I'm Jason Goldberg. I cover the large-cap banks in the U.S. for those that missed this morning's sessions. Back to large-cap banks of the day with KeyCorp and Citigroup. From Key, which is up next, very briefly, we have Clark Khayat, Chief Financial Officer. Clark, good afternoon.
Thank you, Jason. Nice to be here.
I guess last year when you were on stage, the macro backdrop looked quite different than it does today. Just how are you thinking about the outlook for the U.S. economy and the path of rates, and just any notable changes in client behavior since then recently?
If we were here a year ago, we would've been talking about how many cuts there were going to be coming into 2026. We obviously haven't seen that. And if you look at the forwards this morning, now it's three pretty high probability hikes, so very different. That said, I think client activity generally remains constructive. The economy appears resilient, and I think some aspect of that is throughout 2026, we've been working with an underlying constructive economy and a bunch of uncertainty, and every month the driver of the uncertainty changes a little bit, but it's uncertainty. So this is, I think, a flavor of it, and I feel like when we talk to our clients, they're telling us, regardless of that source of uncertainty, they're getting comfortable sort of navigating this area. So the business is performing well.
Loan growth continues to be strong, albeit a little bit moderated in the second half versus the first half, but the first half was exceptionally strong. We continue to grow clients. We continue to see really good activity in pipelines and fee-based businesses. Overall, I think we're feeling quite good about the health of the business. Credit quality continues to be pretty benign to improving. Again, you can point to a lot of things that we're watching, and we are watching, as you mentioned, rates, some of the general tariff activity, the geopolitical risk. We're watching all those things, but generally speaking, it feels like the activity continues to be pretty good.
I guess another change since last year, about six months ago, you also assumed responsibility for tech and ops services at Key. Just maybe delve more into that. Just what opportunities do you see to drive additional efficiency? Where is incremental investment needed? A billion-dollar tech budget, is that enough in this backdrop? Just more broadly, what role do you see AI playing across functions throughout the organization?
Sure. The first thing I'd say is we've been on this journey since I got to Key in 2012 of kind of some proactive modernization of core systems every year. We pick a couple, we modernize them, we make sure we're never too far behind. I think while we spend some money every year that feels like maybe not the most valuable in the moment, over time, you just have a portfolio that's generally current and you're avoiding any significant huge investments. I think that's, we've continued to do that. We'll continue to do that. The second thing I'd say is, I inherited technology and ops over the course of March to July. We sort of assessed that, and I no longer have ops. I moved all the ops to the business.
That now is aligned directly with the businesses they support, and we did that because we think at this point it's really more important to have visibility end-to-end on that client and employee journey to understand that process, to have the data that underlies that. Frankly, that's where we've seen AI be most powerful, when you have all of those components in there. You'll see us sitting here where everybody in the building's got access to Copilot and things like that, and they're becoming more efficient. But we're looking at some of these big end-to-end areas to find some real AI-driven efficiencies, and we think they're there.
I am sure we will talk about it as we go here, but from this technology seat, I am pretty optimistic about the ways we are unlocking the power of some of these tools. I think they have the potential to create some real efficiency. The question is that expense dollars out, or is it effectively just more revenue for the same dollar of expense?
Got it. Maybe shifting to loans, I want to follow up on something you said, but in July, you raised your average loan growth outlook for the year to 4.5%-5%, which had 8%-10% in commercial loan growth within C&I, strength in utilities, power, renewables, technology. You talked about loan growth moderating in the back half of the year. Is that kind of in line with expectations? Any update on how commercial loan growth is trending so far?
Yeah. I think we are confident here on the midpoint of the overall loan guide for the year. I think if anything, we might be leaning a little higher on the commercial side. Again, we are seeing really good client relationship growth in those businesses, the industries you talked about, but also just broad-based middle market across all geographies. Again, continue to see really positive opportunities there to add clients and add good return relationships over time. It is moderating relative to again, what was a significant first half growth, but it is still quite valuable and quite strong.
Any thoughts just how AI-related investments, what role AI-related investments is playing? Then just looking further out, to the extent that rates back up those three hikes that you talked about, how does that impact overall borrower demand?
Yeah. For us, we've been a leader in renewables now for a couple decades, and we're seeing the demand for power just drive a lot of utilities and renewable growth, and we're well positioned to take advantage of that, and we are. We don't have huge direct exposure to data centers, maybe $700 million-$800 million, not a lot in the broad scheme. But we don't see the power demand abating really anytime soon, unless something pretty significant happens. We feel good about how we're picking our spots there and what we're seeing. Our guidance on NII and NIM is pretty kind of rate movement agnostic right now. I think we're set up to be neutral as we have been for several quarters, and we can kind of zig and zag with those moves.
I think the thing I would've expected maybe at this point just coming into the year is a little bit less loan demand than we've seen, just because rates are not necessarily historically high, but they're certainly higher than people would've thought at the beginning of the year. That hasn't seemed to drive through the bank loan market. I think if we got three more hikes, you might start to see something slow, but we just haven't seen that yet.
Something on the second quarter earnings call that a bunch of banks called out was just kind of loan spread narrowing. Just maybe give us some color in terms of what you're seeing.
Yeah. We saw a little bit of dip through maybe the middle of the second quarter. It stabilized at prior levels at the end of the quarter, and we've seen that be stable through the third quarter so far. I think for us, the loan spreads at this point are almost 100% a function of the credit quality of the borrower. As we're going up the credit spectrum, we're obviously going to see naturally better spread. But it's not a pricing issue or a competitive issue as much as it is just the quality of the borrower.
One of the things weighing on loan growth overall and just why total loan growth is less than commercial loan growth is you have been running off some of the lower-yielding consumer loans. Just where are you in that initiative today? How much further do you have to go in that process?
Yeah. So what is interesting is we have a little bit higher loan balances this year because of rates, so we have not seen that book run down as much as possible. If you care about loan balances, you like that. If you care about the composition of those, you do not. So I would rather see those run off faster because we are recycling those dollars for funding, and obviously we are picking up spread and return profile. So, that has been a little bit of a headwind actually, the lack of that and call that we would have expected maybe $500 million-$600 million rolling off in a quarter. Now it feels like closer to $400 million. So we have got some time to go. I do not think today there is a lot of volume to replace that. Mortgage rates I think are maybe as high as they have been since pre-financial crisis or close.
So I do not think we are going to be replacing any of that with current mortgage. We do have some opportunities in home equity. I think those are a little further out, so I would expect this runoff pace to sort of continue through 2027. But again, for us right now, it is a good recycling mechanism and an opportunity to pick up both spread and overall return.
I guess on the second quarter earnings call, you talked about deposits. We have had the period deposits rise after troughing in May, but I think you know that there were some one-time factors involved. At the same time, you are calling for average client deposits increased by more than 2% or I think $3 billion in the back half of this year. Is that still the way to think about that? Maybe just talk about current trends, whether it is balances, mix, pricing.
Yeah. So, I think appropriately the question on the call was, "Hey, how do you have confidence that you can actually grow deposits at that level and do it at a valuable balance price mix?" What I would say gave us confidence there, and we're seeing it pull through, so I feel obviously better about it, is we have a lot of data over time on seasonal trends, particularly in our commercial operating book. We've seen those build back up after that kind of May bottom. We're seeing that happen, and we're seeing it happen at what is a constructive price. So we're not seeing a ton of movement on overall deposit costs. Maybe a basis point or 2 so far. I think we're on pace to meet or exceed that deposit growth.
So far, if we've seen net loan growth in the quarter up maybe $1.5 billion, we're seeing deposit growth exceed that by more than $1 billion. We're seeing those things bounce back the way we had historically expected. On top of that is we add new relationships. We're seeing new to bank deposits come in, and often those are going to be operating in nature, and so they're well priced.
So deposits a little bit better than expected. I guess when you look across your markets, whether it's kind of Northeast, Midwest, Pacific Northwest, West, just any differences in the competitive dynamics or pricing behavior? Then, say the Fed hikes on Wednesday. What kind of data should we be thinking about?
Yeah. So let me bifurcate just consumer and commercial because we talked a little bit about that. I think commercial deposits, I'm not sure the markets are hugely different. Particularly kind of middle market and up. They're sort of a kind of market-based view of that generally. I don't view those often as hugely geographic specific, and frankly, we lend all over the country, so it's not as tied to the branch network as the consumer deposits. In our consumer book, and by the way, we're seeing more of the growth in the commercial side. So understanding that dynamic's been very helpful. On the consumer side, we think of 3 markets, kind of the Northeast, the Midwest, and the West.
We aren't seeing a change really in the competitive intensity or the behaviors, but they are three very different markets that give us a little bit of a balance effect because we're not getting hit in any one way all at once. That's been sort of the way it's operated for the last few years, and that hasn't really changed this year. From a Fed hike standpoint, if we got a hike, that'd be slightly beneficial, but again, we're pretty neutral. My expectation is you'd see kind of a low 40s beta pretty quickly as kind of the consumer term stuff rolls in over time. That again, would be slightly accretive to us in 2026. Then it would sort of get more neutral over time as that deposit beta.
I presume we get back to kind of 50-55 as it has in the last up and down cycle.
Got it. You mentioned this quarter deposit growth outpacing loan growth. Last quarter, loan growth was outpacing deposit growth. Who knows what the fourth quarter will bring. But in the second quarter, you kind of added some short-term borrowings. Maybe talk to just how you think about just overall borrowings and the balance sheet funding. You guys have these hybrid accounts, and just how you think about just balancing the overall funding strategy.
Yeah. I mean, at the end of the day, we talk a lot about deposits and deposit betas for all the reasons that make sense. The gross majority of funding. But at the end of the day, what really matters is what's your cost of funds overall and how effectively are you managing that. So our view is we want to be core client deposit funded for the most part. When we're seeing the seasonality that we tend to see, and we saw it in the second quarter, we've talked a little bit about that. You don't want to move the entire interest-bearing book to solve a short-term problem. So again, we had the confidence there that it was going to rebound post-May. It's done that. Because we had some historic visibility into that, we used some wholesale borrowings to fill that gap and in that timeframe.
As these deposits grow and they outpace loan growth, we'll be able to bring those back down. Again, we'll always sort of pull that lever on the margin, but we're trying to be as client deposit funded as possible, pretty much all the time.
Got it. Just margin, your $2.89 in the second quarter. Maybe just walk us through the path to reach kind of your core Q target of 3% to 3.05% at that sort of level. Then 3.25% plus for next year. As we think about next year, just kind of what do you need to do or need to see to get to that plus figure?
Yeah. The story I think is now maybe becoming a little boring because it's a similar story. There's a bunch of fixed asset repricing. We'll see $9 billion in the second half of 2026. Then the rest is really around what we just talked about, which is deposit balances at the appropriate rate, and otherwise funding optimization. That's really what we're seeing there on the NIM side. We feel good about that given the trajectory we're seeing year to date. If you roll into 2027, kind of similar story, another $21 billion or so of fixed asset repricing, and then deposit balance, funding optimization, the same sort of dynamics. Look, I think if we see three rates, more rate hikes or more, I think the real question is what's happened to loan demand.
While the loan demand obviously should be in most cases NII accretive, it is on the margin today a little bit NIM dilutive. If we're just talking about NIM for the moment. Less loan demand means less requirement for funding, which means you can price the deposits a little bit less aggressively. You've got some trade-offs there on the NIM side. I think we just have to watch as that rolls out. Because again, as I watched this year, I would have expected as rates stayed high, loan demand to come down. It just hasn't happened.
I guess you mentioned $21 billion of fixed rate assets reprice next year. Ten-year broke 5% today. You've mentioned mortgage rates very historically elevated. I assume that kind of helps the repricing story.
It helps the repricing story on certainly our investment portfolio. To the extent you're putting swaps in place on the floating rate book, you're seeing swap levels we haven't seen in quite some time. On the loan demand level, the question is how much loan demand will there be. I think the other point is if they're going to be those hikes, our funding costs are obviously going to go up across the board. The question is spread going to move? I think the question really is if you're not willing to take more credit risk, is the spread for that quality client really moving even though overall funding costs are going up? That's just to be seen at this point there.
You touched on kind of balancing NII growth with NIM growth and kind of sometimes the trade-offs between the two. Just how do you balance that?
Carefully. I mean, look, I think in a perfect world, we're often looking at something that is NII accretive and NIM neutral, or maybe it's NIM accretive and NII neutral. You're trying not to have to go down on either one really aggressively. Again, we've been on the margin. I think we took our NIM guidance down a couple basis points just because we were putting on good relationships, and we thought that was the right thing to do long-term because I think if I'm sitting here in a year and I tell you this would be hard to do, but theoretically, if I said, "Hey, we're going to hit our NIM guidance but miss our return guidance," I think that's a worse answer than the alternative. So we're obviously trying to do both, but we're also trying to build long-term consistent franchise value and returns.
Really at some point it's discussion about what are we looking at, what's available, and how much confidence do we have that the return profile, if it is NIM dilutive, is valuable.
Makes sense. So maybe just tying this loan deposit NIM discussion together. You're talking 9%-11% NII growth for this year, average earning assets of roughly up roughly $1 billion-$2 billion in the back half of the year. Is that still the right way to think about it?
Yeah. I think we feel really good about the 9%-11%. The earning asset piece still feels about right. So we're on trend for both. We put out some updated guidance today.
I didn't see that.
Didn't impact that at all. Still feeling good about it.
Any other changes in the guidance we should know about?
We really changed fees and expenses to reflect the Clearwater closing, the Clearwater acquisition in August.
I'll cross that question off.
Yeah.
I guess on investment banking, I don't see what you got it, so I can't-
Okay. We took fees and expenses from 3 to 4 to 4 to 5. Sorry, fees to 3 to 4 to 4 to 5, and we took our expenses from 3 to 4 to about 4. Think about that as roughly kind of a PPNR neutral transaction in the back half of the year, just given some deal structures and integration costs and things. We're confident over time it migrates to standard profitability. But really that is the driver of the guidance change.
Got it. I guess maybe sticking on investment banking, you were talking about 20% sequential growth for that line item, fee pool down this quarter. Maybe just update us there and just looking further out, middle market M&A activity has yet to normalize and financial sponsors have not returned. What's your outlook for these businesses and just-
Internally is, how is the broad market performing versus our expectations? There was a strong second quarter. We weren't as strong as some of that natural business mix versus some of the league tables. The other piece is we tend to zoom out and really think about capital markets on more than a quarter basis because it's hard sometimes to time exactly when the transaction is going to happen. But our view is when we get into a specific quarter, and we've guided up as you said, 20%+, which we feel good about based on current activity, it really is a bottom-up client activity. It has a little bit less to do with the broader market trends in a particular quarter. We tend to see those trends play out a little bit more over time, assuming they apply to our book, right?
We're not a big trading business, right? But we're bigger in obviously things like syndications, M&A. We continue to see very strong pipelines, record pipelines we talked about in M&A. We hadn't seen those pull through. We're starting to see some of that pull through, but I would not call it normalized. I wouldn't say the sponsor behavior is normalized either. The guide that we've given on 2026 and 2027 as it relates to returns doesn't require those to be sort of going full go. If those markets opened up and really started going, I think there's some upside there. But right now we're seeing, again, good client activity and expecting to see that pull through. The one place that rates really does impact in the near term is commercial mortgage placement.
As rates go up, people tend to want to watch and time the market a little bit on a permanent rate before they hit the market.
Got it. You touched on Clearwater. It's now closed. Maybe just talk about just how that impacts your overall franchise and just the strategic rationale for that business.
Yeah. So we've obviously over time done a fair amount of capital markets add-ons. Clearwater is a firm based in the U.K. with some European footprint, where we've been a referral partner now for five or six years. We've co-led some transactions together or referred. So we know the partners, we know the principals. Good cultural fit between the businesses, and we've operated quite well as a team. So it felt like this was just a formalization of a prior referral relationship. So on the integration side, on the cultural fit side, on the overall execution of the transaction, it felt very low risk, and it gives us now very connected distribution into the U.K. and Europe and vice versa. So there is a natural fit there that we feel benefits the firm strategically over time. As I said, it's pretty neutral from a PPNR standpoint this year.
We'd expect it to add something in the sort of $60 million-$70 million of revenue next year. Again, market neutral. If the market remains constructive, we'll see what happens. That doesn't necessarily require us to be realizing a ton of synergies on top of that. It's a very solid business with folks that we know, so it's consistent with us and kind of lower risk. We'll continue to look at transactions that sort of fit that, either by expanding distribution capabilities or filling or building industry niche. We've been an industry-focused bank for decades now, and that's served us well. These platforms tend to be most productive when they're not generalists, but are kind of equally focused on certain industry groups.
When we looked at the change in fee guide, it was solely due to Clearwater?
Yeah.
Got it. Then maybe away from capital markets, when you just think about fee income in general, where do you see the biggest opportunities for growth?
Yeah. For us, it continues to be payments and wealth. The payment side, we've seen low double-digit growth in those platforms year-over-year. We continue to see really good deepening of client relationships. We've had a focus on payments now for over a decade. If you were sort of in our pipeline meetings, you'd hear people talk about payment attachment. When we make a loan, we expect the payment, the deposits, and the payment products to be connected to that loan, and then sort of get those clients up and running as quickly as we can. You talked earlier about hybrid accounts. Just recall those are sort of put your non-interest bearing and your interest-bearing deposits in one pool. We do the calculation on compensating balances for the client. We apply the excess rate we've agreed to.
It also gives us opportunity to deepen those relationships through additional payments products. And we have done a phenomenal job expanding that. And what that means is we either get more hard fees or we get more compensating balances that show up as non-interest-bearing. So that has been a phenomenal opportunity for us. We will continue to do that. And if you think about wealth, second quarter we hit a record AUM for Key at $74 billion. We continue to drive great traction in our mass affluent segment, and we continue to be pretty lightly penetrated, even though we have added something around 60,000 accounts in the last 2 and a half, 3 years. And we see pretty good runway there, and we will continue to invest in that. I think both of those areas from an M&A standpoint are challenging for banks, just given the multiples in those businesses.
So at this point, we are kind of a decade-plus into making equity investments, commercializing fintech capability in the payment space, and we feel very capable and very experienced doing that. We will continue to do that where it makes sense. On the wealth side, it is a much more organic story because it is just a little bit harder to make those deals work.
Makes sense. On expenses, even adjusting for the acquisition, folks seems like a pick-up in the back half of the year versus the front half. But just maybe just talk about any seasonality to that and how you are thinking about it.
Yeah. So a couple of things happen every year. Because of our capital markets focus, we tend to have more client activity in the back half, which drives a little bit more incentive comp. So that is very normal for us. And if it does not happen, obviously we do not pay out the incentive comp. So we have some variability in that base. We tend to do a little bit more marketing in the fourth quarter, in the back half of the year. And we tend to, over the course of the year, ramp up some of our technology investment spend. So that is normal. We do not see anything there that is going to pop or out of line. We are, again, seeing the Clearwater piece add to that. So we just wanted to reflect that in the guide because we know that will come.
Got it. I guess maybe your guide is still kind of 400 basis points plus of positive operating leverage for this year. We were talking earlier, kind of starting the 2027 budgeting process. Just how are you thinking about expense growth, investment priorities, and just operating leverage in 2027?
Yeah. One, we tend to want to be very focused on operating leverage for all the obvious reasons, and we continue to feel really good about the organic growth story. So we think we've got runway, again, subject to anything changing in the macro environment. We're going to invest in the business. We've added a lot of bankers. We've invested in technology. We'll continue to do that. We haven't really determined the pace of that. As you and I were talking before we started, we're sort of in the beginnings of our 2027 planning. So we'll obviously share that in January, but we feel good that we can continue to invest in the business and manage expenses in a disciplined way.
And again, I feel like some of the early AI proliferation we're seeing inside of Key, it makes me really optimistic that we're finding ways to scale that don't actually require us to add a lot of people. So if revenue came down, we might have a different conversation. But right now, if you're seeing revenue growth, I feel like we can do a lot of the current activities we're doing today through the benefit of AI, and we don't have to add staffing to support more clients and more revenue because some of that work can be done on those platforms.
And maybe shifting gears to credit quality. Non-performing assets were up $126 million in the second quarter, and you talked about a few specific credits in real estate, consumer goods, and agricultural sectors. I know charge-offs were relatively benign, and you didn't change your charter guidance for the year. But just maybe update us on those three credits and are those sectors of concern, just what else are you watching more broadly?
Yeah. I think those three sort of reflect the overall sectors of concern. If you think about where we are watching things, it is commercial real estate, it is agriculture, it is consumer goods, right? Those three, whether it is rates, whether it is tariffs, whether it is labor availability, whether it is the ongoing Amazon effect, where all those things sort of hit those three areas. That said, we are seeing all our credit metrics improve in the quarter. The NPAs we talked about last quarter, we thought we had line of sight to resolution. We are seeing that happen. Our charge-offs are coming in. I think they are going to come in below the guide. That is one quarter, so we are going to continue to watch that. But if we see the current progression, we might have some opportunity to lower that view for the year. But right now, credit quality just continues to be really benign.
I guess against that backdrop, how do you think about maybe reserve levels going forward? You actually had a release in 2Q despite the NPA rise. How do you
Yeah. I feel like, one, we built through a lot of 2025, just given some of the uncertainty. As you noted, we did have a little bit of a release last quarter. I think we feel pretty good about our reserve levels, but the trends overall continue to improve. So at some point you have to figure out what you are holding and how supportable that is. So I do not know where we are exactly on that, but I would not see, obviously, a build coming unless something changes dramatically in the next two weeks. And I could see some opportunity to release. The question is how much, just given the trends we have seen so far in the quarter.
I guess does the potential backup in rates frighten you at all?
It's 100% something we're going to watch, right? The question is in which areas, and we talked about commercial real estate. The way that has manifested over the last few quarters when it happens is good clients stay on. They put more dollars in the interest reserves. They decide they want to extend. They put more capital up, right? They basically say, "Hey, we're going to stay with you until the market changes." We're generally comfortable with that. We'll see where that goes, but that certainly is a watch point. Then I think if you look at some of the geopolitical risk and other things that are happening, we're always watching that, and that's been reflected in our reserve builds over the last several years, and those reserve builds have often been a qualitative offset to what our models are telling us.
The question is, do you keep building qualitatively if you see good performance?
Then on capital, CET1 ratio was like 9.8% last quarter within the 9.5%-10% guide you talked about. Potential Basel changes should be beneficial. Share repurchase, I think you gave at least $1.3 billion this year. Just how do we think about capital deployment going forward against the backdrop where maybe you don't need as much?
Yeah. Our capital priorities remain pretty consistent. You support client growth where you can, and obviously, we've had a fair amount of that. So we would've seen some real capital consumption in commercial loan growth this year. We're more than happy to do that. You pay the dividend. We don't see that changing or a need to change that over time. Then you think about how to monitor the overall ratio, and you tend to use those share buybacks to manage that. So we've been out there saying 1.3. I feel very good about that number. I don't see any reason to back off that. I do think we've talked a lot about rates as it relates to deposit competition, loan demand, general economy. The one place where it's had a significant impact is just on the AOCI and the portfolio.
The rules aren't official, but we've been operating as if they are. That'll have an impact on our marked capital in the quarter. I would expect us to be below the 9.5% in the quarter, just given that AOCI move.
I think we're very comfortable there given we've taken a very measured approach to capital return. There's nothing in front of us right now that would say, "Don't achieve the 1.3%." We think that's the right answer. Frankly, you mentioned the Basel III. Not official yet. Our expectation at this point is by probability it looks the way it's been proposed. Probably gets implemented in 2027 or realization in 2028. I think we'd probably be shortsighted not to consider that aspect of it, which we think is 100-plus basis points of mark capital. We're not spending it today, but the question is would you start pulling back on activities if you have some confidence that that's coming in the relative near term. I think that's the balance.
Right now we feel very good about operating below that 9.5% given everything that else is going on.
Got it. Before when we were talking about Clearwater, you kind of went through some non-bank acquisition and sectors you're looking at. Maybe just shift gears to kind of bank acquisitions. I know you kind of always emphasize organic growth, but we do expect industry consolidation to pick up over the next few years. Just where does traditional bank M&A fit in with that capital hierarchy?
Yeah. I would continue to say at this point it's just not really a focus. We've sat down and said we feel very good about the organic growth opportunity. I think we've demonstrated we can do that. We've done these fill-ins because we think they're overall just incrementally accretive to what we're trying to do, and I think we feel like the risk profile of those types of transactions is manageable. But I think we are focused on executing, on delivering on the commitments we've made. We've made them out now to fourth quarter 2027. We feel very committed to delivering on those.
I think other things need to be different for us to really feel comfortable that the time is right for bank M&A, and that's we need to deliver, we need to get our multiples and returns in a different place, and we think we have the organic path to do that. So that's job one, two, and three at the moment. If things change or some opportunity emerges that we weren't thinking about, maybe we think differently. But right now there just isn't anything on the horizon.
Got it. Maybe sticking with the capital theme, SLS. Last month you filed a notice redeeming $500 million of preferreds. Just how are you thinking about the capital going forward?
Yeah. That's a great question. So we redeemed I think about $525 million of our Series D. With that will come a little bit of redemption premium, so you'll see a little bit of noise in that preferred dividend line for us in the quarter. We have a Series E, another half a billion coming up in, I think December. In both cases, what you were getting was at the call date a pretty meaningful step-up in the back-end floating rate. So it was very efficient for us to take those out. I suspect we will go through the same calculus, and it'll probably tell us to redeem the E. Within that, our hope would be to issue some new preferred, not at the full amount of those, but maybe something on the order of about 50%.
The market hasn't been as kind on that profile in the last few weeks. We watch that closely, so we'll see if there presents an opportunity there. All of this is probably noise in the second half on the preferred dividend line, all of it to be in a more capital efficient position over time, which frankly is very likely to lower those dividends.
Do you want to quantify the 3-2 incremental impact?
I think it's probably on the order of about $5 million.
On Scotiabank, I know they own 15% in a C. They filed to take it to 19.9. Just maybe update us on that and just the relationship and opportunities with them.
Yeah. One, overall, I think we continue to have a very constructive relationship with them, although, at least from my seat, not a lot of interaction. I think if you were listening to their calls, they've frequently touched on this as a financial investment, I think one that they're quite happy with. And frankly, if you're going from 14.9% to 19.9%, presumably you think there's benefit in holding more. I do think it's important just to remind people that the original deal in 2024 allowed them to go to 19.9%, so there's nothing from the Key-Scotiabank relationship here that is different. We aren't contemplating, nor would we contemplate issuing additional shares to get there. This is really Scotiabank and the Federal Reserve System dealing with their allowable ownership percentage within that 19.9%, and they have basically two paths to get to that ownership percentage.
One is go buy in the open market. We view that as positive for us. The other is to not sell to us in the buyback and just allow themselves to float up. I think we've seen more of the latter, and my suspicion is it's a little bit about not wanting their absolute dollar investment to go down while preserving the appropriate level of ownership. So it really doesn't have much to do with Key, but we view it as a positive sign that they're happy with the investment.
Helpful. And then I guess, based on what we've discussed so far, it feels like you're on track to outperform the 15% plus core to 2027 ROTCE target. Is that correct? And then, beyond 2027, what do you need to do to kind of get back to that 16%-19% ROTCE range?
Yeah, look, I think we said on the call in July that we were incrementally more confident. I think that holds. Again subject to market conditions holding. So I think that caveat's always out there, but worth stating. I think it's not the sexiest answer in the world, but it is about continued NIM optimization and improvement over time. So getting to 3.25% and above obviously adds lots of value to that return profile. Continuing to invest and realize our fee-based businesses. So frankly, when we're adding commercial loans at the rate we are, we expect our bankers to be able to cross-sell those into our fee businesses, and we should see better fee growth performance over time. And we should be accountable for that. I think the third is continued disciplined expense management.
We think we can be in that kind of 3% range over time and feel very good about doing that while investing appropriately, because you do not want to starve the franchise. Managing capital at the right levels. Basel III comes in as 9.5%. Is that still the right lower end or not, and if it is, what levers are we pulling to make sure we stay in that? Then obviously you have to manage credit well because that tends to put a hole in the boat when you do not. I think it is a pretty simple recipe and it really comes down to executing it effectively and appropriately. I do not think there is probably anything I said there that you have not heard repeatedly in your long career of doing this.
No, makes sense. In the minute we have remaining, I guess anything else you would like to ask? Anything you want to focus on?
No, look, I think despite some of the rate concerns and maybe some of the continued uncertainty, I think we feel very good about where the bank is positioned and how the business is performing. Clients continue to express a lot of confidence, and we have been the beneficiary of that, and we will continue to engage with them. I think we are on track to meet the commitments we have made, and we take that seriously. Subject to a lot of uncertainty, and it is our job to manage that effectively. As we sit here today, we feel quite good about where we are.
Great. On that note, please join me in thanking Clark for his time today.