.

There may be some opportunities to relocate on the close or the other site is, we hate to say about if this remote working and distancing becomes a new norm, you need as many people in the branches than you used to have. So that's the other thing we're looking at through the end of the year, looking at more remote work.

I am amazed at how our remote work has done. So in other words, we're reviewing all those expenses and just seeing how they grow.

Tim, do you have a comment on that?.

No I think that's right. We're not giving up on the branch footprint by any stretch of the imagination and we're seeing clients want to use both our branches and the electronic services, which is most point out are up over the last 120 days or so, but there's no place we would like to be as well and we think opportunity.

So I think it will be a selective review..

Okay. And last one for me, just on the mortgage comp expense or variable expense, I think it was up about $6 million year-over-year and volumes were obviously strong.

How should we think about that going forward? Are we in kind of a higher variable comp environment for the rest of the year just given production volumes or anything like that, that we should be baking into the model?.

If we did $2.2 billion in this quarter, we do $2.2 billion next quarter and we paid based on quantity of loans closed basically. So depending on the average ticket size I'd expect it to be similar. If you went back -- if you went back down to $1.2 billion and we would obviously lose model.

We don't see that happening in the third quarter and my guess is with the rates as low as they are that we'll have probably a relatively strong fourth quarter too with this because some of the closing dates the locks are much longer now just because the system is so full that you can't close quite as fast as you used to.

So I would those numbers to stay elevated, but it's fine for them to be elevated because you're making the revenue on the other side. So, I would expect they wouldn’t change dramatically in the third quarter based upon us expecting another similar production in the third quarter..

Our next question is a follow-up from the line of David Chiaverini from Wedbush Securities. Your question please..

Hey, thanks for the follow-up. So you mentioned about retail theory and called that out. I was curious in light of the Moody's forecasts call it for the CRE price index to be down possibly and of course it's only a forecasting and very well cannot not come true but down 20%.

Can you remind us what the LTVs are for the retail CRE portfolio as well as CRE overall?.

For the retail CRE I don't have the theory overall, but we did a pretty deep dive on our retail CRE and looked at 75% of the portfolio in great detail and the average LTV there was about 55.6% now keeping in mind that that's based on the most recent appraisal and it doesn't necessarily mean that that's what our current LTV is, but it does give us -- it highlighted I think the fact that there's room to move here.

We typically have been pretty conservative overtime and the other thing that I think is interesting in that analysis is that the average loan size is around $1.2 million. So it kind of highlights again that what we said in earlier calls that we do try to be pretty granular in that space.

We really don't have a lot of exposure to big box and to any regional mall. So most of what we have is sort of the infill in-community type stuff that had been kind of our bread-and-butter within our retail footprint..

Thank you. This does conclude the question-and-answer session of today's program. I'd like to hand the program back to Edward Wehmer for any further remarks..

Thank you. I want for the remark that a couple of e-mails I get you talk about how it illustrates.

I am saying long-term, I don't think it's going to happen a mile or next, maybe in the next year, but I think it has to happen and I think that you have this such a cyclical business, you have to learn from the past, although there different wrinkles thrown at you, I think preparing for higher rates makes a lot of sense in my book and I am saying it's going to happen next year or this year and next year but a bunch of five years, seven deals and 1.5% because I think it's got to happen eventually.

So I want to make that point clear. We've always been somewhat salmon like salmon when it comes to that. We talk about longer-term and seems like we're swimming upstream but it's always paid well and paid off well for us. So thank you everybody. If you further questions, you are able to contact. Have a great week, and stay healthy, thanks..

Thank you ladies and gentlemen for your participation in today's conference. This does conclude the program. You may now disconnect. Good day..