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Edited Transcript of OFG earnings conference call or presentation 21-Oct-19 2:00pm GMT

Q3 2019 OFG Bancorp Earnings Call

Rio Piedra Nov 13, 2019 (Thomson StreetEvents) -- Edited Transcript of OFG Bancorp earnings conference call or presentation Monday, October 21, 2019 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* José Rafael Fernández

OFG Bancorp - Vice Chairman, President & CEO

* Maritza Arizmendi Díaz

OFG Bancorp - Executive VP & CFO

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Conference Call Participants

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* Alexander Roberts Huxley Twerdahl

Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research

* Brett D. Rabatin

Piper Jaffray Companies, Research Division - Senior Research Analyst

* Glen Philip Manna

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

* Joseph Gladue

J. Alden Associates, Inc., Research Division - Director of Research

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Presentation

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Operator [1]

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Good morning. Thank you for joining OFG Bancorp's conference call. My name is Maria, and I will be your conference operator today. Our speakers are José Rafael Fernández, President, Chief Executive Officer and Vice Chairman; and Maritza Arizmendi, Executive Vice President and Chief Financial Officer. A presentation accompanies today's remarks. It can be found on the Investor Relations website on the home page in the What's New box or on the Webcasts, Presentations & Other Files page.

This call may feature certain forward-looking statements about management's goals, plans and expectations. These statements are subject to risks and uncertainties outlined in the Risk Factors section of OFG's SEC filings.

Actual results may differ materially from those currently anticipated. We disclaim any obligation to update information disclosed in this call as a result of developments that occur afterwards. We also direct you to the explanation of non-GAAP measurements that are included in our presentation and news release. (Operator Instructions)

I would now like to turn the call over to Mr. Fernández.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [2]

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Good morning. Thank you for joining us.

Please turn to Slide 3. Before the market opened today, we reported third quarter results, which reflected the impact of several noncore strategic transactions. We generated a 14% increase in adjusted earnings per share, adjusted return on average assets and return on average tangible common equity also improved, and reported net interest margin continued at a level similar to top-performing peer banks in the mainland.

We are extremely pleased with our core performance. Our levels of small business, auto and consumer loan production, core deposit growth, credit quality and capital and the number of net new customers all confirm the effectiveness of our differentiation strategies.

Since we made our Scotiabank announcement, we have been engaged in extensive integration planning. We're extremely excited about how the acquisition will significantly enhance our position as the premier retail bank on the island and establish a strong foothold in another Caribbean market. As always, thanks to our OFG team and the new members who will be joining us from Scotiabank for their commitment and dedication and to all our retail and commercial customers for their loyalty and support.

Please turn to Slide 4. During the third quarter, we took advantage of positive market conditions both in the U.S. fixed income markets and here in Puerto Rico and decided to sell a good portion of our remaining NPLs, to sell some fully charged-off loans at a profit and to sell almost 40% of our investment securities.

Here's how these and other items affected our results. First, provision was increased by a net $32 million. This reflected a $39 million increase primarily from deciding to sell $95 million of unpaid principal balance NPLs. This was partially offset by $2.4 million in proceeds from the sale of $26 million of fully charged-off auto and consumer loans. It was also partially offset by a $4.5 million decrease in the allowance for loan and lease losses due to improving asset quality trends in Puerto Rico. Second, we had a $3.5 million gain from selling $322 million in low-yielding mortgage-backed securities.

I'd like to point out the tactical as well as the strategic benefits of all these transactions. First, they further strengthen our already strong liquidity and balance sheet as we continue to deploy our growth strategy. Originated nonperforming loans are now 40% lower year-over-year. Selling them enables us to free up resources, reduce related expenses and increase operating flexibility. Combined with our MBS sales, we have close to $1 billion in cash to fund our growth plans, including prefunding our $560 million acquisition of Scotiabank's Puerto Rico and U.S. Virgin Islands operations. Second, our MBS sale also resulted in another major reduction in higher-cost brokered CDs and wholesale borrowings, which are now down a total of 42% year-over-year. From a management point of view, all of this gets rid of potential distractions so we can focus all our attention on our integration plans with Scotiabank and our growth strategies.

Please turn to Slide 5 to review our financial performance. Net revenues totaled more than $99 million. While down slightly year-over-year, they remain up 3% year-to-date. A key factor in the third quarter was an 8.7% increase in originated loan income, which offset declines in income from the runoff of acquired loans and of investment securities due to the mortgage-backed security sales.

Core noninterest income continued at very steady levels. As a result, on an adjusted basis, earnings per share came in at $0.48. Return on average asset was 1.65%. Return on average tangible common equity was 11.18%. Efficiency ratio was 52.10%. And reported tangible book value per common share was $17.11, up 5.4%.

Please turn to Slide 6 to review our operational highlights. Total net loans increased 1.2% to $4.4 billion. Growth of originated loans at 4.8% more than offset the continued paydown of acquired loans and the sale of nonperforming loans that we announced earlier.

Loan production totaled $291 million compared to $347 million in the year-ago quarter. Auto and consumer lending remained strong at $142 million and $48 million, respectively. Commercial lending at $66 million reflected continued growth of small business customers. Core deposit average balances increased 3.4% to $4.6 billion approximately. This reflects growth in commercial loans, net new customers and our larger core retail funding base.

Loan yield declined 7 basis points, reflecting higher returns on originated loans and lower yields on acquired loans. Originated loan yield increased 11 basis points from the net effect of Federal Reserve rate hikes last year and a larger proportion of higher-yielding originated commercial and auto loans in the portfolio.

Core deposit costs continued to remain relatively low, up only 18 basis points year-over-year. The end result was a net interest margin of 5.35%.

Please turn to Slide 7 to review credit and capital. The net charge-off rate and provision obviously increased as a result of our nonperforming loan sales. The sales, however, reduced the NPL rate 145 basis points year-over-year as well as the total delinquency rate. And excluding items, provision of $11.7 million declined $2.8 million, reflecting better asset quality and improving economic conditions.

Capital continued to build. Once again, our ratios increased across the board to new multiyear high. Total stockholders' equity increased 8.2% to $1.05 billion. Our tangible common equity ratio climbed to 14.07%. In our news release, we provided a formal indication of how CECL implementation will affect us. We're estimating an increase in the current allowance in the range of 16% to 23% for the originated book and no effect on the acquired book.

Please turn to Slide 8 for our outlook. To sum up, we're building excellent momentum as we prepare to close on our acquisition of Scotiabank's Puerto Rico and USVI operations. We expect to receive regulatory approval by the end of the year. We are excited for our future -- for what our future holds as we will continue -- or as we will become the premier retail bank in Puerto Rico.

With this, we end our formal presentation. Thanks to everyone for listening. Operator, let's start the question-and-answer session.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Brett Rabatin of Piper Jaffray.

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Brett D. Rabatin, Piper Jaffray Companies, Research Division - Senior Research Analyst [2]

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Wanted to first ask, José Rafael, can you just talk about for a second, when you look at the macro picture in Puerto Rico, the stats tend to be flattish, the GAA Index has been bumping along at 120, cruise ship visitors have been down a little bit, auto sales are okay. There was a report last week on Bloomberg that referenced a few other things, talking about the potential for Puerto Rico to only get $39 billion of the $69 billion of funds from FEMA and HUD. Was just curious if you could give us some color on what you're seeing economically in Puerto Rico and then what you've heard about the potential decline of funds coming to Puerto Rico.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [3]

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Sure. So what I think we're living right now here in the island is transitioning -- an economy transitioning from not only the aftermath of Maria, reconstruction, and -- but also for the last 12, 13 years of economic contraction. So federal funds are coming in. They're coming in slower than anticipated. There's still a little bit there of uncertainty regarding the magnitude of how many funds are going to come and flow down to the island. But the truth is that there's very little knowledge in the ground in terms of the specifics, Brett, in terms of the dollars and on when are those funds coming in. They are certainly trickling primarily for the roads, and there's a lot of rebuilding on the roads and the bridges. There's still work in progress in terms of the Electric Power Authority and its restructure. There's still a lot of expectations on the housing funds coming in for rebuilding and actually building new homes. But we are seeing some of our larger construction services clients being awarded projects to build and rebuild homes, and those sort of funds have already been allocated. They've been awarded, and they have yet to be disbursed because there are still some hoops to go through.

So my expectation would be that we will continue to the end of the year as we have seen so far this year with lots of noise on when the monies will come in and how much will come in and how the fiscal board portrays in Washington, how much is the fiscal plan including in terms of federal funds. But I do believe that there are lots of moving parts, and there's lots of listeners out there that have a vested interest on particularly bondholders on how these things come out. So I think we'll continue to have quite a bit of noise and create somewhat the uncertainty that is keeping the economy relatively flat.

My expectation would be that next year, funds will start flowing in a more consistent basis, and the impacts on the economy as most of the local, nonpolitical economists in the island are projecting, and we'll see the results. So far, I am encouraged. I am encouraged with what we're seeing. And our customers, commercial and consumer, are certainly in a much better financial position than they were a couple of years ago, and their balance sheets show it.

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Brett D. Rabatin, Piper Jaffray Companies, Research Division - Senior Research Analyst [4]

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Okay. Appreciate all the color there. I was also curious with all the changes in the balance sheet here. Can you give us an idea of how interest income might play out with the 4 pieces: originated loans, acquired cash and securities, which is obviously lower this quarter, how that affects the 4Q run rate for net interest income?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [5]

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Yes. So first, let me just say a couple of things here. We were very opportunistic this quarter. Interest rates in fixed income securities are, again, I would say, record lows again -- or multi-decade lows.

So given the acquisition that we are pending to get approvals from on Scotia and the fact that the value of that transaction is $3.8 billion of core low-yielding, low-cost deposits make a heck of a lot of sense for us to just not have to rely on brokered CDs and wholesale funding that are a lot more expensive. So we don't need to have that expensive funding. So that's the first thing. We took advantage of that, and we know it's going to have a little bit of a short-term impact, but with the transaction expected to close in the fourth quarter, we're really managing the bank for the longer term, Brett, and not necessarily for the fourth quarter. So if it has a little bit of a reduction in interest income into the fourth quarter because of the sale of the securities, we take it, and we move forward because the added value comes in with the acquisition.

Secondly, on the NPL sales, look, we are getting rid of a capital that was not well used. And what we're seeing is interest from the U.S. capital coming into the island interested in buying this, we're seeing a better bid. And again, we were pretty good in the quarter at getting these transactions firmed up, and we're excited to get rid of those assets. We'll be able to reduce operating expenses on that sale alone at the tune of $1.5 million to $2 million simply because we won't have to work out quite a few residential and small commercial loans.

So again, those were non -- they didn't impact (sic) [were impacting] interest income because they were basically not generating any interest income for us. But it clearly cleans up a lot of unnecessary work and dedicate our resources to what we're here for, and what we're here for is to grow. And this acquisition, with the acquisition of Scotiabank Puerto Rico and USVI, gives us tremendous potential and tremendous momentum for us to grow and take advantage of how the economy is transitioning to a new phase here in Puerto Rico.

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Brett D. Rabatin, Piper Jaffray Companies, Research Division - Senior Research Analyst [6]

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Okay. And if I could sneak in one last one just on Scotia, how that review process is going. I know you're looking for regulatory approval. Can you give us any update on the timing of the transaction?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [7]

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There's not much I can add. Regulators are engaged with us, and we are engaged with them and they -- they'll have to go through their process. We're conscious that the level of information sharing is active and real time. And we're confident that by the end of the year, we should have a positive response on the approvals.

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Operator [8]

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Our next question comes from the line of Alex Twerdahl of Sandler O'Neill.

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Alexander Roberts Huxley Twerdahl, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [9]

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Just to clarify on the last question there. You said that you're reasonably confident that you'll get regulatory approval by the end of the year. Are you also confident the deal will close by the end of the year?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [10]

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Well, yes.

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Alexander Roberts Huxley Twerdahl, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [11]

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Okay. Just clarifying there. And then just wanted to ask a little bit more on the loan growth numbers that we saw this quarter. Because we saw loans go down a little bit, but I think they're probably impacted by the loan sales. So maybe you can just give us sort of some color and help us discern a little bit more on sort of what the organic core loan growth looked like during the quarter and then also kind of how your pipelines are looking into the end of the year and into 2020.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [12]

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Yes. So you're absolutely correct. Even though you see loan balances going down, they're primarily impacted by 2 areas. One is the runoff of the acquired book but more importantly, the sale of the NPLs. So if you look at it, ex the NPL sales, our loan -- we had loan growth.

So what we're seeing into the fourth quarter, we're seeing a good pipeline still. We see -- on the commercial, small and middle-market commercial business, we see a good pipeline. We continue to be encouraged with what we're seeing on auto lending. We're seeing a slight improvement in mortgage lending also. Consumer lending remains steady. We had a good quarter again this third quarter with $48 million in originations on the consumer side. So what we're seeing is a good momentum into the fourth quarter. And again, we're working on many work streams right now as we are planning the closing and the integration of Scotiabank so we have our hands full. But having said that, we're -- our teams continue to be very focused on generating the business and executing on our plan on the fourth quarter.

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Alexander Roberts Huxley Twerdahl, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [13]

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Okay. Cool. And then just talking about the provision a little bit going into next year. First off, I really appreciate the color you've given on CECL and sort of the day 1 impact to the reserve. How should we think about the reserve and the provisioning into 2020 with CECL as well as -- you had this little adjustment due to some macro factors in Puerto Rico this quarter. How should we be kind of thinking about the, like, a -- one, a good starting point for the reserve or the provision for starting in the beginning of next year; and then, two, how that is actually going to be impacted by CECL?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [14]

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So before I pass it to Maritza, I just want to say a little bit big picture, and I mentioned it earlier when Brett asked us the question. It's a little hard for us to be able to give you more color on the provisioning next year simply because we're in the midst of closing an acquisition. So that will have its own intricacies.

But from a macro perspective, our expectation is that credit trends will continue to move in the right direction and therefore, that should have somewhat of an impact throughout the year. I don't know if Maritza has any additional color that she wants to add.

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Maritza Arizmendi Díaz, OFG Bancorp - Executive VP & CFO [15]

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No. With José's comment, we have been focusing in having them all ready for day 1 and we share with you the day 1 impact. And at this moment, it's too early for us to add some color on how day 2 will impact the rerun levels of provisioning. But as José mentioned, we will be working with that and as soon as we have some information, we will share it with you.

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Alexander Roberts Huxley Twerdahl, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [16]

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Okay. And then just a final question. Can you just help me sort of jive the NPL sales? Kind of what was the mark on the loans? I saw that there's $29 million of mortgages and $9 million of commercial NPLs that were sold. How can we get that back to the $95 million in unpaid principal balance?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [17]

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Good luck with that, Alex.

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Maritza Arizmendi Díaz, OFG Bancorp - Executive VP & CFO [18]

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Yes. In general, Alex, at this point, we won't share any pricing for competitive reasons, but the figures are there. And we thought these levels of pricing that we get are far better than what we saw before pre-hurricane (sic) [previous NPL] levels.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [19]

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Yes. But again, as Maritza mentioned, we're happy with the pricing. We've gotten better than what we got pre-Maria and better than we saw in the last 12 months, for sure. But we really don't want to be sharing too much specifics there in terms of the pricing.

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Alexander Roberts Huxley Twerdahl, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research [20]

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Can you share with us kind of how you determined which NPLs -- you sold off about 1/3 of them. Is there any timing characteristics between them that made them particularly worth selling and whether or not we should expect further loan sales in the subsequent quarters?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [21]

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Yes. Two -- okay. You asked 2 questions. I'll give you 2 answers. The way we looked at it was let's focus on residential because they are small $120,000, $115,000 per loan. Let's focus on small commercial because, again, those are more costly to work out than the bigger ones in terms of the operating side. So that's how we looked at it. They're all nonperforming nonaccrual loans that were in bankruptcy, some of them, and we just had to kind of spend a lot of time on them, and that's kind of what was the first driving force behind it. Many of them were nonaccrual. Many of them were having cash flow challenges in their own businesses, so that's kind of where we came from.

Number two, should we expect more sales? Well, I don't know if you realize, but the level of NPLs that we have is quite low and so we do not expect to have any additional sales. We do feel that we've cleansed all these legacy NPLs from residential and small commercial particularly and we're good to go. So again, opportunistic in the quarter and happy to get it done with additional liquidity coming into the market.

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Operator [22]

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Our next question comes from the line of Joe Gladue of Alden Securities.

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Joseph Gladue, J. Alden Associates, Inc., Research Division - Director of Research [23]

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Let me start with -- and I guess, you talked about -- a little bit about the balance sheet going forward. But with -- typically, you've run with a level of securities that's maybe, I don't know, sub-10% to 20% of total assets. It's well below there now. Do you think you'll be sort of drifting back towards that level after the Scotia acquisition? Or do you plan on running with a lower level of securities going forward?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [24]

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We're planning on having a lower level of securities going forward, Joe. Our expectation is to be able to first deploy the cash to close and finalize the transaction and make the payment. But also, our planning forward is for deploying into loans and have the ability to focus on our most important markets, the small commercial and middle-market commercial, auto. With the acquisition of Scotiabank, we'll have a lot more scale on the residential side so we'll be able to do a little bit more there, too.

So it won't happen immediately, as you can imagine. But in our planning, the intention is not to extend duration on the fixed income securities market and better deploy it on the higher-yielding loan buckets.

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Joseph Gladue, J. Alden Associates, Inc., Research Division - Director of Research [25]

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Okay. All right. And again, you did discuss some of the loan outlook and pipeline and everything. Just wondering if you could give a little more color on the U.S. originations. Looks like this was the lowest quarter since you started that program for originations. Is that because you've just kind of reached the level you're comfortable with? Or is there anything else going on there?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [26]

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No. I mean we've mentioned in the past the U.S. loan program continues to be an important part of our strategies going forward. It has its ebbs and flows. So some quarters, we'll do $12 million like this quarter. Others, we'll do $40 million or $50 million. It just depends on what we see. And again, we're being very prudent, very conservative, so lots of things can come up our alley, but we're not necessarily going after it. So we're being very methodical, and that's why you'll see that ups and downs on a quarter-to-quarter basis.

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Joseph Gladue, J. Alden Associates, Inc., Research Division - Director of Research [27]

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All right. Fair enough. And I guess I'll just ask if you could give some color on the deposit pricing trends in the island and where you're expecting them to go.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [28]

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Well, with Federal Reserve Bank bringing down fed funds twice this year, the expectation of 1 or 2 more cuts, I think any potential pressure to increase cost of funds in the past, it's certainly subsided. We still have excess liquidity here in the market in Puerto Rico so that has been very helpful throughout this -- the ending -- through the higher rate cycle. Now that we're back into a lower rate cycle and, of course, with the acquisition of Scotiabank, it gives us tremendous strategic benefits because we really have a solid core, low-cost funding base with almost 500,000 clients.

So again, we don't foresee significant or any pressure going forward in terms of the cost of funds. There might be some competitive pressures in the local market trying to focus on us, which we are seeing, but we know how to play defense, too, so we don't expect that to affect us going forward, Joe.

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Operator [29]

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Our next question comes from the line of Glen Manna of KBW.

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Glen Philip Manna, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [30]

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I just wanted to follow up on Alex' question. I'm trying to kind of get into what was the organic loan growth rate. And I know, José, you said that it was -- loans were up. But when I look at loans held for investment at period end versus the second -- third quarter versus the second quarter, it looks like they were down $97 million. How much of that $97 million drop was due to moving the loans to held for sale?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [31]

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So Glen, part of the reason why we're not giving that number is because we're being very cautious with pricing in terms of the sales. So again, we're using unpaid principal balance as the metric to disclose the sales, which was $95 million between acquired and originated loans. But in the end, when you see we have organic loan growth primarily from the auto originations, which was $140 million, we have around $30 million of repayments every month, so you have an idea there. And the same with consumer, we had a very good quarter. And then residential mortgage has been trending down because of repayments all along.

So again, commercial, small business, auto and consumer are the drivers for us to remain growing our core loan book in the numbers for this quarter.

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Glen Philip Manna, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [32]

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Well, so that's the thing. And I think what's kind of masked in all of this is when you look at originations and you back out the U.S. loan program, OFG USA, originated loans on the island were actually up like 3.30% quarter-over-quarter, which is pretty good because the third quarter is usually a seasonally soft quarter for you, guys.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [33]

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Yes. Yes. So those are good numbers for us, too. So we're seeing 2% to 3% annual average growth in the loan portfolio when you look at it. And the run rate for this quarter was -- when you look at it from an organic perspective, excluding the sales of the NPLs, it remains around 2% to 3%.

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Glen Philip Manna, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [34]

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And maybe just a little bit of color on -- you sold some lower-yielding securities. Right now, it's in cash. I mean you paid out some brokered deposits. What's the NIM trajectory here? Do you hold this level? Do you increase? And kind of the impact of what's going on, on the mainland in terms of the rate environment?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [35]

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Go ahead.

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Maritza Arizmendi Díaz, OFG Bancorp - Executive VP & CFO [36]

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So what we're seeing, Glen, is something similar to what happened to us this third quarter, that the Fed moved rates during July so we have only a reduction of 3 basis points in the NIM. What we're seeing for this next quarter will be something very similar. We will see probably a slight reduction in the dealer term loans, but we will compensate through the reduction in the wholesale funding. So that's how we see the NIM going forward, probably stable or going down 3, 4 basis points as we did this quarter.

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Glen Philip Manna, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [37]

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Okay. And I -- refresh my memory. When you announced the Scotiabank deal, you were going to sell $1 billion of securities post-closing. Are the securities that were sold this quarter, is that inclusive of that amount? Or should we expect $700 million in sales post-closing? Or is it still $1 billion in sales post-closing?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [38]

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No. No. We were opportunistic, Glen, in the quarter when we saw interest rates dropping so we kind of preempted that transaction that we announced when we announced the Scotia deal. So we've done the sale. Once we do the closing, the investment securities that are carried from Scotia, we'll take a look at them, but they will carry into our balance sheet. So to answer your question, we announced post-deal, but we did a pre-deal because of market conditions.

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Glen Philip Manna, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [39]

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Okay. But there's a pretty significant difference in the amount, right, $330 billion -- or $330 million this quarter, and then it was $1 billion I think when you announced it, right, when you announced the deal?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [40]

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Yes. Yes. Yes. But remember, last quarter, we also sold securities so that adds a little bit more. So there's not much of a difference. Maybe $200 million difference and that we're building cash. So if we don't need to sell, we don't need to sell.

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Glen Philip Manna, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [41]

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And just -- I know in a quarter where you have these kinds of adjustments and things moving around, the tax rate can flip around a lot. I think, Maritza, you had said last quarter you expected a second half tax rate of around 32%. It was 26% this quarter. Where do you expect that to go?

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Maritza Arizmendi Díaz, OFG Bancorp - Executive VP & CFO [42]

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Well, the effective tax rate for the year is estimated at 30.15%, and it's basically the change is the mix of this transaction because we have a higher proportion of exempt income versus taxable income, and that's why it get reduced from the original expectations.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [43]

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So 30% more or less going forward.

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Operator [44]

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(Operator Instructions) Our next question comes from the line of Brett Rabatin of Piper Jaffray.

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Brett D. Rabatin, Piper Jaffray Companies, Research Division - Senior Research Analyst [45]

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I just want to follow up on 2 things. One, just want to make sure I understood the pro forma liquidity or the -- when we close the deal, how much liquidity are you anticipating having on the balance sheet?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [46]

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So given the transaction -- the transactions that we did this quarter and the past quarter, we expect to have the same level of liquidity that we announced. It's just that we preempted the sale of securities in this -- around the previous quarter. So there are no different expectations there.

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Brett D. Rabatin, Piper Jaffray Companies, Research Division - Senior Research Analyst [47]

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No, no. Okay. I just want to be clear on that. And then José Rafael, can you just talk about for a second, when I look at the commercial loan production, I mean, that's kind of trended obviously -- 2Q last year was kind of a different quarter, but the numbers have kind of moved down a little bit over the past year. And I'm just curious if you can give any color if that's a function of activity or you're just seeing heightened competition from your peers. I know you want to become the lender of choice to the SME market in Puerto Rico. Can you give us any color on kind of production trends in commercial?

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [48]

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Yes. Actually, the production trends this year in the small commercial are a lot better than last year. They're actually -- we're very happy with the small business -- commercial lending business this year. What's pushing the comparisons in somewhat of a negative way is the larger ticket items. And there, you have more competition, and that's kind of where we are.

Having said that, we do have seen also the postponement of some transactions that are in the pipeline, and we expect them to close this quarter. Maybe they close in the fourth quarter. Maybe they're pushed into the first quarter of 2020, but they're still live transactions and significant ones.

So all in all, I think the way we're -- we have transformed the retail channel and the way we have focused on the small commercial client is starting to pay off in a more consistent basis, and we're extremely happy with the performance on that sector and looking forward to build on it once we do the acquisition and -- into 2020.

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Operator [49]

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(Operator Instructions) And there are no further questions at this time. I would like to turn the call back over to Mr. Fernández for any additional or closing remarks.

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José Rafael Fernández, OFG Bancorp - Vice Chairman, President & CEO [50]

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Thank you, operator. Thank you to all for listening in today, and I wish you a good Monday and a great week.

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Operator [51]

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Thank you, ladies and gentlemen. This does conclude today's conference call. You may now disconnect and have a wonderful day.