Greetings, and welcome to the Huntington Bancshares third quarter earnings call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Mark Muth, Director of Investor Relations. Please go ahead.
Thank you, Melissa. Welcome. I'm Mark Muth, Director of Investor Relations for Huntington. Copies of the slides we will be reviewing can be found on the investor relations section of our website, www.huntington.com. This call is being recorded and will be available as a rebroadcast starting about one hour from the close of the call. Our presenters today are Steph Steinour, Chairman, President, CEO; Zach Wasserman, Chief Financial Officer; and Rich Pohle, Chief Credit Officer. As noted on slide two, today's discussion, including the Q&A period, will contain forward-looking statements. Such statements are based on information and assumptions available at this time and are subject to changes, risks, and uncertainties, which may cause actual results to differ materially. We assume no obligation to update such statements.
For a complete discussion of risks and uncertainties, please refer to this slide and material filed with the SEC, including our most recent Forms 10-K, 10-Q, and 8-K files. Let me now turn it over to Steph.
Thanks, Mark, and thank you to everyone for joining the call today. Slide three provides an overview of Huntington's strategy to build the leading people-first digitally powered bank in the nation, which the board affirmed this year in our multi-year strategic planning process. Huntington's strategies are delivering long-term revenue growth. As our third quarter results demonstrate, we're driving revenue growth despite headwinds of the current environment. We're focused on acquiring new customers and deepening those relationships to gain both market share and share of wallet. We are investing in customer-centric products, services, and infrastructure that will drive sustainable growth and outperformance both today and for the years to come. Huntington has built a competitive advantage with our consistently superior customer service and our differentiated products and services. We are committed to developing best-in-class digital capabilities like our mobile banking app, which has been honored by J.D.
Power two years in a row, our online banking, which was number two in this year's J.D. Power study. In the past few weeks, we introduced several new innovative products and features that will continue to serve our customers' needs and differentiate Huntington from our competition. First, we extended 24-Hour Grace to businesses. We introduced our no-fee overdrafts $50 Safety Zone for both consumers and businesses. Finally, earlier this week, we announced our latest innovation, Huntington Lift Local Business, a $25 million micro-lending program that capitalizes on our best-in-the-nation SBA lending expertise to better serve minority, women, and veteran-owned businesses. We've intentionally diversified business models, balanced between commercial and consumer, which provides diversification of revenue and credit risk. We have a proven track record of solid execution, adjusting our operating plans to the environment in order to drive shareholder returns.
This has allowed us to deliver seven consecutive years of positive operating leverage, and I expect 2020 will be our eighth. This focused execution has and will enable us to ensure investment in the products, people, and digital capabilities that will drive sustainable long-term growth and outperformance. Turning to slide four for an update on our digital and branch strategies. Following the completion of the FirstMerit acquisition in 2016, we began the evolution of our consumer go-to-market strategy from being branch-centric to a powerful multi-channel mode model that includes leading digital channels. We introduced the hub, which forms the backbone of our award-winning mobile app and our online banking platform.
That evolution has accelerated this year with increased customer adoption of mobile and digital products and services, and we are successfully driving digital sales and originations, as well as changing and expanding the branch experience to include virtual and digitally assisted delivery. Our branch sales activity is almost back to pre-COVID levels. It's about 95% today, but we're seeing an accelerating evolution in the way our customers use branches. Simpler transactions are rapidly moving into the faster and easier mobile and digital venues. This transition is allowing our branch bankers to focus on providing more valuable advice and focusing on deepening our customer relationships, all ways of looking out for our customers. As we've discussed previously and is shown on the bottom of the slide, Huntington regularly evaluates and optimizes our branch distribution.
Since the completion of the FirstMerit acquisition in 2016, we've reduced our branch count by 263 branches or 24%. This includes the consolidation of 99 branches or 9% as part of the integration, the sale of 32 branches in Wisconsin, and the consolidation of an additional 132 branches or 4% annually on average since 2016. Last month, we announced the planned consolidation of 27 additional branches or 3% in the 2021 first quarter. We're pleased with the high retention levels post consolidation of deposits due to the strong foundational relationships with our customers and the close proximity to other Huntington branches as we've maintained our branch share position in almost all markets.
This thoughtful branch network optimization strategy allows us to continue to capitalize on our competitive advantages around convenience, our brand promise, and customer service. If you did not listen to Andy Harmening's presentation on our digital transformation at an investor conference in early September, I encourage you to visit our investor relations website where you can listen to the replay and see the presentation materials. I believe our digital strategy and our execution of that strategy is generating industry-leading results. We delivered very strong third quarter results, including a record level of pre-tax, pre-provision earnings, thanks to continued solid execution across the bank in the face of the continued challenging operating environment. I'm particularly pleased with our year-over-year revenue growth, as earning asset growth more than offset NIM compression to drive spread revenue modestly higher, while fee income growth was bolstered by the second consecutive quarter of record mortgage banking income.
The performance of our home lending team was outstanding, as they originated more than $3.8 billion in mortgages for the second consecutive quarter. To frame that for you, our previous high watermark for any quarter was $2.5 billion of mortgage originations in the fourth quarter of last year. Our combined mortgage production over the past two quarters was greater than we did in all of 2018 and roughly the same as in all of 2019. These accomplishments are the direct result of the successful build out of this team and our investments in our digital mortgage lending platform over the past several years. We're well positioned to capitalize on the current mortgage environment, and the near-term outlook remains strong. Given the prolonged low interest rate outlook, we've implemented a comprehensive action plan to stabilize NIM near current levels over the long term.
Zach will cover this and more in his remarks. We continue to closely manage our expenses. A significant portion of the year-over-year increase in expenses resulted from restructuring costs related to implementation of expense management program we announced last quarter, and elevated variable costs to support our record home lending business volumes. We've previously discussed, our efforts have been to manage expenses so that we can allocate investments to our strategic growth initiatives. Looking forward, we remain optimistic of a continuing economic recovery. The unprecedented level of government stimulus has supported both individuals and many companies, and we're very pleased with the number of customers exiting forbearance arrangements. Our consumer lending businesses, which as you've seen in our quarterly originations data provided for a decade, are focused on super prime customers, and they're performing very well. Mortgage, auto, and RV/marine are all continuing to post strong originations.
Commercial lending has been restrained by the economic uncertainty, with many customers shepherding elevated levels of liquidity, paying down revolvers, and putting off new investment spending. Based on the conversations we've had with our customers, we expect these levels of elevated liquidity to persist for some time. We're cautiously optimistic that C&I loan growth will improve later this year and early next year. The timing of forgiveness around the PPP loans remains uncertain. I would like to take a moment to share that Huntington was the nation's largest SBA 7(a) lender for the third consecutive year in the SBA's fiscal year ended September 30th. We're the largest 7(a) lender in our footprint for the 12th year in a row.
Small businesses are such a vital component of our economy and the nascent economic recovery, as they consistently account for the lion's share of jobs created in our country. Particularly in this pandemic, these businesses deserve and need our support, and I hope these businesses are the focus of any future government stimulus package. Our third quarter credit metrics reflect stable to improving trends across most portfolios, and include elevated charge-offs from the sale of more oil and gas loans. During the quarter, many customers successfully exited prior pandemic related deferral programs. The underlying portfolio metrics reflect our continued expectation for outperformance through the cycle. Our credit loss reserves take into consideration the economic uncertainty that we continue to have with the virus, both in duration and severity. We believe we're adequately covered should the pandemic continue to prolong the economic recovery. Our capital ratios remain within our targeted ranges.
This morning, we announced that the board declared the fourth quarter cash dividend of $0.15 per common share, unchanged from the prior quarter. We're currently finalizing our submission for the off-cycle CCAR. We are seeking approval and expect to increase our capital return to shareholders in 2021. In closing, I'm encouraged by the momentum I can see building across our businesses. Our colleagues are actively engaging with our customers and prospects. Customer activity is improving month by month. We see improved debit card activity. Sales activity in the branches is almost back to pre-COVID levels, and our pipelines have been replenished in many of our businesses over the past several months. We recently made some key additions to the commercial team, notably within our asset finance, capital markets, and corporate banking teams, and have conversations ongoing with additional revenue producers.
We're receiving very positive feedback and early results from the new 24-Hour Grace for business and the $50 Safety Zone product features for consumers and businesses that we rolled out in September. Our credit quality through the early months of this pandemic has held up well, and we're confident in the quality of our loan portfolios. I'm conscious that the economic outlook remains somewhat uncertain in the near term, but overall, I like what I see and am optimistic about our outlook over time. Let me turn it over to Zach for an overview of financial performance. Zach?
Thanks, Steph, and good morning, everyone. Slide five provides the financial highlights for the 2020 third quarter. We reported earnings per common share of $0.27, return on average assets was 1.01%, and return on average tangible common equity was 13.2%. Results continue to be impacted by the elevated level of credit provision expense as we added $57 million to the reserve during the quarter. Now let's turn to slide six to review our results in more detail. Year-over-year pre-tax, pre-provision earnings growth was 2%. We believe this is solid performance in light of the current interest rate environment and uncertain economic outlook. Total revenue increased 5% versus the year ago quarter due to strong fee income growth paired with modest spread revenue growth. As Stephen mentioned earlier, home lending was a particular bright spot this quarter, driving a record $122 million of mortgage banking income.
We also saw deposit service charges and card and payment processing revenues rebound off of the 2Q lows as customer activity continued to rebound and pandemic-related fee waiver programs expired. I should also note that deposit service charges remained below the year ago level as elevated consumer deposit account balances continue to moderate the recovery of this line. Total expenses were higher by $45 million or 7% from the year ago quarter. As Steve mentioned, approximately two % points of this growth or $15 million was driven by restructuring costs from our 2020 expense management program. Another three % points or $18 million was related to year-over-year increases in commissions, overtime, contract help, and other variable costs in our home lending business, driven by the record level of mortgage originations.
The balance of the expense growth, approximately 2%, reflected a sustained level of investment in our strategic priorities, including digital and mobile technology. Turning now to slide seven, FTE net interest income increased 2% as earning asset growth more than offset year-over-year NIM compression. On a linked quarter basis, the net interest margin increased two basis points to 2.96%. As shown in the walk on the right side of the slide, the linked quarter increase included a seven basis point benefit from our hedging program, including the full quarter impact of the $1.6 billion of forward starting asset hedges that became active in the second quarter. There was also a two basis point benefit during the third quarter related to changes in balance sheet mix and other items.
These two positive impacts were partially offset by the elevated balance sheet liquidity that contributed a seven basis point incremental headwind in the third quarter. As Steve mentioned, we're taking decisive actions to maintain a net interest margin near current levels. We are diligently working across the organization to identify and pull levers to manage the margin, it's important to note that our core optimization objective is revenue growth with the highest possible return on capital within our risk appetite. That said, NIM is one of the key drivers of that return and revenue growth. We're actively managing various levers to stabilize the NIM as a key component in that calculus. We expect to continue to optimize our funding costs, including further reductions to deposit costs and optimizing our wholesale funding.
On the earning asset side, we're currently in the midst of a broad re-examination of all business and lending commercial relationships for repricing opportunities that I believe will yield several basis points of incremental NIM over time, as well as associated deepening of non-interest income fee opportunities. Similarly, we are optimizing our earning asset mix by emphasizing loan production in certain higher yielding asset classes such as small business, residential mortgage, asset-backed lending, equipment leasing, while de-emphasizing growth in some of our thinner priced lending products. Our comprehensive hedging strategies continue to provide some relief from the yield curve as we expect they will continue to do for the next several years. This hedging benefit will begin to gradually wane over the next several years, there are no looming cliffs as we have strategically built a well-laddered hedging portfolio.
Moving to slide eight, average earning assets increased $11 billion or 11% compared to the year-over-year quarter, driven by the $6 billion of PPP loans and a $5 billion increase in deposits at the Fed. Average commercial and industrial loans increased 13% from the year-over-year quarter, primarily reflecting the PPP loans. During the quarter, C&I benefited from a full quarter's impact of the PPP loans. However, downward pressure on the business and commercial utilization rates, especially within dealer floor plan, more than offset this, resulting in a modest linked quarter decline. Consumer lending has also been a bright spot this year as indirect auto, residential mortgage, and our RV marine portfolios have posted steady growth, a trend we expect to persist in coming quarters. Turning to slide nine, we will review the deposit growth. Average core deposits increased 14% year-over-year and 2% sequentially.
These increases were driven by business and commercial growth related to the PPP loans and increased liquidity levels in reaction to the economic downturn. Consumer growth largely related to the government stimulus and increased consumer and business banking account production and reduced account attrition. Like the industry as a whole, this very strong core deposit growth of the past several quarters has resulted in significantly elevated levels of deposits at the Federal Reserve Bank. These elevated levels of liquidity have proven to be much stickier than we anticipated, and our revised outlook is that they are likely to persist for several quarters before these customers deploy the funds. While this did pressure the Q3 NIM more than originally expected, it is also providing us the opportunity to more aggressively manage down our deposit costs going forward.
Slide 10 highlights the more granular trends in commercial loans, total deposits, saleable mortgage originations, and debit card spend, as these are key indicators of behavior and economic activity amongst our customers. As you can see on the top left chart, the decline in commercial loan balances, excluding PPP loans, leveled off in July and remained relatively flat during the third quarter. Early stage pipelines are refilling, providing room for optimism of a return to new commercial loan growth later this year and into next year. We expect this, coupled with expected gradual normalization of commercial utilization rates and the typical seasonal build in dealer floor plan, will provide some offset for the headwinds from PPP loans as they are forgiven and repaid over the next several quarters.
The top right chart reflects the continued elevated deposit balances resulting from the factors I've mentioned previously, providing an attractive source of liquidity during these uncertain times. The bottom two charts relate to customer activity driving two of the four key fee income lines for us. Mortgage banking saleable originations remain robust. Although there has been a very slow decline since the peak in June. As we mentioned on the second quarter call, debit card usage quickly rebounded once the economy began to reopen, and we continue to see healthy year-over-year increases in both transactions and dollar spend. Slide 11 illustrates the continued strength of our capital and liquidity ratios. The common equity tier one ratio, or CET1, ended the quarter at 9.89%, relatively stable with last quarter. The tangible common equity ratio, or TCE, ended the quarter at 7.27%, again in line with last quarter.
Both ratios remain within our operating guidelines, and our strong capital levels position us well to execute on growth initiatives and investment opportunities. Let me now turn it over to Rich Pohle to cover credit. Rich?
Thanks, Zach. I'd first like to reinforce the steps we've taken over the last several years to position us for this downturn. In commercial, we scaled back leverage lending, healthcare construction, and commercial real estate. We stopped originating oil and gas loans about 18 months ago and have reduced that portfolio to well under 1% of total loans. We have also repositioned our business banking portfolio with a significant reduction in commercial real estate exposure and a shift toward SBA, as about 20% of our loans are now SBA, as opposed to only about 5% heading into the last downturn. We were the number one bank in the entire country last year for SBA 7 originations for the third consecutive year. On the consumer side, we have continued our focus on prime and super prime profile customers and leveraged our expertise in auto into our RV marine business.
Turning now to the credit results and metrics. Slide 12 provides a walk of our allowance for credit losses, or ACL, from year-end 2019 to the third quarter. You can see our ACL now represents 2.31% of loans, and excluding the PPP loan balances, our ACL would be 2.5% as of September 30. The third quarter allowance represents a modest $57 million reserve build from the second quarter. Like the previous quarters in 2020, there were multiple data points used to size the provision expense for Q3. The primary economic scenario within our loss estimation process was the August baseline forecast. This scenario was somewhat improved from the May baseline forecast we used in Q2 and assumes elevated unemployment through 2020, ending the year at 9.5%, followed by a slower paced economic recovery through the first half of 2021 that accelerates as the year progresses.
2020 GDP ends a full year down 4.9% and demonstrates 2.6% growth for all of 2021, with that growth also accelerating in the back half of the year. While a number of variables within the baseline economic scenario have improved, as have our credit metrics for the quarter, there are still many uncertainties to deal with. A likely COVID resurgence in the winter, a stalemate on additional economic stimulus, the impact of the upcoming election, as well as ongoing model imperfections relating to the COVID economic forecasting. We believe maintaining coverage ratios consistent with the second quarter is prudent when considering these factors. Slide 13 shows our NPAs and TDRs and demonstrates the continued impact that our oil and gas portfolio has had on our overall level of NPAs.
Oil and gas NPAs at Q3 represented 26% of our overall NPAs, which were down from the second quarter by $111 million, or 16%, as we proactively reduced the oil and gas portfolio and were able to return other credits to accruing status. Slide 14 provides additional details around the financial accommodations we provided our commercial customers. As we forecasted on our Q2 call, the commercial deferrals have dropped significantly and now total just $942 million, down from $5 billion at June 30. About 80% of the remaining deferrals represent second 90-day deferrals that are centered on hospitality, retail, and travel-related customers. Over 70% of the remaining deferrals expire this month, and we expect to have limited commercial deferral balances at the end of Q4. Some SBA customers might seek an initial deferral in Q4 following the end of the six-month payment support the SBA provided under the CARES Act.
Commercial delinquencies are within a normal range at 19 basis points, reinforcing that deferrals have not negatively impacted credit quality. Slide 15 shows our consumer deferrals. The news here is good as well. Our auto, RV/marine, and HELOC portfolios are performing as we would've expected with very modest post-deferral delinquencies. In fact, nearly all the auto, RV/marine, and HELOC deferrals have lapsed, and we are operating in a pre-COVID risk management environment with respect to those portfolios. The mortgage accommodations have come down 78% since June and are also meeting our expectations. Requests for second deferrals or further modifications equal just 10% of the post-deferral population to date.
The mortgage deferrals will remain elevated for the next quarter or so given the longer initial deferral period, 180 days in many cases versus 90 for other loans, as well as the more formal deferral exit process, which requires a second round of documentation with wet signatures and notaries. Like the commercial deferrals, the consumer deferrals are not indicating additional credit risk at this time. Consumer delinquencies were down across all loan categories on a year-over-year basis. Slide 16 provides an update to the industries hardest hit by COVID-19. We continue regular reviews of our commercial loan portfolio and believe we have the risks identified and appropriately managed. Any adverse COVID impacts, as well as the most recent SNC exam results, are reflected in our crit class and other credit metrics for the quarter.
As we have previously mentioned, our hotel exposure is centered on five primary sponsors, with most of whom we have enjoyed long-term relationships, including through the last downturn. These sponsors continue to demonstrate the financial strength to see their way through the longer-term recovery period we forecast for this industry. Our restaurant exposure is primarily in the national quick service brands. We believe this book to be in very good shape overall, but we'll continue to closely monitor the heightened risk in the single location and other non-franchise names in the portfolio. There are currently no material credit concerns in the other high impact portfolios. You can see that the credit metrics since June are relatively stable.
Recall in the second quarter, as part of our active portfolio management process, we evaluated the COVID-related impacts across all portfolios and took appropriate actions to downgrade those severely impacted credits to criticized status. This review resulted in a significant increase to our criticized asset level in Q2. I am pleased to report our level of criticized loans was reduced by over $425 million, or 12%, in the third quarter, validating that the portfolio review we undertook in Q2 was comprehensive and served to identify potential problems early. Working with our customers, we were able to proactively remedy a number of these loans. Slide 17 provides a snapshot of key credit quality metrics for the quarter. Our credit performance overall was strong. Net charge-offs represented an annualized 56 basis points of average loans and leases.
The commercial charge-offs were again centered in the oil and gas portfolio, which made up approximately 44% of the total commercial net charge-offs. Like Q2, nearly all these oil and gas charge-offs resulted from $127 million of loan sales closed or contracted for sale during the quarter as we prudently reduce our exposure to this industry. Annualized net charge-offs, excluding the oil and gas-related losses, were 36 basis points, demonstrating that the balance of our portfolio continued to perform well in Q3. Consumer charge-offs were just 24 basis points in Q3, highlighting our strong consumer portfolio. Our super prime originations of auto and RV/marine loans in particular continue to perform at very high levels. I would also add our non-performing asset ratio decreased 15 basis points linked quarter to 74 basis points. As always, we have provided additional granularity by portfolio in the analyst package in the slides.
Let me turn it back over to Zach.
Thank you, Rich. As Steph alluded to earlier, we have confidence in our businesses and are cautiously optimistic that the economic recovery will continue, particularly longer term as we move past the election, and with the potential for vaccine and improved therapeutic medical treatments for the virus. We also expect to finish out 2020 strong. Slide 18 provides our expectations for the full year of 2020. Looking at the average balance sheet for the full year 2020, we expect average loans and average deposits to increase approximately 6% and 10%, respectively, compared to last year. For the remainder of the year, we expect consumer loans, more specifically residential mortgage, auto, RV/marine, to be the primary driver of average loan growth as commercial loan growth remains muted. Our current projections assume the majority of PPP balances will remain on balance sheet through the end of the year.
With respect to deposits, we expect continued growth in consumer core deposits from new customer acquisition, relationship deepening, and low attrition. As I mentioned earlier, we expect the elevated level of business and commercial deposits to persist through year end. We expect to record, excuse me, full-year total revenue growth of approximately 3%-3.5% and full-year total expense growth of 2%-2.5%. With respect to revenues, we expect Q4 revenues to be in line with Q3, up 7%-8% year-over-year. We expect full year NIM to be approximately 300 basis points, and we expect a flat to moderately higher NIM in the fourth quarter, driven primarily by further reductions to the cost of interest-bearing deposits, which we expect to be below our prior historic low of 22 basis points that we set back in the third quarter of 2016.
This guidance includes no positive impact in Q4 from the acceleration of PPP fees and includes a continuation of elevated liquidity that we discussed earlier. We expect full-year non-interest income growth of 8%-10%. Primarily driven by robust mortgage income. While our fourth quarter outlook includes moderation in mortgage banking, we expect an uptick in capital markets fees as well as several other fee lines to help to cushion that decline. On expenses, we expect the fourth quarter to be up 3%-5% from the third quarter. As we've discussed before, we believe the current economic outlook presents the opportunity to invest in our businesses in order to meaningfully gain share and accelerate growth over the moderate term as the recovery continues to solidify.
We're accelerating investments in technology and other key strategic initiatives across our businesses as we exit 2020, while delivering full-year positive operating leverage for the eighth consecutive year. Our credit remains fundamentally sound. We expect full-year net charge-offs to be approximately 50-55 basis points. This is reflective of the cleanup of the oil and gas portfolio as well as the broader economic conditions. Let me turn it back over to Mark so we can get to your questions.
Operator, we'll now take questions. We ask that as a courtesy to your peers, each person ask only one question and one related follow-up, and then if that person has any additional questions, he or she can add themselves back into the queue. Thank you.
Thank you. At the time, if you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you'd like to remove your questions from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressinh the star key. Our first question comes from the line of Scott Siefers with Piper Sandler. Please proceed with your question.
Morning, guys.
Morning, Scott.
I appreciate it. Hey. I think you guys actually answered a lot of my questions on the potential for commercial to resume some growth. I certainly appreciate that. I wanted to ask specifically on the dealer business. That's been kind of a headwind, and granted, it's not necessarily huge for you guys, but was just curious to hear about your thoughts on any window as to how quickly we should expect that dealer business in particular to recover. In other words, how much of a growth driver can it end up being?
Hey, Scott. It's Rich. I'll take that. We've seen really low utilization rates across that dealer floor plan portfolio. What had been typically in the 75% range are now down below 50%. The challenge with that business is just getting inventory back on the lot. While the OEMs are ramping up deliveries to the dealers, new car levels are continuing at pretty low levels. We would expect that we would see a steady build from that 50% up toward the end of the year and provide a gradual build over the year. This isn't something that's going to ramp up very quickly, but it is going to be something that we see steady state and slowly building throughout the balance of 2020 and into 2021.
Okay. Perfect. Thank you. Maybe Zach, just on the guidance for the full year and I guess implicit in the fourth quarter. If I'm doing the math correctly, I think the implied NII in the fourth quarter would be up fairly significantly from the third quarter, and it sounds like margin is sort of flattish. I guess, just what are the puts and takes that you see for NII in particular in the fourth quarter?
Sure. Yeah, thanks again for the question. I think our outlook for loans sequentially is up in total about 1% or $800 million. We are expecting our kind of baseline underlying forecast is a couple basis points of incremental NIM as we go into Q4. That's really going to drive spread revenues up around $30 million. To be clear, that does not include any PPP acceleration. There could be some revenues that come through from that, but we're not banking on that.
Okay. Perfect. None baked in, so that was the follow on. All right. Terrific. Thank you very much.
You're welcome.
Thank you. Our next question comes from the line of John Arfstrom with RBC Capital Markets. Please proceed with your question.
Hey, thanks. Good morning.
Morning, John.
Morning.
Question for either Rich or Zach on the provision. Can you talk about some of the provision drivers for the quarter and what you want the overall message to be as we look forward on that? It seems like some of this was growth driven as well, but can you just talk about provision drivers and expectations?
Sure, John. It's Rich. I'll start with that. Yeah. As you pointed out, we did have a relatively modest reserve build in Q3. It was about 3% up from Q2. The coverage ratio moved up four basis points from 227 to 231. I would first point out that we did have over $1 billion in point-to-point loan growth in Q3, which accounted for about 25% of that reserve build. Clearly with CECL, you are taking a life of loan approach to any portfolio build that you have. I would tie the build really to ongoing uncertainty with respect to both the virus and the type of stimulus, if any, that's coming our way.
We are seeing COVID cases increasing across much of our footprint, and while we don't expect a return to full stay-at-home orders, we do believe that is going to be a drag on the economy going forward. With respect to stimulus, we can see that there's a deadlock right now, and the timing and the makeup of what that stimulus ends up looking like is going to be important to the recovery. I think you have to keep in mind too that all of the economic scenarios have assumptions with respect to both the dollar amount and the timing of stimulus. To the extent that stimulus is delayed or isn't earmarked for where the model thinks it's going is going to have also an impact.
When we look at factoring all of that in, the uncertainty, that's what really drove us to keep the reserve about where it was. I think, the four basis points is pretty much on plateau for the quarter. Those were the big drivers.
The message I hear is adequately reserved for what you see today. I've heard that a couple of times.
Yes.
Is that fair?
Absolutely.
Okay. Just one small one. It's noise in your numbers at this point, quarter-end nonperformers, about half the charge-offs for oil and gas. Zach, you used the term cleanup. What's left there and what's the time end on that?
Yeah. We sold $127 million in the third quarter. We've got that portfolio down 50% from where it was a year ago. When we talk about cleanup, the book right now is at the point where with the reserves that we have, we will be opportunistic sellers. I think over the course of the last several quarters, there was more of a desire to get the overall numbers down, and the pricing that we were able to get allowed us to do that within the coverage ratio that we had. I don't believe in the fourth quarter that we're going to be aggressive sellers. We will certainly look to sell if it makes sense and to the extent that the fall borrowing base redeterminations require additional charge-offs, we'll take them.
We're going to move into what I would consider more of a traditional problem loan management scenario with oil and gas going forward.
Okay. All right. Thanks, guys.
Thank you. Our next question comes from line of Erika Najarian with Bank of America. Please proceed with your question.
Hi, good morning.
Morning, Erika.
Steph, my first question is for you. Out of all your DFAST participant peers, I think, this is probably the first statement we've heard in terms of expectations to increase capital return in 2021, assuming restrictions don't stretch out for too long. In knowing the bank, you've always prioritized dividends, dividend growth, and also, of course, funding your growth. I'm wondering if that balance shifts a little bit to buybacks in 2021, given where your stock is relative to your return potential.
Thank you, Erika. We do have a relatively high dividend yield compared to the peer group, that will influence, at the appropriate time, I believe, our board's decisions. We would be more oriented towards buyback versus a dividend increase, no decision. We're not at that threshold yet. The historic guidance we would've provided will likely substitute other uses of capital as a second alternative, and that dividend in balance with that. Historically, we would've said core growth dividend and other uses. You'll see a much more balanced approach. Certainly with the stock trading at these levels, that seems to make a lot of sense to us. Again, subject to Fed, other regulatory support.
Got it. My second question is for Zach. I think, of course, there was some chatter about swap income potentially rolling off and you mentioned in your prepared remarks that there are no looming cliffs. If I'm doing the back of the envelope math right, the derivative book helped net interest income about maybe $19 million-$20 million this quarter, and of course, correct me if I'm wrong. I'm wondering as we think about the outlook for 2022, in your well-laddered strategy, what is the dollar impact from the derivative portfolio, if you could confirm for this quarter and what you expect it to be for 2021?
Yeah. Well, the dollar is right in front of you, but I have basis points. In 2020 for the full year, the derivative portfolio was benefiting us by about 22 basis points. Next year, we expect that to rise somewhat, several basis points up to 25. It gradually runs off through 2022, 2023, and 2024. I think 2022 is about 12 to 13 basis points runoff, 2023 is about seven basis point runoff, 2024 is actually flat. There's no massive cliff. There's clearly a drop and a gradual reduction over time. As I also mentioned in my prepared remarks, we're pulling all the levers of balance sheet optimization to really offset and drive that, and we do have confidence we'll floor the NIM near current levels, over the long term, leveraging the three key strategies, funding optimization, asset growth mix, and that customer-level pricing.
Last thing I'll say, and I'll just pull back and see if that answers your question, is for next year, there will likely be a fair amount of quarter-to-quarter volatility driven by PPP loan forgiveness acceleration. We'll see. We suspect that that'll be in the first couple of quarters.
No. That was very helpful and clear. Thank you.
Thank you. Our next question comes from line of Ken Usdin with Jefferies. Please proceed with your question.
Hey, thanks. Good morning, everyone.
Good morning.
Following up on the expense side, Zach, you mentioned 3% to 5% expense growth in the fourth quarter, and I think you said it was mostly investment. Just wondering, can you help us just to understand what were the restructuring costs that were in the third quarter number and also what you're expecting in the fourth quarter number?
Sure. In the third quarter, we had $15 million of restructuring costs. In the fourth, we expect that to be kind of around or just less than $5. It's incremental $10 benefit quarter-to-quarter within that 3%-5% expense guide. I would tell you, just pulling back, that really the investments are essentially entirely driven by that investment growth. The expenses are essentially driven by that investment growth. We see a little bit of continued quarter-to-quarter growth in variable costs just driven by customer activity continuing to rebound out of the COVID lows. Those are the main drivers.
Okay. If I take that then that there's not much restructuring costs in that fourth quarter number, is that kind of the right base to grow off of? Is this more of a one-time step up to just get stuff accelerated or in relative to what you'd expect to spend as you go forward to your prior comments last quarter about the flexibility within the cost save numbers?
Yeah. No, I think it's a good question. I know where your mind is going. I mean, it's a little too early for us to give you kind of a longer-term outlook. We'll do that more fulsomely in the next quarter update when we talk in January. I think that what you're going to see is this elevated level of investment continuing for a few more quarters. You can't turn on a dime with this kind of stuff. We're ramping up toward the end of this year as we've talked about over time, to capture the opportunities that we think are present in the recovery, and that'll sustain for a few more quarters. The key for us is really that these things drive revenue growth. We have a very focused investment plan, very tied to our strategic growth initiatives.
The expectation is we'll start to see the benefits of that flowing through into accelerating revenue growth as we go throughout 2021 and certainly into 2022.
Okay. Just one underneath that. I think Steph mentioned a bunch of this in his prepared remarks, how do you go forward and help offset some of that natural inflation from the spending in terms of things you can either see starting to become more efficient in, or as Steve mentioned earlier, you'd start to rethink some of the branch locations over time, et cetera?
Yeah. I mean, you sort of ticked down our hit list right there. I think the investments that we got, some of which drive kind of shorter term, more productivity-related benefits, others are longer term and customer acquisition and customer relationship deepening related. Behind the scenes, we just continue to be incredibly rigorous with our non-investment expense program. I think the way I look at expenses is you've got growth investments, and we maniacally drive the return out of that, and then you've got the rest of the business expenses that we just squeeze perpetually lower. The items that we look at are a lot of what you just said.
Got it. Okay. Thanks a lot, Zach.
You're welcome. Thank you.
Thank you. Our next question comes from the line of Dave George with Baird. Please proceed with your question.
Good morning. I had a question just moving to the fee side of things. There was a good rebound this quarter in deposit service charges and just kind of curious how you're thinking about that line item in Q4 and then kind of a run rate starting in 2021. Obviously, given the amount of liquidity that's in consumer checking accounts, that's going to put a damper on it. I would imagine that the spend has gotten better, so that's obviously driving some of the improvements. So curious how you're thinking about that.
Yeah. This is Zach. I'll take that and perhaps others may want to weigh in as well. We did see a bit of a snapback in personal service charges in Q3 of $15 million higher. Although it continues to run a fair amount lower than last year. As we look forward to the future, I don't expect a lot of growth in that line. I think that particularly the elevated levels of deposits that we've seen, I for one believe that they're going to be quite sticky for some time. I think it's fundamentally related to people's uncertainty about the economy and therefore just protecting themselves with elevated liquidity. We've seen kind of a flight to quality and flight to proximity from our customers and leveraging Huntington as a place to hold those deposits.
I think that's going to hold personal service charges lower for a while. It's really not our focus for growth. We're really driving the value-added fee lines over time.
Makes sense. Appreciate it.
Thank you.
Thank you. Our next question comes from the line of Ken Zerbe with Morgan Stanley. Please proceed with your question.
Okay, thanks.
Morning, Ken.
Morning. One of your peers decided to recently exit indirect auto. Can you just talk about the economics of that business and how that economics has changed since the beginning of the pandemic?
Ken, this is Rich. I'll take a stab at that. We love the indirect auto business. I mean, this is a foundation and a core competency that we've had for several years now. We would grow this business as opposed to exit it. The credit quality performs incredibly well through DFAST. It's one of our best-performing portfolios. I think if you look at the recent deferral activity that we've had in this book and the post-deferral delinquencies, they're excellent and right in line with that. From a credit standpoint, we couldn't be happier with the performance of this portfolio over time, and we're very enthusiastic about the growth of this business over time. We have a contrarian approach, and I think it's based on the fact that we've got great dealer relationships we've built up over the years.
That has proven out very well. Zach, do you want to touch on that?
I'll just tack onto that. I think I totally agree with everything Rich just said. This business has incredible risk-adjusted returns. To give you a sense, the yields we're seeing right now on new volume coming in are 3.5%. That's constructive and helpful for the NIM trajectory. It's also a relatively short-lived asset, so it helps us continue to play as rates potentially move higher over the longer term. The last thing I would say is just, me coming into the business too, it's great to see these business lines that Huntington has. We've got such a diversification of the business lines we've got that when something else is weak, like commercial that we talked about, this other one has been a real source of strength and growth for us. Yeah, couldn't say enough about how much we like it.
All right, great. Just the second question. You guys talked about seeing growth in commercial later this year. I think you referenced it a few times. Just to be clear, is this specifically a Huntington-specific issue that you're growing C&I, or do you envision the broader industry also growing C&I off a low base?
We're not in a position to comment on the industry, but we're looking at our pipeline when we're making that and sharing that comment, Ken. We have a pipeline today that's comparable to last year and in both business banking and our commercial banking teams. Typically, fourth quarter is one of our best quarters year in, year out. I would expect based on the weighting of that pipeline probability of closing to have pretty good fourth quarter, and all indications are positive. What we're hearing from customers is a continuing recovery. Remember, the Midwest is recovering nicely, particularly in the manufacturing sector. The biggest issue we hear in that regard is they just can't get enough employees. Our JOLTS numbers for the Midwest are higher than any other region in the country.
There's a labor issue that's constraining some of the potential on the investment side and maybe holding back some of the loan demand. We're actually reasonably bullish about a fourth quarter and beyond.
All right, great. Thank you.
Thank you. Our next question comes from the line of John Pancari with Evercore ISI. Please proceed with your question.
Morning.
Morning, John.
Morning.
Just back on the loan growth topic. On the commercial side, I appreciate the color you just gave in terms of in your markets and some of the trends. Outside of dealer services from an industry perspective, where are you seeing the improving growth dynamics? Is it manufacturing, like you just said? Is that where you're starting to see demand? Or is that you're just optimistic of that materializing? Are there other portfolios where you are seeing some momentum begin?
We're clearly seeing it in the manufacturing sector, John, as I mentioned. It's more broadly based. There's a level of business activity that's occurring on the buyout side, on generational transfers. Beyond that, there's activity. Remember, we're principally a lower-middle market bank in the commercial side. As inventories are getting replenished and revenues rebuilt, there's working capital demand. We do a lot of equipment finance and asset-based lending as well. You're seeing, particularly on the asset-based side, good demand. Fourth quarter is generally good for equipment finance. Our healthcare activity is very strong as well. It's broad-based.
I would just tack on as exactly as an indication of that, the pipelines are up to almost the level of last year, just to give you a sense, off of considerably lower clearly during COVID. Production during the quarter, during Q3 ramped quite substantially.
Yep. Got it. No, that's helpful. Thanks for that added color there. Then on the credit side, just to confirm, would you indicate that your criticized assets are down, did you say 12% in the quarter? Also, can you just talk about what areas that you saw improvement in? If you think that decline could continue, or do you think there's going to be some pressure to the upside as some of the pressure on borrowers as they come off forbearance and uncertainty on stimulus weighs in?
Yeah, 12% was right. It was about $425 million was the reduction over the quarter. It was very widespread. We did have the oil and gas sales, which was about $125 million or $127 million. Just about all of that was criticized. Beyond that, it was very broad based across just about all of our lines of business, which was heartening to see. We did do that very comprehensive review in the second quarter which caused the spike in crit in Q2, seeing it come down in Q3, we expected that to some extent. I would say that we will continue to see a downward trend in criticized. It may be a bit bumpy, quarter to quarter, things will move in, things will move out within different portfolios. I think that's just the kind of the COVID environment that we're dealing in.
Things are going to pop up that might
Be somewhat unexpected, but I would generally expect our credit quality to begin the credit class migrating down over time.
Got it. Okay, great. That's helpful. Thank you.
Thank you. Our next question comes from the line of Bill Carcache with Wolfe Research. Please proceed with your question.
Thank you. Good morning.
Hi, Bill.
Rich, following up on your auto segment comments, it looks like you guys had recently been seeing a growing mix of used car originations, but we saw a mix shift back to new this quarter. I think that wwwas on slide 44. Can you discuss some of the dynamics there and give us a sense of the relative profitability of new versus used, just at a high level?
Yeah, I think this is Zach. I'll start off, and maybe Mark, you might want to tack on this too. I don't have all the yield numbers right in front of me. I think generally, this is really influenced by the supply dynamics that Rich was talking about earlier. Earlier in the year, when the supply interruptions were had on the original equipment side, demand naturally shifted to the used side. So we saw that mix change. I think what you're seeing now is just a gradual normalization back to a kind of a longer-term, typical mix of new versus used cars. The yield on used is a bit higher than new. I don't have the numbers right in front of me to comment more specifically. We have to follow up with you on that.
Bill, I don't have the specific breakout on the yields between new and used. Used is always quite a bit higher than new. On a risk-adjusted return basis, it's actually slightly better than the new.
Yeah. Thanks, guys. Separately, Zach, on your comments around mix optimization and remixing more towards small business in particular, can you discuss how you guys are thinking about growing into that from a customer relationship standpoint, timing, credit risk perspective, particularly with all the uncertainty around stimulus?
Maybe I'll touch on that a little bit, and then Rich may want to tack on as well.
Absolutely.
I think in the list of assets we would like to grow faster includes small business, but it's not certainly exclusive to that as we noted a lot of others. I think what we're seeing, our strategy is to really deepen penetration and provide terrific products and experiences to this segment, particularly through the digital investments we're making, and we're really seeing it work. There's a tremendous demand coming through, I think partly leveraging the real success we had with PPP. It's pretty broad based. I don't know, Rich, if you want to tack on in terms of how we're thinking about it.
No, absolutely. The PPP success that we had was certainly a driver of the growth, and we are really focused on SBA within small business as a continued lever for growth. We obviously have a core competency in SBA, and we'll continue to leverage that going forward. Also on the conventional side of business banking, which the non-SBA piece of it, we've seen very good growth as well, and that's been pretty widespread across industries, healthcare, and others.
Thanks, Rich and Zach. If I could squeeze one last one in for Steve. You guys have done a lot to improve HBAN's ROTCE profile since the Great Recession. Can you discuss your expectations for the kind of ROTCE generation that we can expect from HBAN to the extent that ZIRP were to persist for an extended period?
Well, we haven't changed our long-term metrics on ROTCE. At this point, we'll be out, as Zach mentioned, with an outlook for next year in January. I think that's fair to use based on the work that we've done looking forward over the next couple of years as a rough guideline now.
Thank you. Our next question comes from the line of Steve Alexopoulos with JP Morgan. Please proceed with your question.
Good morning. This is Janet Lee on for Steve.
Hi, Janet.
Morning. My first question is on margin. Obviously, lots of moving pieces there, but if I put it all together, with excess liquidity remaining elevated near term and success of repricing, looking into 2021, is the direction of NIM a modest downward trend from here, or do you think you can manage it at more stable given hedges benefit?
Yeah. Good question. Thank you. This is Zach. I'll take that one. I think 2020 will likely land around 300 basis points, maybe just a tick higher. Our expectation for 2021, excluding PPP for a second, is just a few ticks higher than that. About flat, my baseline outlook is a few basis points higher. I think I mentioned earlier kind of the next few years' hedge benefits in basis points this year is 22, next year is 25. In our forecast, that's about three basis points better. Interest-bearing liabilities I expect to be down also kind of around or over 30 basis points. We do expect yield pressure largely offsetting that. That's the sort of flat to a few basis points higher outlook I've got for 2021 at this point.
Again, we're going to do a fair amount of work around this, and we'll come back with more clear guidance later. There are wild cards, and it's the PPP timing that I mentioned. There's potentially also some, continue to look at hedging in the portfolio, and that could also throw a few basis points volatility in there. Generally, that's my outlook.
That's very helpful. My next question is on operating leverage. When we combine with expense savings from the branch consolidations and I guess more bullish outlook on loans going into 4Q, do you see it increasingly likely that Huntington can achieve positive operating leverage in 2021 again?
It's really too early for us to talk about the totality of the full year of 2021. I do expect a lot of the trends that we're seeing right now to kind of continue for the next few quarters, just given the momentum and the trends in the business that we're seeing right now. We'll see. We'll come back and talk more about that. Our commitment around positive operating leverage is a long-term one, and we think it's the right one for the company. We're really focused on making the investments now to drive revenue acceleration, and I tell you, we feel pretty good about it. We'll come back and talk more in a few months.
This is Steve. We're bullish about coming out of this cycle and taking advantage of it. That has been our orientation in the past, and we're continuing with that. We'll be looking to drive growth, revenue growth, and you're getting a sense of that off the third quarter earnings.
Great. Thanks for taking my questions.
Yeah.
Thank you. Our next question comes from the line of Brock Vandervliet with UBS. Please proceed with your question.
Hi, good morning. Thanks for taking my question.
Hi, Brock.
Hey. In terms of loss content and the cadence of net charge-offs going forward, one, I guess, how are you feeling about loss content now versus, say, April? I'm assuming that's better, wanted to ask. Two, as you look at charge-offs, they've been relatively stable here. Is there a bit of a catch-up, in other words, an increase from here that we should continue to be aware of? Are you anticipating that we can kind of hold more at this level?
Brock, this is Steve. Your April comment, it's night and day different, right? Think about the volatility and uncertainty in that period of time versus today. You should be inferring that off the comments about the economy and the recovery, et cetera. That would be true with an expectation that credit quality will mirror the economic recovery. There's still uncertainty, and as Rich said, it may be lumpy, but we don't have a catch-up quarter. We've already caught up. We're in good shape as of the end of the third quarter, given the volatility, and expect that the team will manage with consistency as we go forward. Maybe a little lumpy because of the recovery, the nature of it, the virus, but like the footing we have very much.
Got it. Okay. The mix optimization, could you look to move some of those Fed deposits into investment securities? Is that not something you're looking at?
Yeah. This is Zach. It's really not something we're looking at at this time. We do expect to begin to reinvest our securities cash flow this quarter, as we've talked about a little bit over the last few calls, and to get back in the securities portfolio to around Q1 levels. That's about $1.5 billion, $1.6 billion of incremental securities investments in the fourth quarter, not really with a mind toward utilizing those deposits. Rather, we're focused on deploying those for core organic growth and to some degree, the funding optimization opportunity that I mentioned earlier. That's the plan.
Got it. Okay. Thanks for the color.
Thank you.
Thank you. Ladies and gentlemen, we have reached the end of our question and answer session. I would like to turn the floor back to Mr. Steinour for closing comments.
Thank you for the questions and your interest in Huntington. We're very pleased with the third quarter performance, and we continue to be optimistic about our future and the economic recovery but acknowledge volatility and uncertainty remain in the economy. Our disciplined enterprise risk management provides a strong fundamental foundation, and you're seeing that in our numbers. We're executing our strategies and will continue to capitalize on opportunities. We're investing in strategic growth initiatives while continuing to deliver solid performance. I'm confident of our ability to manage the challenges we face and excited about our future. Finally, as I'm fond of reminding you, we are closely aligned, the interests of the board, executive management, and colleagues, with the other owners of the company via mechanisms such as our hold-to-r etirement equity requirements.
We've collectively been one of the 10 largest shareholders of the company for the past five years. We feel the pain, and we're looking forward to a better day ahead. Thank you again for your support and interest in Huntington. Have a great day.
Thank you. This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.