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PNC Financial Services Group Inc (PNC) Q1 2019 Earnings Call Transcript

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PNC Financial Services Group Inc  (NYSE: PNC)
Q1 2019 Earnings Call
April 12, 2019, 9:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning. My name is Silvana, and I will be your conference operator today. At this time, I would like to welcome everyone to the PNC Financial Services Group Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions)

As a reminder, this call is being recorded. I would now like to turn the call over to the Director of Investor Relations, Mr. Bryan Gill. Sir, please go ahead.

Bryan K. Gill -- Executive Vice President & Director, Investor Relations

Well, thank you, and good morning, everyone. Welcome to today's conference call for the PNC Financial Services Group. Participating on this call are PNC's Chairman, President and CEO, Bill Demchak; and Rob Reilly, Executive Vice President and CFO.

Today's presentation contains forward-looking information, cautionary statements about this information as well as reconciliations of non-GAAP measures are included in today's earnings release materials as well as our SEC filings and other investor materials.

These materials are all available on our corporate website pnc.com under Investor Relations. These statements speak only as of April 12th, 2019 and PNC undertakes no obligation to update them.

Now I'd like to turn the call over to Bill Demchak.

William S. Demchak -- Chairman, President & Chief Executive Officer

Thanks, Brian, and good morning, everybody. As you've seen this morning, PNC reported net income of $1.3 billion or $2.61 per diluted common share for the first quarter. Rob is going to run you through all the numbers in a second, but I thought I would highlight a few brief items here.

As you know, the first quarter of the year is typically negatively impacted by some seasonality as well as two fewer days compared to the fourth quarter. And with this as context, I really think PNC delivered good results.

Linked quarter, we saw very strong growth in average commercial balances and small growth in consumer loans as well. Within C&IB, the growth was actually greater than the headline numbers as we had a decrease in our commercial real estate balances of approximately $1.8 billion, driven principally by our multi-family warehouse lines. If you exclude the real estate book, C&IB growth came in at just over 4% quarter-over-quarter.

We could -- we saw continued growth in our secured lending areas, but we also saw growth in our more traditional cash flow lending businesses for the first time in several quarters. Reflecting normal first quarter seasonality total fee -- fee income came in about where we expected. Importantly, expenses were flat and our overall credit quality remained strong. Our loan loss provision came in higher than we anticipated, but as Rob is going to discuss, it was largely driven by our strong loan growth and some reserves for certain commercial credits, nothing that we saw on a broad based basis.

As we look forward from here, we still feel very good about the economy, notwithstanding some mixed signals from economic indicators, we have seen very little from our clients that would indicate that there is inherent weakness in the US economy. Having said that, there is clear weakness in the global economy, pressure from trade and fears of a hard Brexit that will continue to weigh on the US economy.

Regardless of the path ahead, we believe having a strong balance sheet, a solid mix of fee-based businesses, significant focus on expense management and differentiated strategies for organic expansion will provide the foundation for success.

Lastly, I did want to mention a couple of things that I'm particularly proud of this quarter. The first of these is that we learnt just a few weeks ago, that PNC has received an Outstanding Community Reinvestment Act rating from the OCC. The highest possible rating and one that we are proud to have earned for every exam period since the inception of CRA in 1977. And second, we are very excited or we were very excited, just last week to celebrate the 15th anniversary of PNC Grow Up Great, our signature philanthropic program focused on early childhood education.

As part of the celebration, we expect -- we extended our commitment to Grow Up Great, which is now a $500 million initiative. Reflecting our Main Street model, our success depends a lot on the success of the communities in which we operate. Investing in early childhood education has proven to generate very high economic returns for communities, and we are proud to support that.

So overall, I'm very pleased with the quarter and I want to thank our employees for their continued hard work to both drive our business forward and help our community strive.

With that, I'll turn it over to Rob for a closer look at our first quarter results and then we'll take your questions. Rob?

Robert Q. Reilly -- Chief Financial Officer

Yeah, thanks, Bill, and good morning everyone. As Bill just mentioned, we reported first quarter net income of $1.3 billion or $2.61 per diluted common share. Our balance sheet is, on slide four and is presented on an average basis.

Total loans grew $2.6 billion or 1% to $229 billion in the first quarter compared to the fourth quarter. Loan growth compared to the first quarter of 2018 was $7.4 billion or 3%.

Investment securities of $82.3 billion remained relatively flat linked quarter, as our purchases replaced portfolio run off. Securities increased $7.7 billion or 10% year-over-year.

Our cash balances at the Fed averaged $14.7 billion for the first quarter, down $1.7 billion linked quarter and $10.7 billion year-over-year, commensurate with growth in loans and securities.

Deposits were up slightly linked quarter and grew $6.6 billion or 3% year-over-year. As of March 31, 2019, our Basel III common equity Tier 1 ratio was estimated to be 9.8% up from 9.6% as of December 31, 2018. Importantly, we maintained strong capital ratios even as we returned approximately $1.2 billion of capital to shareholders or 98% of first quarter net income.

Total share repurchases were 5.9 million common shares for $725 million and common dividends were $438 million. And our tangible book value was $78.07 per common share as of March 31st, an increase of 9% compared to a year ago.

Slide five shows our loans and deposits in more detail. Average loans grew $2.6 billion or 1% over the fourth quarter, driven by commercial lending balances, which increased $2.5 billion or 2%. We generated this growth despite the seasonal decline in our multi-family agency warehouse lending of approximately $1.5 billion compared with the fourth quarter. And while not on the slide, it is worth noting that our spot loan balances increased more than $6 billion linked quarter.

As we pointed out previously, our corporate and institutional banking loan portfolio can be divided into three categories, traditional cash flow, non-CRE secured lending and commercial real estate.

Our traditional cash flow lending grew 5% linked quarter, reflecting growth from new and existing customers, including higher utilization. This growth is in contrast to the lack of growth we experienced in this category in the second half of 2018, which was related to heavy competition, including non-bank lenders and higher pay down activity.

During the first quarter, we continued to see strong growth in secured lending, which has increased 3% linked quarter and 14% year-over-year. Lastly, loans in our commercial real estate business declined linked quarter, primarily due to the seasonality of the warehouse lending, but also due to competitive pressures.

On the consumer side, balances increased approximately $100 million linked quarter and $900 million year-over-year. We had growth in residential mortgage, auto, credit card and unsecured installment loans, while home equity and education loans continue to decline.

Average deposits increased approximately $700 million in the first quarter compared with the fourth quarter, reflecting growth in consumer deposits substantially offset by seasonal declines in commercial deposits. Compared to the same quarter a year ago, average deposits increased by $6.6 billion or 3%. In both comparisons and as expected, growth was in interest bearing accounts, and we continue to see a shift from non-interest-bearing to interest-bearing deposits.

Our overall cumulative deposit beta increased in the first quarter to 32% from 30% in the fourth quarter. For the remainder of the year, we expect our deposit beta to continue to increase, but at a slower pace than last year, given the current Federal Reserve interest rate outlook.

As you can see on slide six, first quarter total revenue was $4.3 billion, down $54 million linked quarter or 1%. Net interest income was relatively stable, despite two fewer days in the quarter compared with the fourth quarter. Non-interest income declined $48 million or 3% linked quarter, reflecting seasonally lower fee income. Non-interest expense was flat compared with the fourth quarter as expenses continue to be well-managed.

Provision for credit losses in the first quarter increased $41 million to $189 million. Our effective tax rate in the first quarter was 16.3%. For the full year 2019, we continue to expect the effective tax rate to be approximately 17%.

Now let's discuss the key drivers of this performance in more detail. Turning to slide seven, net interest income of $2.5 billion was essentially flat compared to the fourth quarter, despite the impact of two fewer days in the first quarter.

Net interest income grew $114 million or 5% year-over-year. In both comparison, higher earning asset yields and balances were partially offset by higher funding costs and balances.

Net interest margin increased to 2.98% in the first quarter, up 2 basis points linked quarter and 7 basis points year-over-year.

Fee income declined $31 million or 2% linked quarter, driven by seasonally lower first quarter transaction volume in consumer services, corporate services and service charges on deposits. These declines were partially offset by growth in asset management fees, which increased $9 million or 2% and reflected higher average equity markets and residential mortgage non-interest income, which increased $6 million or 10% primarily due to a lower negative RMSR valuation adjustment compared to the fourth quarter.

Compared with the first quarter of 2018, total fee income was stable, as growth in both consumer and corporate services fees were offset by declines in asset management and residential mortgage revenue. Other non-interest income of $308 million declined $17 million linked quarter and increased $63 million year-over-year.

Other non-interest income includes the impact of Visa-derivative fair value adjustments which fluctuates in part due to changes in the share price of Visa common stock.

Turning to slide eight, first quarter expenses in total were essentially unchanged from the fourth quarter, seasonality drove increases in personnel and occupancy, as well as a decrease in marketing expense.

Equipment and other expenses were lower linked quarter.

Compared to the same period a year ago, expenses increased $51 million or 2%. Personnel and marketing expense grew reflecting both business investment and growth.

Our efficiency ratio was 60% in the first quarter compared with 61% a year ago. Expense management continues to be a focus for us, and we remain disciplined in our overall approach. As you know, we have a goal to reduce costs by $300 million in 2019 through our continuous improvement program, and we're confident we'll achieve our full year target.

Our credit quality metrics are presented on slide nine. On a linked quarter basis, provision for credit losses increased $41 million to a $189 million and net charge-offs increased $29 million to a $136 million.

On the commercial side, loan provision increased $31 million linked quarter and this reflects our strong loan growth and higher utilization as well as reserves increases related to certain commercial credits.

Commercial loan net charge-offs increased $5 million linked quarter to $12 million and remain at very low levels with a net charge off ratio of 3 basis points as of March 31st 2019. The provision for consumer lending increased by $10 million, consumer loan net charge-offs increased $24 million linked quarter, primarily from higher net charge-offs in credit card and lower recoveries in home equity.

Overall, our allowance for loan and lease losses to total loans was unchanged at 1.16% as of March 31st 2019, and has remained at that level for the past four quarters. Notably, our forward indicators are both down linked quarter, non-performing loans declined $41 million or 2% compared to December 31st 2018, driven by a decrease in consumer non-performers and total delinquencies were down $49 million linked quarter or 3%.

Our overall credit quality remained strong. However at these historically low levels of provision, we will continue to see some volatility quarter-to-quarter, due to the pace and mix of loan growth and the timing of specific loan reserves and releases.

We believe that we continue to be appropriately reserved for the current environment as reflected in our consistently strong credit quality metrics. And importantly, we're not seeing any signs of broad-based credit issues.

In summary, PNC posted very good first quarter results. For the balance of this year, we expect continued steady growth in GDP, and we no longer expect an increase in short-term interest rates this year. Our full year guidance remains consistent with what we shared on our fourth quarter earnings call in January.

Importantly, in the first quarter of 2019, we generated over 2% positive operating leverage year-over-year and we remain well positioned to continue to deliver positive operating leverage for the full year 2019.

Turning to slide 11 and looking ahead to second quarter 2019 compared to first quarter 2019 reported results, we expect average loans to be up approximately 1%. We expect total net interest income to be up low-single digits. We expect fee income to be up mid single digits. We expect other non-interest income to be between $275 million and $325 million, excluding net securities and Visa activity. We expect expenses to be up low-single digits and we expect provision to be between $125 million and $200 million.

And with that, Bill and I are ready to take your questions.

William S. Demchak -- Chairman, President & Chief Executive Officer

Silvana, would you poll for questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions)

And your first question comes from the line of John Pancari with Evercore ISI. Please proceed with your question.

John Pancari -- Evercore ISI -- Analyst

Good morning.

Robert Q. Reilly -- Chief Financial Officer

Hey John.

William S. Demchak -- Chairman, President & Chief Executive Officer

Hey John.

John Pancari -- Evercore ISI -- Analyst

On the balance sheet side, on the loan growth front, if you could just give us a little more color on what you're seeing there that's driving the better line utilization and even the pay downs. Is this something that you think is sustainable? And is it enough to up -- to potentially bump up or see upside to your full-year loan growth of 3% to 4%, I know you kept that unchanged?

Robert Q. Reilly -- Chief Financial Officer

Yeah. Hey, John. Good morning. It's Rob. So just a couple of things. In terms of the composition of the growth, we were pleased with the loan growth, that was predominantly on the commercial side. I think the -- when I talked about those three categories, I think the traditional cash flow category was very strong in contrast to what you were talking about the second half of 2018 and that was just increased activity across our commercial markets, very strong in the legacy markets and the expansion in growth markets. So we feel good about that.

As far as the full-year guidance, we guided to 3% to 4% growth. We had average growth of 1% here in the fourth -- the first quarter. So we're tracking to that range. And I think it's -- we feel good about where we are. But it's a little early and premature to change that full-year outlook.

John Pancari -- Evercore ISI -- Analyst

Okay. All right. Thanks, Rob. And then...

Robert Q. Reilly -- Chief Financial Officer

Sure.

John Pancari -- Evercore ISI -- Analyst

Separately, I'll just go straight to the elephant in the room. Bill, just want to get your thoughts, I know there's a lot of speculation out there regarding the Wells Fargo post, and just would love to get your thoughts not only about if that would be any -- of any interest, but more importantly, what would -- how you view your competitive position at PNC and why it's certainly more attractive possibly to stay where you see that? Thanks.

William S. Demchak -- Chairman, President & Chief Executive Officer

I almost don't even know how to answer that. I like my job here, I like our Company, I like our prospects, I like the people I work with, I like our clients, I like our communities and I will end my career here. Beyond that, I'm not going to speculate on successes or failures at our competitors.

John Pancari -- Evercore ISI -- Analyst

No. It's fine. Just wanted to get your thoughts on your interest. Thanks, Bill.

Robert Q. Reilly -- Chief Financial Officer

Thanks, John.

Operator

Our next question comes from the line of Betsy Graseck with Morgan Stanley. Please proceed.

Betsy Graseck -- Morgan Stanley -- Analyst

Hey. Good morning, Betsy.

Robert Q. Reilly -- Chief Financial Officer

Hey. Good morning, Betsy.

Betsy Graseck -- Morgan Stanley -- Analyst

Just a couple of questions. One is on the commercial business, I know you talked about the loan growth coming in better. And I just wanted to understand how you're thinking about the competition in the non-bank space and do you feel that the interest rate and -- do you feel that the pay downs that you had seen last year, are slowing permanently or is this just a temporary slowdown due to 4Q's disruption in the capital markets and the higher interest rates et cetera?

William S. Demchak -- Chairman, President & Chief Executive Officer

It's almost an unanswerable question. I mean, I think the crack in the credit markets in the fourth quarter, Betsy had to have helped on some of the -- some of the volume that we saw stay in the loan market. But at the same time, we saw pickup in utilization, which would be totally independent of that and we've -- we continue a pace just gathering new clients. So I think we'll see what the future brings here, but we have seen for whatever reason the slowdown in pay downs and the uptake in utilization and greater client growth

Robert Q. Reilly -- Chief Financial Officer

Strong rotation.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah.

Betsy Graseck -- Morgan Stanley -- Analyst

Okay. No. That's helpful. And then separately, the Fed's got their NPR out there regarding moving the goalposts on advanced approaches banks. Maybe you could give us a sense as to how you're thinking through the opportunities for you assuming that NPR does get approved as written? And how you think through what to do with the incremental capital that you've been -- that you would generate as a function of that?

Robert Q. Reilly -- Chief Financial Officer

Do you want -- Bill, you want to may start there. Well, but yeah, as you know, yeah, the proposals -- we're encouraged by the proposals. Five key items there, two of which are a lot of work for us that you're not as interested in the elimination of the advanced approaches, and then the possible elimination of the mid-year DFAST for us. More meaningful in your interest would be the other three areas. One is the ability to opt out of AOCI, we'll examine that.

Secondly, the refinement to the (inaudible) threshold deductions, which for us is particularly meaningful because of our BlackRock stake.

And then the third is the potential to reduce the LCR requirements from the full approach to a modified approach somewhere between 70% and 80%. So early for us, we're encouraged by all of that, we see -- we see potential in that for us, but until they're all approved, we don't have a firm answer for you.

Betsy Graseck -- Morgan Stanley -- Analyst

Okay. And just to make sure I understand when you say, you would look at the AOCI impact et cetera. I mean, is there a reason for not adopting that change if indeed the MTR goes through?

William S. Demchak -- Chairman, President & Chief Executive Officer

Not a terribly obvious one.

Robert Q. Reilly -- Chief Financial Officer

Yeah. Not that, not that I can say, but we've got -- we've got time on the clock to be able to decide. So...

Betsy Graseck -- Morgan Stanley -- Analyst

Okay. And can you size...

Robert Q. Reilly -- Chief Financial Officer

Your inclination is correct.

Betsy Graseck -- Morgan Stanley -- Analyst

Okay. And then just lastly could you size like as you stand today and I know it's a moving target, because prices change obviously, but could you give us a sense of the size of the capital free up that would occur, if it were to come through, say, like last quarter March 31st?

Robert Q. Reilly -- Chief Financial Officer

Yeah. What we said and again, this is just an estimate. We've said in combination that it could add as much as 1% to our capital ratio and that's an estimate. But that gives you a rough sense of the lift.

Betsy Graseck -- Morgan Stanley -- Analyst

Okay. That's CET1 right?

Robert Q. Reilly -- Chief Financial Officer

CET1, yes.

Betsy Graseck -- Morgan Stanley -- Analyst

Yeah. Okay. All right. Thank you.

Robert Q. Reilly -- Chief Financial Officer

Sure.

Operator

Our next question comes from the line of John McDonald with Autonomous Research. Please proceed with your question.

John McDonald -- Autonomous Research -- Analyst

Hey guys, good morning.

Robert Q. Reilly -- Chief Financial Officer

Hey, John.

John McDonald -- Autonomous Research -- Analyst

I wanted to ask about operating leverage and the goals for the year, Rob. If I try to parse the linguistics in the outlook for the year. It looks like you're shooting for -- it looks like you're shooting for positive operating leverage in the range of 150 basis points to 200 basis points. Is that fair as kind of your target and what it would take to get to the upper end of that?

Robert Q. Reilly -- Chief Financial Officer

Yeah, I think that's fair, that's fair. And as you know, we affirmed our full year guidance. So you can do the math to get to 1.5% to 2%. And first quarter we're tracking to that. So that's very fair.

John McDonald -- Autonomous Research -- Analyst

Okay. And then expenses were up 2% year-over-year. Is that kind of consistent with your outlook for the full year? And what -- you're shooting for a little closer to flattish. And I guess what I'm getting at here is do you have expense saves that kind of gather steam as you get through the year or as you could represent reaching (multiple speakers)

Robert Q. Reilly -- Chief Financial Officer

Yeah. I got you. Well, yeah, so I just think it starts with your first question there in terms of the positive operating leverage, which is what we're -- that's our primary goal. Our guidance was for expense growth on the low end of the single-digit range, which is where we are and I expect that to be the case going forward.

It could drift higher if revenues go higher, which would be a good thing. But then that just gets back to the operating leverage point.And vice versa, which we don't want have had.

William S. Demchak -- Chairman, President & Chief Executive Officer

And vice versa, which we don't want have had.

Robert Q. Reilly -- Chief Financial Officer

Well, yeah, like that. Well, I think of that way. That's right.

John McDonald -- Autonomous Research -- Analyst

Okay. And then last thing for me is, how much was the flattening of the curve affect the degree of difficulty on your net interest income goals for the year?

Robert Q. Reilly -- Chief Financial Officer

Well, I think -- I think for the net interest income goals, not much, because the rate increase that we had built in was September and then the curve has been flat for a little while, maybe a little bit more. So not so much on the NII, more so on the NIM. Even though, we don't have official NIM guidance. It puts -- the flat yield curve puts more pressure on the NIM.

William S. Demchak -- Chairman, President & Chief Executive Officer

I think you have a bunch of moving parts you need to think about, the flattening, the rally and the long end obviously impacts the yield at which we've put on fixed-rate assets. And as those assets roll down the curve and mature, we're now either making loans or investing in securities that are lower yield than the existing book. Having said all of that, the average life of our fixed rate assets is five years plus or minus. So it takes a long time for that to show up in the income statement in NIM.

The other thing is we had a -- in our original forecast, a rise in Fed funds later in the year, but at the same time, we would have had commensurate expectations of deposit repricing, which obviously fall away...

Robert Q. Reilly -- Chief Financial Officer

Yeah.

William S. Demchak -- Chairman, President & Chief Executive Officer

Remains to be seen what happens to betas here, but if we are really on this sort of hold pattern, if what we've seen through the first quarter holds, we'll see less pressure on betas of what we might have expected when we started the year. And the final point of course is as it relates to total net interest income, all of those factors are dwarfed by our ability to continue to grow loans. That makes sense for -- in our risk bucket.

Robert Q. Reilly -- Chief Financial Officer

Yeah, that's right. And that's why our full year guidance holds.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah.

John McDonald -- Autonomous Research -- Analyst

Got it. Okay. Thanks guys.

Robert Q. Reilly -- Chief Financial Officer

Sure.

Operator

Our next question comes from Erika Najarian with Bank of America. Please proceed with your question.

Erika Najarian -- Bank of America -- Analyst

Yes. Hi, good morning.

Robert Q. Reilly -- Chief Financial Officer

Good morning.

Erika Najarian -- Bank of America -- Analyst

Just wanted to follow up on the commentary that you had on deposit. So can you give us a context of how if robust your national digital strategy will continue to be if the Fed continues to keep short rates where they are. And Bill, was your comment on betas potentially easing, if there are no -- there wasn't a September rate hike more on your established markets or your newer markets?

William S. Demchak -- Chairman, President & Chief Executive Officer

Both. I mean, I think toward the end of a rate cycle, historically, you might have seen betas actually accelerate to the extent that funds were much higher than where they are today. In this environment, at least for the last bit of time on our expectations, we don't necessarily -- we're going to say they're going to go up a little bit, total cumulative beta, but not necessarily the spike you would have seen at a traditional end of rate cycle. Our newer markets basically are -- have been sort of stable on our price offering since the last hike and will -- would likely stay there. In terms of success of the effort, I guess, I'd say a couple things.

The first is you can dial up or down deposit balances of almost any size you want by being top of the price paid chart, particularly as a new entrant, because you're not repricing your existing deposits on those platforms. We're spending more time today -- our existing -- our deposits today are somewhere over $1 billion. But to be honest with you, we spend more time.

Robert Q. Reilly -- Chief Financial Officer

The national digital deposits.

William S. Demchak -- Chairman, President & Chief Executive Officer

National digital, yeah. We're spending more time -- I'm going to use the word experimenting, but that's -- maybe, that's right, trying different strategies as it relates to the effectiveness of marketing dollars, pricing activation, and many other things we want to learn as we sort of accelerate the roll out of this into additional markets.

So we're less worried about what the balances are doing day to day, more interested in the activation of accounts and the usage of accounts.

Robert Q. Reilly -- Chief Financial Officer

And the mix of the distribution.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah.

Erika Najarian -- Bank of America -- Analyst

Got it. And my -- for my second question, if I could just zoom out, you returned 14% on tangible equity this quarter. And in the forward look all seems to be positive in terms of -- positive operating leverage continuing your superior credit quality and optimizing your capital. I'm wondering as we think over the next two years, if the US continues to be in good stead, what returns on tangible common equity, can your shareholders expect to enjoy? And within that range, what do you think is an optimal CET1 ratio for a bank with your risk profile?

William S. Demchak -- Chairman, President & Chief Executive Officer

Do you want to start with that?

Robert Q. Reilly -- Chief Financial Officer

Well, we don't have, we don't have ROE targets, Erika as you know. We're encouraged in terms of the direction that you just summarized and would see our returns going up. We have a lot of E (ph) as you know, in some of these proposed tailoring that might affect some of that. So we've always said, in terms of what CET ratio do we need to run, we've always said around 8.5 that's been the case for the last handful of years, that could come down a little bit following the proposed rules, but 8.5, that number that we have today.

William S. Demchak -- Chairman, President & Chief Executive Officer

It's -- I mean to be -- well, to be clear on that, what we do every year in terms of sort of our targeted number is we solve for it as a function of the outcome of the Fed severe, our own severe stress outcome. We've doing that -- we've been doing that basically since the beginning.

What's interesting as we go forward with the tailoring proposals is that outcome would likely drive -- potentially drive our needed capital ratio to a level that would actually be below in my view, where we would operate vis-a-vis the buffer to 7%. So what do I mean by that?

Let's say that the math says -- on my old math that I could actually run all the way down at 7.5 or even 7.25, as a practical matter, we wouldn't run there. Because of well capitalized as 7, you're going to need to run some buffer above that simply for optics, if no other reason, but also for fear of ever breaking that in a adverse economy. But we're going to have to -- as these tailoring rules come out, we're going to have to have a hard look at that.

The issue on return on equity. We have a -- we can sit and parse our return against peers 50 different ways, but Rob's point is right, the biggest differentiation between us and others as we carry a lot of E (ph) we also have less goodwill. So on a tangible basis, we don't have other assets that are effectively earning without a capital.

Robert Q. Reilly -- Chief Financial Officer

We don't want to.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. And -- so be it.

So I think our -- it's very long answer to your question, but the basic notion is, let's grow the Company on a healthy basis year-over-year being conscious of risks, be the firm that outperforms, when the risk stress, should be able to take advantage of that with a fortress balance sheet when it happens.

We've done that for years, we'll continue to do it .

Erika Najarian -- Bank of America -- Analyst

Thank you. And just as a follow-up. I'm sorry to take so much time, but in the event of the proper capital ratio, let's say, based on what you're saying is, let's say around 8 and you're closer to 10 today. What is the pace of optimization that you think would be appropriate for a bank again of your size and risk profile?

William S. Demchak -- Chairman, President & Chief Executive Officer

So you're basically saying, what are we going to do on capital return? And I don't want to -- we just submitted CCAR, so we'll leave specifics out of it. But a couple of guiding principles. The first one is that we see very strong value in our shares today and see value in buying back our shares today, see value in providing a healthy dividend through time to our investors.

I would tell you that there are prices and multiples of tangible at which we would slow down our buyback. We're not there today. But there are prices where that would happen. And you could potentially see our capital buffer build in those instances, simply because more often than not, when you get to lofty levels on multiples to tangible book there's some downturn looming that you can put that capital to work at a much better prices. But for where we are today, our intention would be to drive their ratio down and return capital to shareholders.

Robert Q. Reilly -- Chief Financial Officer

Yeah. We -- because we have excess capital.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah.

Robert Q. Reilly -- Chief Financial Officer

And to your point, the dividend is very important.

William S. Demchak -- Chairman, President & Chief Executive Officer

And we see real value there.

Robert Q. Reilly -- Chief Financial Officer

Yeah.

Erika Najarian -- Bank of America -- Analyst

Great. Clear. Thank you so much.

Operator

Our next question comes from the line of Ken Usdin with Jefferies. Please proceed with your question.

Ken Usdin -- Jefferies -- Analyst

Thanks. Just continuing along the lines of capital usage, and Bill I know where you stood for a long time on the question of M&A, but just given the large transaction happened intra-quarter. And your comments just about you believe that you feel that the shares are attractive as is balance sheet growth.

Just any light you can shed just on the evolution of the landscape and where or where not PNC would want to play over the longer term even as far as being an acquirer or not?

William S. Demchak -- Chairman, President & Chief Executive Officer

Nothing has changed. The SunTrust BB&T merger I think makes great sense for them, and I think it was a set of competitors kind of waking up to the challenge of what it means to have scale particularly on technology spend as we get into a consolidating market.

I think we have already done that spend, we already have that capability. We have the ability to grow organically. I don't see value in acquisitions, particularly at today's price, anything on the small side, simply because of not the least of which because of prices, but also just because it would take our eye off the ball. It just doesn't make sense and doesn't change our outcome strategically.

You'll continue to see us look and execute on product or technology adds that aren't major and scalable, and make a difference to the offerings we have to our clients. If there is a market disruption, if there is a crack in credit, which we don't see today, but if there is, you would see us use capital to take advantage of that.

Robert Q. Reilly -- Chief Financial Officer

Like we've done in the past.

William S. Demchak -- Chairman, President & Chief Executive Officer

As we've done in the past, but as of now, we think we have a really strong hand to play just pursuing organic growth.

Ken Usdin -- Jefferies -- Analyst

Okay, understood. And Rob, one question for you. In terms of the fixed rate assets and where the curve has gone. Are you still seeing positive benefits, as cash flows flow off of the securities book and the fixed-rate loan book? And if so, what's the -- what are you putting on new stuff at versus where the roll-off is?

Robert Q. Reilly -- Chief Financial Officer

Yeah. Yes, again in the first quarter, actually we were -- what we were buying was accretive to the yields as the curve has flattened out here in the latter half of the quarter were a little bit below.

Ken Usdin -- Jefferies -- Analyst

And would you expect that to be the case as you roll forward. Sorry, go ahead, Bill.

Robert Q. Reilly -- Chief Financial Officer

Yeah, I do, slightly below, I do. Yeah.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. I mean as you look, if you just look at all else equal, we've seen since the fourth quarter. I don't know, 35 basis point rally and rate swap yields in five years and a little bit more than that in 10 years And eventually, again all else equal on risk that will show up through our fixed asset yields, that delta through time. And it's a long period of time that, that will occur over...

Robert Q. Reilly -- Chief Financial Officer

Yeah. So the outcome won't be a dramatic change. But to point your question is now the curve has flattened out. So we're little bit below now in our purchases.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah.

Ken Usdin -- Jefferies -- Analyst

And are you guys hedged to the point where you want to be to that point, like, I get your point on the swap delta so, do you have the construction setup as far as this rate environment carrying forward?

William S. Demchak -- Chairman, President & Chief Executive Officer

We are -- I mean, in effect, we went into this and hindsight is 20/20, but we went into this asset sensitive are short in effect underinvested. I still -- I am a disbeliever in term rates, but they are where they are and all else equal, we made a mistake on that.

Having said that, we're not going to invest into this type of yield curve, we'll kind of maintain where we are and watch it play out.

Ken Usdin -- Jefferies -- Analyst

Yeah. Okay. Thanks guys.

Robert Q. Reilly -- Chief Financial Officer

Sure, Ken.

Operator

And our next question comes from the line of Kevin Barker with Piper Jaffray. Please proceed with your question.

Kevin Barker -- Piper Jaffray -- Analyst

Thank you. Just a follow-up on that question. Rates flat here, I mean, deposit pricing likely to continue to move higher and reinvesting at negative yields on the fixed rate assets. I mean, would you expect a little bit of pressure here maybe in the second and third quarter on NIM before flattening out, obviously you guided to NII staying stable from what we have (multiple speakers)

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. Look you're going to -- it wouldn't shock us to see them drop a couple of basis points as we move through the course of the year. There are so many things that move around inside of that as it relates to asset spreads as well and what we buy, but all else equal, yes NIM should drop 1 or 2 basis points as securities and fixed rate loans roll down and we replace them at lower yields. There's a lot of stuff that would be on the other side of that, we'll have to wait and see.

Robert Q. Reilly -- Chief Financial Officer

Yeah, I think that's right. And then obviously, a big variable is the deposit betas and the cost of the deposits.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yes.

Kevin Barker -- Piper Jaffray -- Analyst

Okay. And then the follow-up on some of your comments around credit, obviously, no discernible trend and feel comfortable about it, but it did come above your guidance -- the provision did come above your guidance.

Robert Q. Reilly -- Chief Financial Officer

Yeah.

Kevin Barker -- Piper Jaffray -- Analyst

And you did mentioned consumer lending. Was there anything in particular around C&I or any one-off credits given you saw the pickup in manufacturing NPAs?

Robert Q. Reilly -- Chief Financial Officer

Yeah. Hey Kevin, this is Rob. No, nothing -- nothing in terms of broad themes. Our provision was above guidance this quarter in large part because of the growth. But then a handful of specific credits, that don't really have any common theme, the manufacturing -- that you see in the supplement there, there is a couple of names, but that's one of our largest book that's over $20 billion in loans there. So no broad theme. It's just -- you get a little quarterly volatility working off these low levels. And in any given quarter a couple of names could go on, a couple names could go off. And that's the variance that we experience.

William S. Demchak -- Chairman, President & Chief Executive Officer

One of the things that -- it's probably masked this a little bit in the past is simply recoveries, certainly starting out on the crisis when they were very high. And basically, we've kind of gotten to a place at this point, where recoveries has trended off, corporates are largely operating at their rating level they want to achieve. And so we have less sort of upgrades as people get back to where they are and we have the traditional business of growing loans, which is causing provision to slow a little bit.

Robert Q. Reilly -- Chief Financial Officer

But again, so it's such a function of these low levels. When you take a look at our reserves to loan ratio, it is not -- almost 1.16 every quarter it is to 1.16.

William S. Demchak -- Chairman, President & Chief Executive Officer

By the way, we do not fall for that.

Robert Q. Reilly -- Chief Financial Officer

No, we don't fall for that. Yeah. We don't fall for that. But it is literally unchanged.

Kevin Barker -- Piper Jaffray -- Analyst

Okay. Just quickly, so would you structurally expect higher severity going forward with frequency in line with what you've expected in past years?

William S. Demchak -- Chairman, President & Chief Executive Officer

Higher severity meaning loss given default or higher.

Kevin Barker -- Piper Jaffray -- Analyst

Or higher losses. Yeah. So if there's less upgrades and more loss on any defaults?

William S. Demchak -- Chairman, President & Chief Executive Officer

None on a single default, I think all else equal, right, we're running at a charge-off ratio that is unsustainable. So yes, through time, you would expect or through the cycle charges to be higher by our -- by the way ours and everybody else, as everybody keeps saying the same thing. Bizarrely I don't know that that's what we're seeing this quarter, but through time...

Robert Q. Reilly -- Chief Financial Officer

There will be a gradual increase.

William S. Demchak -- Chairman, President & Chief Executive Officer

You'll see a gradual increase. This quarter was more so than anything else just driven by growth, which will take every time. And by the way, if you find that hard to stomach wait till CECL comes along it. And you'll see the impacts from loan growth in your -- in your quarterly provisions. But no, there's nothing in there that's bothering us at this point.

Robert Q. Reilly -- Chief Financial Officer

That's the important point.

Kevin Barker -- Piper Jaffray -- Analyst

All right. Thank you very much.

Operator

Our next question comes from the line of Gerard Cassidy with RBC. Please proceed with your question.

Gerard Cassidy -- RBC -- Analyst

Good morning, guys.

Robert Q. Reilly -- Chief Financial Officer

Hey, Gerard.

William S. Demchak -- Chairman, President & Chief Executive Officer

Hey Gerard.

Gerard Cassidy -- RBC -- Analyst

Bill, you mentioned in your shareholder letter about expanding into markets through the technological innovation of digital banking. Can you share with us at what point we may actually see some metrics or maybe you have them already that we can monitor to see the success that you're having with the penetration from that strategy, rather than the old fashion as you mentioned, making acquisitions doesn't make sense today, but you're going to do through organic growth. How do we as outsiders (ph) measure that success?

William S. Demchak -- Chairman, President & Chief Executive Officer

That's a completely fair question, Gerard. We were working on exactly how to bring that to life. I would tell you, for now, what we are looking at -- we started out with the notion we will launch a digital platform on a national basis with offerings that are geofenced and try to convert what starts out as a higher yield savings product into full time clients.

So ultimately, metrics on how many accounts, how many deposits, how many are active, how many moved to virtual wallet and so forth. But also inside of our learnings as we go through that, is how many branches we built in these digitally think markets, largely following our C&IB expansion and what our strategy is around that, the costs associated with that. All of that continues to be developed and until it's why we are spending time learning and testing in each of these new markets before, we come out with the stated goals to what we think this thing can be.

Right now, I think we just did we open a second branch in Kansas?

Robert Q. Reilly -- Chief Financial Officer

No. This month, later in April.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. And then a couple of balance. So we're early on at this and we're not spending huge dollars on it. But I want to get sort of results that we can't bucket that show our progress. Once, we get a very clear go-to-market strategy around each of these markets. But we do (multiple speakers) for that.

Gerard Cassidy -- RBC -- Analyst

Yeah. No, very good. And then as a follow-up question, when you guys look I know you don't target an efficiency ratio as you mentioned on the return on tangible common equity ratio earlier in the call. And you look at where you guys are today about 60%, many of your competitors have really started to make inroads into bringing their ratios down toward the mid 50s, can you give us some color how do you think you may get -- what your roadmap is to bring that down, again, I know it's not a focus point for you folks. But, how do you hope to bring that kind of number down, which would of course drive profitability higher?

William S. Demchak -- Chairman, President & Chief Executive Officer

So, if you read my annual letter.

Robert Q. Reilly -- Chief Financial Officer

Well, he did, he did.

Gerard Cassidy -- RBC -- Analyst

Yeah. I did. Did remember all of that obviously.

Robert Q. Reilly -- Chief Financial Officer

I think part of it.

William S. Demchak -- Chairman, President & Chief Executive Officer

Gerard, the issue here, we don't manage to an efficiency ratio, but we could drive that number down quickly and materially by basically burying our heads in the sand and saying that, we are not going to try to survive this digital onslaught of what is happening in retail banking. And bluntly, many of our peers are shrinking themselves to greatness and not investing in what is that in aggressively consolidating industry was share at this point going to the largest players largely on the back of grade offerings.

I want to be one of those people with grade offerings and a larger player that consolidates across this country and to do that, we need to continue to invest, which we've been doing aggressively for the last seven or eight years. So we could stop doing that and show you metrics for the next couple of years that look great. And I think in the course of doing so, we'd seal our fate. So our focus here is on intelligent organic growth, good risk adjusted return for shareholders, and we think we have a real opportunity to do that inside of an industry that is just going through transformational change right now.

So long story short, that'll be an outcome not a targeted number.

Gerard Cassidy -- RBC -- Analyst

Do you think on the, like you said, it's not a targeted number, is it more a denominator driven number, meaning that you mentioned responsible growth, obviously, you're investing in the numerator, which is expenses, any improvement will come more from the -- just the growth being better at the bottom rather than cutting back on expenses?

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. My best guess is, -- is I play this whole thing true. As you can imagine, I do this most nights when I'm struggling to sleep. I think what happens is you will see, and you've heard me talk about this change in the income statement, whereby you will see occupancy costs drop, you will see tech -- which has already happened, you'll see technology costs go up, you will see the marginal cost of deposits increase as the price paid for digital offerings and in effect -- in footprint physical offerings, if there is such a thing merge through time, you're going to see banks spin their existing networks expand in MSAs, if they don't operate it today and my best guess is our efficiency ratio doesn't change materially through time as much as our total E increases as we grab share across this consolidated market.

It depends on so many things, but I think the cost of marketing, the cost and ability to move deposits are going to offset the gains you get by otherwise using technology and removing physical plant

Robert Q. Reilly -- Chief Financial Officer

The distribution champion (ph).

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. So I don't -- the gross metrics don't change, but the line items in the income statement do. And I think growth potentially accelerates materially in the out years as this industry consolidates.

Robert Q. Reilly -- Chief Financial Officer

Yeah. Hey, Gerard. I'll just add to this. It's Rob clearly investment is a big component of our spend. But in sort of the short-term, it is about the operating leverage. So provided that revenues are growing, we're OK with expenses growing, especially if they are part of that revenue. So we have a great fee businesses that have higher efficiency ratio and we'd like to grow those as much as we can.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah. And before -- and the final thing I'll say, because I've not -- we're not -- obviously in different to the amount of money we spend and we're very good at managing expenses. We go into our budgeting process every year, and we don't talk about necessarily what are the new investments we want to make as much as we talk about dollar one (ph) what is the $10.5 billion whatever the number is that we're going to spend this year and build up from a base.

So we take the management of expenses very seriously, but inside of that, we are aggressive at wanting to be able to maintain the investment necessary to ensure our place and what I think is going to be consolidating market and we've been doing that, you'll see us continue that.

Gerard Cassidy -- RBC -- Analyst

Great. Appreciate all the color. Thank you.

William S. Demchak -- Chairman, President & Chief Executive Officer

Yeah.

Operator

And there are no further questions at this time. I'll turn the call back to you.

Bryan K. Gill -- Executive Vice President & Director, Investor Relations

Okay. Well thank you very much for joining us, and we look forward to working with you this quarter. Thanks.

William S. Demchak -- Chairman, President & Chief Executive Officer

Thanks, everybody.

Robert Q. Reilly -- Chief Financial Officer

Thank you.

Operator

This concludes today's conference call. You may now disconnect.

Duration: 50 minutes

Call participants:

Bryan K. Gill -- Executive Vice President & Director, Investor Relations

William S. Demchak -- Chairman, President & Chief Executive Officer

Robert Q. Reilly -- Chief Financial Officer

John Pancari -- Evercore ISI -- Analyst

Betsy Graseck -- Morgan Stanley -- Analyst

John McDonald -- Autonomous Research -- Analyst

Erika Najarian -- Bank of America -- Analyst

Ken Usdin -- Jefferies -- Analyst

Kevin Barker -- Piper Jaffray -- Analyst

Gerard Cassidy -- RBC -- Analyst

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