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Edited Transcript of HTH earnings conference call or presentation 1-May-20 1:00pm GMT

Q1 2020 Hilltop Holdings Inc Earnings Call

DALLAS May 18, 2020 (Thomson StreetEvents) -- Edited Transcript of Hilltop Holdings Inc earnings conference call or presentation Friday, May 1, 2020 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Erik Yohe

Hilltop Holdings Inc. - SVP of Corporate Development

* Jeremy Blue Ford

Hilltop Holdings Inc. - President, CEO & Director

* William B. Furr

Hilltop Holdings Inc. - Executive VP & CFO

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Conference Call Participants

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* Brady Matthew Gailey

Keefe, Bruyette, & Woods, Inc., Research Division - MD

* Edward Christopher Gamaitoni

Compass Point Research & Trading, LLC, Research Division - MD & Head of Research

* Matthew Covington Olney

Stephens Inc., Research Division - MD

* Michael Edward Rose

Raymond James & Associates, Inc., Research Division - MD of Equity Research

* Michael Masters Young

SunTrust Robinson Humphrey, Inc., Research Division - VP and Analyst

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Presentation

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Operator [1]

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Good day, and welcome to Hilltop Holdings First Quarter 2020 Earnings Conference Call and Webcast. (Operator Instructions)

Please note today's event is being recorded. I would now like to turn the conference over to Erik Yohe. Please go ahead, sir.

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Erik Yohe, Hilltop Holdings Inc. - SVP of Corporate Development [2]

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Thank you, and good morning. Before we get started, please note that certain statements during today's presentation that are not statements of historical fact, including statements concerning such items as our outlook, business strategy, future plans, financial condition and the impact and potential impacts of COVID-19, are forward-looking statements. These statements are based on management's current expectations concerning future events that, by their nature, are subject to risks and uncertainties.

Our actual results, capital and financial condition may differ materially from these statements due to a variety of factors, including the precautionary statements referenced in our discussion today and those included in our most recent annual report and quarterly report filed with the SEC.

Except to the extent required by law, we expressly disclaim any obligation to update earlier statements as a result of new information.

Additionally, this presentation includes certain non-GAAP measures, including tangible common equity and tangible book value per share. A reconciliation of these measures to the nearest GAAP measure may be found in the appendix to this presentation, which is posted on our website at ir.hilltop-holdings.com.

With that, I'd like to turn the presentation over to our President and CEO, Jeremy Ford.

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [3]

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Thank you, Erik, and good morning. My, how the world has changed since our last earnings call. We hope that you and your families are healthy and handling the current COVID-19 pandemic as best you can.

Before getting into the results for the quarter, I would like to spend a few minutes going through our organization's approach to the pandemic and some of the actions we have taken.

Since the onset, we have worked hard to ensure the business continuity of Hilltop and our operating companies. Our highest priorities have been to ensure the safety of our employees and their families and to ensure our customers have the access and resources they need during this unique and challenging period. Of our nearly 5,000 employees, approximately 65% are currently working from home, with the remainder still coming into offices and branches to meet with customers on an employment basis and to execute critical functions.

We have extended our health benefits to cover COVID-19 testing for all employees and their family. We have enhanced cleaning and maintenance procedures across all locations and are monitoring any positive or presumptive positive COVID-19 cases across our organization in any shared office locations.

We are facing a lot of uncharted territory with the current situation, but I am proud of how our business leaders and their teams have responded. As well, I would like to commend our employees for their courage and commitment during this stressful time.

Moving to Slide 4. 50 -- currently, 58 of our 61 PlainsCapital Bank branches are open for appointment, along with 130 of our 300 PrimeLending mortgage branches. Though certain branches are not open, almost all of the employees associated with those branches are still able to fully service their clients remotely.

Bank ATMs and drive-thru capabilities are still functioning at 100%, and we have introduced fee relief for multiple situations. We are supporting customers on a case-by-case basis with different loan modification and deferment programs.

As of April 23, we have worked with over 300 clients to help with deferments or restructurings, equating to $253 million of loans, with more in the pipeline.

Notably, all payments deferral requests must be need-based and require at least a senior credit officer approval. We are working with the FDA to execute the Paycheck Protection Program and have registered over 3,100 applications equating to $777 million in loans.

Our bank employees have been working around the clock to get these loans processed and funded. And as of last Friday, we had funded nearly 2,000 loans for $585 million. Given an average loan size of $282,000 for the funded loans, our bankers are truly supporting the small communities that drive our -- small businesses that drive our local community.

With the newly approved funds for the program, we have an additional pipeline of close to $60 million that we aim to process as well. Although the economy has entered into a recession, we believe the prior decisions and recent preparations made to strengthen our capital and liquidity alongside our conservative lending approach puts us in a strong position to weather even a severe economic scenario.

Hilltop Consolidated and PlainsCapital Bank are well capitalized, with approximately $513 million and $167 million, respectively, of excess capital as of March 31, 2020. This equates to $740 million and $357 million, respectively, of capital above regulatory-defined well-capitalized levels, including the conservation buffer.

From a liquidity perspective, management began evaluating actions to further strengthen our bank's liquidity position starting in February, and since then, has raised additional funds through broker deposits and by increasing the availability of our HilltopSecurities suite deposits. The bank is primarily funded by deposits, which is reflected in our loan-to-deposit ratio of 98%, including loans held for sale.

Additionally, we maintain just under $3.9 billion of borrowing capacity at the Federal Home Loan Bank, of which $3.6 billion was available with the utilization of only 6% as of March 31, 2020. We are in a stronger liquidity position today than when the pandemic began impact markets late in the first quarter.

From a credit perspective, no bank is going to be immune from the impact of this pandemic and the shelter-in-place orders issued around Texas and the rest of the country.

Additionally, the decline in oil prices has created another set of economic challenges in Texas. While we are unable to accurately forecast the impact these will have on our business and future earnings, we do anticipate a higher level of credit losses and a reduction in overall lending, and the potential for negative impacts to our mortgage purchase volumes and trading portfolio.

Our response to the current pandemic has been quick and well-coordinated across all of our businesses. We are focused on taking care of our people and our customers, and we'll continue to make those our top priorities.

Financially, we are well positioned with excess capital and sources of funds that are diversified and accessible. From a risk management perspective, we have scoped our at-risk industries and are actively monitoring and mitigating them as we work with our borrowers during this challenging environment. Will is going to provide additional details on our impacted and energy loan portfolio later in this presentation.

Now moving to Slide 5. I'll provide an overview for the first quarter. Notwithstanding the challenges in the economy and the market, our results for Q1 2020 were very positive and a good example of our diversified business model. We reported first quarter 2020 net income for Hilltop Consolidated of $49.6 million or $0.55 per diluted share, an increase from the first quarter of 2019 of $10.9 million or $0.13 per diluted share.

Return on average assets for the period was 1.5%, and return on average equity was 9.4%. Please note, these are HTH Consolidated results, and we have called out the discontinued operations figures below.

Discontinued operations include our insurance company, National Lloyds, which we believe remains on track to close in the second quarter.

At PrimeLending, mortgage origination volume of $3.6 billion increased 48% compared to the first quarter of 2019, as the decline in rates pushed refinance volumes up. Having strong fee businesses like PrimeLending and HilltopSecurities in the current environment is a tremendous advantage for us from a diversification of risk and earnings standpoint.

Average loan growth in the quarter of 6% compared to prior year was driven by National Warehouse Lending, that was positively impacted by lower rates and the increase in the mortgage refinance market.

Additionally, average deposits grew by $650 million or 8% from Q1 2019. Growth in deposits has been a mix of noninterest and interest-bearing deposits, with interest-bearing adding $440 million year-over-year and $164 million since Q4 2019.

At HilltopSecurities, January and February were particularly strong, from the impact of both the mortgage industry and high asset valuations in managed accounts. In March, as market uncertainty increased, we proactively reduced limits and positions across the businesses, but did experience a significant mark on the TBA pipeline.

Overall, the Fixed Income and Wealth Management businesses had strong quarters that offset declines in the Structured Finance business.

During the first quarter, Hilltop repurchased 700,000 shares for a total of $15 million of the Board-authorized $75 million for the full year 2020. However, given the fallout from the COVID-19, we will be suspending buyback activity until further notice. That said, the dividend has been maintained at a prudent level, and while management is monitoring the credit and economic impacts resulting from the virus, there is no recommended change to the dividend at this time.

On January 1 of this year, we introduced CECL. Since the beginning of the year, we have been in a very volatile market where assumptions are changing rapidly, and will continue to do so over the coming quarters. Our allowance for credit losses as of March 31, 2020 was $107 million, an increase of $33 million. We use a scenario, much like many others, that projects a significant deterioration over the next few months with improvements coming later in the year. Then new assumptions are coming out, and we will continue to model accordingly. We will talk through our CECL process and provide further detail on credit and loan portfolios later in this presentation.

Moving to Slide 6. Total pretax income for HTH Consolidated was $70 million for the quarter, an increase of 35% over first quarter last year. The bank's decline in income can be primarily attributed to the $34 million loan loss provision. Aside from the provision expense, the bank had a nice quarter. Though NIM was under pressure, net interest income increased as asset balances increased, and the bank's efficiency ratio declined to 55.5% from 58.8% a year ago. Work being done within the bank around overhead and branch optimization continues to progress, and we are seeing meaningful improvements.

As mentioned earlier, the introduction of the government's PPP program and the overall demands placed on our bankers from the pandemic has been very high. I am very proud of Jerry and his leadership team and all the people working to support our customers during this stressful time. The volume of PPP applications over the past few weeks has been unprecedented for our bank, and our people have stepped up to support small businesses and communities across Texas.

Compared to what is historically a slow mortgage quarter, PrimeLending started the year strong and volume increased as the 10-year declined throughout the quarter, accelerating into the end of March.

Pretax income increased $37 million from the first quarter 2019, driven by higher volume and relatively stable gain-on-sale margin of 325 basis points.

From a risk standpoint, our business model of selectively retaining loans is focused on enabling us to originate certain mortgage products as opposed to building a long-term mortgage servicing asset. As a result, our servicing portfolio is relatively small for our size and reflects approximately $1.5 billion or 10% of our annual originated volume. The Broker-Dealer reported an 18% pretax margin for the period and an increase in income by $1.8 million from the prior year. Market volatility in the quarter drove higher revenues across multiple business lines.

Our leadership team at HilltopSecurities continues to do a good job of managing the risk and daily liquidity needs that arise from a market that has been as dynamic as this has been over the past few months.

National Lloyds' underwriting income improved year-over-year, as lower loss experience led to an improved loss in LAE ratio of 39.7%. However, NLC did take mark-to-market losses on its equity investment portfolio of $4.4 million, consistent with the broader market decline in March.

Overall, we are pleased with our first quarter performance considering the tough conditions facing everyone. We have a history of conservative lending and a strong balance sheet supported by a diversified and low-cost funding model. And we have a diversified business model with a strong foundation that we have continued to invest in for times such as these. With that, I will now turn the presentation over to Will to talk through the financials.

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [4]

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Thank you, Jeremy. Before I get started, I want to review a few items that have impacted our presentation during the first quarter. First, as Jeremy mentioned, we have moved National Lloyds into discontinued operations as we continue to make steady progress toward the closing of the pending sale of that business.

Please refer to the footnotes on each slide for references to the basis for the presentation, whether consolidated or continuing operations.

Secondly, on January 1, 2020, we adopted CECL, new accounting standard for credit losses. Further, we have elected to phase in the impact of this adoption over 5 years. And the impact of this election is reflected in our capital ratios as presented throughout the presentation.

Now I'll start on Page 7. As Jeremy discussed, for the first quarter of 2020, Hilltop reported consolidated net income attributable to common stockholders of $49.6 million, equating to $0.55 per diluted share. Income coming from operations attributable to common stockholders equated to $46.5 million or $0.51 per diluted share.

During the first quarter, National Lloyds generated earnings of $3.2 million. Hilltop's continuing operations generated $100 million of pre-provision net revenue, or PPNR, during the first quarter, which increased by $55 million or 120% versus the prior year period. Growth versus the prior year period was driven by our diversified revenue streams and led by strong mortgage originations.

During the first quarter, revenue related to purchase accounting was $6.7 million and expenses were $1.3 million, resulting in a net purchase accounting pretax impact of $5.3 million for the quarter.

In the current period, the purchase accounting expenses largely represent amortization of deposits and other intangible assets related to the prior acquisitions.

As we enter the early phases of the pandemic, which has brought on significant uncertainty surrounding economic growth, Hilltop's capital position remains strong, with a period-end common equity Tier 1 ratio of 15.96% and Tier 1 leverage ratio of 13.08%.

I'm moving to Page 8. As previously noted, Hilltop adopted CECL during the first quarter of 2020. As a result of the adoption, day 1 allowance for credit losses increased by $12.6 million, with the largest portion of that increase being the transfer of the credit discount that remained on our purchased portfolios in allowance -- into allowance for credit losses. The capital impact of the day 1 transition was approximately $6 million.

Further, during our day 2 assessment, as of March 1, Hilltop recognized deterioration in 2 credits, one in the energy portfolio and the other in the Houston real estate portfolio. The combination of the noted deterioration in these loans contributed to certain specific reserves totaling $17.6 million during the quarter.

Additionally, as a result of the significant deterioration in the economy, driven in principle by the pandemic, and the acute strength of oil price declines in our energy portfolio, Hilltop recognized a significant build in the allowance for credit losses during the first quarter related to economic factors, which also include all qualitative assessments related to our portfolios.

Our economic assessment assumed unemployment to rise to approximately 9% during the second quarter of 2020, and would rebound to approximately 6% during the fourth quarter of 2021.

Further, the scenario presumed that GDP would fall by approximately 18% during the second quarter, and then during the third quarter would began to rebound and would grow at a more stable pace into 2021.

In total, Hilltop recognized $34.5 million of provision expense related to our loans-held-for-investment portfolio, including $1.5 million of net charge-offs during the first quarter. This resulted in a net increase in the allowance for credit losses on our loans held for investment of $33 million.

In recent weeks, market estimates for the negative economic impact of the pandemic have deteriorated. We continue to monitor both the economic outlooks from a number of sources as well as the performance of our portfolios to determine the impact on our credit reserves. If it remains the case that the actual economic data and the outlook for our critical metrics continue to deteriorate, Hilltop may require additional credit reserves in coming quarters.

As we've noted, we do expect the allowance for credit losses could be volatile in the future given significant shifts in the economic outlook from one reporting period to another.

I'm turning to Page 9. Net interest income in the first quarter equated to $110 million, including $6.7 million of purchase accounting accretion previously mentioned.

Versus the prior year quarter, net interest income increased by $2 million or 2%. Somewhat offsetting net interest income growth, which was driven by higher average assets, including loans held for sale, was a decline in purchase accounting accretion of $1.9 million versus the first quarter of 2019. We expect the purchase accounting accretion will continue to decline throughout the balance of 2020 as the balances of the previously purchased loans continue to decline.

Versus the fourth quarter of 2019, both average HFI loan yields and average HFS loan yields have declined by 6 and 13 basis points, respectively. These declines in loan yields reflect both the lowering of the rates by the Federal Reserve during the first quarter and the ongoing competitive pressures.

The Federal Reserve has reduced the target range for the Fed funds rate to 0 to 25% -- 25 basis points. This decline resulted in a portion of our loans falling to their contractual floor levels.

In our loan portfolio, approximately 55% or $3.6 billion loan balance were variable rate loans. Of the variable rate loans, 67% or $2.4 billion are currently at their contractual floors. We do expect that these contractual floor rates will help to provide value and additional stability in our net interest income throughout this rate cycle.

Interest-bearing deposit costs decreased 17 basis points versus the fourth quarter of 2019. Overall interest-bearing deposit betas have lagged through the early quarters of this rate cycle, and we expect to continue to manage our deposit costs lower over the coming quarters.

During the first quarter, average loans held for sale increased by $605 million versus the same period in the prior year. We do expect that these balances will remain elevated through the second quarter, as March 2020 mortgage loan locks of $3.7 billion were substantially elevated versus normal seasonal levels.

Moving to Page 10. Total noninterest income for the first quarter of 2020 equated to $272 million. First quarter mortgage-related income and fees increased by $61 million versus the first quarter of 2019 as mortgage rate locks during the first quarter equated to $7.2 billion, which was a record for PrimeLending.

During the first quarter of 2020, the environment in mortgage banking remained strong, and our business outperformed our expectations in terms of origination volumes, principally driven by lower mortgage rates, which drove improved demand for both refinance and purchase mortgages.

Versus the prior year quarter, purchase mortgage volumes increased by $291 million or 14%, and refinance volumes increased by $884 million or 223%.

While volumes during the quarter were strong, gain on sale margins compressed versus the prior year by approximately 5 basis points as the mix shift related to the higher percentage of refinance volume lowered our secondary margins.

Securities fees and commissions improved versus the same period in the prior year by $7 million as ticket volumes and overall activity increased as a result of the additional volatility in the marketplace.

Versus the prior year period, other income declined by $12 million, driven primarily by a $20 million unrealized mark-to-market loss on the mortgage pipeline and our Structured Finance business.

While the markets have been functioning more normally over the last few weeks, there were periods during March where significant dislocations were present, including very limited liquidity for certain sectors across our business.

In particular, mortgage product pricing moved materially, causing our pipeline value to change significantly in the period. If pricing stabilizes, as these loans are funded, we could recoup a portion of this unrealized loss.

Turning to Page 11. Noninterest expenses increased from the same period in the prior year by $3.2 million or $282 million. The growth in expenses versus the prior year were driven by an increase in variable compensation of approximately $14 million at PrimeLending and HilltopSecurities. This increase in variable compensation was linked to strong fee revenue growth in the quarter compared to the prior year period.

Over the past 8 quarters, we have continue to make progress in aligning our businesses to the current market conditions and driving efficiencies across the franchise. Through these efforts, headcount, non-variable compensation, professional services costs, and marketing and development expenses continue to trend lower as we make progress against our efficiency initiatives.

During the first quarter, Hilltop incurred $1.9 million of costs on $5.3 million of spending related to ongoing core system improvements. We are moving into the final stages of implementation of the new loan origination system at PrimeLending and beginning the implementation of the new platform at HilltopSecurities. Both of these implementations will bring significant value to our franchise and positions Hilltop for profitable growth in the future.

Turning to page 12. Total average held-for-investment loans grew by 6% versus the first quarter of 2019. As noted previously, growth versus the same period of the prior year was driven by growth in our mortgage warehouse lending business and growth in the real estate portfolio.

Loan yields declined throughout 2019 and continue to decline in the first quarter. But lower market rates, including the primary and LIBOR rates, coupled with purchase loans -- lower purchase loan accretion have contributed to the yield decline. We do expect that loan yields will continue to be pressured in the coming quarters as market rates remain low, and we had over $775 million of PPP loans that yield 100 basis points to the balance sheet.

Lastly, our new loan pipeline remains stable, with many clients are delaying pricing and funding of new loan commitments until they have greater clarity into the economic impacts of the pandemic.

Turning to Page 13. During the quarter, net charge-offs remained low and equated to $1.5 million or 9 basis points of total HFI loans on an annualized basis.

In the upper right graph, we note that nonperforming assets have increased during the quarter. The increase is related to the adoption of CECL in the first quarter and the deterioration of certain loans during the quarter, which significantly impacted nonperforming loans.

First, the impact of adopting CECL accounts for $13 million of the increase, as loans with prior discounts were grossed up and the associated credit discount was moved into allowance for credit loss.

Secondly, we transferred an energy-related credit and 2 real estate properties in Houston to nonperforming.

In combination, these credits accounted for $39 million of the increase. The credits that were moved to nonperforming experienced significant deterioration from the combination of pandemic and the significant decline in oil prices during the quarter.

In the graph on the bottom right, Hilltop's allowance for credit losses to bank loans held for investment increased to 1.56% during the quarter.

I'm turning to Page 14. In response to the strong mortgage activity during the month of February and March as well as the uncertain implications of the pandemic, Hilltop again takes a series of steps to expand our liquidity position during the quarter. PlainsCapital increased its suite balances from HilltopSecurities to $1.5 billion prior to the end of March.

Further, our treasury team was able to secure $745 million in brokered money market and brokered CD funds from the wholesale market. The weighted average cost of the brokered money market funds is approximately 30 basis points, while the CDs have a weighted average cost of approximately 105 basis points and mature across a 3-, 6-, 9- and 12-month time horizon.

These actions were the cause for the substantial increase in interest-bearing deposits during the first quarter of 2020. It is notable that noninterest-bearing deposits have continued to grow through the early stages of the pandemic and now equate to $2.9 billion.

Moving to Page 15. As noted earlier, Hilltop took substantial steps to increase liquidity during the first quarter, and those steps have continued into April. As of March 31, PlainsCapital's cash, securities and secured borrowing capacity equated to $5.1 billion or approximately 30% of our total assets. During April, we continue to improve our liquidity position by securing additional broker deposits and have experienced positive client deposit flows.

I'm moving to Page 16. During the first quarter of 2020, PlainsCapital Bank generated $11.5 million of pretax income during the quarter. The quarter's results reflect the benefits of growth in National Warehouse Lending as well as solid expense reductions versus the prior year. However, these benefits were substantially offset by the credit reserves related to the deterioration of 2 credits, as previously noted, and the impacts associated with the CECL adoption. In response to the pandemic and the unknown economic impacts, we have suspended the retention of single-family mortgages by PlainsCapital Bank at this time.

Turning to Page 17. To provide further clarity into the loan portfolio of PlainsCapital, the table provides an overview of the nonenergy loan segments that we believe could be most impacted by the pandemic.

In total, these portfolios represent $1.1 billion or 16.5% of loans outstanding. Over time, as the stress of the pandemic becomes clearer, we may add additional segments to our enhanced assessment reviews. Our priority in managing these exposures as well as other loans that come under stress related to the pandemic, oil prices or any other unforeseen challenges is to protect the principal balance outstanding and Hilltop's capital while working with our customers to help them through these challenging circumstances.

Further, we are supporting our clients as they work to assess CARES Act, PPP and Health Care Enhancement Act and other alternatives that they may have to weather this pandemic.

As Jeremy mentioned earlier, we have processed approximately $775 million of PPP loan requests and have provided borrowers with balances of approximately $250 million with payment deferrals in forbearance as of April 23. Further, we do expect the number of payment deferrals will continue to rise in the coming quarters. As of March 31, Hilltop maintains an allowance for credit loss on these portfolios of $16 million or 1.45% of the outstanding balance.

I'm moving to Page 18. While the pandemic has impacted a number of portfolios that were otherwise performing well in prior periods, the energy sector had been experiencing challenges before the pandemic struck the United States. As such, Page 18 provides an overview of Hilltop's current energy portfolio.

In total, the energy portfolio represents $146 million of outstanding balances and $66 million of unfunded commitments, for total exposure of $212 million. Noted in the graph at the bottom left of the page, Hilltop has progressively reduced credit exposure to the energy sector over the last 4 years, with the concentration falling from 4.4% to 2.1%.

As noted earlier, we incurred a $12.5 million specific reserve on a large services credit during the quarter.

As of March 31, our allowance for credit losses equated to $13.7 million or $9.4 million of the outstanding balances in this portfolio.

Turning to Page 19. PrimeLending generated a pretax profit of $39.8 million for the fourth -- for the first quarter of 2020, driven by strong origination volumes that increased from the prior year by $1.2 billion or 48%. As noted earlier, gain-on-sale margins compressed during the first quarter versus the prior year, driven by the shift in originations towards refinance. During the period, refinance activity represented 35% of total originations. Further, we expect that during the second quarter, the portion of originations that are refinanced transactions will remain elevated from our historical levels.

While overall volumes were elevated in the first quarter, the focus on operating efficiencies is not weighing, as PrimeLending has maintained consistent rigor around staffing and other middle and back office expenses across the platform.

Our mortgage origination team has executed very well under some challenging circumstances and delivered profitable growth during the first quarter.

Moving to Page 20. HilltopSecurities delivered a pretax profit of $18 million in the first quarter of 2020. In the quarter, Fixed Income Services generated solid revenue growth as our traders were able to aptly negotiate challenging conditions, both in terms of pricing and liquidity, specifically in the month of March.

The performance of this team demonstrates the progress we've made over the last few years in improving our hedging and risk management capabilities, as well as our focus on exposure management when markets become dislocated.

Also, the Wealth Management business delivered net revenue growth in retail as clients repositioned their portfolios as volatility grew at the equity and debt markets during the quarter.

As was noted earlier, our Structured Finance business did incur a $20 million unrealized net -- negative pipeline mark in the quarter as interest rates and pricing moved substantially during March. While this negative mark is disappointing, the Structured Finance business remains very active, supporting our clients and supporting their origination of approximately $2 billion of mortgage loans during the quarter.

It remains important to note that results from our Fixed Income and Structured Finance businesses can be volatile, as market rates, spreads and volumes can change significantly from period to period.

Now moving to Page 21. National Lloyds recorded $4 million of pretax profit in the quarter, reflecting both mark-to-market losses of $4.4 million on certain equity securities held in the portfolio as well as lower frequency and severity of storm activity and claim-related losses.

Underwriting income, which excludes the impacts of losses in the investment portfolio, improved versus the prior year period as the business introduced its streamlined products offering and substantially completed the optimization efforts that have been underway.

Moving to Page 22. Given the uncertainty surrounding the economy, specifically related to the pandemic, we are withdrawing our full year 2020 guidance at this time. And while it is not clear exactly how the economy will rebound or the time line of that rebound, which we believe will be directly linked to the success in managing the virus and subsequent outbreaks, we remain focused on delivering against those items that we can control.

We are committed to the ongoing safety of our associates and our clients as well as helping our clients work through the unprecedented challenges that the pandemic has presented to us all. We remain committed to executing our platform growth and efficiency initiatives and delivering against our 2021 commitments.

Lastly, and most important, we are focused on delivering improved growth across our business lines while maintaining a moderate risk profile and delivering long-term shareholder values.

Operator, that concludes our prepared comments. I will turn the call over for Q&A at this time.

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Questions and Answers

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Operator [1]

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[Operator Instruction] Our first question today will come from Michael Rose of Raymond James.

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Michael Edward Rose, Raymond James & Associates, Inc., Research Division - MD of Equity Research [2]

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Maybe for Will or Jeremy. Can we get some color on the increase in nonperformers this quarter? It looks like they jumped fairly meaningfully.

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [3]

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Yes. So I -- as I tried to note, we had really 2 principal things that occurred. First, we had the adoption of CECL, which accounted for about $13 million of the change in nonperforming loans. That's really driven by, as you know, the gross-up of the loan balance and then the movement of the prior discount into allowance for credit losses. So that's about $13 million.

And then, as I noted in my comments, we did have 2 specific relationships that were moved into nonperforming, one in the oil and gas sector and the other in our Houston real estate portfolio that were moved into nonperforming, and that equated to about $39 million of the increase. Similarly related to the oil and gas item, we did take the $12.5 million specific reserve for that credit. So...

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Michael Edward Rose, Raymond James & Associates, Inc., Research Division - MD of Equity Research [4]

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Great. Sorry, if I missed that. And then I appreciate the color that you guys provided on the kind of at-risk categories or exposures. Can you give us an update on what the credit statistics there look like in terms of what percentage are nonperforming? And then maybe what percentage are deferred, and stuff like that?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [5]

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Yes. I think as we're evaluating these portfolios, and we're in the early days, we have not seen, at least through the first -- I'd say through March and even to some extent in early April, we've not seen significant delinquency emerge in these portfolios as customers were making their March -- in many cases, their April payments. We are working through. I think it would be a false number to -- as we relate to the $250-odd million of deferrals we've done to be -- unfair because we have had many deferral requests that we're working through, and we're working through those one at a time with our clients. So we'll continue to provide updates as it relates to the deferral levels as well as delinquency in these portfolios.

But again, as of coming through April, we had received the preponderance of payments as contractually required, even for those customers who were asking for deferrals out of the gate. And again, we're continuing to work with clients every day to try to help mitigate what has been kind of an unprecedented set of circumstances over the last month.

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Michael Edward Rose, Raymond James & Associates, Inc., Research Division - MD of Equity Research [6]

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That's helpful. Maybe just one more for me. I just wanted to touch on the margin and specifically with and without the PPP program. Is it fair to assume that just given the number of rate cuts, I know you guys have floors and appreciate all the color there. But is it fair to assume that the core margin, we should anticipate some pressure?

And then secondly, will the fees from the PPP flow through the margin? And I think you had mentioned last quarter that you expected purchase accounting accretion to be down 20% to 30%. So I just wanted to see if that was still intact.

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [7]

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Yes. So on our 2020 commentary slides, on Page 22, we reaffirm that the purchase accounting accretion is not going to decline. That's on a scheduled basis. Those loans are running off, and we expect that to decline 20% to 30%. We are seeing, as you'd expect, based on falling rates as well as a relatively flat yield curve pressure on net interest income over the coming 12-month period, and we do expect that to continue given both decreases in our loan yields, but also, I'd say, a slower growth from an asset perspective.

As I mentioned, customers at this point from a new loan perspective outstanding at PPP are pretty reluctant to kind of take down new credits, as you would imagine they would be. So those lower asset levels from kind of prior outlook as well as flatter yield curves and lower rates are going to put pressure on net interest income going forward. And yes, the PPP fees will be reflected through net interest income, but those will be amortized over the life of the loan.

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Operator [8]

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Our next question will come from Michael Young of SunTrust.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division - VP and Analyst [9]

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I wanted to start just as a follow-up on the TBA business. You mentioned the $20 million fair value, I guess, mark-to-market impact there. Can you provide any more detail on that because typically when 10-year rates move down, that typically expands. So just wanted to see if there was something idiosyncratic. And then any thoughts on where you would expect that to be in subsequent quarters?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [10]

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Yes. What occurred is we have, in certain cases, fixed delivery prices that when prices decline materially, we were -- the pipeline, the hedge was kind of underwater. So that's the nuance there.

As we -- as prices have recovered, as I mentioned in my comments, we have seen, I think, overall trading activity in both mortgage and municipal become more constructive each day and certainly more constructive through the month of April, as I mentioned, as it relates to that specific mark, which was unrealized in terms of the pipeline. As prices have rebounded and trading becomes more constructive, we could recoup some portion of that mark throughout the second and third quarters.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division - VP and Analyst [11]

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Okay. So there is some hedging present there then because I thought before it was unhedged. And then you're seeing a rebound in valuation there. So you'd expect that to not really be a hit to capital, I guess?

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [12]

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We are providing the hedging for the housing authority. And as we've had gains in the past, this was -- you take a snapshot at March 31, and that was the impact on the value of that hedge because we have a contract to purchase the loan at a later date.

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [13]

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So it is -- but just to reiterate, we are hedging that -- we are hedging the pipeline for our clients. And then we have agreed -- we have kind of priced delivery of those securities upon funding.

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [14]

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And I just would add on HilltopSecurities, and they really had a phenomenal quarter with the exception of this, that is part of the market and the environment. And we did a lot starting in February to kind of pull back our exposures and be cautious in this environment. And we're going to continue to do so, I think for the second quarter and for the foreseeable future, until we see things stabilize more so, hopefully in the third quarter.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division - VP and Analyst [15]

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Okay. And maybe another one on HilltopSecurities. Just the expense levels were better than expected. The comp to net revenue is down pretty considerably. Is that sustainable? Or is there something episodic in that number?

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [16]

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I think the comp to net revenue being down is really more of a function of mix shift to the business than it is anything else.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division - VP and Analyst [17]

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Okay. And then maybe lastly, just on the servicing portfolio. Can you just talk about the impact of kind of deferments within the mortgages that you service? And then also, you mentioned that you're going to build that servicing book. I assume that's just due to market dislocations and the ability to sell the servicing assets going forward?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [18]

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That's correct. So I think it's worth noting, and we noted in our slides, we did execute a sale in the first few months of the quarter, which was a positive. That was about $19 million of MSR value. So kind of closed the quarter with a $31 million MSR, which reflects about $3.5 billion worth of serviced assets. We have all those assets, some serviced on our behalf, so we are the master servicer.

But that said, there's a -- we've got a sub-servicing arrangement. We are monitoring forbearance requests. I think those have been between 5% and 6% of that portfolio, and we are also watching advances. As the primary servicer, we would have to provide advances -- servicer advances on behalf of those loans to the extent they were in forbearance or otherwise didn't make their payments. And as a result, we would have that liquidity exposure. We've sized that it's -- we view it as reasonably immaterial at this time. We'll continue to watch it. If it becomes something of note, we'll manage -- we'll note it and manage it as such.

In terms of the dislocation in servicing market, obviously, we've seen a pretty material dislocation in the pricing for servicing and the willingness of, what I'd call, traditional providers to provide -- to kind of purchase servicing. And as a result, we would expect to be retaining a large portion of our servicing on originations over the next couple of quarters. And in the second quarter, a very significant portion, up to 100%, just as overall pricing and execution in the servicing space has been challenged, I think, due to forbearance and other environmental challenges.

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Operator [19]

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Our next question will come from Brady Gailey of KBW.

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Brady Matthew Gailey, Keefe, Bruyette, & Woods, Inc., Research Division - MD [20]

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Could you give us a little more color on the 2 Houston-based real estate loans that went into the nonperforming bucket, maybe the size and what type of CRE those are?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [21]

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They were office buildings. And again, the aggregate size was about $15 million of total loans.

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Brady Matthew Gailey, Keefe, Bruyette, & Woods, Inc., Research Division - MD [22]

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Okay. And was that related to what's going on in energy or unrelated?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [23]

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I think Houston is being impacted by the oil price declines and overall demand. So as we tried to call out the energy, specifically our energy-related portfolio, we have not put in our kind of pandemic portfolio, if you will, because we're calling that a little bit different. But Houston, in particular, is being impacted by both in a reasonably aggressive way. So it's hard to tease out the absolute driver, how much of it was pandemic and how much of it was oil prices, but the combination of those certainly drove a material deterioration in the quarter.

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Brady Matthew Gailey, Keefe, Bruyette, & Woods, Inc., Research Division - MD [24]

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Okay. And then I think most banks have been earning roughly a 3% fee on the PPP loans. Is that roughly where Hilltop's up?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [25]

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I think that's a reasonable estimate.

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Brady Matthew Gailey, Keefe, Bruyette, & Woods, Inc., Research Division - MD [26]

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All right. And then just bigger picture, Hilltop's Chairman, Jerry Ford, has a pretty good track record over decades of buying some attractively-priced assets during times of stress and uncertainty. If you look at Hilltop today, you clearly have excess capital. You'll have even more excess capital after the insurance company is sold. How do you think about the opportunity to buy cheap assets to buy struggling banks over the next couple of years, just given the uncertainty?

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [27]

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I think first and foremost, we're going to continue to be patient and work on our own businesses. And then when the environment presents itself, we're going to be very aggressive.

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Operator [28]

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Our next question will come from Chris Gamaitoni of Compass Point.

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Edward Christopher Gamaitoni, Compass Point Research & Trading, LLC, Research Division - MD & Head of Research [29]

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Could you just disclose what the overall LTVs are on average for your CRE portfolio?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [30]

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I think the way to think about it is, as we work through the different asset classes, and I'll specifically reference the ones we've called out on our packaged slides, and I think that's most relevant. But for our -- and I'm going to give you the underwriting -- kind of [max] underwriting LTVs, and certain of the portfolio is going to be better and certain is going to be materially better. But as we think about kind of retail, it's in the 75% kind of LTV underwritten.

From a hotel perspective, it's in the 70% to 75% range. And then for restaurants, it's in the 80% to 85% range. The reason I give you those rather than kind of go through, and the reason we didn't call out the LTVs on the slide here is as we go through this crisis, there's going to be some price dislocation for assets. And what we can give you is what we underwrote it to in the event that you had to actually liquidate it. There hasn't been a significant amount of price discovery at this point.

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Edward Christopher Gamaitoni, Compass Point Research & Trading, LLC, Research Division - MD & Head of Research [31]

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Okay. That makes sense. And moving to the mortgage business. Historically, PrimeLending has been very purchase-focused. I'm wondering how, from a marketing standpoint, the business is shifting to focusing more on refinances in the more immediate term.

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [32]

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Well, I think it's just in what the market has been given. So I think that the nature of the being purchase-focused is the nature of being real industry veterans that are embedded in their communities and are able to have that sticky business when the refi market's not. And when the refi market's been like it has been, they're going to take advantage of that as well.

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Edward Christopher Gamaitoni, Compass Point Research & Trading, LLC, Research Division - MD & Head of Research [33]

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Okay. And I was wondering if you could give any insight into how you saw gain-on-sale margins. How you're...

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [34]

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Sorry, Chris, we lost you for a minute.

(technical difficulty)

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Edward Christopher Gamaitoni, Compass Point Research & Trading, LLC, Research Division - MD & Head of Research [35]

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Yes. I asked that gain-on-sale margins through April, what they're looking like this month after the Fed came in and the bond market changed?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [36]

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Yes. I think we have seen a constructive improvement in gain on sale margins through the month of April, and we expect that to continue through Q2 based on what we can see and kind of how the market is performing today. So we do think gain-on-sale margins have gotten a little more constructive here as the markets stabilize.

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Edward Christopher Gamaitoni, Compass Point Research & Trading, LLC, Research Division - MD & Head of Research [37]

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All right. And one last one. I was -- just any high-level thoughts on what you think the municipal finance business will look like over the next year. Obviously, we're in a very weird situation. Number of issuance to municipalities need more debt, less debt? Is there going to be a delay in a big way? Just what are your -- what your bankers are seeing right now?

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [38]

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So we saw a pretty good start to the year. And then the March activity was notably weaker, and we had expected a very strong municipal year for 2020. And we do think that the second half of the year has a good likelihood of being reasonably strong. But until stability returns, I mean I think that you're going to have some weakness, and that we think the revenue bond yields could be -- remain challenged. However, like the tax obligation and essential services deals will do fairly well.

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Operator [39]

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Our final question today will come from Matt Olney of Stephens.

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Matthew Covington Olney, Stephens Inc., Research Division - MD [40]

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I want to circle back on the discussion around mortgage. You gave us some good commentary around gain on sale expectations, and I'm curious at this point, given what we know, what are your thoughts on volumes? Do you expect mortgage volumes to peak in the second quarter and fall beyond that? Just kind of curious what your crystal ball says.

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [41]

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Yes. I think from a mortgage volume perspective, and I think your crystal ball reference is a good one. We are, as I think I mentioned, we are expecting to see a higher percentage of refinance volumes, as I mentioned in our kind of 2020 commentary. We think purchase volume will be under some pressure until citizens kind of feel comfortable going out looking at homes and getting a little more -- a little further away from the peak of the pandemic and that presumes no flare-ups in kind of overall pandemic-related activities. But from a -- we don't have -- we're not going to give an outlook in terms of overall volumes, but the reality is it will be, I think, more heavily refinance-centric, certainly for what we can see into the second quarter. And then we're all watching for how the consumer and how the home buyer responds through what is traditionally the -- one of the stronger periods of the year as the -- as states and cities and markets start to, I'd say, reboot from the shutdown.

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Matthew Covington Olney, Stephens Inc., Research Division - MD [42]

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Okay. And then going back to the loan modification discussion. I think, Will, you mentioned the expectations are that the number of modification request continues to rise. I'm curious if you've seen this so far in recent weeks. I know you disclosed the amount of modifications as of April 23 on that Slide 4, but do you have that amount as of March 31? Just trying to appreciate the -- if this has changed much in recent weeks?

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [43]

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Yes. I'd say as of March 31, it was a pretty small number. But again, you were a couple of weeks into it. But it has -- we expect it will continue to grow as the shutdowns continue to persist, and depending on the pace of recovery. So if you just take one of the -- some of the most impacted, from a hotel perspective, we've gotten -- most of our hotel portfolio has set forth some modification request.

If you look at restaurants, I think the feedback is a bifurcated set of feedback there. It's -- QSRs and other kind of takeout-ready organizations have outperformed, obviously, the full-service dining experience restaurants. And for those full-service dining experience restaurants, it's the question of what type of deferment and what type of kind of profile they carry forward is solely dependent on how quickly markets reopen, and more importantly then, how quickly they reopen from a governmental perspective, how quickly customers come back to reasonable spending levels. Over the coming months, I think most of -- at least what we're hearing, most of them are realistic in that, that's not going to happen in May and June. So as we look into the third quarter, that will continue -- that question will continue to persist, but we'll start to get a better pulse on this through the latter parts of the second quarter and certainly into the third quarter.

The customer -- the client and customer response is going to be, for hotels and restaurants, largely the most significant driver in the pace of that. And it's just -- it's hard for us to estimate it, and it's an unknown as to how quickly that's going to occur.

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Matthew Covington Olney, Stephens Inc., Research Division - MD [44]

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Okay. That's helpful. And then last question for me. You mentioned the Houston portfolio previously. Just remind us how big that portfolio is at this time.

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Jeremy Blue Ford, Hilltop Holdings Inc. - President, CEO & Director [45]

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I got it here. I think -- well, the Houston portfolio, total assets is under $500 million. I want to say offhand that I've had it here, about $480 million.

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William B. Furr, Hilltop Holdings Inc. - Executive VP & CFO [46]

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Yes, just under $500 million, total loans.

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Operator [47]

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This concludes our question-and-answer session. Thank you very much for attending today's presentation. The [network] conference has now concluded. You may now disconnect.