Good day, and welcome to the Bank of America Third Quarter Earnings Announcement. Currently, all lines are in a listen only mode. Later, there will be an opportunity to ask questions during a question and answer session. Please be advised today's program may be recorded. It is now my pleasure to turn the program over to Lee McIntyre.
You may begin.
Good morning to those on the phone joining us by webcast. Before Brian Moynihan and Bruce Thompson begin their comments, let me remind you that this presentation, which is available at bankofamerica.com, does contain some forward looking statements regarding both our financial condition and financial results and that these statements involve certain risks that may cause actual results in the future to be different from our current expectations. Please see our press release and SEC documents for further information. So with that, let me turn it over to our CEO, Brian Moynihan.
Thanks, Lee. Good morning, everyone. I'll cover a few points and then I'll turn it over to Bruce to go through the details of quarters we've done in other quarters. Consistent with prior quarters, our company continued to show progress on the areas we've been focused upon: capital generation, managing risk, achieving cost savings, addressing legacy issues and driving our core growth strategies and our core lines of business. On the capital front this quarter, we generated $3,000,000,000 plus of Basel 1 Tier 1 common capital.
Our Basel III ratio is now approached 10% on a fully phased in basis. That capital and liquidity in the balance sheet optimization has been going on for the last several quarters holds us in good shape with regards to the regulatory suggested or proposed requirements that we see on the horizon. The strength in capital is allowing us to return capital to shareholders. In the past 6 months, we've repurchased 140,000,000 shares equaling about $2,000,000,000 of our $5,000,000,000 authorization. Turning to the revenue side, we have experienced relative stability this quarter.
But of course, we felt the impacts of the industry wide headwinds on a slower refi business in mortgage and slowdown in the capital markets from a typical summer slowdown as well as concerns of a political and monetary uncertainty. On expenses, this quarter we incurred additional litigation costs. Outside of that, we continue to make progress on our expense initiatives, remaining on track to deliver the cost savings that we told you about 2 years ago in new BAC and also reducing the cost in our legacy assets and servicing area. In the credit area, we continue to see asset quality improve and our net loss rates are levels not seen since 2,005. As the macro environment slowly improved, we experienced a 20% drop in net charge offs in decline in delinquencies from the Q2.
Our 248,000 teammates have been fully engaged with our customer and clients to drive activity. We're pleased to see another quarter of solid loan growth in our commercial businesses, while we continue to see the consumer lending activity stabilize in our card balances and modest growth elsewhere, which has offset the runoff in our non core portfolios. As a company, we reached record deposit levels this quarter, more than $1,100,000,000,000 in deposits. Our client balance flows in our Wealth Management clients helped us maintain our industry leading positions. And you've seen the Bank of America Merrill Lynch has assumed prominent roles in the Marquet Investment Banking deals that have gone on this quarter.
We've also seen a nice trend of progress absent some seasonality of results in our equity trading business. It has been gaining market share and continue to improve. So to sum it up, it's another solid quarter of progress in our core businesses and I'm going to turn it over to Bruce to cover this in detail the presentation. Bruce?
Thanks, Brian, and good morning, everyone. I'm going to start my presentation on Slide 5. During the quarter, we earned $2,500,000,000 or $0.20 per diluted share. Before I address the core business trends, let me mention a few noteworthy items from our results that we've disclosed to you previously. First, we sold our remaining stake in CCB recording a pre tax gain of $753,000,000 which was partially offset by $443,000,000 negative impact of FBO and DVA as our credit spreads continued to tighten during the quarter.
The net of these items benefited EPS by $0.02 in the quarter. We also recorded a $1,100,000,000 charge to remeasure our U. K. Deferred tax asset given the 3% decline in the tax rate which reduced EPS by $0.10 a share. The net of these is obviously a reduction of $0.08 Moving to the core business, total revenues in the quarter on an FTE basis were solid at $21,700,000,000 or $22,200,000,000 if we exclude the FBO and DBA charges.
If we compare this to the Q2, revenues declined on lower mortgage banking revenue as well as mostly seasonal declines within our sales and trading area. Total non interest expense of $16,400,000,000 included $1,100,000,000 in litigation costs, a $600,000,000 increase in litigation costs from 2nd quarter levels. The increase in these costs was partially offset by the improvement in both our legacy assets and servicing costs as well as the benefits of our new BAC initiatives. Asset quality improved significantly with net charge offs improving 20% from the Q2 of 2013 to 1 point and with the reserve reductions we took in the quarter, we recorded provision expense of just under $300,000,000 in the quarter. On Slide 6, you can see that our period end balance sheet remained relatively stable versus the prior quarter at about $2,130,000,000 Customer activity remained solid with loans largely led by commercial loans up $12,800,000,000 Consumer lending activity in the quarter improved as we saw increased loan generation in our dealer financial services area and our continued stabilization of card balances which was partially offset by the runoff within our home equity portfolio.
Period end deposits were up over $29,000,000,000 or 2.7% led by commercial client activity and solid flows from our wealth management clients. If we move down the page, tangible book value per share improved to $13.62 and our tangible common equity ratio increased above 7%. A couple other things that I'd like to mention during the quarter, we repurchased 60,000,000 shares for roughly $900,000,000 during the quarter. OCI increased by about $900,000,000 during the quarter and our preferred stock includes the completion of our previously announced preferred stock redemption for just under $1,000,000,000 On Slide 7, you can see our Basel 1 Tier 1 common ratio of 11.08 percent increased 25 basis points from the Q2 of 2013. Under Basel III, on a fully phased in basis under the advanced approach, Tier 1 common capital increased by approximately 6 $1,000,000,000 to an estimated $131,800,000,000 Our Tier 1 common ratio is 9.94 percent showing a 34 basis point improvement from the Q2 of 2013.
In our estimate of the Basel III Tier 1 common ratio on a fully phased in basis under the standardized approach would be just over 9% above our proposed 8.5% 2019 minimum requirement. If we move to the supplemental leverage ratio based on the proposed U. S. Requirements that don't take effect until 2018,
At the
end of the Q3, our bank holding company leverage ratio improved to above the proposed minimum of 5% and our 2 primary banking subsidiaries BANA and FIA continue to be in excess of the 6% proposed minimum. So to reiterate what Brian mentioned, there are a lot of new capital regulations proposed or finalized and we already exceed the requirements for the various known rules on Basel III Capital and the supplementary leverage ratio. On Slide 8, funding and liquidity. You can see our long term debt ended the quarter $7,000,000,000 lower as maturities in the completion of our $5,000,000,000 tender offer outpaced issuances. We have $40,000,000,000 of parent company maturities through 2014 and as we look forward we expect issuances to be materially below that number as we continue to reduce and smooth the maturity profile of our debt footprint.
Global excess liquidity sources of $359,000,000,000 increased from 342,000,000,000 at the end of the Q2 of 2013 and parent company liquidity remained strong at $95,000,000,000 That translates into a time to require funding of 35 months well above our 2 year coverage that we target. I would also like to highlight that on October 1 this year, we've completed the legal entity merger of the Merrill Lynch Holding Company into Bank of America Corporation as part of our continued efforts to both simplify the company and reduce cost. If we turn to Slide 9, net interest income. Net interest income on a reported basis was $10,500,000,000 down from the Q2 of 'thirteen as the improvement in our core net interest income was more than offset by a negative impact from market related impacts. If we exclude those market related impacts, net interest income built off of Q2 2013's $10,400,000,000 to be just north of $10,500,000,000 dollars During the quarter, we benefited from higher rates in our discretionary book, lower long term debt levels, higher commercial loans and lower rates paid on deposits.
These positives were partially mitigated by lower loan yields and lower trading related NII. As you'll note on the slide, the net interest yield excluding market related impacts improved from 2.36% to 2.44% driven by the lower balance sheet levels as well as our lower funding cost. And consistent with what we mentioned last quarter, we expect to realize the benefit of higher long term rates as we reinvest, but note that some of those benefits will occur through time. On Slide 10, I'm going to spend a few minutes on expenses. Total expenses for the quarter were $16,400,000,000 a $1,100,000,000 improvement from the year ago quarter, but up $371,000,000 from the Q2 of this year.
I want to be clear, you look at expenses and see that the uptick in the linked quarter expense, we continue to deliver on our non litigation expense reductions in our legacy assets and servicing area as well as the ongoing benefits from our new BAC initiatives in the balance of the company. Compared to the Q2 of 2013, progress on LAS and new BAC in addition to lower revenue related incentive compensation was more than offset by increased cost of litigation as well as some marketing initiatives that were accelerated from the Q4 of 2013. Our litigation expenses did increase as the continued evaluation of legacy exposures led to an addition to reserves. Our LAS expenses ex litigation which are shown on the gray bar on Slide 10 of $2,200,000,000 declined $110,000,000 from the Q2 of 2013 and we continue to expect our 4th quarter LAS expenses ex litigation to be below $2,000,000,000 as we continue to make very good progress on reducing the number of 60 plus day delinquents that we have in that business. Our new BAC savings in the Q3 were approximately $100,000,000 and are included in all other the red bar.
We also remain on track to achieve the expected $1,500,000,000 of new BAC quarterly cost benefits by the end of 2013 and ultimately the $2,000,000,000 quarterly benefit upon completion of the project. From an employee staffing perspective, our number of FTEs ended the quarter at 248,000, a decline of more than 9,000 or 3.6% from the Q2 of 'thirteen and that was driven by staff reductions within our legacy assets and servicing area, declines in home loans given the slow down in mortgage production as well as the continued optimization of our branch network. And while we were down by 3.6% from the end of the second quarter to the end of the third quarter, the average FTEs only declined 2.3%. So we'll get some additional benefits during the 4th quarter relative to the 3rd from those reductions. We touched on asset quality, Slide 11.
You can see that credit quality once again improved significantly. Net charge offs declined to $1,700,000,000 a 20% improvement on a linked quarter basis. As Brian referenced, our Q3 of 2013 loss rate of 73 basis points declined 21 basis points from the 2nd quarter and is now at 2,005 levels. Delinquencies, a leading indicator of charge offs again declined nicely. During the quarter, we did reduce reserves by $1,400,000,000 on the back of steadily improving consumer data, which resulted in a provision expense of just under $300,000,000 Given what we see from the improving delinquencies as well as the current HPI trends, absent any unexpected changes in the economy, we expect net charge offs to decline again in the 4th quarter and stabilize sometime in 14 Our Consumer and Business Banking segment, we were very pleased with the results during the Q3 as we delivered improved earnings with revenues growing modestly and expenses declining from both the previous quarter as well as the year ago quarter.
This coupled with lower credit costs within the segment resulted in net income of approximately $1,800,000,000 during the quarter, a 28% improvement over the previous quarter and a 32% improvement over last year. That was achieved as we continued to do more business with our core customers. Our average deposits were stable as our organic customer growth was offset by some small branch divestitures as well as migrations to our Global Wealth and Investment Management area. Our brokerage assets are at record levels within this business, up 6% from the 18% over the prior year's quarter. Average loans, as I mentioned, reflects stability in card balances as well as growth within our dealer financial services area.
Card issuance during the quarter remained strong. We issued more than 1,000,000 new cards in the 3rd quarter, which is at the highest level going back to 2,008. Consistent with our relationship strategy, 63% of this issuance was to people that we have existing relationships with. And credit quality continues to be strong as delinquencies and net losses continue to improve during the quarter. Reduced expense levels in the segment reflect the benefits of our network optimization, partially offset by investments we continue to make as we build out our specialist sales force in this area.
On Slide 13, Commercial Real Estate Services where we operate the production, origination and servicing of consumer real estate loans. In our supplemental information, we report the 2 separate components of this segment, 1 focused on loan origination and the other focused on servicing and legacy issues. On originations this quarter, 1st mortgage retail originations were $22,600,000,000 which was down 11% from the prior quarter and up 11% compared with originations in the year ago period. We believe that the current period decline in production is less than our industry peers as we've been working through our of 2013, which reflects the significant reduction in market demand, particularly in the refinancing space. Since our production revenue is booked at the point in which you lock a loan as opposed to funding, I should point out that our 23% from the Q2 of 2013.
In addition to those lower lock volumes, we saw gain on sale margins decline compared to the Q2 of 2013. Our reduction was about 60 basis points during the quarter. As a result of all these factors, core production revenue was down 46% to $465,000,000 from the Q2 of headcount by more than 1,000 employees toward the end of the quarter. We will continue to reduce these staffing levels to be consistent with the lower volumes that we've seen. The other primary component in this segment, servicing revenue, declined approximately $100,000,000 versus the 2nd quarter as our servicing portfolio declined as we continue to complete certain servicing transfers.
The other item that I want to highlight on this slide that's particularly important is the servicing costs that we see within the legacy assets and servicing area. We've spoken a lot about reducing the number of 60 plus day delinquencies in this portfolio and we had a lot of success during the quarter as the number of 60 plus day delinquent loans dropped below 400,000 units at the end of September, nearly 100,000 lower than what we had at the end of June. Roughly half of the decline was driven by the transfers of servicing that I referenced in conjunction with the MSR sales agreements that we announced in the Q1 of 2013. And once again, as a result of this work, we continue to believe that our On Slide 14, our Global Wealth and Investment Management area had another strong quarter generating solid earnings and solid returns. Within this segment, both Merrill Lynch and U.
S. Trust maintain their leadership positions with a total of $2,300,000,000,000 of client balances. Revenue remains near record highs at $4,400,000,000 up 8% over the Q3 of 2012. Relative to the Q3 of 2012, net income improved 26% and was the 3rd consecutive quarter in which our pre tax margin was above 25%. Asset management fees achieved a new record during the quarter, while our brokerage income did decline from the 2nd quarter due to reduced market activity.
Client engagement remains quite strong. Long term AUM flows were $10,300,000,000 near doubling last year's production. Ending deposits were up $6,500,000,000 or roughly 3% from the prior quarter and our ending client loan balances of $117,200,000,000 reached record levels and are up 2% from the 2nd quarter of 201311% over the Q3 of a year ago as we continue to provide more banking products to both our Merrill relative to the year ago period. Revenue compared to a year ago includes the benefit of strong loan growth and stable investment banking fees. Expenses this quarter include very good cost controls offset slightly elevated litigation expense.
Global fee pools did decline, but we maintained our strong 2nd place ranking of global net investment banking fees recording $1,300,000,000 of fees and improving our market share to 7.7%. In addition, if you look at fees within the Americas, we ranked number 1 with an 11% market share. During 2013, we have advised on 7 of the top 15 announced M and A deals. As we head into the last quarter of the year, the pipeline looks quite strong, but I do want to highlight that during the Q4 of last year, we did see record levels of debt issuance during that period. We look at the balance sheet.
Average loans increased $4,400,000,000 from the 2nd quarter with more than half of that growth driven by commercial real estate lending with the balance by C and I lending particularly with our large corporate clients. Average deposits increased $12,200,000,000 from the Q2 of 2013 above our expectations given certain timing considerations as well as customer liquidity that's been built around fiscal cliff concerns. We move to Slide 16, Global Markets. We earned CAD 531,000,000 during the quarter after excluding the $1,100,000,000 U. K.
Tax charge as well as DVA losses of $291,000,000 dollars On a comparable basis, this is a decrease of $341,000,000 compared to the Q3 of 2012 and down $403,000,000 from the Q2 of 2013 due to lower sales and trading revenue as well as higher expense from litigation. Sales and trading revenue ex DBA was $3,000,000,000 during the quarter, an 8% decline from the comparable year ago period. Fixed sales and trading revenue was down 20% versus the year ago period, once again impacted by concerns regarding the Fed's position on its stimulus program as well as political uncertainty both domestically and abroad. Our equity sales and trading area had another very strong quarter with revenues ex DVA up 36% over the year ago period as we experienced higher market volumes and continue to benefit from the repositioning of this business that's happened over the last 18 months. We're gaining market share and we're improving our performance in each of the product lines.
Expenses in the quarter compared to the Q3 of 'twelve included higher litigation costs that were partially offset by a a reduction in operating expenses. Average trading related assets were down 4% from the year ago period, while our bar was effectively flat. On Slide 17, we show you the results of all other. Gains on the sale of debt securities were $347,000,000 in the 3rd quarter, down $105,000,000 from the Q2 of 'thirteen. You can also see the breakout of $1,100,000,000 of equity investment income, which reflects the CCB gains that I mentioned earlier, as well as an additional $368,000,000 of gains.
The FVO that I mentioned earlier is also reported in this segment. Expenses include roughly $350,000,000 during this quarter for litigation that compares to $100,000,000 in the Q2 of 2013 $950,000,000 in the Q3 of 2012. As we close on all other, I would note that the effective tax rate for the quarter ex the impact of the U. K. Tax reduction charge was 25%.
And as we look forward to the Q4 of 2013, we expect the effective rate to be in the high 20s. Before we take questions, I'd like to leave you with several thoughts about our results. Capital and liquidity both strengthened during the quarter. We had encouraging business results as we saw improvement in both activity and profitability within Consumer and Business Banking. We saw continued strength in Global Wealth Management.
We maintained top position in Investment Banking and had another quarter of strong growth in our Equity Sales and Trading business. Credit continued to improve. Our cost initiative work remains on track and to the extent that the steepened yield curve environment stays with us, it should allow us to move NII upward as we move forward. We'll continue to execute on our strategy and continue to deliver on the earnings power of the company. And with that, we'll go ahead and open it up for questions.
And we'll first go to the site of Moshe Orenbuch with Credit Suisse. Your line is open.
Great. Thanks. In addition, the slides have got a good breakdown of the rep and warrant reserving. Could you talk a little bit about the litigation and how to think about the litigation costs as we go forward because that's obviously still volatile? Maybe discuss what's still remaining that could get kind of roped into that as we go forward?
Yes. I think Moshe what I'd say is that if you look as we referenced it was roughly $1,600,000,000 a 2nd quarter and it was roughly 1,000,000,000 this quarter. I go back to and I think been pretty consistent. If you go back to 2010 and look at the build over the course of 4 years from both the litigation and rep and warrant perspective, I think you can see that we've had more of that over the course of a 3.5 year period than anyone else out there. And as we look at the remaining pipeline, we put it in really 4 different buckets.
The first is the GSE bucket for rep and warrant, which with one exception, we've got global settlements from the end of 'eight back with Freddie and Fannie. So as we look at that bucket, we feel very good about that. We then go to the 2nd bucket which is monoline. We've got global settlements with 3 of the 5 monoline and we've established the reserves for the remaining 2 based on that history of the 3. We then go to the rep and warrant with respect to the private label securities, the $8,500,000,000 Gibson Bruns case which represents half the exposure continues to go through the court process and they'll be back in court on that I believe in November.
And obviously, we set up reserves at that point based on the Gibson Bruns history. And as we've said before, for that which we didn't have the basis to establish a reserve, we put out a range of possible loss for rep and warrant that continues to be up to $4,000,000,000 And then you move into the other pieces that we have, that's the RMBS securities litigation. During the quarter, the Luther Main settlement received preliminary approval during the quarter and we'll look to get final approval by that sometime during the Q4. And we obviously set up a reserve and that settlement was for $500,000,000 which represents in the zip code of 65% to 70% of the company wide exposure that we have for RMBS litigation. And then the other two pieces that we continue to work through in that bucket are the FAFSA litigation on behalf of Freddie and Fannie, as well as AIG and there's really nothing to report new on either of those fronts.
And what you saw during the quarter as we said was really an adjustment to the reserves based on as we get more information into the extent that there are additional discussions with some of the people that were in a party with those discussions too.
I guess just to follow-up on that because JPMorgan had indicated that they had expenses in this quarter that were substantially higher than what they had would have anticipated as possible even 3 months ago because of a change in the regulatory environment. Do you feel like you've taken that fully into account?
Yes. I think let me be a little bit more specific when we go back to because I think the one thing that's been overlooked a little bit and this is not a number we're particularly pleased with. But if you go back to the beginning of 2010 and look at the combined litigation and rep and warrant expense that we've had in this company, it's been over 40,000,000,000 dollars which I think is quite a bit higher than the number that they quoted. Obviously, those numbers are particular And I think at this point, relative to our peers, we've tried to be And I think at this point relative to our peers, we've tried to be out front and get through some of the larger settlements that we have and we think that $40 plus 1,000,000,000 number reflects that.
And just shifting gears on the mortgage business. You had a decline in rate locks that you identified, but the pipeline actually is down substantially more. Can you talk a
little bit about how you
see the Q4 and into 2014, 14 because you've got both the potential for obviously a further decline as that pipeline kind of moves through. But again, you also had a fairly high rep and warrant in the quarter. Like how should we think about that from a revenue perspective?
I think just let's talk about the production first. You remember that we had a lot of hemp going on and that's been dropping each quarter as we sort of get through the volumes of that and that had a pretty good impact. I think it was down roughly $3,500,000 or so linked quarter. The rest of production continues to move forward. But if you look at what's really going on as we speak because during the Q3 you had significant changes July August as it ramps your pipeline etcetera.
The current pipeline stands at a level of 30 odd 1,000. The current application volumes today are 1,000 plus, around 1,000. The purchase piece of that is maintained relatively constant $300 ish a day. So if you think about that, we had sort of a month and a half pipeline and that's been pretty consistent as we got into September and through October. So if you kind of extrapolate that out, you should see production levels that will be down again in the Q4, but we'll start to mitigate.
The issue on the revenues, the spreads have come in and the refinancing volume is at a higher profit margin because the work is not as much. And so we expect to see a lot like we're seeing now spreads in the that have come in a couple of 100 basis points or so. And we expect that to hold and the volumes will come down. And so I think the number will continue to work in that direction. What you do mention is the other side of which is there's sort of the revenue and warranty exposure and stuff that goes through there and stuff that changes it and Bruce can touch on that.
But in terms of overall volumes, we've taken the we started taking the people down to match the volumes. You remember we had a lot of work to do here. And if you look at our non hand production, it's continued to grow each quarter. Our home equity loan production has doubled in the last few quarters and we'll continue to drive that forward. As we've told you many times, it will never be a huge business for this company because it's a business which is very competitive out there and the profit margins will always be thin, but we need to do it for our customers and clients.
And on the rep and warrant front, you're right. The rep and warrant expense was just over $300,000,000 a quarter and we clearly would expect that the run rate of that expense is going to be much more in the $150,000,000 a quarter type run rate as opposed to the $300,000,000 plus.
Got it. And the very last one for me is you had mentioned expected improvement in charge offs. The provision obviously was substantially lower. How should we think about the provision relative to those charge offs in Q4 and into 'fourteen?
Yes. I think once again, our comments will be assuming that we don't see any slippage in the economy. During the quarter, if you look at the reserve release roughly $250,000,000 of it was purchase credit impaired and roughly $1,150,000,000 from the core. As we go forward, I would think about the provision or excuse me, think about the reserve release much more consistent with what you saw in the 1st and second quarters of this year over the next couple of quarters. And then ultimately, as we get into the latter part of 'fourteen and beyond, you'd expect most of that to go away.
But I do think there are probably another couple of quarters where it could be in line with what we saw in the 1st and second quarter, clearly not at the Q3 of this year given the sharp improvement in credit we saw.
Great. Thanks everyone. Thanks very much.
We'll now go to the site of Betsy Graseck with Morgan Stanley. Your line is open.
Hi, good morning.
Good morning, Beth. Good
morning. Just one follow-up on the conversation we just had regarding the reps and warranties and litigation. So I heard you that the monoline 3 out of 5 are done. You established reserves for the other 2 based on the 3 out of 5. Is that part of the rep and warranty this quarter, establishing reserves for the other 2 based on the 3 out of 5 done?
No, it is not. Okay. And then on the litigation reserve, I mean, there's obviously a long list of stuff in your Q. So is it fair to say that litigation reserve was just all of the above of that long list or was there something specific that you saw in the quarter that drove the higher number? I'm just wondering, do we do the $1,000,000,000 quarterly in our model going forward or is it going to be more episodic than that?
I think as we've said, that number tends to be lumpy. And I wouldn't say that there was any one specific item during the quarter that you could point to. It was really just a continued evaluation of the reserves as well as reflective of any current discussions that we're having with the different parties that we're trying to work through this with.
And then on the LAS expenses, you indicated that next quarter sub $2,000,000,000
That's correct. And so you
highlighted that your delinquents are down half from the asset sales and half from your own actions? So is it fair to say that the reduction roughly $300,000,000 or so, well $200,000,000 to $300,000,000 or so that you're calling out for next quarter is also equally half and half. And part of the question is trying to understand, you know the run rate of how those expenses are coming out associated with the asset sale. And I'm wondering is that front end loaded in 4Q, is that going to be 4Q through 2Q next year and are the organic actions you're taking likely to be equal in size in terms of the negative decline in the LAS expenses?
Yes. I think I would say a couple of things on that Betsy that the once again the we told you at the end of the second quarter that we would get the number of 60 plus day units down below 375,000 units by the end of the year. And you can see during the Q3 alone, we got them down below 400,000. So we feel particularly good with that guidance. There's a lot of work that goes on in the quarter to move out and to get these servicing transfers done as it relates to both our own teammates as well as people that we use to help us with that.
So that's why you saw some of the numbers Q2 to Q3 a little bit sticky. But the point that you raised, I think is the right one, which is now that you've got the loans out, you have the ability to take the in the Q3. And I think as you look out at and as you look through 2014, the guidance that we've given is very remains the same and we feel more comfortable with given the delinquencies that as you go through 2014, you should see that expense number go from below $2,000,000,000 in the Q4 of 2013 to below $1,000,000,000 by the end of 2014. And it always can be a little bit lumpy, but you should see that occur generally consistently throughout the year.
Okay, thanks. And then lastly on Page 7, you highlight the regulatory capital. Obviously, it seems like you set yourself up well for a into that? And are your SLR numbers that you present fully loaded in 3Q or is it on a phased in approach?
Yes. Our SLR numbers are fully loaded at both the bank holding company as well as at the subs. And as we look at CCAR, what I would say is, I think we've been consistent on this that we've done it and done everything we can both in a way intrinsically, the way we run the company, which in many respects is not inconsistent with what you get tested in CCAR and that we've built our Basel 1.5 ratio up significantly from last year. The Basel 3 ratios across the board are up. As you look at both credit risk and market risk, those have obviously gotten better and we've continued to put the legacy issues behind us.
So as we look at, we obviously were able to return $5,000,000,000 to the common shareholders during this year as part of the CCAR process. And we'll look to move forward from that realizing that until we see the exact case that we're running and what the test is. I think it's probably premature to say anything more than that.
Okay. Thanks a lot.
And we'll next go to the site of John McDonald with Sanford Bernstein. Your line is now open.
Yes. Hi, good morning. Bruce, I was wondering on the net interest income side. Do you think that the core NII should kind of grind higher at a similar pace that we saw this quarter? Looks like it was up $100,000,000 assuming no big change in rates?
I think that's fair, John. And there's you're always a little bit subject to mix loan pricing as well as rate environment, but that's clearly the trajectory that we're on. So the answer would be yes.
And how should we think about the market sensitive component? Do you still have the NII hedges on? Or is it really the FAS91 that adds volatility from here?
Yes. I think it's important. And the one thing that doesn't come out when you look at this slide is, it's not that we saw much variability in either FAS 91 or hedging effectiveness during the Q3, it was that we had some benefits in the Q2 when you had the sharp increase in rates. So as long as you're within a reasonable range where rates aren't bouncing around, you shouldn't see much of that. But keep in mind that what you saw in the 1st and second quarters was because of the largely unprecedented movement up in rates that we saw that gave us the FAS91 benefit.
Okay. And over time does that FAS91 effect dissipate over time or is that always going to be with you?
Well, it gets reset so that you don't have any aberration from quarter to quarter. And the only time you have an operation on a run rate basis is when the rate the underlying rates move.
Okay. And then, just any update on your rate sensitivity relative to where you stood at the end of last quarter for 100 basis point move in loan rates?
Yes, I think I want to think we're in the same zip code both on 100 basis point steepening as well as a 100 basis point parallel shift in the guidance that we've given was it takes us about 3 years to earn back any impact in OCI and we're a touch better than that this quarter. And if you look at the supplemental, you'll see that the level of debt securities is down modestly as we're very sensitive to managing that OCI risk.
Okay. And then just a follow-up on litigation expense. Back in July, you were thinking perhaps $500,000,000 per quarter and clearly came in much higher than that this quarter. And recognize things are fluid here, but should we be thinking of litigation expense more like this quarter or more like last, are you able to say?
Yes, John, that's really difficult to say. I mean, I think that the punch line is that it can be lumpy. And we obviously do and work hard each quarter to the extent that we can get things put behind us at reasonable levels for the shareholders. We do that. It is an evolving process and it's something that we're working hard on.
And at the same time, there's no question that the expense was elevated this quarter.
Okay. And then one more clarification on the core expenses. How much did the expenses come down for mortgage so far and what do you see left on that? And then, just any comment on the IB comp ratio, how we should think about that going forward?
Sure. I'm not sure I understand your question on the mortgage expense.
Yes, any capacity reduction that you're doing as originations come down? Have you gotten benefit from that? And how much might we expect for you to do that going
forward? No. As we referenced on the front end, so on the legacy piece, we talked about the end, so on the legacy piece, we talked about the 2.3 going to 2.2 and how we'll have that below 2. As we talked about, we needed to get through the pipeline on the Q3, which we did. The 1,000 people that we referenced on the front end happened late in the quarter.
And as I mentioned, we're going to continue to reduce that to size that for the volumes that we're seeing now, but we've not put out a specific number on that.
Okay. And in terms of IV comp, what we saw this quarter and how we should think about that?
Yes. We typically if you look at combined Investment Banking and Sales and Trading, you tend to be in the mid to high 30s. And I don't think you're going to any significant variations in that Q3 to Q4.
Okay, thanks.
John, one thing on the both in the mortgage and otherwise. As Bruce talked about, the actions we've taken during the quarter to reduce headcount overall in the company, a lot of business in the second half of the quarter. So you always get a continuing on effect of that. And by the way, next quarter as we reduce further LAS and mortgage, you'll see it go into the Q1. So it does lag and that's it's just the nature of the severance accruals you take at the time plus as we move the headcounts out sort of paying them on as you go on the severance also in certain cases.
So you should expect that those volume related reductions will continue forward and the economics of what we did in the Q3 is probably more in the Q4 than it is in the Q3.
Got it. Okay. Thank you.
And we will next go to the site of Glenn Schorr with ISI. Your line is open.
Hi, thank you. Question on FICC. I think the explanation on the down 20% is fair enough and a lot of macro and political reasons, which I get. Just curious on if you had any early comments on swaps execution and clearing impact in the quarter and what you see going forward as clients migrate?
Yes. I wouldn't really note any specific change there, Glenn. It's something that we continue to look at. The one thing I'd say that we are working hard on and this really flips more to some of the capital in central clearing type things that as we continue to have more and more of that migrated that is going to benefit certain capital ratios as we look at counterparty. So I think that the ongoing if there's to the extent that there's an economic negative going forward, we're obviously continuing to spend a lot of time with that.
The one piece that is a little bit more tangible that we work through is that there will be some decent benefits over the course of 12 to 18 months as more and more of that gets migrated.
I think as you
think about the markets business, one of the things that Tom and team have done is, it's got the as we talked about in various quarters, it's kept the breakeven point relatively low. So in a quarter which the equities business was very good for us comparatively. But the fixed income business which is a lot bigger than the equity business was obviously down. We still made a $500,000,000 And so the goal there is to be able to serve our clients and customers well, keep the balance sheet in good shape, but also keep the expense base so that when we get $2,500,000,000 to $3,000,000,000 we start making some decent money. And then in a good quarter, we'll make a good amount of money.
And Tom and team have done a good job to keep that expense base in line. And most of the expense increase here is with litigation and things that were non fundamental to show up in line of business related to the broader question.
I appreciate that.
It might be putting words in your mouth, but it sounds like that there's a pretty good operating leverage built in on the upside then. In other words, it doesn't necessarily scale up and down with revenues to the same degree.
Yes. If you just look across the last four quarters, you see it. But the key was going from 11% to 12%. We moved the fundamental level. So there's good operating leverage.
You get another $1,000,000,000 in revenues. A lot of it comes through net of an incremental compensation care.
Okay. One other question just on cards. It looks like issuance and balances have been growing good. I'm just curious how much of that is you turning up the heat on marketing selling through the branches and how you feel about the outlook because it's been a while since we saw the industry in general have decent balance growth?
Yes. I think a couple of things and just kind of reiterate a little bit we touched on is that we've made over the course of the last 12 to 18 months the investment of having more bankers in the branches and trying to do more things with our customers. And the 2 things that we feel best about as you look at that growth in cards to over 1000000 cards in the quarter is that the first is that 63% of those people once again we already have an existing relationship with and obviously know something about and are trying to do more with. And the second thing I'd say is that as you look at the overall FICO and credit quality of those borrowers, they tend to be in the mid 700s on average. So it's the right customer, it's sold the right way and it's part of an overall deepening strategy.
And now that we're starting to see some of the balances creep up, it's reflective of that activity, which I think quite frankly was overshadowed a little bit as we cleaned out some of the affinity in other programs that the new stuff that you saw got overshadowed by things that were leaving the books. But now that we're largely through that, what we're doing on the front end is starting to come out.
Okay, perfect. Thank you.
And we will next go to the site of Derik DeRise with UBS. Your line is open.
Great. I just have a detailed question on the OCI. There was a $1,400,000,000 gain I think from pension changes in pension. Can you just explain what that was about?
Sure. What happens is that typically you mark your pension OCI once a year as you update the asset values and assumptions at year end. You typically do that on an annual basis. Because we merged August. And that $1,400,000,000 reflects the change in value from Jan 1 to August 31.
And then obviously we'll remeasure those again at year end.
That's clear. Thanks. And then just talking more generally, I mean you obviously have a lot of corporate relationships and I guess there's so many ease about what's going on in Washington. But assuming we can get through that, do you get the sense that the corporates are looking to kind of move from margin preservation to investment or are they just really worried about the macro environment? I'm trying to get a sense of where loan growth could go going forward.
Yes. I think if you look at our client base which ranges from small businesses through the largest companies in the world, I'd say all of them feel very good about their operating position or making money, have done a tremendous job of keeping the cost structure in line. I had an example of a company that had 200 employees, the sales are going to go by 25% and they said we're only going to add 5 employees. So the American business has gotten very efficient. But when you put on top of them the uncertainties because they're all engaged in global commerce, the macro uncertainties at the world level, the U.
S. Level, I think there has been an uncertainty holdback here that will come through as more and more clarity both in the economy I. E. Final demand for the products and the macro situation comes clear. And so is it a sprint out of the blocks now they're running forward, it'd be probably a speed up of the process.
And you saw some of that this summer with some of the M and A activity and stuff in the larger companies has strengthened and you're seeing it go on. So I think there's a demand in the system so to speak. There's money on the sidelines from the investor side and the more clarity you'll see better activity. Meanwhile underneath it you see the core economy continue to push forward even with all the things going on around the world.
That's very helpful. Thanks.
And we will now go to the site of Jim Mitchell with Buckingham Research. Your line is now open.
Hey, good morning. Can you talk run me through the expense line a little bit on the compensation side? I guess I'm just struggling a little bit with on a year over year basis, you guys were down around $100,000,000 on the comp line, but headcount is down 25,000 employees, capital markets revenues are down. Why are we seeing that stay elevated? And how do we see that go down more significantly going forward?
Sure. You have a couple of things going on. The first thing I'd say is that the expense number during the Q3 of last year and I'm going to speak to if you flip to Slide 10 for a moment that if you look at that comp or the all other bucket, which is I think what you're referring to, that $13,000,000,000 in the Q3 last year was particularly low. If you look at where it was in the Q4, it was at 13.4%. So that can bounce around by a couple of $100,000,000 So realize it was off a low base.
You did see a couple of things though in the Q3 of this year that you wouldn't have had. The first is that the wealth management revenues, which there is a fair bit of formulaic compensation are running at, as I mentioned, at higher levels in 2013 and 2012. So you have some compensation there. The second thing that you had this quarter is Brian referenced is we took down headcount, we had roughly $100,000,000 of severance that came through the P and L during the quarter. The third thing that you had during the quarter that I referenced is you had some elevated marketing expense that will go down in the 4th quarter that you also didn't have in the 3rd quarter.
So a combination of a variety of items, but I think what we'd say is as you look to go forward, you should see that red bar come down based on our overall expense initiatives as well as new BAC. And remember also that
when we give you these reduction numbers, we're not giving you a reduction in saying but then we're going elsewhere. This is a net number that you pointed So all the investments we're making in Q3 last year Q3 of this year you've seen the mortgage production costs go up which will come back down. But all the investment we made in salespeople to do the cards that we talked about earlier, small business lending, investment services that you can see at the branch level, you can see the numbers growing there. All those are in those numbers. So all those investments are more commercial bankers that are helping our commercial loan growth and yet we're overcoming them.
And then you have the natural salary increases and stuff like that are all absorbing that. And yet the nominal numbers are flat. And frankly, if you back out a couple of the things that Bruce just mentioned are down. And so we're comfortable on course for new BAC. But remember these numbers are absorbing all the usual costs that we do plus the investments in business which we're making strong investments in the areas that we have growth opportunity.
Okay. No, that's helpful on the severance. And I guess I would assume that we would see some less of that going forward given the significant reductions in mortgage this quarter, right?
That's correct.
Okay, great. Thank you.
And we'll next go to Matt O'Connor with Deutsche Bank. Your line is now open.
Hi, guys.
Good morning. Matt, how are you?
Just as we think about the overall size of the balance sheet, you mentioned managing the securities book with OCI risk in mind and obviously the securities did come down as you mentioned this quarter while the loans are growing. How do we think about the net impact of those 2 I guess looking out next several quarters?
As far as just notional size of the balance sheet?
Yes. I mean I'm really focused on
the loans plus the securities because obviously liquidity levels can vary quarter to quarter and the trading book can vary quarter to quarter. So just I mean loans are growing nicely, but it's being offset by securities coming down. So I'm really just focused on those two components.
Yes. I think at this point, what I would expect is that generally speaking, the securities book should remain relatively consistent with where it is. And then if you look at the loan book, I would say that you're going to see that the loan book as well as the shrinkage of the debt footprint will be absorbed through deposit growth as well as a reduction to some extent in our parent company liquidity as we're carrying an elevated level of parent company liquidity to address the significant debt maturities in 2014. And the net of those, which I thought you were getting to initially is that you should continue to see this balance sheet in the 2 point $125,000,000 to $2,150,000,000 type area. But as we go forward, we should continue to get it to be more and more efficient.
I think one of
the things that we haven't talked about in a while is we still have significant runoff portfolios that we're replacing. Which gives us the ability to grow the core business without growing the balance sheet footings. And I think that's something that will help us in our capital levels that are already very strong today going forward because effectively we don't need incremental capital to grow the balance sheet even to have commercial loan growth and other types of growth that you're talking about.
Okay. So flattish balance sheet, but optimizing the capital usage and then obviously the NIM probably benefiting from the remix there?
Yes. And by the way everything is on the NIM is still the short rate move drives a lot of profit because of the positive franchise is an advantage to funding source as you well know.
And then just separately circling back on the kind of core expenses of $13,100,000,000 I guess it's $13,000,000,000 ex the severance and there's some of the mortgage staff reductions still some new BAC coming in and then maybe some investments. I mean where does that on the revenue base that you have right now, where does that $13,100,000,000 go to if you just fully loaded all the stuff that you can see?
I think the best guidance that we give at this point is we've got roughly $600,000,000 a quarter in new BAC to get done over the next 5 to 6 quarters.
Okay. And that's a net number. So think about it 12.4 percent, 12.5 percent?
Yes. But you got remember, we got to add back some of the LAS costs and we've been subtracting there, but there is always LAS as a servicing business always will have some costs that we told you to.
Yes. I guess I was just breaking the you've got the litigation, which is the moving target. You've got the LAS, which you've been pretty explicit. And then everything else was the 13.1% that Yes.
That's just sometimes people take that lower number and multiply times 4%, but you got to remember those other parts of those other costs will also be in there.
Yes. Okay. Thank you very much.
And we will next go to the side of Vivek Juneja with JPMorgan. Your line is now open.
My questions have been answered. Thanks.
Thank you.
And we will now go to Mike Mayo with CLSA. Your line is open.
Hi. I just wanted to clarify the new BAC benefits. So how much of new BAC have you achieved?
Roughly $1,400,000,000 a quarter, Mike, relative to $2,000,000,000 a quarter that we had previously announced.
And originally I thought you were looking for mid-twenty 15. So when you say $600,000,000 more, that's what you mean when you say over 6 or so quarters?
That's correct.
And just to clarify the last answer. So you expect all that to hit the bottom line or some of that will be offset by investments in salespeople and other investments?
I think what we said was at the current run rate level, you should be expecting that to hit the bottom line.
Okay. Switching back to the legal questions, you said you had taken over $40,000,000,000 of charges. What is your legal reserve as of the end of Q3?
Yes. We do not put out a litigation reserve on a standalone basis. The number that we do put out is where we are in rep and warrant and that was just over $14,000,000,000 at the end of the 3rd quarter.
$14,000,000,000 rep in warranty?
That's correct. $14,100,000
Okay. And would that include anything other than the $8,500,000,000 settlement?
That includes another $5,500,000,000 for a variety of matters.
So for the Gibson Brun settlement, you have an 8.5 $1,000,000,000 reserve for that settlement. I think I asked this on some other earnings calls, but if that agreement was not approved by the judge, what's the potential range for that $8,500,000,000 reserve?
As we've said before, we would need to look at that based on the circumstances that come out at the time. And I don't think it's a foregone conclusion. It goes one way or the other.
Okay. Switching gears, in terms of loan growth, what's the loan utilization level? And what are you seeing as far as acceleration or deceleration in loan growth?
Yes. I would say that the we really haven't and one of the things that we've tried to do and we'll continue to optimize particularly the way that the Basel III standardized ratio works that we're focused more and more and for those places where we make credit commitments to have the loans be funded as opposed to unfunded given the capital treatment that's out there. So I would say generally as you look at line utilizations, there hasn't been much that's changed at all. Where you're seeing the loan growth has been more funded type loan growth. In many cases, for large high quality companies that are making acquisitions, a couple that we would have seen this quarter would have been Verizon Wireless as well as Amgen.
Mike, overall Mike the loan utilization rates they haven't moved around a lot but they are
at low levels
historically across the board whether it's our business banking segment, the middle market segment and the large corporates not don't really use their lines other than as Bruce described when they're doing something inorganic. But they're very low, which gives you 2 things. 1, it indicates that they've got lots of cash and have lots of room for investments. But secondly, as the economy picks up, moving back to 1,000 basis points or so, we are from sort of more normal levels for lack of better term. There's a lot of loan growth within the within without new customer relationships or any more work.
So I understand you're picking and choosing your spots more. So would you say that demand really hasn't changed a whole lot over the past year or 2 or it picking up certain areas?
I think demand is I just think demand has picked up over the last couple of years. I think that the company had a line of credit in their dynamics. They are using at a lower level than they did not necessarily 2 years ago, but during the normal economic times and that's the second point. The demand has been picking up across the consumer demand and things like that. But it's still not as strong as it would be because it's a 2% growth rate economy out there.
All
right. Thank you.
Thank you.
And we will take our final questions from the side of Guy Moskowske with Autonomous Research. Your line is now open.
Good morning. I just have a few cleanup sort of questions. With respect to the long term debt footprint then, have you talked about how much of the $40,000,000,000 that is coming due that you would expect to refi or is there you going to let it all just go?
It won't all just go, but I think it's safe to assume that less than half of it will be refinanced.
Okay, thanks. That's helpful. On the last question, you were asked about the litigation reserve, which understandably you don't want to go there. But do you have an estimate of what your reasonable and possible beyond the litigation reserve will be this quarter?
Yes. I believe and Guy that at the end of the second quarter, I believe that we had said that the range of possible loss with respect to litigation was in the high 2s and we'll obviously need to freshen that up as we the Q3 queue out. But I wouldn't expect to see anything significant one way or the other.
Got it. And the $1,100,000,000 litigation expense and I guess reserve bill this quarter. Can you give us a sense of how it breaks down by business unit because it didn't seem like it all goes to all other?
Yes. If you look at by business unit, I referenced that as you flow through that you had and you can see it in the commercial real estate service area, there was over $300,000,000 of it there. There was roughly $300,000,000 of it between Banking and Markets and then the majority of the rest of it was in all other.
Great. That's helpful. And you mentioned that you had accelerated some marketing initiatives from the Q4 to the 3rd. And I was just wondering if you could give us a little color on specifically what they work since everybody is looking for growth?
Yes, I think the only two things is that you've obviously seen a little bit more brand that's out there. And then with CCB, there was the acceleration of what we do from a charitable perspective from the 4th to the 3rd. Those were the 2 items.
Got it. And then the very final question is, you had a meaningful improvement in your Basel III capital above and beyond the earnings and it looks like it's a pretty meaningful reduction in the threshold and other deductions. I was wondering if you could just give us a little bit more granularity on what was going
on there? Well, no, it's a great question. And really two things going on. Keep in mind, as we've said, because we have a decent chunk of disallowed DTA from a Basel perspective, that ballpark we will accrete capital on a pre tax basis generally speaking as opposed to a post tax basis for a decent number of quarters going forward. So when you look at that, think pretax not so much post tax.
And then the second benefit that you had, which was an earlier question was the benefit of OCI during the quarter of roughly $1,000,000,000 after tax or $1,500,000,000 pretax and that was the combination of the pension to the positive and then to the negative CCB coming out as well as some of the debt securities gains.
Got it. Okay, that's great. Thanks so much for taking my questions.
You. Okay. I think that's all the questions that we have. So thanks for joining us this morning.
This does conclude today's program. You may disconnect at any time.