Good morning. Welcome to the Prosperity Bancshares, Inc. fourth quarter 2022 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw from the question queue, please press star then two. Please note, this event is being recorded. I would now like to turn the conference over to Charlotte Rasche. Please go ahead.
Thank you. Good morning, ladies and gentlemen, and welcome to Prosperity Bancshares fourth quarter 2022 earnings conference call. This call is being broadcast live over the internet at prosperitybankusa.com and will be available for replay for the next several weeks. I'm Charlotte Rasche, General Counsel, Prosperity Bancshares, and here with me today is David Zalman, Senior Chairman and Chief Executive Officer, H.E. Tim Timanus Jr., Chairman, Asylbek Osmonov, Chief Financial Officer, Eddie Safady, Vice Chairman, Kevin Hanigan, President and Chief Operating Officer, Randy Hester, Chief Lending Officer, Merle Karnes, Chief Credit Officer, Mays Davenport, Director of Corporate Strategy, and Bob Dowdell, Executive Vice President. David Zalman will lead off with a review of the highlights for the recent quarter. He will be followed by Asylbek Osmonov, who will review some of our recent financial statistics, and Tim Timanus, who will discuss our lending activities, including asset quality.
We will open the call for questions. During the call, interested parties may participate live by following the instructions that will be provided by our call moderator, MJ. Before we begin, let me make the usual disclaimers. Certain of the matters discussed in this presentation may constitute forward-looking statements for purposes of the federal securities laws and, as such, may involve known and unknown risks, uncertainties, and other factors which may cause the actual results or performance of Prosperity Bancshares to be materially different from future results or performance expressed or implied by such forward-looking statements. Additional information concerning factors that could cause actual results to be materially different than those in the forward-looking statements can be found in Prosperity Bancshares filings with the Securities and Exchange Commission, including Forms 10-Q and 10-K and other reports and statements we have filed with the SEC.
All forward-looking statements are expressly qualified in their entirety by these cautionary statements. Now let me turn the call over to David Zalman.
Thank you, Charlotte. I'd like to welcome and thank everyone listening to our fourth quarter 2022 conference call. Our annualized return on average assets for the three months ended December 31, 2022 was 1.47%, and our annualized return on average tangible common equity came in at 16.2%. Prosperity's efficiency ratio was 40.8% for the three months ending December 31, 2022. Our net income was $137.9 million for the three months ending December 31, 2022, and that was compared with $126 million for the same period in 2021, which represented an increase of 8.7%.
The net income per diluted common share was $1.51 for the three months ending December 31, 2022, compared with $1.38 for the same period in 2021, which represented an increase of 9.4%. Our net income was $524 million for the year ended December 31, 2022, compared with $519 million for 2021, an increase of $5 million or 1%. Net income per diluted common share was $5.73 for the year ending December 31, 2022, compared to $5.60 for 2021, an increase of 2.3%.
Our loans, excluding Warehouse Purchase Program and PPP loans at December 31, 2022 were $18 billion, compared with $16.7 billion at December 31, 2021, an increase of $1.4 billion or 8.5%. Our linked quarter loans, excluding Warehouse Purchase Program and PPP loans, increased $518 million or 3%, 11.8% annualized from the $17.6 billion at September 30, 2022. Our deposits at December 31, 2022 were $28.5 billion, a decrease of $2.2 billion or 7.3% when you compare it to $30.8 billion at December 31, 2021, primarily due to a decrease in public fund deposits.
Linked quarter deposits decreased to $766 million, or 2.6% from the $29.3 billion at September 30, 2022. Our period end and average non-interest-bearing deposits saw small increases. As mentioned earlier, most of the decrease in the total deposits was in the public fund category. Our asset quality non-performing assets totaled $27 million, or eight basis points of quarterly average interest-earning assets at December 31, 2022. That's compared with $28 million, or nine basis points of quarterly average interest-earning assets at December 31, 2021.
The allowance for credit losses on loans and off-balance sheet credit exposure was $311 million at December 31, 2022, compared with $316 million last year, December 31, 2021, and $312 million at September 30, 2022. We are excited about our pending mergers with First Bancshares of Texas and Lone Star State Bancshares. The combined banks will add approximately $3 billion in assets and increase our market share in the West Texas areas of Lubbock, Midland, and Odessa, as well as provide entry into new markets to us in Wichita Falls, Amarillo, and the Horseshoe Bay, Marble Falls, and Fredericksburg areas in central Texas.
The transactions are pending regulatory and shareholder approvals and are expected to close during the H1 of 2023, although delays could occur. During the fourth quarter of 2022, Prosperity continued to see growth in loans, which we expect will continue into 2023. The growth comes from loans as well as existing loans not paying off as fast as they did when rates were low, and it was opportunistic for borrowers to repay or move the loans. Consumer spending remains strong, especially in the tourism, restaurant, and hospitality sectors. Real estate sales and pricing have been affected by the increase in rates, we expect that because of inventory levels and the population growth, the impact will be less in Texas and Oklahoma.
We believe that the economies in Texas and Oklahoma will outperform other States over the next several years as companies and individuals continue to move to the States because of lower tax rates and a business-friendly political environment. We expect that companies will need more infrastructure and buildings, and consumers will need more housing and places to spend their money, and both will need banks to finance the growth. While the net interest margin at some banks has improved immediately because of higher rates, we expect Prosperity's net interest margin to continue to improve over the next several years as our bond portfolio, which yielded 1.96% during the fourth quarter of 2022, reprices to higher yields, assuming that rates normalize near the current rate. Overall, we are excited about the growth and future of our company.
I would like to thank our customers, associates, directors, and shareholders for helping build such a successful bank. Thanks again for your support of our company. Let me turn over our discussion to Asylbek Osmonov, our Chief Financial Officer, to discuss some of the specific financial results we achieved. Asylbek?
Thank you, Mr. Zalman. Good morning, everyone. Net interest income before provision for credit losses for the three months ended December 31st, 2022 was $256.1 million, compared to $244.8 million for the same period in 2021, an increase of $11.4 million or 4.6%. This was due an increase in loan and security interest income of $28.9 million and $25.7 million, respectively, partially offset by increase in interest expense of $43.6 million. Comparing the quarter ended December 31st, 2022 to the same period in 2021, the net interest income increased $11.4 million, despite having $7.9 million less in PPP loan fee income and $4.5 million less in fair value loan income.
The net interest margin on a tax equivalent basis was 3.05% for the three months ended December 31, 2022, compared to 2.97% for the same period in 2021 and 3.11% for the quarter ended September 30, 2022. Excluding purchase accounting adjustments, the net interest margin for the quarter ended December 31, 2022, was 3.04% compared to 2.91% for the same period in 2021 and 3.1% for the quarter ended September 30, 2022.
Non-interest income was $37.7 million for the three months ended December 31, 2022, compared to $35.8 million for the same period in 2021, and $34.7 million for the quarter ended September 30, 2022. Non-interest expense for the three months ended December 31, 2022 was $119.2 million compared to $119.5 million for the same period in 2021, and $122.2 million for the quarter ended September 30, 2022. For the first quarter 2023, the new FDIC assessment rate is expected to increase expenses by approximately $2 million.
We expect non-interest expense for the first quarter 2023 to be in the range of $122 million-$124 million. This excludes any potential impact from one-time merger related costs for our pending acquisition, which are expected to close in the H1 of 2023. The efficiency ratio was 40.9% for the three months ended December 31, 2022, compared to 42.8% for the same period in 2021, and 41.4% for the three months ended September 30, 2022. The bond portfolio metrics at 12/31/2022 showed a weighted average life of 5.3 years and projected annual cash flows of approximately $2.2 billion.
With that, let me turn over the presentation to Tim Timanus for some details on loan and asset quality. Timanus?
Thank you, Asylbek Osmonov. Our non-performing assets at quarter end December 31, 2022 total $27,494,000 are 15 basis points of loans and other real estate, compared to $19,878,000 or 11 basis points at September 30, 2022. This represents approximately a 38% increase in non-performing assets. The December 31, 2022 non-performing asset total was comprised of $25,531,000 in loans, $0 in repossessed assets, and $1,963,000 in other real estate. Of the $27,494,000 in non-performing assets, only $767,000 are energy credits. Since December 31, 2022, $6,114,000 in non-performing assets have been removed.
This represents 22% of the non-performing assets at December 31st. Net charge-offs for the three months ended December 31st, 2022 were $603 million compared to, excuse me, $603 thousand compared to $1,780,000 for the quarter ended September 30th, 2022. No dollars were added to the allowance for credit losses during the quarter ended December 31st, 2022, nor were any taken into income from the allowance. The average monthly new loan production for the quarter ended December 31st, 2022 was $613 million. Loans outstanding at December 31st, 2022 were approximately $18.840 billion compared to $18.506 billion at September 30th, 2022.
The December 31, 2022 loan total is made up of 42% fixed rate loans, 30% floating rate, and 28% variable rate. I will now turn it over to Charlotte Rasche.
Thank you, Tim. At this time, we are prepared to answer your questions. MJ, can you please assist us with questions?
Yes, of course. We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, you may press star then two. At this time, we'll pause momentarily to assemble our roster. Today's first question comes from Brady Gailey with KBW. Please go ahead. Brady, your line is open.
Sorry, I was muted. Good morning, guys.
Morning.
The margin took a little bit of a step back in the fourth quarter. I know longer term as the bond book reprices higher, that's, you know, very beneficial to the margin. You know, do you think the margin when do you think the margin can really start to see some material upside from this dynamic of the bond book pricing higher?
Brady, this is Asylbek. I'll take that, and maybe we can add more later. Our story doesn't change, right? It's all about our balance sheets mix
If you look at long term, you're right. I mean, long term looks very positive for us because of higher interest rate environment we are right now. We have about $14 billion in bond portfolio right now, which is yielding less than 2%. If you look at our loan portfolio, as Mr. Timanus just mentioned, we have 42% in fixed rate and, what, 28% in variable. Those are gonna be repriced in over time as well. That looks very positive on us. If you look at our bond portfolio, we have, what, $2.2 billion cash flow coming in every year. We had very strong loan growth for the past few quarters.
If you could just take that cash flow and put it toward the high-yielding loans, which generally was 6%-7% right now yield on loans, that's gonna be very positive in the long term. One more thing I will add, if you look at our IRR model, if you look at 12 months, 24 months, we see expanding NIM, and that's very consistent what we've done in the last rate cycle. That's a more color on the long term. But if you look at short term, maybe the 1st quarter, I would say our NIM gonna be a bit flattish because of still repricing of the, you know, deposits. That's, I think, the, you know, wild card is the repricing of the deposits, especially with the environment we are in competition.
We'll feel very positive about long-term, our margin and, that's, I mean, that should expand in the long term.
Randy, I'm gonna jump in for just a minute if I can. You know, based on our models that we have, we show pretty significant increases in our net interest margins starting in the six-month period. 12-month period is really nice. 24 months is you know, it's hard to believe something what the model says sometimes. However, that's predicated on rates where they're at today. As rates increase, I think they have plugged in in this model a 25 basis points increase in February and a 25 basis points increase in March. The model for every 100 basis points increase takes into consideration, like on your money market accounts, everyone has a different beta, but we use 65 basis points of that for the increase.
If things went up 100 basis points, we would say 65 in our model. That's it. I'm just trying to give you some background on it. That's based on the model. Having said that, you know, the things that always could change, if you saw that deposit pressure was there, that you had to raise rates faster or more than that in the short term than we thought, that could also change the net interest margin as when you do get it. I guess the point I would make in making it simple, no matter how you look at it, we have a really long way to go in a normalized rate environment with our deal. It just depends, you know, the timing of it, I think.
I think where other banks have, you know, gotten most of their net interest margin gain already, ours is yet to come. It's just a matter of when.
The bond book, the yield on the bond book is 1.96%. When you're buying new bonds today, or, like, if you look at the bond purchases you did in the fourth quarter, what was the new yield on those?
We don't have to buy them anymore because our loans have been growing, we've been putting it all in the loans. The fact of the matter is, you know, I think for the short term, I don't see us really buying bonds as much as really increasing our loan portfolio, really. You know, I think we increased our loan portfolio $500 million in the last quarter. The first quarter still looks pretty good, too. I know that in some areas of the country, they're talking about a recession. Right now, we still see some strength in the, you know, in the loan portfolio.
If you ask me my gut feeling with the amount of money that we're borrowing right now and what we're doing in loans, I think that most of it will go more towards the loans and the reduction in the Federal Home Loan Bank borrowings, probably.
I think, what, the 15-year mortgage backs now are about 4.5%. Is that right?
Probably so, yeah.
I think it would be clearly our preference to put those dollars in loans, not in securities at that level, so.
Right.
We've had some success at that here lately. That's, that's the plan.
Yeah. On the loan growth, you know, I think you guys kind of longer term guide to a mid-single digit level loan growth. As I look at the last 3 quarters, you know, annualized, you're growing like north of 10%. How do you think about loan growth for 2023?
Kevin, you wanna take it?
Yeah. Brady, I think, you know, part of this loan growth is driven by slower pay downs across the portfolio, in particular, that structured real estate portfolio that we had at Legacy, which is down under $400 million now. Those payoffs are really slowing down on that side. David mentioned, the first, you know, month of the year almost behind us, really strong loan growth for this first month, consistent with what we've seen in the last couple of quarters, maybe even a little better than what we've seen in the last couple of quarters, quarter to date. If I think about the year, I would say somewhere in the mid-single digits% to the very high single digits%, with the difference being where single-family mortgage origination pricing comes in.
At the lower end of single-family mortgage origination, it might make more sense for us to package those things and sell them off for the gain. We'll make money on the gain versus the loan growth. If rates are such that that happens, I would say more towards the mid-single-digit range to the extent we portfolio those high single-digit loan growth. That's the swing factor. Either way, we're gonna make more money. And we're just cognizant of where the rates are in these things, and we'll be both strategic and thoughtful on whether we portfolio those loans or sell them.
Okay, that makes sense. Thanks, Kevin.
The next question comes from Michael Rose with Raymond James. Please go ahead.
Hey, maybe just sticking with loan growth, Kevin. Just on the, you know, usual update on the warehouse. Looks like the, not surprisingly, the volumes were a little bit less than, you know, what you'd kind of talked about, you know, back in October, not surprised, just given the MBA's forecast. Any sort of stab in the near term for, you know, for warehouse volumes, I would probably expect a little bit more downward pressure and then maybe some stabilization, but would just love your thoughts. Thanks.
Yeah. I saw your note this morning. You had me scrambling for our transcript because I thought I guided right to the number we had, but I'll call you later on that once I confirm. It has trickled down in January. It always does. Michael, we're averaging so far for the quarter exactly $590 million. It's off from, you know, the last quarter average of $729 million, I think, something like that. I expect this to be kind of the low points for the quarter, and we may rally from here a little bit, again, depending upon where the tenure moves, but it seems to be settling in. I'm gonna say we're gonna average for the quarter somewhere between $550 million-$600 million.
Perfect. Then maybe just for David Zalman, you know, obviously the two deals announced recently. You know, I know there's a lot of other banks out there, a lot of dislocations. Just any change and update on kind of your thought process around M&A at this point, and you know, would you potentially look to maybe do additional deals here in the next couple quarters, even if you're still integrating the two that you've already announced? Thanks.
Well, I think that, you know, M&A is part of our plan. I mean, we've always, for the last 20, 30 years, our plan has been trying to shoot for about an 8% organic growth rate on the loans and about 4% on the deposits, and the rest of the double-digit always came in with the M&A. The answer to that would be yes. I think that if you ask me if it's as busy as it was last year, I think that there's still deals out there. We're still getting calls. I think it's more tempered. Something that is more challenging is the AOCI on most of the bank's books right now. I think that's the deal that we'll have to work through on some of these deals.
In the past, you know, on larger deals, sometimes you were able to take it and make the mark, and then on some of the smaller deals, we mark the mark in the price. There will have to be some discussion and adjustment with regard to the AOCI. I think there's always gonna be M&A. Times change. You wake up one morning, they're not the same as it was the next morning for people, there's just a lot of stuff that always goes on. I think there will always be M&A, we'll probably be a player in that.
Maybe finally for me, just, you know, on the buyback announcement, you haven't repurchased shares here, you know, recently. Is that just more of a, kind of a tool in case there's dislocations, or would you actually expect to maybe potentially be a little bit opportunistic here? Thanks.
Historically, we've used it for dislocation. I think whenever the price gets a little crazy, gets under 70, I think that we've been going back into the market. In the past, and I would say that I'm not saying that it would be just like that, but, you know, in the past, we've used it primarily for dislocation.
All right. Great. Thanks for taking my questions.
The next question comes from David Rochester with Compass Point. Please go ahead.
Hey, good morning, guys.
Good morning.
Good morning.
Appreciated all the color on the margin earlier. I was just wondering if you could talk about where your incremental loan production yields are at what you're seeing today? I know the curve's been all over the place, but given where we are today, what are you guys seeing?
Basically on the low end, 6.5%, on the high end, 8%, and they're fluctuating within that range.
Got it. You got a decent amount of upside there from your average yield on the quarter alone, over the next few years.
Absolutely. We averaged five for the quarter, if I remember correctly. There is quite a bit of upside available. That's correct.
Yeah. Sounds good. Just a quick one on expenses. Appreciated the 1Q outlook. I know you guys have your merit increases in 2Q, I think midway through. If you have any visibility into, you know, how much of a step up you guys are expecting from that in 2Q and maybe into 3Q, we'll get the full quarter impact by 3Q, that'd be great.
Yeah. I'll take this one. From the, you know, merit increase, historically, we increased about, you know, 3%-4%. I think, from the dollar-wise, I think it'll be consistent with the increase what we had last year. it's gonna probably add another, $2 million-$3 million additional, yeah. it's gonna be about, I think, calculating about $2 million additional expenses starting the second quarter.
Yeah. Okay, great. Maybe one last one on deposits. Was wondering how much in the way of public deposits you guys have left after the decline in 4Q. Are you guys still thinking about core deposit growth of that roughly 2% you were talking about before, or has that changed at all? you know, last one, how are you thinking about deposit betas for the cycle at this point? Thanks.
May take some of it on.
Yeah, go ahead.
On the public funds, we ended the year at about $3.3 billion, that's about where we are right now. I think it's safe to say that we have a good relationship with all of our public fund customers. With tax pool and other rate payers like that, above 4% right now, it's in our best interest, we believe, to let some of that money go at those rates instead of paying that ourselves. That has no indication that we don't have a good relationship with those public funds. We still have their operating accounts, and we still have their day-to-day dollars with us, we don't see that changing.
We do have several bids coming up this year. That's always a challenge because some banks are tend to be overly aggressive and some tend to be reasonable. We just deal with that on a case-by-case basis. I think, I think we feel good about where we are on public funds right now.
I think as far as the 2% increase, I would... You know, it's hard for me to say that we would grow 2% because just because the interest rates, some of the rates other banks are paying are pretty high, and we haven't chased the rates. Normally I would always tell you it's a lay down that we're gonna be 2%-4% organically, I couldn't tell you that right now. We still wanna see where the deposits stabilize for ourselves even right now.
Yeah. Probably Asylbek Osmonov is the best guy to answer on, I think you asked about beta as well through the cycle.
Yep.
I think I know where it is, but Asylbek is on top of that one.
Yeah. If you look at just cycle, and I'll tell the cycle before the December rate increases, over 3.75 Fed rate increase, our beta for the interest-bearing deposit was like 20 basis points. If you just look at total deposits, like 12 basis points over that period. It's running less than what we project in our IRR report. As we know, the betas, you know, start slow and kind of ramps up a little bit. We're not at the beta-wise, we're not there yet what we had experienced back in 2015 or 2016 when the rate increased. We feel very good about that, but I think there's a competition going on the deposits, and I think it's gonna put a little bit of pressure on us.
Yeah. I mean, it's not only deposits with competitors. You know, like, I don't know, it may be 10, 15, 20 years since we've been, so I can't give you as much of a scenario where we've not had deposit growth. But you know, people are going out and you can buy a 4.2% treasury for two years, and there are just other options, and people are looking at some of that stuff. That's why it's hard to really. If historically we had something to model it on, we could give you a better opinion. We're just watching it and making changes as we need to on a daily basis. Again, this hasn't happened so long in banking.
Last previous year, as you know, we've had all the helicopter money that came in at $2 billion-$3 billion a year. We're trying to see where it all lines out and where it stabilizes.
Okay, great. Thanks, guys. Appreciate the call.
The next question comes from Peter Winter with D.A. Davidson. Please go ahead.
Thanks. Good afternoon. Credit obviously the hallmark for you guys. When I look at that reserve coverage, it's 10 times the non-performing loan. The question is: Can you guys still keep a zero provision expense this year even with a mild recession?
Yeah. I can maybe give a little bit color. You know, we run the model and as we explained before, you know, we have a base scenario, and we also bake in the recessionary scenarios. Based on the two scenario combined that the allowance levels we have right now is considered appropriate. I think going forward, we just have to run the models and see where the economy is that time and to see where the allowance will be.
I mean, the first time we, you know, we used in the model, we had a COVID variant in there, so we were high using that. Then we went to oil. I think at some point we used that. Right now, the, you know, there's some talk of a recession in this year. You know, that allows us to keep more money in the reserve using those variables like that.
Yeah. I think it's highly dependent on how high rates get.
Right.
That remains to be seen. If for some reason population growth should slow down or even go the other direction in Texas and Oklahoma, that would have an impact on it. We don't foresee that, but things happen in life that you don't foresee. You know, I think to answer your question is, certainly at this point in time, we wouldn't anticipate right away an increase in the reserve. As the year plays out, we just have to watch some of those things that I just mentioned.
Mm-hmm.
Yeah. Well, last thing I'd add, and I think Tim covered it in his prepared remarks, was that, we did move up, NPAs moved up to, what? $27 million from $19 million or $20 million.
You know, most of that was just some loans that didn't get renewed at year-end that have subsequently been renewed, so that number's back down to where it had been. In terms of stress, we haven't seen any yet. That doesn't mean, you know, we can walk out of this meeting and get a phone call that somebody stumbled, but we're watching it, and we feel good about where we sit.
That's correct. you know, a wild card is always the price of oil and gas. Right now it's good, it's stable, but it never stays the same. If we've learned anything, we've learned that. Next year, we still think it would probably be stable, but we'll just have to see where it goes.
Okay. Just second question, just I realize regulators operate kind of in a, in a black box, when you first announced the two acquisitions, the thought was you were gonna close it in the first quarter. Now, you're saying in the first half of the year. One, does that impact the synergies from the deal, the accretion to the deal, maybe pushes out a little bit? Two, you know, are the regulators saying anything that causing to, you know, change a little bit in terms of the timing of closing the deals?
Well, I'm blaming that statement on our general counsel. She went from closing in the first quarter to the first half just to be, you know, just to be cautious on the deal with everything happening. I mean, I think we're still trying to shoot for a first quarter closing, but, you know, she felt that we should put the first half just because of the way things are in the regulatory environment right now.
I think it's important to emphasize, we don't have an answer yet from the regulators. Until we do, we can't schedule a closing.
All right. Okay. Thank you.
The next question comes from Manan Gosalia with Morgan Stanley. Please go ahead.
Hey, good afternoon.
Good afternoon, Manan.
I had a question on, you know, on NIM, and just given the positive dynamics that you have on the securities side, how should we think about the potential downside in NIM if the Fed begins cutting rates in the back half of this year? You know, should that actually be maybe a little bit of a benefit in the near term if deposit competition alleviates and your securities keep repricing higher?
I think overall big picture, I mean, even the Fed would decrease rate. We don't know, we're just speculating if they would and how much. We're still in the bond portfolio, we're sitting less than 2%, so even the decrease, I mean, there's still a lot of upside for us and also on the loan. Even we if there's a foreseeable future, you see the decrease, I think we still have upside. Definitely you're right, I think from the cost perspective on deposit cost, definitely help the decreased rate environment.
I think it probably helps on mergers and acquisitions too. It'll change the valuation of the loss in the portfolio on the AOCI probably. For the most part, the yields that we have in the bond portfolio today really reflect a time and period that we've not seen before in banking, where interest rates were at 0. In any type of normalization of rates, we stand to benefit on a repricing too.
Got it. Then maybe to round out the discussion on the funding side, can you help us with how we should think about FHLB and CDs as a source of funding? To the extent that deposit pressure accelerates from here, you know, how much room do you have to bring your loan-to-deposit ratios up versus the 66% or so it is at right now?
First of all, we have the capability to borrow $15 billion if we want overnight, just because of our pledging that we have at the Federal Home Loan Bank. For the most part, you can jump in also, but we have a certain amount of bonds that just rolls off every year, which is about $2 billion, close to $2 billion. Instead of buying securities like we have in the past, we would take that money and either put them into the loans that we discussed, the growth in loans, and also the reduction in the debt. The banks that are joining us will probably take a certain portion of their liquidity instead of reinvesting it and probably pay down the Federal Home Loan Bank too.
It'll probably be a combination of money that we get from pay downs, in our own portfolio and also the banks that join us. Lone Star doesn't really necessarily have a big portfolio, but the other one I'd have to look and see, but we're looking at doing that and probably using that money just to pay down the Federal Home Loan Bank probably.
Got it. It feels like you wouldn't be leaning into CDs at all?
You know, I think that people are gonna move money in CDs over time just as rates, if rates stay higher like they are. Again, we're, you know, we've not been the type of bank that goes and advertises in the paper for CDs or high CD rates or really any high rates, you know? That, you know, that may change. We don't see that right now, but historically, that's just not something. We've never chased the money before because we've had so much liquidity and, you know, we still have tremendous amount of liquidity. When you, when you look at our ability to borrow and the core deposits that we have.
Great. I appreciate it. Thank you.
The next question comes from Matt Olney with Stephens. Please go ahead.
Hey, thanks. Good morning, everybody.
Good morning.
Good morning.
I wanna drill down on deposit pricing, I think last quarter you mentioned that early in 4Q, you increased some of the posted rates across the network, and obviously we saw that in the 4Q results and some of the deposit pricing pressure. Asylbe k, you mentioned incremental deposit pricing pressure in 1Q. Any notable changes in the deposit posted rates, over the last few weeks or months?
Yeah, End of December, we increased our deposit a little bit again, but overall, if you look at the, you know, third, fourth quarter, our beta was overall on interest-bearing deposit for the fourth quarter was like 30 basis points. Right now we sit there, we might increase a little bit rates on deposits, but we don't have a specific how much of an increase will be.
You know, if you remember our last meeting, Matt, or last time, I said that probably we saw interest rates going up and really our money market rate was hardly at anything, 50 basis points at that. I mentioned that our net interest margin would probably go down 5 or 6 basis points, which it did, because we did take our money market account all the way up to 2.25%. We also offered in one of the CD products, if you went for 22 months at 3.5% on that. Those are the two things that move.
I would say if we go up some more, it'll be, what, you know, if we see a quarter of a point increase in February and a quarter of a point in March, you know, our model has it that we're gonna go up 65 basis points of that. What's 60 times 6%? 6% of 50.
30 basis
... 30 basis points or something like that. You could see us still raise, you know, in our modeling that could go up, too. Now, if we saw something that really changed, and there was so much competition, and money was just flowing out of the bank or something, we might have to go up more or something like that. Again, I don't think any of that changes our modeling. We've never been a quarter-to-quarter player. We've been a long-term player. Our net interest margin over time, no matter how you cut it, is still real positive. The reason we raised rates last time is because we had core customers, and we wanted to be more fair with them and give more to them. You know, even if that happened again, we would do that.
Again, it's still not going to change the longer term outlook of the net interest margin.
Yeah, Matt, this is Kevin. I'd just add, you know, with the cash flows coming off the bond book, you know, our loan deposit ratio sub 70, we've got a little room to let that loan to deposit ratio drift up and protect margin, at least in the short run.
Right.
Yep. Okay.
I think we even improve your margin just if you can keep up your loans, too.
Yeah.
I'm not even saying 10%. If, you know, you pick up 2% or 3% on a couple billion dollars worth of loans, you really improve your margin dramatically.
Sticking with the deposits, I was encouraged that your on the average basis, your non-interest-bearing deposits were pretty flat in 4Q from 3Q. Most of your competitors are seeing some pretty big pressure there. Any color on your depositors and maybe how they're unique versus some of your other public bank peers in Texas?
I just. You know, we see some of our depositors. I think there was a lot of money that came into the banks with the helicopter money and people that had investments everywhere else. Nobody was paying anything. You know, you see some depositors, some of our. I think it's really, you know, some of your bigger depositors, like I watched, and I was at a trust committee meeting day before yesterday, and I saw where this customer put he had $15 million with us in the bank, but he moved it over to our trust department because our trust department was hiring another higher rate from a Goldman Sachs or something like that. We are seeing some of that at the same time. Are you getting color?
I just think greater percentage of retail deposits, more granularity, drives some of that for us compared to some of our Texas peers anyhow, that may be more commercial deposits. It's these small towns where we have really big market shares and granular portfolios. Where we're getting pressure or people that ask us to come off of our rate sheets tends to be from professionally managed money. Bigger company that's got, you know, $50 million, $60 million, $70 million in the bank, that's got a CFO that's keeping track of things.
We can count those on our hands.
Right. There's only a handful of those.
Yeah. Right.
They're willing to work with us.
Right.
That's kind of. We don't have to go all the way to the market. It's usually a conversation between either Eddie and David, Tim, and myself that, hey, let's take these guys to 2.50% or 2.75% if our rate sheet's 2.25%. And thus far, anyhow, they've kept most of the money with us.
Yeah, I think what you've just said, Kevin, is 100% correct. I would say when I said previously that we have a good relationship with our public fund customers, I think that's the same with all of our deposit customers. They don't tend if they feel like they need a higher rate, they don't tend just to take money out of the bank and put it somewhere. They tend to contact us first and we talk about it. While we do have to go up sometimes, we typically don't have to go four and above. At least that's been the case so far. I think, you know, there is upward pressure on deposit rates, but I don't see it getting out of hand.
I think it's relatively stable, and I think we have the kind of relationship with our customers where it can be managed.
Yeah. I said this on the last call too, in this rate environment, from a guy who ran a, you know, 95%, 98% loan to deposit ratio bank, ex the warehouse. With the warehouse, you know, I was running 110. I'm glad to be sitting in this room.
Okay. Appreciate all the color, guys. Then just one more on loan growth. It looks like the drivers of that 4Q loan growth was from construction and single-family. Kevin, you addressed the single-family portfolio, kind of driven by yields as far as kind of the factor in 2023. What about construction? Is that gonna be the primary driver of the loan growth in 2023?
I think we're gonna see it in construction, which is funding up projects that we've approved. We got a big, very large unfunded and funding up construction book of really good customers, underwritten for rates being materially higher than they are now. I think we're gonna continue to see some success this year on the C&I side.
Yeah. Some of our markets really have some unfunded loan commitments that are really strong right now. Our Houston market had probably over-.
$700.
$700 million. Central Texas had, How much, Eddie, did you?
About $300-$400.
You know, if those hold up our, you know, our book, it looks pretty good. Again, anything can change. We just don't want to tell you something that's going to be this glorious because, you know, if you do go into a recession or something like that can all change. Overall, I think the guidelines, the guidance that Kevin gave a while ago is a really good guidance to stick with really.
Okay. Thanks, guys.
The next question comes from Jon Arfstrom with RBC Capital Markets. Please go ahead.
Hey, good morning, everyone.
Hey, Jon.
Good morning, Jon.
I'm probably not gonna ask about deposit pricing, but I guess, just stepping back, how optimistic are you on the longer term margin? You talked about putting on loans at 6%-8%, and certainly security yields are higher, and you're saying that you're not overly worried about deposit pricing. I mean, what could this margin look like in 12 or 24 months with, you know, that kind of increase in earning asset yield?
I'd give you what the model says in front of me, but somebody may shoot me if they did. I think what I would take away from it's not a question whether the net interest margin has a lot of a big increase in it. It's just when it happens. I mean, if we, you know, if we stick with not having to increase rates, a whole lot more than where we're at right now, you start seeing pretty good increases in six months. 12 months and 24 months is huge.
On the other hand, if for some reason if you, if the competition got back or we just saw tons of deposits going somewhere else that we had to change overnight, that would change the duration when this net interest margin would increase. Overall, it's, it looks extremely positive. It's just a matter of managing it really.
Timing-wise, I think the sooner the Fed goes into pause mode, the sooner this happens.
You've got, you know, an inversion factor here right now too. To me, that's a really big deal. I mean, just I mean, when your 10-year's paying 3.5 and your 2-year treasury's paying 4 too, there's that inversion factor at the same time. I don't wanna be evasive of what you're asking, John. I guess it just.
No
... it's really hard. We're trying to manage through it ourselves. Again, I've always used the term parking the Queen Mary out in a parking lot, and we've parked it quite a few times. You know, we're probably in that process right now, navigating parking the Queen Mary right now.
Yep. It ties into my next question, but I agree. I think a pause would be great for you guys.
Yeah
... and just if they held it there. This kind of goes back to the, I guess, the Queen Mary and parking lot. I'm thinking of Sugar Land.
Yeah.
You talked about the marks on M&A targets.
Right
what are you seeing there? Is this like SBNY type issues? Is it that bad yet, or do you expect it to be like that where you're gonna have bigger opportunities longer term? How big of an issue is that, and what are you seeing from some of these potential sellers? What's the message?
I think the real challenge on AOCI is if you're talking about a real large merger partner. The smaller ones you can deal with and, you know, really in some of the smaller ones that we've done, we mark to market what it is. The seller actually takes the hit on the loss. I think it's really the bigger ones that we're really looking at. It's, you know, just one of those sayings. I'd say.
It's hard to do the deal if it's big enough.
If-
... they have that issue.
If it's hard to pay what they wanted in the past, I would say it like this, and not to... If you have to mark to market on a bigger deal It just hurts your capital, your tangible capital ratio, and it's not something that we're willing to go down on that much. There just has to be some give and take. There has to be some give and take on the seller and the buyer, I think, in the future if it's a bigger deal.
Yeah. The earn back part isn't, it's very capitalizable, right?
Yeah.
The goodwill sticks forever, and these bigger deals, it runs into a big goodwill number that you don't get rid of.
I mean, from the earnings standpoint, when you look at one of these deals, when you model it out, the earnings are just if you marked everything to market are just phenomenal. I mean, because their bond portfolio may be like us. Instead of waiting two and three years to get all that money back, you're marking it to market right there. The earnings for the first two or three years just look phenomenal on a deal like that. The problem is really on the tangible capital issue, I think.
Yeah. Okay. All right. Thanks for the time. I appreciate it.
The next question comes from Bill Carcache with Wolfe Research. Please go ahead.
Thanks. Good morning, everyone.
Morning.
Morning.
I wanted to follow up on your comments around why your non-interest-bearing deposit mix has held up materially better than many other banks. I appreciate all the color that you gave. Wanted to ask if you could also discuss how much of a role earnings credit adjustments play in your relationship with some of your commercial customers, and has that been entering into the discussions more?
I'll start it off. You know, the earnings credit, again, we've been raising that. I think we raised it 10 basis points this morning, but again, we continue to raise that. I think the granularity is really the reason for the non-interest-bearing accounts. We don't have, like, 10% or 20% of our customers that control almost everything in the bank. It's, we have so many businesses and small businesses around the state, just because of the, you know, we're in metro areas, we're in small communities, and I think it's just extremely granular, and there's not one person that owns the bank, I guess, you could say. You know, it's just made up of a bunch of immigrants, I guess, from everywhere. All of that just makes it more granular, I think.
Yeah. On the ECR, while we get rate requests for off-sheet rate requests, frequently, the ECR doesn't come up all that frequent. It's that professionally managed larger corporation that's got a bunch of money with us, which we can count on a couple of hands, where those CFOs are thumping on us for ECR. We haven't had to move nearly as much as you would think.
Okay. That's very helpful.
I just haven't seen that much pressure at all on the ECR, really.
I can pick one client, that has been pretty adamant about us keeping pace and that's the only phone call I've received here in the last couple of months.
That one, that one was friendly pressure.
It was friendly pressure.
Right.
It's like, "Hey, could you meet us halfway on this thing, and we'll just call it a day?
Right.
I think specifically in that case, Tim and I had a conversation, came up with a number, went back to the CFO, and he said, "I'll take it. We're good. Talk soon." You know?
It was a very reasonable conversation.
Yeah. Yeah. That makes a lot of sense. That's super helpful color. Thank you. Separately, I wanted to circle back on the commentary about the expected improvement in NIM over the next several years as the bond portfolio reprices. I wanted to ask if there's any way you'd consider putting on swaps to potentially lock in some of the benefit of higher, the higher rate environment to the extent that, you know, we do start to think about the scenario where the Fed ends up cutting before you have the opportunity to fully see that repricing benefit show up. Curious, you know, what your thoughts are around potentially putting on swaps or otherwise using, you know, synthetic, synthetically getting it.
Historically, and again, things change all the time. Historically, when we would look at doing swaps, by the time you paid the premium to do the swap and everything, your profit was all gone. You know, in our business, primarily, our business is primary monitoring risk and taking risk, and that's, you know, we've made more money taking risk over periods of time and understanding what the risks are than paying it to somebody else. I guess that may change at some point in time. Again, from what we've looked at, we've been able to be the insurance guy ourselves sometimes.
Yep. I've had a couple of theoretical questions, you know, thought processes and discussions around that. Nothing that's caused us to pull the trigger on anything.
Yeah. I mean, if you look historically, things don't always repeat themselves. Historically, you know, we've been able to manage all types of environments without really going to derivatives in an all-in way. I think we've been able to do that, though, Tim, is because of the makeup of the bank and the depositors. There's so many.
Absolutely.
I think if you had so much of your money in high yielding money markets or CDs and if our customer base wasn't so granular and so mixed, I don't think we can do it. Because we're so mixed, we're able to do that, I think.
I think that's correct.
Where a lot of other banks aren't.
It's that and our loan to deposit ratio gives us room.
Yeah.
We're not under the pressure some are.
That's really helpful. If I may squeeze in one last one. In an environment where rates do stay higher for longer as the Fed proceeds with QE, I'd love to hear, David, from you and the rest of the team, how you're thinking about the risk that the mix of non-interest-bearing deposits may not just go back to sort of the 2019 pre-COVID levels, but could potentially overshoot back towards even pre-GFC levels. Of course, back then, everyone's non-interest-bearing mix was much lower.
I don't know that ours was a whole lot lower. What are we at, 30 something % right now? What are we at?
Yeah, I think it's 34.
Thir-
38%.
38. We were probably before that, we were probably averaging about 30%, 35%.
That's correct.
Something like that. I don't see a tremendous amount of change. Again, I just think it's a real granular deal, I really don't see that happening.
It could lessen, but I don't see it falling dramatically.
I think it will change, though. I think you're going to see depositors take money out, sometimes out of checking accounts or even interest-bearing checking accounts, and smaller accounts are going to start. If these rates stay where they're at, they're going to go into CDs and stuff like that. I do think you'll see a mix where you have less than 10% of your money in CDs. You know, I don't think we'll get back to where it was at one point. At one point, we had, what, 20% or 30% of our money in CDs?
Yeah.
I don't see that.
25 or so, yeah.
I don't think it'd be unreasonable to say that you could have 20% of your money in CDs again one day if rates stay up where they're at like this.
Well, we're at 7% now, and that's low.
It's really low. It's low. We're not paying anything. That's the problem.
That's the opportunity.
Yeah.
That's fantastic. Thank you again for taking all my questions. Really appreciate it. It's very helpful.
This concludes our question and answer session. I would like to turn the conference back over to Charlotte Rasche for any closing remarks.
Thank you. Thank you, ladies and gentlemen, for taking the time to participate in our call today. We appreciate your support of our company, and we will continue to work on building shareholder value.
The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.