All right. Up next, we have Citizens. I'll get through a quick disclosure. For important disclosures, please see the Morgan Stanley Research Disclosure website at morganstanley.com/researchdisclosures. The taking of photographs and use of recording devices is not allowed. If you have any questions, please reach out to your Morgan Stanley sales representative. With that out of the way, we're delighted to have with us today Don McCree, Senior Vice Chair and Head of Commercial Banking at Citizens. Don, welcome to the conference.
Great to be here.
Don, you've talked about how you view Citizens as one of the best-positioned commercial banks among your super regional peers. Can you talk a little bit about the journey that the commercial bank has been on over the past several years and why you believe you're best positioned among your competitors right now?
Yeah, so I would talk about it on three different axes. I joined the company right around the IPO about 10 years ago. The first thing we looked at was where we were situated in the country, which was New England and the Mid-Atlantic, which are generally low GDP parts of the country, low company formation. We decided we had to go national, so we went powerfully national in all of our commercial businesses. That was axis number one. The more important axis was building out a set of capabilities. At that time we IPO'd, we were basically a lender and a treasury services company. We built, I, what I really do believe is the best-positioned middle market investment bank in the country.
We did that first and foremost with leverage finance and syndicated finance. We added public securities, we added global markets, which is currency, commodities, and interest rates hedging. We then bought five M&A boutiques, which were all industry-based M&A boutiques, and the last of which was Most Fortunate, which was a data center M&A boutique. We are doing pretty well on that right now. We then bought JMP Securities, which is an equity research, equity issuance house out in San Francisco. Today we sit and we think we have the full complement of all capabilities that any of our clients need at any time in their life cycle. It feels really good about being able to engage. In parallel with that, we can get into this a little bit more if you want to.
We built a really big private equity, private capital business. We went really long that complex about seven years ago. That's my background. I've been doing this for 42 years, and a lot of it was in the private equity space. We just saw the mega trend coming, and we saw private capital coming. We put a lot of resources around that. When you get to the coalface of really what's exciting about what we're able to do in our franchises, you know, we have 4,000 middle market companies that we bank, and 10% of them are looking to transition at any point in time. If they're selling themselves, 90% of those sales are going into private equity. It creates a huge pipeline of opportunities for us to bring into the, into the PE complex.
That, that's what we've tried to do, and that's why we feel particularly well positioned.
That shows quite clearly you rank quite strongly in the league tables as well. You do compete with some of the largest banks as well. Can you talk about how you compete with those big banks? You talked about the richer products, but what advantage do you see clients, of clients working with a super regional bank like Citizens versus a large money center bank?
I think every competitor is formidable. I've never had a moment in my career where I haven't had a lot of competition. The money centers are very co-competitive. They don't pay a lot of attention to the middle market. They talk about it a lot, but when things are kind of hot, they're doing the $10 billion mega transactions, and they really don't have the focus that we have. We have absolutely world-class people, most of which came out of the money centers, who've been doing this for years and years and years in their career. They're just able to evaluate risk, evaluate credit, evaluate the opportunity, and price well for the marketplace. We just, you know, we're number two in the middle market leverage league tables of everybody, including the money centers.
That's kind of testimony to our success. We try to stay focused on what our mission is. We're not gonna go compete for the $10 billion buyout just 'cause our balance sheet's not big enough to do that. Because we have the great people decked against those companies, we tend to have a win rate that's pretty attractive.
Do you think you have the full product set to service those middle market customers right now?
Totally.
All right.
I don't see any gaps at all. We might need to, you know, about four years ago, five years ago, we really started to pivot towards industry. We might be a little bit light in terms of the scaling of some of our industry capabilities, but I haven't seen a time in the last five years where we've said we don't have a capability that we need to go service a situation.
Got it. Don, maybe pivoting over to the macro environment. We've had some time to digest the announcements of April 2nd. We both have had several positive announcements since then. At a recent conference, Bruce talked about how some customers are also starting to feel more comfortable. Can you elaborate on that point and what you're seeing in the commercial bank specifically?
Yeah, you know, so I had seven CEO meetings last week with our clients, and they're all pretty sanguine. They're obviously focused on country by country, tariff by tariff, interest rates, everything that's going on out there, you know, tomorrow's tweet, yesterday's tweet, what the uncertainty in the environment is. By and large, they've adjusted and they're adjusting. The report is, you know, we may not be pulling the trigger on XYZ investment right now or XYZ acquisition, but there's not a lot of real worry out there among the client base. We're starting to see it a little bit in loan pipelines and deal pipelines and the like.
I think that, you know, now that we're three months into this and people have kind of seen the movie, people are just understanding there's gonna be a little bit of a level of uncertainty. I, you know, one of the things I've said numerous times is I go all the way back to COVID. In COVID, companies went through probably the most extreme stress they ever went through. They learned that they had to, you know, kind of manage their companies better, cut their expense bases, manage their inventories, manage their debt levels. That's really caught through. You know, what I've always been worried about in the middle market in particular is some of the lack of professionalism in management.
They're great business people and they're great at running their businesses, but financial risk management and inventory risk management was something that they struggled with. And they fixed that during COVID. That has really put all these companies in a better position going into whatever we're going into. We do not see a lot of financial distress. I think at the margin, the companies are getting a little more optimistic. They're saying, you know, once we get through the summer and into the second half, we feel that business activity could be quite interesting.
Maybe a good segue from that is into the guidance. Can you talk about any updates to the second quarter guide? Is there anything there you wanna share with us?
Yeah, I mean, we feel good. I think the second quarter looks like it's gonna be solid. We're not changing guidance. Our NII is performing incredibly well. Our charge-offs and credit is performing incredibly well. We've got a little bit of noise in fees. In my business, we'll probably have a whole bunch of transactions that are kind of straddling the second and third quarter, whether they close or whether they don't close. I don't really care, 'cause the pipelines are super strong, but we have really strong activity in the private bank, in the mortgage business, in the card business, in the global markets business. One of the things that we look at is the diversification of the revenue streams that we've been able to accomplish over the last several years.
We feel good about the second quarter.
Great. Not changing any of the guide, the fees depends on, you know, where the transactions pull through into this quarter.
Yep. And it's largely, you know, it's, it's really M&A. It's interesting, you know, everybody's doing one more lap around the diligence on M&A deals with tariff changes. There doesn't seem to be a lot of people home at the FTC right now. If you have Hart-Scott approvals or things like that, they're just taking a little bit longer. You know, we have larger M&A pipelines than we've ever had. Again, back to our core business model, we're a little bit immune to some of the bigger challenges in places like M&A 'cause we're doing smaller transactions and we're doing middle market transactions. They tend to get less attention. There is a little more certainty there.
So that's a good place maybe to talk about fees. You expect about, at the top of the house, you expect an 8-10% fee income growth for 2025. Can you talk about what the main drivers are at the commercial bank?
Yeah, it's pretty diversified. You know, our big fee pools are, you know, M&A, which just might be about a third in any given year. Bank and bond fees, which are syndicated finance and leverage finance, might be around 50%. Then equities, which makes up the balance. We have a pretty big global markets business, which, you know, rises and falls based on where currency trends are and where interest rate trends are. That's doing quite well right now. I go back to the thing I said before, which is I like the diversification in terms of fees. You know, we will have a pretty broad pipeline across all of those different fee streams at any point in time.
Private equity is a reasonably big driver in terms of where we make a bunch of our bank and bond fees in terms of underwritings.
It, you know, we'll get into some details, but it sounds like if there is volatility, it isn't that great for some parts of the business, but there are other parts of the business that can compensate for that.
Right. Exactly.
Got it. So, maybe let's talk about capital markets. You know, it sounds like conversations have started to resume again a little bit. Can you talk about what buyers and sellers need to see before you actually get that activity and see those deal completions come through?
You know, it's been for the last couple of years, it's been all about valuation. And, you know, sellers wanted to pay less and buyers wanted to get more, and getting those two things together were somewhat challenging. It's gotten a bunch better. People have also had to adjust to higher interest rates. So particularly if you're dealing in private equity and leverage finance, you're paying a higher carry on your debt load. That impacts what you can pay. That impacts valuation. But I think, you know, it's interesting to me, a lot of the driver of our M&A and our leverage finance and syndicated finance business is generational change underneath companies. So mom and dad have been running the company for years. Kids don't wanna be in the business.
They just wanna cash out. It is not always about the maximum price. We see a lot of things that we do, which are more around the social match between a buyer and seller. You know, we do a lot with family offices, and they tend to be a different kind of buyer than a PE firm might be. I think it feels like there is a, well, let's go to the givens. The givens are, there is a massive amount of liquidity out in the market, whether that is in the debt markets or in the private equity markets. There is a whole bunch of money that needs to go to work. Number two is there are a lot of private equity firms who have not realized in terms of their investments over the last several years, and they are out fundraising again.
It's interesting. We're watching some of the fundraising that's going on, and it's going well. You would have thought that some of the LPs would be standing back and saying, "Wait a minute, you know, I haven't gotten a carrier return on my existing investments." Some of these things I saw, Thoma Bravo just announced a massive upsize in terms of the fundraise that they did. There's a lot of people that want to transact. It really goes to the question you asked, which is how do you get the valuations together? We're feeling like it's beginning to move again. I think the other thing that's helping is, you know, you've got the administration backdrop of a more friendly M&A environment.
M&A is a little more friendly. You're starting to see the IPO markets move. You're starting to see, you know, decent issuance out there. The whole capital market, which has been, I wouldn't say frozen, but it's been a little bit stalled. If you go back and look for the last nine months or 12 months, we've had record capital markets quarters, but it's all been refinancings. The new money machine has not begun to really move yet. My feeling is as we get into the back half of this year and as we get into next year, the new money side of things should be taking off. That's irregardless of where interest rates are 'cause people have adjusted to the interest rate environment.
It sounds like there's a base level of activity that's continuing, and the rest of it is more of a coiled spring. We are pretty close to that.
Yeah. There's always, you know, I think if you just look at the big macros, you've had, you know, a lot of companies that maybe did not refinance during COVID, maybe did not refinance before that. You've got bonds kind of coming up to maturity cliffs. You've got debt coming up to maturity cliffs. That's what drove the refinancing trend. It does not really matter to us whether it is refinancing or a new money deal. If you get both going together, it is going to be quite powerful.
When you talked about interest rates not mattering as much, do you mean that because we know that we've peaked on the short end, we've come down, is that what matters more? Is it the long end, that volatility?
I think, I think I, I don't, I mean, I don't mean to say it doesn't matter. I think people have adjusted to it. Again, remember, you're younger than I am, that these interest rates aren't that high. I mean, I remember my first mortgage was like 18%. If people, what we need is directional certainty as opposed to massive volatility. It's very hard to do transactional business when there's a lot of volatility. If people kind of settle in and say the 10 year's gonna be at four and a half, maybe we get a couple interest rate cuts on the short end, you get a steepening of the yield curve. We know what that environment's gonna look like. You can actually hedge out some of the risk if you decide you wanna do that.
It just gives the kind of baseline of an ability to transact as opposed to the 10 years whipping around 80 basis points. You know, most of what we do is floating rate. The short end of the curve is what matters.
Got it. And, you know, while we have a little bit of volatility here, you're also doing a lot in the FX and hedging space. You recently became a registered swap dealer. How big of an opportunity is that over time?
It's pretty good. It's probably, you know, another 20% business that we can do. Just, I mean, we'll have a baseline growth, but just being a swap dealer, what we, there's a rule in the derivatives markets called the de minimis rule. If you're not a swap dealer, you have a cap of how much risk you can have. By becoming a swap dealer, we remove that cap and it allows us to just do opportunistic transactions on the edge. And that's the 20%. You know, we'll have the baseline of the normal things we do, but it just allows us to engage in some things that might be at the margin a little less profitable, but it's nice revenue just to, you know, add to the kitty.
Got it. And then on the treasury solutions business, you know, that's driven a nice 10% revenue kicker since 2015. So it's a great business for you. Talk about what's driving growth in that business and where you're seeing the most traction today.
That was a, you know, way, way back when, when I joined, that was a real repair job. It was a little bit of a mess. We had to stabilize the business, which was really the first five years. We had to put a new portal in and we had to put some new technology in. That is all behind us. We have actually begun to win quite a bit of core treasury services business. What I mean by that is receivables and payables and depository business with our core clients. We have taken attrition down by about half. That is a challenge you have in some of these businesses. That has stabilized the core. We have done really well in a couple sectors like merchant services, where we are now banking the top eight merchant services companies.
We just won a huge piece of business in the last quarter. We continue to grow that. Now we're moving pretty aggressively into two areas, one of which is kind of industry-focused solutions. Think like we're a huge gaming bank. We do a lot of the physical gaming and we do a lot of high yield in the gaming sector. We're gonna move into the iGaming space on the payment side. We're having some negotiations there right now. We're gonna move pretty strongly into embedded finance. We've got a couple things that are close to being signed on that front. That's a way to extend the reach of our payments business. There are all sorts of interesting things. We just, we, this is public.
We partnered with a company called Navan and they're a travel services company and we're embedding them in our card services. When we market our card services to small business and middle market business, we'll have a travel services element to it. It's probably one of the best travel services companies in the country. I think the big trend that I see in the payments business is bundling service bundles with traditional payments. You'll see us doing a lot of that over the next couple of years.
It sounds like you have the full product set and just about building on that now. That's helping you both on the deposit side as well as the deposit side.
I go back to what I said about, you know, about our size. You know, when we're talking to a lot of these service providers, they're scared by the big banks because they think the big banks are going to trample them. And the smaller banks are beginning to outgrow. For a regional bank like us or a Region or a Fifth Third or any of us, there's a space which we can occupy, which is a really attractive space. A lot of these emerging fintechs and service providers thought they could do it by themselves, and they're realizing they really can't. They need a banking partner to do that. That's really where we're spending a lot of time right now.
Got it. Maybe talking about loan growth, what are you seeing in terms of commercial lending activity in the second quarter? You know, I think early in the quarter, Bruce talked about line utilization ticking up recently. Talk about what's driving that.
Yeah. I think it was probably about 50/50, tariff inventory building that drove, and maybe another 50% actually real investment in businesses, whatever that might be. Some of that was also in the private, we have a big private credit, private equity lending complex, and some of the utilization uptick was in that sector also. We're seeing it continue in the second quarter. I mean, we continue to see pretty healthy pipelines. We continue to see line utilization up a little bit. We're not seeing a reversal of what we might've thought was inventory build in terms of tariff building. We're pretty confident that the trends are our friend, if you want to say, in terms of what we're seeing in loan growth.
If we do get what we think we are going to get, which is a major uptick in PE and private credit activity towards the back end of the year, that'll just be another accelerant because that's not really dependent upon an individual transaction we're doing. That's dependent upon activity across the complex. If someone's doing a deal in Europe or someone's doing a deal internationally, we'll get some utilization on those subscription lines and the private credit leverage lines that we do.
If I remember correctly, the first quarter there was strong debt capital markets activity, and that was a little bit of a dampener on loan growth.
Yeah.
What, what's been the impact of that in the second quarter?
It's probably been a push. I don't think, you know, debt capital markets has been a, you saw a lot of high yield in the, in the first quarter. I think what a bunch of that was, was loans or outstandings that had ended up on banks' balance sheets, which should have been in the bond market, but the bond market was kind of unfriendly from a liquidity standpoint. People lagged it a little bit, and they were just kind of recalibrating some of their capital structures. Those tended to be the larger companies.
Got it. As we think about commercial loan growth in general, and we think about companies starting to make those big CapEx investments again, you know, you notice it's a little bit more of a coil spring as you go into the back half and maybe into next year. What do you think the companies need to see? Is it full certainty on the trade side? Is it, you know, more talk about.
I'm kind of feeling like the trade movie is behind us. You know, you're gonna get these negotiations in London with China. It felt like, you know, six weeks ago, it was just insane. That's, you know, I actually used to bank Mr. Trump. I know how he negotiates. That was the, we're gonna go camped out here and people were just, "Oh my God." Then it's back here and it's actually, I don't know if we'll get trade deals or not. We might get, you know, we might get a memorandum of understanding and things like that. It just seems like the crazy uncertainty is kind of off the table. That's number one. Number two, it gets back to what we talked about before.
It's valuation uncertainty. I mean, the good news is I was with two CEOs at the Celtics Knicks game when the Knicks won the second game, which was quite fun. Both of them were sitting on either side of me saying, "I'm going to my board tomorrow, and I wanna do an acquisition. Do you think I should do an acquisition?" I said, "Yes." I said, "If you can get a good value and you can actually not put your company in jeopardy by not over-leveraging, this might be the best time." I think you're getting a little bit of change in psychology from, "I'm just gonna like stop and go to the sidelines" to, "Hey, I see some opportunity out there.
If I actually have capital and I can, you know, strike against that opportunity, I'm gonna engage in it. I think it's that, it's what I said before. I think it's that directional certainty that people are beginning to see.
Got it. Perfect. The other side of it is competition. Can you talk a little bit more about that? You know, you spoke about how there's always competition, right? Whether it's from the larger banks, whether it's from the regional banks. Talk a little bit about, you know, what's happening on the loan spread and loan structure side and what you're seeing on the middle market side.
I think it's, you know, it's tightening a bit. We run a really disciplined capital allocation process where we review returns on relationships and returns on transactions away from credit. And it's really, is this a piece of business that we want to undertake? And is it gonna generate a reasonable, rational return and drop, you know, money to the bottom line for us? We don't see a lot of companies. Where that becomes an issue is when we're trying to go dislodge an existing agent and we're going in and we're trying to win a new piece of business. That can be intensely competitive. We're gonna have to make a two-, three-, five-year judgment about whether we can turn that into a great client going forward.
In our existing client base, we do not really see a lot of client losses due to pricing or structure. My real view on that is if we take really good care of our customers and serve them, and remember, these are 30- and 40-year customers. We have been through the Great Recession, and we have been through COVID, and we have been through a lot of crisis periods with them. If we do a good job, we do not think we are going to lose a client for 10 basis points on the loan spread. That is not the way most, most particularly middle market companies think. Bigger companies, absolutely. You know, they will move in a second and they will move you out. That is not where most of our outstandings are anyway. Those are generally under on lines and things like that.
We play that market for the capital markets business. I think what I talk to my teams about is if you do day in, day out, good job, you know, articulate what's going on in the market, stay very communicative with your clients, are there good times and bad times, have great relationships. We think we de-risk that attrition pretty significantly. We have to have, we've spent just an enormous amount of time as a company just thinking about client experience and what does it look, and we haven't talked about it, but one of the best things that has happened to us is we built this private bank now, hiring about 200 of the First Republic bankers. These people are unbelievable client service people.
The whole company is learning from the way they take care of their clients and, and actually provide a full service bundle to their client base. Customer service, you know, kind of great responsiveness, good times and bad, that should reduce your attrition.
Maybe before we get into private capital, let's talk about the private bank a little bit and talk a little bit more about the synergies between the private bank and your business and, you know, how you're getting that growth.
Yeah. First of all, it's early days, right? We've only been at this for a little under two years, but the early returns are super exciting. We're seeing a lot of cross-border flow between the private bank and the commercial bank. We have a phrase we're using called one citizens, which is showing, you know, we're trying not to basically run the company with a referral mechanism like a commercial bank goes referring something to the private bank, private banks referring someone to the commercial bank. We're gonna do that, of course, but we're trying to show up as one company in the initial kind of conversations with these clients.
If you think about it, you know, you take a private equity firm, we can give them a subscription line. We can bank their partners. We can do loans to the management company. We can finance their portfolio companies. We can deliver them M&A fees. We might put them on our alternatives platform in the wealth business in terms of raising capital. There is a suite of things that we can provide. To me, the thing that is, you know, most interesting is we're relatively small. JP Morgan can do that all day long.
Mm-hmm.
They're just gigantic. It's really hard to get the whole company kind of organized. We've been able to get everybody organized around, you know, showing up. I'll give you one anecdotal story. There was a customer in Boston whom my head banker there was trying to land as a prospect for eight years. He couldn't land them, couldn't land them, couldn't land them. The CEO and CFO became clients of the private bank. The day after they onboarded the private bank, the CEO called my banker and said, "I'm moving all my business." It was such a good experience. That's, you know, that's one little anecdote. We can't extrapolate that against the whole franchise, but we're trying to create ecosystems in the markets that we're present in.
The other thing that the private bank has done for me is it's given us branding all over the country. We have a middle market strategy now, which is going into California and going into Florida. The reason we're doing that is, those are two big centers of our private bank. We have people on the ground. We have awareness of the company. When we walk in, it's not like, "Who is Citizens Bank?" People know who we are, and we're getting good referrals from the private bank in terms of opportunities in the marketplace. It's early, but very positive from my standpoint.
Excellent. I wanna spend a few minutes here talking about private capital.
Yeah.
Private equity as well. You know, you spoke about taking advantage of the big mega trend early on. How have you positioned the bank to serve both private equity and private credit?
Private equity is, you know, a pretty simple story. You know, we started in the traditional way, which we'll, we will finance your leverage buyout, KKR or Ares or whoever it might be. That's morphed into a broader kind of set of services around subscription lines, around M&A flow, around derivatives for their portfolio companies. We try to talk to those complexes around the entirety of the relationship. We're, you know, we're tiny versus the big banks, I mean. But we are number, as you said, we're number two in leverage finance for middle markets. We talk to their middle market teams, and we try to be relevant, giving them industry ideas and giving them M&A ideas and really talking to them about what the bigger trends are.
Five, six years ago, this whole private credit trend takes off. I mean, it was always there, but it just accelerated in a meaningful way. We saw it happening at the time, and we said, "Okay, we have to be bankers to the private credit arms of these firms." So how are we gonna do that? You know, one of the really interesting things is there is a financing vehicle for the private credit companies. They leverage themselves. The way they leverage themselves is effectively through an asset-based securities structure, which is kind of a double A, single A equivalent in terms of credit risk. We can lend in an asset-based structure, which gives us full substitutability of collateral. It is fully collateralized. We make more money doing that than we make doing an individual idiosyncratic leverage buyout.
We have kind of taken advantage of, you know, the slowing of the traditional way that leverage buyouts were financed and the increase in the way private credit is financing and actually neutralized our revenue streams in terms of ability to play it. Then we can go back to that private complex. A lot of these are private equity sleeve, real estate sleeve, private credit sleeve, asset-based lending sleeve. We can become completely relevant to the entirety of the company, which allows us to basically position ourselves to win a disproportionate amount of their business. We have not gone into one of these partnerships with a private credit fund. We think that is a bad strategy. We do not think it has worked anywhere, and instead, we have actually built a syndicate desk that sells to the private credit firms now.
If you think about private credit, we're selling risk to them. We're financing them, and we're doing other transactional business with them in terms of operating business and depository business. We've turned them into a client set, which is an emerging client set, which we think is actually quite attractive.
Why do you say that? Why do you say that getting into a partnership with a private credit firm is, is not the right thing?
I think what at the heart of it, and this is just my view, this is, I won't say it's Citizens' view, it's my view, and I run the business, so we're not doing it. It's almost like you create two credit committees, right? It's very hard to deliver in terms of a credit decision that's being originated through a bank and then funded through a private credit firm. Anytime I've done partnerships with any partner, I always view it as a reputational extension of myself, right? You've got to create certainty for your clients, and you've got to create deliverability. I've just worried that, you know, we'd rather deal with all of them as opposed to just partner with one. We just think that creates better optionality over time.
Got it. The other side of it is, you know, the risk on the credit side. And how do you, how do you think about the risk when it comes to servicing private credit?
You know, we're not, we're not worried about it. I mean, it's, it's the risk that I focus on is, it's, there's preferential capital treatment to the lending activity because it's structured as an asset-based deal. So it's a lower risk rating than a regular loan. That gives you a higher return. The one thing that I keep in the back of my mind is I go back to 25 years ago when the regulators changed the rules on mezzanine debt on banks' balance sheets, and they said, "We're gonna put a four times multiplier on them," and it instantly became unprofitable. If you get a regulatory trend that says, "We wanna try to slow down private credit," and we haven't, there was an interesting paper put out by the Boston Fed, which basically concluded that private credit's pretty safe.
That came out about, you know, a week and a half ago. We do not see it coming yet. If there was some kind of change in capital treatment, that is the thing that would worry me. I also am a little focused on if you start to get massive retail content, you know, and you are starting to see retail raises, this is primarily institutional money. If you start to get retail raises in size into either private equity or private credit, then you could start to see some of the regulatory, you know, backdrop change a little bit. Most of these are 364-day facilities, so you can adjust the book really quickly. There is not something that is going to happen overnight that is going to change the paradigm. We just pay attention to it.
I have heard all the arguments about systemic risk and this and that. I do not really, really see it. For us, where we can, I have not lost one client to private credit. Where we see them competing is in leverage lending.
Mm-hmm.
They will do higher leverage points than we would ever do. We would not compete for those transactions anyway. Our holds in leverage lending are kind of an average of $12 million across the portfolio. We are not building a leverage lending book. It is not as if they are taking assets away from us. It becomes, you know, a risk to our NII or our P&L. It is really a question of how do you maintain your underwriting fee revenues by being able to distribute to them? How do you actually take advantage of a financing opportunity that actually is, to me, a little more interesting than regularly leveraged buyouts?
Just to follow up on that leverage lending point, you know, I think banks typically do not do anything over six, given the guidance from the regulators. But, you know, we have been hearing private credit's been going a little bit lower down on the leverage scale. Is that, but, but you're, you're not seeing that much competition from them now?
We are, but we, you know, we're distributing to them. It's not as, again, we don't want that on our balance sheet anyway, whether it's six or thrive or four.
Yeah.
I mean, we're, we underwrite at $500 million. We sell it down to 12 or 12 or 20 or whatever the number might be. It's not as if they're disintermediating us. It's just like as if we're selling to another bank or we're selling to a CLO or we're selling to a mutual fund or we're selling to somebody else. It's just another, it's another outlet. Where we have, particularly in this quarter, is they've come down in their price points a little bit, and we've had volatility. The way we would underwrite a transaction is say, Soper plus 300, and then we're gonna put 150 basis points of what's called market flex on top of it to protect the underwriting risk. They can come in at 325 fixed and take the whole issue down.
The sponsor will sit there and say, "I like the certainty. I might, I might bias that transaction to private equity." That kind of fluctuates based on market conditions. The combination of volatility and price is what we worry about.
Got it. I'm gonna come to the audience in just a sec, but maybe, can you talk a little bit more about just credit quality, what's happening so far in the second quarter, and where you're seeing the most risk? What portfolios you're watching?
Yeah, you know, the one, the one we continue to watch is office real estate, but we've, we've told that story a lot. We've got it really well reserved, and there's been no real underlying change in what that portfolio has looked like. We've been on it for two and a half, three years now. So we've got it, you know, boxed. What we have seen is a real decline in movement of loans into our workout groups and movement of loans into deteriorated classes. So credit feels like it's, it's holding in there.
While you spoke about general office, the office reserve is at 12%. It's one of the highest, if not the highest amongst peers. How are you thinking about managing that over time?
Reducing it. We have a stated goal of reducing commercial real estate overall.
Mm-hmm.
You know, we've taken our office exposure, correct me if I'm wrong, Kristen, but like from 4.1 to start to about 2.8 now, maybe a little bit higher than that. It has come down quite a bit. It continues to trend down. The predominant of that has been payoffs and paydowns. We've written off a, you know, $300 million, a little, a little bit more than that. I think we feel like that reserve is completely adequate. If we get it down to a much lower level, you could see us do a cleanup trade sometime in the future. There's a lot of buyers out there.
It's interesting to me that there's a lot of people that have raised distressed funds to kind of focus on real estate, but very few of them have been deployed. There's not a lot of sellers out there. The rest of the real estate portfolio, we've got a really small life sciences portfolio, which obviously, given everything going on in the universities, we're focused on, but there's very little university content in those labs. That feels like it's in pretty good shape. Multifamily feels like it's in pretty good shape. There's tons of liquidity in the multifamily sector. We've been taking those into the agencies and moving some of that off the balance sheet already.
All right. Perfect. With that, we're actually out of time. Don, thanks so much for joining us.
All right. Thanks, everybody.