Thanks everybody. Good afternoon. We are happy to continue the mid-cap bank schedule with Banc of California. We are joined by Jared Wolff, the Chairman and CEO. Thanks a lot for coming. Karen Hon is in the audience as well as Deputy CFO. Thanks very much for coming, and look forward to having a conversation.
Thank you, Jared. Thank you to Barclays. Really happy to be here.
Great. Maybe kicking it off, you took several significant balance sheet actions in the second quarter, including the securities repositioning and CRE loan sales. What were you trying to accomplish, and I guess what evidence are you seeing that those actions are producing the intended results?
The second quarter actions that we took were among the most significant we have taken since we merged Banc of California and PacWest in November of 2023. We had over $2 billion of securities that were locked at a suboptimally priced at around 2%, with a fairly long duration of six years plus. We were able to sell those securities and reinvest them at a 285 basis point pickup. It was a big lift for earnings. We have been fully reinvested since the beginning of this quarter, and it has been really. I think it will show up well this quarter. One of the ways that is going to show up is we gave guidance that our margin by the fourth quarter would be 330- 340. We are ahead of schedule, and so I think that is one reflection that it is working.
Why was this the right time to do that?
We've been looking for the right time to break HTM and move these securities. I think since then we've seen some others follow. We had to thread the needle. We had to find the right time. First of all, you had to have the right amount of capital. We did this without raising any capital. I would mention that the earn back, because of the reinvestment rate and the relatively low AOCI, is only 1.4 years. We feel good about that. We had to have the right level of capital, and then you had to have the right environment where you want to be reinvesting in a higher rate environment, but that's going to work against you in terms of the AOCI. We were able to do so at a loss that was lower than we projected and reinvest higher than we projected.
Our team did a great job of threading the needle. I would also mention that until about 12 or 18 months ago, no bank had really done this for quite some time. Then a couple banks did it in 2025. They had to raise capital when they did it. We found the right time was 2026 when we had the right amount of capital and the conditions were right.
Sticking with the capital moved lower following the actions. What's the path from here, and how are you balancing capital build with opportunities to grow the balance sheet?
We had plenty of capital. We ended the second quarter in the low nines. We are picking up capital pretty quickly, and we will be returning close to 10 by the end of the year. If the risk-weighted adjustments take hold, if the Fed rules take hold, we will expect to pick up 50- 60 basis points of additional CET1 when those rules take effect. We are building up capital pretty quickly. I think we should be at 10 or have 10 clearly in sight to start buying back stock. We have a repurchase authorization that is out there. If we are in the fourth quarter, everything is moving along, our capital levels are on target, and we have confirmation that the new risk weightings will take effect. I do not think we would hesitate to buy back stock if the conditions were right.
If we have not heard about those regulatory capital rules, and we do not know with certainty, then I think we will wait until we get above 10 to start buying back stock.
As part of the actions, you took some steps to address select credits and reduce CRE concentration. How would you characterize the underlying credit portfolio and the provision outlook from here?
The actions that we took in the second quarter were designed to de-risk the balance sheet and improve the earnings profile on a consistent and reliable basis. We obviously did that through the securities repositioning. It was about a $200 million loss on the securities, and we said if we are going to do this, maybe the $200 million loss should be larger if we find some opportunities for things that could pose risk to earnings in the future. We looked at select groups of credits. We identified $825 million of credits. $300 million were in a construction relationship that had gotten into a business divorce. We thought it was money good, but it was going to create noise for a while. Then we found $525 million of performing CRE loans that had repricing characteristics that we did not like.
We found buyers for these two pools of loans, discounted roughly. We sold them for roughly 90%, so not a very significant discount. The first pool of $525 million is under contract at the price that we marked it to. That should close this quarter. The second pool for $300 million is now being documented at the price we marked it to. It should close very early next quarter, certainly well before earnings.
With that now addressed, how should investors think about loan growth going forward, and what matters most about the evolution of the portfolio from here?
Well, we feel really good about credit, and we think it's going to be relatively stable going forward. On the provision which you asked about, we expect to provision at normal levels. $9 million to $11 million has been our historical run rate, and we expect that to return in Q3 and hopefully for Q4 as well. So far this quarter, loan growth has been very strong. It's been good. We've had continued strong production for several quarters, but we expect net loan growth this quarter. Deposit growth has also been strong, as I mentioned, both on non-interest-bearing deposits and on interest-bearing deposits. And we expect those to support the margin going forward. Loans have been steady, fairly broad-based this quarter. We'll see where we end the quarter, but the averages should be good on both fronts, loans and deposits.
On the deposit side, you've had some good trends in non-interest-bearing DDA. What's been driving that momentum? And I guess with that backdrop, how are you thinking about the margin outlook?
We're a very focused business bank, and we focus on serving businesses and bringing in relationships where we can serve the business. Primarily, we want to help them with their operating accounts, their business accounts that need services from banks that aren't necessarily focused on yield. They're focused on the services that we can offer to make their lives better, their business lives better. That's been our consistent focus for many years in driving higher NIB. When we merged with PacWest, on a collective basis, we were about 25% NIB. We're now close to 30%. Once we hit 30% on a reliable basis, we'll set a new target of 35%. As many of you know, before the merger, Banc of California, on a standalone basis, improved its non-interest-bearing deposit percentage from below 15% - 40% in four years by focusing on this steady focus on business clients.
That's something that I did when I was early in my career at PacWest and also at City National Bank. So we have a track record of doing this, and we know how to do it well. Our margin, of course, will be protected by the higher percentage of non-interest-bearing balances that we're able to continue to drive through the bank. As I think about the margin, we're seeing a good contribution from the asset side now on our margin. Previously, we were getting most contribution on the margin from the liability side when rates were relatively flat, but we were driving down deposit costs. Today, as rates have kind of moved up, we're seeing better contribution from the asset side of the balance sheet, particularly on the securities portfolio, but also on loan yields, which are holding up, and less contribution from the liability side.
The more we can drive non-interest-bearing deposits, and we've been successful at that, the more contribution it will have going forward. I'd mention one other thing, Jared, in terms of contribution to the margin. We have two levers that we intend to pull or that will be self-effectuating going forward that will be significant drivers of earnings growth and also the margin. We have $5.4 billion of performing multifamily loans, mostly broker-funded. Half of that $5.4 billion matures or reprices over the next two years. Those loans today are priced at around 4%. So you take $2.5 billion roughly of a pickup of at least 200 basis points over the next two years. Those loans reprice or mature on a fairly even schedule over the next two years with a little bit of lumpiness. That's a pretty big pickup.
That's $50 million of pre-tax income that will come just through the portfolio repricing itself and maturing over time. In addition to that, as you and I have talked about, we have our preferred stock. We have the right to redeem it in September of 2027. That's a $40 million dividend after tax that we pay to the preferred shareholders. We expect to redeem it all, but we might have to finance some of it with FHLB, but we'll use mostly our liquidity. So at a minimum, we expect $20 million of after-tax income to come back to the common stockholders. Between those two things, that's roughly $70 million of pre-tax income that will come back to the common just through normal pricing and maturity.
With all that, I guess, how should investors think about the path from today's earnings profile towards the longer-term targets you've outlined for PPNR and ROTCE?
I think it will be very evident this quarter where our earnings are going, and certainly through the end of the year through the fourth quarter, as we show the power of having repositioned $2 billion of securities that went from 2% to nearly 5%. Similarly, the multifamily that's repricing will start to take hold. And then our new production yield is about 6.4%, similar to what it was last quarter. So I think the earnings profile is accelerating and our returns are accelerating due to the strategic repositioning that we've done on the balance sheet. Our aspiration is to be a very reliable relationship lender with a very boring earnings profile. We want to have consistent, reliable, steady earnings that come from very transparent sources without a lot of noise. And I think we've done a really good job moving the balance sheet in that direction.
If you look at what happened when we closed the merger in November of 2023, we said 2024 we'd spend restructuring. The fourth quarter of 2024 was kind of business as usual. So we've been at this about seven quarters. Earnings have gone up into the right on an adjusted basis pretty much every quarter. And now it's going to be with less and less noise going forward.
The company generated about $2.8 billion in production in the second quarter and still delivered strong underlying growth despite the loan sale. What does the growth outlook look like from here? And how do you expect the mix of loans to evolve over the next few years?
We think that mid to upper single-digit loan growth is a steady place to play when the economy is working normally. In any one quarter, any couple quarters, you can outpace that, have low double-digit growth because you had a strong quarter. Banks are generally participants in the economy. If you're growing too fast, at least at our bank, I wonder if we're stretching for yield. We feel very comfortable. You also have to fund it. You have to bring in deposits to fund it. We want to be core funded as much as we can. If you're growing too fast, you're going to have to find the funding elsewhere. It might be fine in any given quarter, but on a sustainable basis, you're going to want to have to have core funding. We think about living within our means and growing responsibly.
One of the great things today is that there are many alternatives for our capital. For the last two, three years, you had to find yield in loans. Today, you can find yield in securities as well. When we're making loans, we're looking at, is this the best risk-adjusted return for our shareholders' capital? One area of loan growth that we expect to see grow is our single-family portfolio. We have about $3.5+ billion of single-family loans. Originally, we were replacing those loans to keep the balance sheet flat. We have a mortgage warehouse portfolio, and so we're able to buy those loans off our mortgage warehouse portfolio from the borrowers that we lend to. We're already secured by those loans. We have other sources. We've been finding that today we can get pretty good risk-adjusted yields in single family.
We don't have any compliance infrastructure because we don't originate the mortgages. We also don't service them. It's like a bond portfolio. We're netting about 6.25% for 30-year fixed rate mortgages. We put a hedge on the portfolio to make sure that it doesn't prepay. We're locking in that against that risk of prepayment speed. That's another avenue that we have. We think that overall, we're going to be a fairly down the middle C&I and real estate lender. Our real estate exposure has gone below 300%, and we think average 250%-285% capital for CRE exposure. We continue to grow our fund finance business, our lender finance business. Middle market and regular C&I is doing very well, and we think construction will pick up.
From your conversations with clients, what are the C&I clients saying about demand and business conditions and navigating through all this macro noise that's out there?
Business conditions today remain generally benign. The interest rate environment is comfortable enough for businesses to borrow. It's not getting in the way of lending. We'll see what happens this week, whether the Fed raises rates. I don't think 25 basis points will impact the lending environment very much. I would say that the environment feels okay. It doesn't feel like anything is particularly great, but it doesn't feel bad either. It's just benign. We hope to have a more positive overall economic environment. But as we all know, we're all living it and feeling it, there's a lot of excess noise out there. The cost of diesel fuel is very high, and diesel fuel runs through the economy and powers is increasing costs for all sorts of industries. There's still spillover effects from tariffs and other things.
Hopefully that noise calms down and the economy is able to run with the power that I think it should.
From the outside, we often hear the narrative around businesses and individuals leaving California for lower tax states. Yet your loans and deposits continue to grow. What are you actually seeing on the ground, and why do you remain constructive on California as a strong banking market?
Sure. I think rumors of California's death have been premature for quite some time. It is still one of the most important economies in the world. Today, Los Angeles is one of the engines that's powering California, which is the fourth largest economy in the world by different measures. If California as an economy slows, or even if it fails to grow on a net basis, Banc of California is well-positioned to grow notwithstanding. We are the third largest bank headquartered in California. We are the largest independent bank headquartered in L.A. And we are largely grabbing business and winning business from competitors who are much larger, trying to serve clients with everything. We are a much better and much more tailored solution-oriented lender and deposit gatherer to small and medium-sized businesses than some of our largest competitors.
We believe there's plenty of room for us to continue to be that differentiated lender to those smaller businesses. We'll continue to do that whether or not the economy grows. As the economy grows, we'll grow even faster.
You talked about some of your specialty verticals including venture, lender finance, fund finance continuing to grow. Which client segments are producing the best opportunities for you today in some of those verticals?
Well, to that point, I should mention in response to your previous comment to bring these two together, is we actually are in 10 states. We have our branch network largely in California and a little bit in Colorado, but we're in 10 states overall. We're set up around a commercial and community bank, which is in-market relationship lending throughout California, which is your traditional C&I and real estate business with market presidents serving customers on the ground. Then we have our specialty businesses which are not geography-based, which are specialty verticals that are in large ways nationwide, but they're also specialty businesses, and they're relationship businesses. Fund finance, warehouse, and lender finance have all been strong, and that's because we're competing in a very tailored way against a narrow set of competitors. We expect middle market C&I to continue to grow.
We have a thriving media and entertainment business. That is, we lend to streamers. We don't finance any content where we need to get paid back by distribution. We finance content that's already been bought, and we help with finance the production. That business continues to grow and is doing very well. All these businesses have deposits attached to them, some to a greater extent than others. We also have a homeowners association business, as you know, which has about $4 billion, gathers deposits from property management companies, and that business continues to grow well.
Generally, how would you characterize competition today across your markets? We continue to hear from other banks that larger super regionals are influencing pricing in both loans and deposits. What are you seeing out there in terms of the competitive landscape?
Yeah. On both loans and deposits, competition is tough. I think starting on the deposit side, there is competition for liquidity. We've been fortunate to continue to be able to grow our deposits and our non-interest-bearing deposit share and hold deposit costs down. Although we expect them to rise as all banks do over time in this environment. On the lending side, it just matters which pocket we're talking about. There are fewer competitors on the lender finance side, perhaps in some cases on the fund finance side because of the way we compete than the general C&I business. What we have found is by focusing on areas where we're good, where we have specialty, where we're maybe a little bit more tailored, we narrow the competition, and we go after the proper size loan for our business.
We're not stretching to try to participate in deals that are too large and grab a piece just to show growth. We really would like to be the primary lender and do it in areas where we have expertise.
One of the more encouraging trends over the last several years has been the steady growth in relationship-based deposits. What initiatives are driving the greatest success there today, and where do you still see the best opportunity to improve that versus the broader funding mix?
I'd say two things. We have grown, as I mentioned, NIB from 25% to nearly 30% of our deposits. It's not through any secrets. It's through a lot of hard work and having people. There's really three things that I think we do well to bring those deposits in. First is, we have people that are trained and experts in deposits. I don't expect our lenders to be as good as focused people on deposits as people who focus on deposits. Second is we actually have invested in the technology necessary to deliver on the promise that we're selling to a prospect. We tell them, "Look, if you join us, this is what we're going to be able to do for you, and here's how we're going to be able to help you." Then we invest in that technology, and we deliver on that promise.
Third is we have really good incentive programs that align behavior toward those outcomes. I think all three of those things are necessary. One thing that we're doing going forward, which I think will be really important and could be a big differentiator for us is for the first time we're launching a private banking initiative. Now I've shared time telling you all that we're primarily a commercial bank, and we are. But I have heard from too many people too frequently, "I can't get so-and-so bank to return my phone call. I ended up there through First Republic. I got my mortgage. I don't want to leave my mortgage, but I can't deal with their online banking.
I've got $200,000 in deposits with my family, and I can't get them to return a call." We hear from RIAs, independent wealth managers, that they have clients who can't get a phone call returned and have significant deposits. So we have launched a tailored private banking solution, not focused on mortgages, not focused on wealth management, to help family offices and individuals with their daily banking for their families. I'm a case in point. My family, between my wife and I, our kids, our in-laws, my parents, we probably have 12 accounts, maybe 15 at Banc of California. I can text, my kids can text, my wife can text with somebody if they need to open a new account, if they lose a password, get responses immediately.
We're setting up that system for family offices, for high-net-worth individuals, so they can have a great banking experience just for their daily needs. We're in beta right now. We're going to roll it out more effectively later this year, and I think that will pay big dividends.
Great. Looking at some of the technology side of things, you've invested heavily in technology and payments, treasury management, commercial infrastructure. Where are you seeing the highest returns today, and where do you think the incremental dollars will be spent going forward?
Well, we have invested in technology. It's really important to run the bank as an owner and to make sure that you are investing for the future and that you are keeping up to make sure you're there ahead of your clients. You don't want your clients asking you for things that they're seeing elsewhere. That being said, you don't want to build it and hope that they come. You want to invest in things that you know are valuable for your clients. Payments is a perfect example. We have invested in building a team to deliver merchant acquiring services and credit card services for our clients. We hired Chris Healy, who was heading payments at Comerica for 20 years to head payments for us to help deliver that. He brought over two people, one to head merchant acquiring, one to head cards.
What I love about this is I don't need to change anybody's behavior. I don't need to build a market. Our clients have credit cards issued by somebody on which they're using their travel and spend dollars for their business. We would like to replace that card in their wallet and have them spend those dollars with us upon which we're going to get 2.89% interchange plus 1% cash back. We're already taking credit risk with these clients. Why not give them a credit card that's got $50,000 or $100,000 of credit on it and get the interchange benefit? Merchant acquiring. Our clients are accepting credit cards to receive money from their clients.
I would rather be the partner that allows them to receive that money and get it faster through us at potentially a lower cost than have to go through some third party that goes through another bank and finally gets to their bank account. Again, I don't have to change behavior. I have to provide a solution that is attractive to them for something they're already doing. We're investing in payments because we believe that we should be that intermediary for our clients, and they would rather work with us. It'll make them more connected to us. We think this will show big dividends next year.
Great. Maybe looking on the AI side, that's a theme that we're speaking to everybody about this year. How are you evaluating the opportunities and risks around AI? Beyond operational efficiencies, how do you think AI could change the way the bank interacts with clients over time?
It's been really exciting to go down this journey of AI. We're trying to do it carefully. We're not really an early adopter. We're a really fast follower. We think we can catch up fast enough without making the mistakes of being a first adopter. We have deployed AI throughout the company through ChatGPT, through Copilot, through Claude for coding and API development. We're in the process of hiring a head of AI, which is a new position for our company, which will help us with strategic decisioning and thinking about our AI journey. But we have deployed it broadly, and we're seeing benefits in three areas today. One is call center. We are deploying AI software to replace and succeed our call center agents. I think the jury is in.
Clients would prefer to speak to an AI agent that can anticipate questions better, can provide multiple responses, got infinite patience. If you want to put a dialect on it, you can. You don't have to. You can make it from the South. You can make it from anywhere. It can speak to clients the way they want to be spoken to, and it'll stay on the phone as long as they want, and there will never be a wait time. It's a very good solution with human override. Second, we're using it for BSA for enhanced due diligence, and we're finding significant time savings in report writing where data is available and needs to be collected and reported out. Third, we're using it in credit areas.
Not necessarily for upfront credit decisioning, but for evaluating credits that have been done, evaluating our credit portfolio, helping us see large amounts of data, and looking at common denominators and focus points that might help us make better credit decisions in the future and hopefully get ahead of problems early. These three areas, I think, are going to have a significant impact on our company and I imagine many others. We also are upskilling our employees. We expect AI will result in us hiring slower, but not necessarily broad layoffs. We invest in our employees. We spend time with them. We train them. This will allow our employees to do more exciting things, more creative things, and they know our company really well, and this provides great career path and training for them.
Let me see if there's any questions in the audience. Happy to take those. No. I guess maybe just going back to the capital discussion. There's potential tailwinds from Basel III. Once you're through the noise of the restructuring, where do you see sort of an optimal capital level for the bank, and what should we think about in terms of optimized capital?
Well, let me talk about CET1 and TCE. On the CET1 level, I think between 10% and 10.5% is where we see most banks leveling out. At a time when the government is increasing capital levels, most banks have moved away from 11% or are moving down to 10.5%, and some are getting to 10 and below. We temporarily went below 10% to accomplish what I thought was an important initiative on the securities repositioning. But we will level out, come back to 10% fairly quickly here, and then settle in between 10% and 10.5%, which I think is a comfortable level. Let's all remember that the well-capitalized level is 6.5%, so there's a fairly large buffer that I think people are feeling comfortable with. On TCE, I think around eight is probably the right level, and maybe a little bit above it.
You don't want to be too much of an outlier, but that seems to be where things are settling out.
Maybe sort of wrapping up a little bit here is if we're sitting here a year from now and investors view Banc of California differently than they do today as a result of partially the balance sheet restructuring, what do you think will have been the biggest factors that change the perception?
I think over the next several quarters, we will have fairly boring announcements of earnings growth, margin expansion, hopefully good deposit and loan trends, and healthy credit. I think we're going to be doing so by just being a really good relationship bank in our markets. Our team is exceptional, and one of the common denominators of our team is that we hire people who have been where we're going. We like to hire people who have experience at larger institutions and can rightsize their experience to an institution our size and help us grow. Through their experience, we've been able to do some very, I would say, complicated things over many quarters that have not gotten in the way of earnings but in fact have accelerated it.
I would expect a year from now, we're going to be looking at having achieved ROA and ROTCE targets and saying, "What's the next target that we're going to set?"
Great. Well, thanks very much.
Thank you, Jared.
Appreciate the time.
Enjoyed this, and thank you again for inviting us, and thank you to Barclays for hosting a great conference.
Thanks.
Thank you.
Thank you.