Q4 2023 Valley National Bancorp Earnings Call

Participants

Travis Lan; IR Contact Officer; Valley National Bancorp

Presentation

Operator

Thank you for standing by, and welcome to the Q4 2023 Valley National Bancorp earnings conference call. (Operator Instructions) Please be advised that today's call is being recorded.
I will now turn the call over to your host, Mr. Travis Lan. Please begin.

Travis Lan

Good morning, and welcome to Valley's Fourth Quarter 2023 earnings conference call. Presenting on behalf of Valley today, our CEO, Ira Robbins, President, Tom and Enza, and Chief Financial Officer, Mike Hagedorn.
Before we begin, I would like to make everyone aware that our quarterly earnings release and supporting documents can be found on our Company website at Valley.com. When discussing our results, we refer to non-GAAP measures, which exclude certain items from reported results. Please refer to today's earnings release for reconciliations of these non-GAAP measures.
Additionally, I would like to highlight slide 2 of our earnings presentation and remind you that comments made during this call may contain forward looking statements relating to Valley National Bancorp and the banking industry Valley encourages all participants to refer to our SEC filings, including those found on Forms eight K, 10 Q and 10 K for a complete discussion of forward-looking statements and the factors that could cause actual results to differ from those statements.
With that, I'll turn the call over to Ira Robbins.

Thank you, Travis. In the fourth quarter of 2023 Valley reported net income of $72 million and earnings per share of $0.13. Exclusive of non-core items including the one-time special FDIC assessment tied to the year's bank failures. Adjusted net income and EPS were $116 million and $0.22, respectively. While I'm pleased with the quarter's balance sheet trends, I'm disappointed with the earnings and profitability metrics, which I will discuss shortly. On the positive side, we made progress enhancing C&I growth while curtailing commercial real estate originations. This enabled us to both accrete organic capital and reduced funding needs.
On the deposit side, we added a remarkable 14,000 net new consumer households and 8,000 net new commercial deposit relationships during the year. This represents 4.5% growth in consumer household and 10.5% growth in commercial relationships from the same period, a year ago. The ongoing addition of new deposit clients is critical as it directly relates to Valley's franchise value and our future earnings potential. Our new customer growth was broad-based across all of our geographies, and I might add was undertaken against the backdrop of a difficult external environment when midsize banks like Valley were too often front-page news during the quarter, our new relationships helped to generate strong customer deposit inflows, which enabled us to significantly reduce our reliance on brokered deposits. But customer deposit inflows were exceptional. The organization-wide focus on ensuring a successful core conversion in October slightly led us to take our eyes off the ball relative to deposit pricing. There is no doubt that this negatively impacted net interest income during the quarter and in a few minutes, Mike will illustrate some of the subsequent efforts that we have undertaken to manage these deposit costs going forward.
From a strategic perspective, we are refocusing on holistic customer profitability and will return to pricing deposits in consideration of balanced and returns as opposed to just balance. The quarter was also impacted by a few additional factors worth calling out first waste service charges and proactive efforts taken to supplement customer support, both associated with our core conversion weighed on quarterly earnings by an estimated amount equaling approximately $0.01 per share. These efforts were enacted out of an abundance of caution to ensure that our customer experienced smoothly transition to our new system. I'm pleased with the customer response to our core conversion, but acknowledge that some of the amounts of the excess support costs will persist in the first quarter as well.
Secondly, our provision was partially elevated as a result of a loan charge-off in our commercial premium finance business, the after-tax impact of the associated provision was approximately $0.01 per share as well. This business line has approximately $275 million in outstanding balances. And we have an agreement in place to sell this business and a portion of the outstanding loans of what is expected to be a modest premium during the first quarter of 2024. While this quarter's earnings are not satisfactory, I continue to believe that our strategic progress over the last few years position us well in the evolving banking landscape and the financial consistency that we have achieved in support of this strategic evolution is evident in our tangible book value growth results. Our stated tangible book value has increased 52% since 2018, which is more than double our proxy peers at 25%. Our value creation as measured by tangible book value plus the dividends we have paid out totaled 90% since 2018 or more than 1.7 times our proxy peer median of 53%.
From a balance sheet perspective, we have successfully transformed and diversified our funding base. At the end of 2017, approximately 92% of our deposits were held in our branch network by utilizing technology to expand our delivery channels and establishing new growth oriented deposit verticals. We have reduced our reliance on branch deposits to just 65% today from a geographic perspective, 78% of our total deposits were in the Northeast branches in 2017. Today, that number is down to just 45% of total deposits. Our focus on geographic diversity and holistic relationship banking has benefited the asset side of our business as well. In 2017, 78% of our total loan portfolio was in New Jersey and New York. That composition has declined to just 55% today in 2014, we entered Florida with the acquisition of First United Bank, which had just over 1 billion in loans through additional strategic acquisitions and targeted organic efforts in this dynamic growth oriented market. Our Florida loan portfolio has expanded beyond $12 billion. There continues to be significant and diverse commercial growth opportunities available to us in Florida and across our entire book. The proactive evolution of our technology infrastructure is a less tangible, but equally significant achievement for our organization. We have recruited and developed a strong pool of technology talent, which has helped us to modernize our infrastructure and positions us to be on the leading edge of further advancements in the banking space.
Our technology adoption has allowed us to scale the franchise with limited net headcount growth since 2018, we have nearly doubled our asset base from 32 billion to 61 billion with a near 17% increase in headcount. Our recent core conversion Align Technology across our company and provides additional capabilities which we look forward to leveraging for our clients as we move past the conversion. We anticipate that further efficiencies will also emerge. We have also focused on enhancing a more uniform data infrastructure, which allows us to react quickly and purposely to changing market dynamics. And internally, a working group has been established to help us determine appropriate potential use cases and to begin to execute on related opportunities. And I want to pivot to our strategic imperatives for the coming year. While none of these are new initiatives for Valley, we continue to believe that they will drive shareholder value over the long time. First, we need to continue to drive core deposits to the bank. We have an incredible service oriented branch network across our dynamic geographic footprint will generate more consumer and commercial activity out of these locations in 2024. As the curve increasingly normalizes, we will further leverage the existing specialty niches that we have established and will build on our momentum from the second half of 2023.
Secondly, we will continue to de-emphasize investor commercial real estate lending in favor of C&I and owner-occupied CRE. We have restructured our commercial banking organization to better align expertise and experience with opportunities in our markets and business lines. Our enhanced treasury management capabilities and product offerings will support expanded wallet share among our customer base and help us to acquire new customers.
On the commercial side, we have also adjusted our incentive programs in support of our deposit gathering and lending goals, which will drive further strategic alignment across the entire organization.
Finally, we will continue to grow our differentiated noninterest income businesses to diversify our revenue base through organic and acquisitive efforts. We have developed a robust suite of fee income products and service offerings for our growing customer base. The recent enhancements of our treasury management offering will help to offset certain capital market headwinds associated with lower swap-related revenues in 2020 for the industry. Challenges of the past year confirmed to me that we have undertaken the right long-term strategy, and I'm pleased with our ability to navigate this difficult year 2024 will be about accelerating our progress towards achieving our strategic initiatives and improving our performance as we continue to mature as we execute on these initiatives.
I want to reiterate that we continue to prioritize tangible book value growth. We believe that consistent growth in tangible book value would drive shareholder value over time, and we continue to expect to outperform our peers on this metric.
With that, I will turn the call over to Tom and Mike to discuss the quarter's growth and financial results.

Thank you, Ira. On Slide 6, you can see the quarter's deposit trends, direct customer deposits increased approximately 1.6 billion to largely offset the significant 2.3 billion reduction in indirect deposits. The meaningful reduction in our reliance on wholesale deposits was a key highlight of the quarter. We generated strong growth in our interest-bearing transaction accounts, and we're pleased by the slowdown in noninterest deposit runoff. That said, we acknowledge that a competitive interest rate was one of the tools used to support our generation efforts during during the quarter. Still, the pace of deposit cost increase has slowed and in a moment, Mike will outline efforts which we have undertaken to control interest expense on a go-forward basis.
The next slide provides more detail on the composition of our deposit portfolio by delivery channel and business line. Traditional branch deposits increased approximately $600 million during the quarter. This growth was spread across our geographic footprint. Our specialty niches increased approximately 1 billion and as well with key contributions from our online delivery channel and technology deposit team.
Turning to the next slide, you can see the continued diversity and granularity of our deposit base no single commercial industry accounts for more than 7% of our deposits. Our government portfolio remains diversified across our footprint and is fully collateralized relative to state collateral requirements.
Slide 9 provides an overview of our loan growth and portfolio composition. At the top left, you can see at a proactive growth slowdown, which occurred throughout 2023. Ultimately, we achieved the low end of the 7% to 9% growth target that we had laid out at the start of the year. Annualized loan growth slowed consistently as the year progressed, illustrating our ability to be responsive to changing market dynamics.
The following slide breaks down our commercial real estate portfolio by collateral type and geography. As a reminder, we have an extremely granular loan portfolio, which is well diversified by collateral type and geography. Our debt service coverage and loan-to-value metrics remain very attractive. We continue to closely monitor pools of maturing and resetting loans and believe that our borrowers are well positioned to absorb the pass through of higher rates. This reflects consistent underwriting discipline and conservative cap rate and significant stress testing efforts at origination. The next two slides provide additional details around our multifamily and office portfolios. From a multifamily perspective, our $8.8 billion portfolio includes 2 billion of co-op loans with an extremely low loan-to-value, exclusive of our color portfolio. Our Manhattan multifamily exposure is a mere 600 million, which you can see in the last column of the table, the remainder of the portfolio is well diversified across our footprint with low average loan sizes and attractive loan-to-value and debt service coverage ratio metrics.
With that, I will turn the call over to Mike Hagedorn to provide additional insight into the quarter's financials.

Thank you, Tom. Slide 13 illustrates Valley's recent quarterly net interest income and margin trends. While end-of-period non-interest-bearing deposits stabilized. The decline in noninterest deposits on an average basis weighed on quarterly net interest income by approximately 4 million. Throughout the quarter, we replaced maturing direct and indirect CDs with relatively high yielding interest-bearing transaction accounts and promotional retail CDs, which was the cost of our significant customer deposit growth during the quarter. The right side of this page outlines efforts that have been undertaken to more precisely manage our funding costs on a go-forward basis. We have cut back to high yield savings rate in our online channel, but remain competitive. We have also significantly reduced our one-year CD rate, which will help to mitigate the repricing issue that we face during the recent quarter.
Finally, we are working with our relationship bankers to ensure that deposit rates are reasonable in the context of holistic customer profitability in the few quarters following the industry's challenges in March, we priced deposit products to ensure that direct customer customer balances rebounded as we continue to move past these challenges, we will price products with a more even consideration of balances and profitability.
Turning to the next slide, you can see that noninterest income on an adjusted basis was generally stable from the third quarter of 2023. Deposit service charges declined sequentially as we waived certain transactional fees around the time of our core conversion. Other than this growth trends were relatively strong for the quarter despite the headwind of swap revenue. On the following slide, you can see that our noninterest expenses were approximately 340 million for the quarter, adjusting for our $50 million FDIC special assessment and certain other nonrecurring litigation and merger charges, noninterest expenses were approximately $273 million on an adjusted basis, compensation costs continue to be very well controlled. The sequential expense increase was primarily due to higher traditional FDIC. assessment costs, consulting costs, occupancy and advertising expenses and the seasonal uptick in other business development expenses. A portion of the quarter's expense increase was associated with certain consulting and customer support initiatives associated with our core system conversion in October. While the customer experience associated with our conversion has been extremely positive, some of these costs will have a tail into the first quarter. As you know, the first quarter also has traditional seasonal headwinds associated with payroll taxes. We are very pleased with our ability to proactively control headcount and associated compensation expenses. Throughout 2023. We expect that 2024 will be a more normal year in terms of expense trajectory. And as you will see shortly, we anticipate mid single digit expense growth with the coming year.
Slide 16 illustrates our asset quality trends for the last five quarters. While nonaccrual loans ticked up somewhat during the quarter, they remained relatively flat on a year-over-year basis. Net charge-offs were 17 million during the quarter and included approximately $5 million associated with our commercial premium finance business, which is under an agreement to sell during the first quarter of the year. As a result of our higher provision. Our allowance for credit losses for loans increased one basis point during the quarter to 0.93% of total loans.
The next slide illustrates the sequential increase in our tangible book value and capital ratios. Tangible book value increased nearly 2% from the third quarter of 2023 and benefited from a reduction in the AOCI impact associated with our available for sale securities portfolio. We are pleased that during the year we were able to support our strong loan growth and organically increased regulatory capital based on our expected loan growth in 2024, we would anticipate this trend to continue. We laid out our expectations for the coming year.
On Slide 18, we anticipate generating mid single digit loan growth with a focus on C&I and non investor commercial real estate at 2024, based on consensus interest rate expectations for 2024, we would anticipate net interest income growth between 3% and 5%. Noninterest income should grow between 5% and 7% on an annual basis as headwinds in our spot business are more than offset by continued scale in our wealth insurance and tax advisory businesses as well as our recently enhanced treasury management capabilities.
Noninterest expenses should grow approximately in line with revenue higher FTIC. costs and inflationary pressures are offset by savings from our core conversion and the continued benefits of our previously announced expense initiatives. Factoring this guidance together, we expect 2024 EPS to come in just slightly lower than the existing 2024 consensus estimate of $1.8.
With that, I'll turn the call back over to the operator to begin Q&A. Thank you.

Question and Answer Session

Operator

(Operator Instructions) Frank Schiraldi, Piper Sandler.

Well, I would point out start just on the I'm on the and I data I recognize you guys follow the market or the forward curve here and most of those break assume rate cuts are on backloaded in the year on what sort of annualized basis or annualized pickup do you get in terms of either NI or mix and from a given 25 basis point? What's what assumption?

So I want to make sure I understand the question. You want to know what just the impact would be of a single 25 basis point increase or cut?

I'm sorry. Yes, basically as you get, you know, if we get three or four cuts, I mean I'm just trying to assume or get a sense of what 25 basis points does for on average for the NAM or NI arm in your model?

So I'm going to direct you back to our guidance around 3% to 5%. So what we're expecting right now in 2024 is roughly 175 basis points that will affect most short end of the curve as you get less inversion in the curve and that first increase does start in the end of March. You don't get much in the first quarter, but you are correct. They are more back loaded on the cuts into the fourth quarter of 2024. So I'm not prepared to answer a question on what is exactly a 25 basis point cut because it's going to depend upon the mix of the funding sources at that time on for the full year, we're expecting 3% to 5% increase in NII and that should drive a slightly higher O&M year over year.

And Brent, conceptually, we're relatively neutrally positioned to the short end of the curve. So there's not a significant move based on if those cuts don't materialize, we're much more exposed to a longer end impact fee and the benefit that we'll get as our fixed rate loans mature and reprice.

Okay. So I guess over the full curve, you're still liability sensitive or more neutral to the front end? Yes, that's okay, Tom. Okay. And just kind of a more theoretical question in terms of business business mix has changed a bit here over the years with specialized deposit opportunity. The opportunity on the C&I side, which you guys continue to see in 2024 in a more normally sloped yield curve, what do you think sort of a normal sort of margin is a normalized sort of NIM. is for Valley in the way, Bill, the balance sheet?

Yes, this is Ira. I think it's a lot higher. I mean, obviously being an inverted curve for three years running the balance sheet and which we do where we tried to take as much of a neutral stance as we can. It's a real challenging environment for us.
On that said, as the curve does get to a more normalized focus we do anticipate significant margin expansion as we get back to in an appropriate environment. We've done a really good job shifting the commercial growth within the organization. We've been running a 10% CAGR on C&I growth for an extended period of time. And as you mentioned, the diversification of the funding base really will help us as that curve gets a little bit more normal and we can get back to an appropriate deposit pricing approach across the organization.

Okay, great. And then if I could just sneak in one last one on that. On that kind of front in terms of the specialized deposits coming onboard in the quarter, the growth there? And just thinking through the betas on your deposit, both the specialized versus on the deposits in the branch. Does the beta is expanding here given, you know, the national businesses? And would that help you obviously help you maybe to bring grain in a down rate.

It does data have a bit of a higher beta in some of those national businesses. And I think that refers back to what Travis said that it's going to be a bit more neutral when we have some of that curve impacted right off the bat. I think the mix shift from out of non-interest bearing really impacted us during the course of the year. So that's changed a little bit of the Assa Lei Lei ability, right? So we do have more sensitivity on the downside on the deposit cost, some of it when we were running 28% to 29% non-interest bearing deposits, as those are now sitting in, it's the interest interest bearing deposits. So that is going to be a benefit to us. But I think as you really mentioned, is the diversity and the granularity that sits within that deposit book that we're really excited about and what the opportunity is, as we mentioned earlier on the call, I think deposit pricing doesn't get a little bit away from us as we were focused more on the core conversion. That said, I do believe it's an easy fix. It will we will focus on and make sure that 2024, it gets back to results that you would expect from us.

Okay, great. I appreciate color. Thanks.

Thanks.

Operator

Steve Moss, Raymond James.

Good morning. Just following up here on the asset liability side side of the business. Just curious with regard to how much of your fixed rate loans and securities reprice in 2024?

Yes, Steve. So that we've talked in the past, you have 20 billion of fixed rate loans. It's not necessarily linear. So we have more on it more of our fixed rate loans reprice in the second half of the year than during the first half. But in total, it's between three and 4 billion. That would reprice this year. But again, that's relatively backloaded.

Okay. And then on the unsecured side, I'm assuming there's probably just minimal cash flows for the upcoming year.

Yes. Duration securities portfolio has extended to seven years, give or take some. We get yes, it's really de minimus. It's a $5 billion portfolio to couple of hundred million in the year.

Okay. And then on credit here, just curious, give a little more color on the uptick in C&I and CRE and K. That sounds like some of it from the premium finance that you charged off this quarter. But just kind of curious as to what the loan types are in and any color you can give?

Yes. Hey, Steve, it's Tom there there. There was an uptick in that nonaccrual primarily in the CRE business, $20 million, $10 million. It has since been repaid. When you look at our performing past-dues, you will see a decline on the commercial side and very little if any, net 90 day bucket. The increase in the accruing past dues is on that residential side. And on the color on that, it's our jumbo on balance sheet portfolio, average loan-to-value of 58%. We don't expect any loss historically looking over a 15-year period, our real estate portfolio ran at about 35% charged to us against our peer banks. We expect that trend to continue. We are seeing really improvement across the board. Our metrics remain solid, especially on the commercial side.

Okay. Just curious, I know in the text you guys did refer to an uptick in classified as it's just kind of curious, where did criticized and classified assets in the quarter here yet they track.

You have the number, but the uptick we do that forward review of all of our loans, our total the total portfolio, especially looking early on in the year at the ones that are repricing and resetting there was a migration of those loans in the third quarter, primarily into that special mention category where they might have fallen below or right at a one times debt service coverage. I just want to remind everyone, the loans that we reprice during 2023 and our review of 2024 reprice resulted in no modifications of any of the contractual terms to the repayment. But Travis, if there is a different number that you are referring to?

Travis Lan

Yes, I don't have the number in front of me, but I would say in the third quarter. That stress test process that Tom referenced resulted in a more significant increase in criticized and classified loans. Again, not an impression that we would see additional losses, but just the way, the debt service coverages shakeout in the fourth quarter was a much more normal increase. So it was not not insignificant.

And this is Mike. That increase would have been obviously in special mention credits, not the more extreme ratings.

Okay, got you.

And then maybe just following up on that point, as you're seeing some borrowers get close on debt service coverage ratios.

Just curious to know what color you can give around the work, whether it's a workout process, borrowers that help you our ability to maybe pay down loan just kind of what you're seeing and what potential NPA formations you could see here in 2024.

And again, we haven't had to modify any terms to those borrowers where we were repricing in the past year, year and a half, typically our underwriting standards, which start we use a higher cash level than probably our peers use. We underwrite to current cash flow. We don't underwrite to future cash flow. Our leverage tends to be lower going in our average loan to value in that real estate portfolio is about 60%, pretty, of course, for all of our asset classes. So there is flexibility. We do a lot of business with existing comfort customers. They have the wherewithal. If it's tight, we'll either get additional collateral of paydown or reserve to support any of funding below an appropriate level.
And the other piece I want to add the refinance activity, especially multifamily, picked up in the fourth quarter. So it did allow us to exit those non-relationship non-core loans.

Okay, great.

Thank you very much for all the color.
Thank you.

Operator

Michael Perito, KBW.

Hey, good morning. Thanks for taking my questions. So I understand this isn't something you guys guide to, but I'm trying to understand some of the cadence of kind of profitability around them and some of the expense targets and the rationalization, I think, which will start to have a bigger benefit in the middle part of the year. Just are you guys willing or able to just kind of qualitatively talk about how you're thinking in the current budget about what the kind of return ROE profile will look like as you exit 24. I mean, it feels like the first half of the year might continue to be a little bit depressed. But just wondering if you can kind of give any indications around that cadence relative to the guide that you provided?

I think your perspective, Mike, is pretty accurate. So I think in the first quarter of the year. I mean whether it's on the expense side, the headwind to payroll tax or on the IR side, you have day count and other things. And the lack of kind of change that's projected in the industry environment. We anticipate generally stable margin, I'd say in the first quarter on improving somewhat in the second quarter and then getting more expansion in third and fourth quarter. That's kind of the way the budget is still now based on the implied forward curve.
In terms of expenses, I mean, we have if you look back to last year, there was $7 million pickup in the first quarter related to payroll taxes. You're looking at something similar there as we stand here in December we've on an annualized basis, about 20 million of expense saves out related to the headcount reduction that was enacted in June. We think there is another 8 million or so give or take on on a from an annualized perspective from further actions here in the first quarter on the personnel side. And then as we get into the second quarter and beyond there should be some sales related to the core conversion, some of these elevated costs we've talked about with customer support efforts and other things. So I think the first quarter there will be some seasonal expense headwind, but then you're looking at general stability and over the three quarters following.

So how do you think the profitability improves throughout the year? And when you blend it all together again, at the midpoint of our range, you get to $1 for dollar five that puts you at an ROA level is that I'd say similar to what we've achieved this year, but it does improve as the year goes on.

Yes. I mean, it should kind of put you maybe in the 90s on the ROA on the exit. I guess the question is if revenue to expense core dollar for dollar, right, that's not going to really improve much, and that's kind of what the outlook is for 24. But I guess what gives you confidence that in 25 and beyond, you guys can get back into a more positive operating leverage territory and continue to see those improvements kind of carryforward in 25. I mean, is it just margin? Is there other kind of unit economics and some of the specialty businesses that you're growing that will benefit from scale would love some additional color there.

I think there's a lot of upward opportunity for us. And I think if you look at the net interest income side, right, sitting in an inverted curve, hopefully isn't one that we sit in for that much longer, but it definitely has an impact on us. And I think the core conversion is really understated as we think about what the ability to scale looks like for us, we changed every single one of our clients into a new core platform across the entire organization. That said we put in 261 different API.'s sitting on top of that core conversion to think about what that client experience looks like you go into Valley you open up a checking account in one of our branches. It's the exact same platform that you do when you're opening up a digital account sitting at Valley. So we were very smart, I think, in the approach that we took as to how we were going to leverage the infrastructure and technology base. So from a scalability perspective for us, we're not paying per individual unit when we open up an individual account to a core provider somewhere, we really have a technology infrastructure that's scalable here that's focused on what that client experience is going to look like and will definitely drive outsized growth. And when I talked about some of the commercial growth numbers and the consumer growth numbers, those are household growth numbers that in not even individual accounts that was done during a core conversion when everyone hated mid-size banks. So I think there's a lot of positive, a tailwind that we have when we think about what we're doing from a franchise value perspective. So I'm really excited about what I think the opportunity is on the expense side of the book. But the revenue side is definitely going to begin to accelerate as well.

Helpful.
And then just lastly, kind of on the same line of questioning, just you guys at the 5% to 7% loan growth target for 24, you're obviously still trying to end.

My will look look, look at our fourth quarter originations. They were 2.2 billion.

One moment, please can you guys still hear me at a loss?

Operator

(technical difficulty)

I've asked sorry about that.

Operator

I think we do have Mr. Garrido interconnected also.

Okay.

Sorry, my ego, we were hearing your question on loan growth, but it dropped out when you say I got a note no problem on that book.

And I was it was more just asking it's kind of same line of questioning just the loan growth as you guys focus more kind of on pricing of customers and holistic kind of customer profitability, et cetera like that, is there is it fair to assume that like the incremental loan growth and the customer loans that you bring on you guys would think with some of the deposit pricing changes, et cetera, will be coming on it at better kind of profit margins than they were in 23 or is there like a lag to some of those impacts? Or how should we think about that dynamic?

We would you should expect that our spreads on those will continue to widen and increase and give you a little context around that. We have seen a an uptick in that C&I pipeline in that business is probably 70% of what its high point was and it represents 65% of our total portfolio. And it's across the all business lines, especially in our healthcare and fund banking lines. So we are starting to see the improvement in spreads are holding.

It will really just be adding to that. When you think about the compression we've seen in the margin is largely a function as we talked about some of the mix shift and some of the other repricing as rates stabilize, which they seem to have or go down. And the other really is going to be significant benefit to us. The deal value margin that we put on is from three 53 60, which reflects the ability that we have from a pricing perspective and how we're going about it from a profitability perspective, the new loans that we had on, we've been able to bring on a equal amount of funding associated with that from a client perspective, so it's not as even if we're out of the brokered market. So so once we do get some stabilization, which we anticipate having on that mix shift, there really is upside for what that margin looks like based on the fact that the new originations, as Tom mentioned to be in, came on at a spread of positive 3.50 for us helpful.

And then just I wanted to clarify some quick enough that back, but just Mike, can you repeat, I just want to make sure I heard it correctly. Just build rate assumptions in baked into the NII guide around Fed funds.
And then just to be clear, Travis, you're basically saying that like on the short end, whether it's to cut salary cuts for cuts, it doesn't actually have a huge impact to 2024 is more than the long end. And then some of the back book and other dynamics that we've been discussing? Just want to make sure I heard that.

All right. That's correct. And while we haven't laid out specifically and we expect the Fed to cut this amount on this day. I can tell you the first rate cut anticipate is 25 basis points, but they accelerate as the year goes on. So we get larger rate cuts in the third and fourth quarters. And again, the biggest benefit to us would be a lessening of the inversion in the curve and a reduction in short-term interest rates, hence why we took the cost this quarter to shorten our duration on our liabilities are just funding generally, as Tom talked about around the mix of our deposits moving away from FHLB and some of our maturing where they were indirect or direct CDs that we had in the fourth quarter to money market and transaction accounts. And that was all done purposefully to prepare the key for the Fed.

Okay. Thank you, guys. I appreciate taking my questions.

Operator

Our next question comes from the line of Jon Arfstrom, RBC Capital Markets. Your line is open.

Very Thanks. Good morning. Just to follow up on that, Mike, is that the liability shortening, is that largely complete for you guys at this point?

It's largely complete. There is another big piece in the first quarter still to come because it was loaded front end loaded because we were preparing for this when we were putting on these liabilities was duration going back to the first quarter of last year. So there's another piece in the first quarter and after that, it tails off a bit.

Okay, good. And then on the same topic, slide 13, you talked about the CD rate reductions in December and then you have some more coming in. Have you seen maturing liabilities in the first quarter? What was the reaction on the CD repricing? And is this material liability piece? Is that deposits as well?

Or what is that and where can that reprice so that the customer impact on it is yet to be seen, but I don't expect it to be extreme. So to be really clear about that one-year CD rate, the majority of the impact of that will be CDs that will roll. So if you remember from our previous comments back in 2013, we put on several CD specials, most notably around a 13 month duration. Now those things are rolling at 12. And so we're reducing the rollbacks.

In fact, we generally average between 70% to 80% retention of the CDs when we're in market. So I think there should be a pretty big tailwind there.

Okay, good. And then, Ira, this is kind of a margin question, but maybe not, but it feels like maybe that deposit pricing pressure was a little bit more than you expected. But to me, I look at it and I think about the numbers and maybe we're at the bottom of the margin. So curious on that. And then also curious about the trade-off decision. You talked about earlier about deposit growth against maybe some of the promotional pricing or things you did to gather new accounts and bring in deposits. Can you talk a little bit about that, that trade-off decision that you guys made?

I think from a big picture perspective, there were a couple of variables. One we made a conscious decision to go shorter right on our liability side. So instead of extended or kept it the same duration as we were having before. But when we started to see some of the movement in November and sort of where the expectations were maybe even a little bit earlier?
We're still what Kurt was on the short end. We definitely moved up a little bit shorter. So that definitely negatively impacted. That's the interest expense for the quarter. And we do think that there will be a positive impact to that, though as we think about where 2024 comes out sort of for the full year period. And that said, from a macro perspective, it was a very challenging year for an organization like ours.
Looking into beginning of the year, what happened with Signature, what happened with STV. and the others. And we were really focused on retention of deposits and as a result of that, I think we were probably maybe too lean in on some of our clients and at reacting to some of their rate request. We had a lot of money that moved to treasuries right off the bat. That said, you know, we're really competing with that today in the conversations we have with clients. I'm not so sure that we needed to necessarily do that. And we're going back reengaging with our clients, again, were a bit distracted, I think in the fourth quarter basis with the core conversion and probably even in the third quarter, even leading up to that core conversion for us, getting the core conversion done was was important. We did an unbelievable. I have three e-mail complaints of asset from clients out of an entire client base is really nothing. So there's a lot of focus on retention of clients who that core conversion. Once again.
Now I just think we get back having the appropriate conversations with our clients, appropriate conversations when it comes with the pricing should look like and we'll get the deposits back to an appropriate date as to what it should look like. But I think most importantly, we did have an unbelievable core conversion. We retained all of our clients. We actually grew clients through core conversion, which doesn't even necessarily happen. You know, we put on, as I said, 10.5% household growth in commercial during the during this year. I mean, those are unbelievable numbers.
Yes, so well, once again, I said I'm not so happy with where the fourth quarter ended up big picture. I'm not that concerned.

Yes, you shouldn't be yourself up too much. It's not that terrible. But just one more thing on net interest income. I kind of asked this earlier, but it implies a decent step up your guide like about 140 million incremental from a run rate that you had in the fourth quarter. You guys think we're near the bottom or at the bottom on net interest income at this point so we're certainly getting closer at that meeting that I'm going to direct everybody to slide 6, and I know that this is a very important topic. I mean, you look at the quarter-over-quarter cost increase in deposits, you'll see that we started off at 60 basis points when compared to the second quarter to 49 in the third quarter to fourth quarter it's only 19 basis points. So why do we feel better about the direction of Penguin that combined with the fact of starting to see some stabilization in making our non-interest bearing accounts that non-interest bearing rotation going back to when we closed only at 36% of our total core funding sources and non-interest bearing that's come down to 23% and now in December, starting to see some stabilization in the buying habits of deceleration in the overall cost of deposits. That's why we like there some additional increase in our manifest 2024. I think that obviously many Fed rate cuts to capture all of that opportunity.
Okay.

All right.

Fair enough. Thank you, guys.

Thanks.

Thank you.

Okay.

Operator

Our next question comes from the line of Steven Alexopoulos at JPMorgan.

Your line is open to everyone in Ireland to start. So you took over as CEO. One of your top priorities was improving the efficiency ratio, right? And I know it was a rough year for everybody because of what happened with rates and pressure, et cetera. But when I look at their strategic imperatives, for 2024. Very surprised the public move the goalpost to bid that improving where we are is not on there.
Is this still a top priority for you and should we expect to see improvement this year?

Yes.

Look, I think the contraction and what we saw on the efficiency ratio is largely just a function of the NIM. Stephen right. And as we get back to better core funding, as we get back to some better diversification that sits within that asset asset class, the NIM. will definitely expand as a result of that, we were down I think we were at 3,325 plus or minus employees. When I took over, we're sitting around 3,700 today and where we're at 20 $21 billion back then and 60 billion today. And I think we've definitely focused on what the efficiency looks like. We've definitely embedded technology in here. But for me, it's not something that's even caught out as the strategic imperative is just given the core of who we are today, I think we're very focused obviously on what that efficiency is. As I mentioned earlier, the technology infrastructure that we put into place allows for scalability, which is something that's important to us. So the technology a drag and what the cost is for that isn't going to be nearly what it was before. So definitely not focusing on it as calling it out is not something that I want to take away into, hey, it's not a priority for us, and I think it's just day in day out what we do and I think has been then get to an appropriate level back to where we think it should be. You'll see that number dip back down to a number that I'd be happy with.

And let me so if we look at the balances which were elevated, you called out related to the system conversion, how much was that in the fourth quarter? What's expected in 1Q?

And what comes out in 2Q in the operating expense number, there was 5 million associated with the core conversions. In the first quarter. We anticipate that will be around 3 million. So you maybe declined $2 million and then from there, I should be should be up.

Got it.

Got it.

Those are really the one-time items or infrequent whenever you want to reach further than that. But keep in mind that there was still operating expenses in running those those multiple platforms as well during the quarter, once we get to a better place, which we're pretty much right on the verge of if you're going to have those the eliminated as well.

And I do just want to go back to your efficiency comments, Stephen. I mean, if you look back a year ago, our efficiency ratio was 50% in the fourth quarter, 20% to 60% this year. But relative to average assets, non-interest expenses declined in that same period. So I mean, I think it is directly, obviously, it's directly tied to the revenue environment that you described. But I mean, we've talked about the headcount reductions that we've seen the limited headcount growth over the five years relative to the asset growth that we've put on on the efficiency ratio does tend to be more tied to just market dynamics and things both structurally and what we can control. I think we've done a very good job.

Okay.
I want to ask you guys called out deposit pricing got a bit away from you because of the system kind of what's the connection between the two.

But we have a lot of relationship clients which an organization our size should have.
Yes, I think we have internal models as to how we look at pricing deposits. I think the focus largely on our frontline staff was on reaching out to clients, retaining clients and some of the profitability metrics as to how we think about engage with our clients, how we want to direct to certain conversations. We're probably distracted based on client retention and based on just conveying to clients what we're going to be new with regards to how they approach the different systems. That said, I think certain deposit rates from the exception pricing perspective, given a little bit out of hand and there wasn't necessarily the focus that should have been on making sure that we were within our targeted guidelines as to what that pricing should be that said, I'm very confident that we'll get there there very soon.

Okay. If I could ask one last one, sorry for all the questions. So I'm trying to ask where that the NIMI. Travis, you said it's neutral in the short, but Ira, you said multiple times your name should expand. I think you said very nicely. What's the curve looks more normal. How long are we talking like what's the lag? But I would say I would think it would be sooner than later. But if we get a positively sloped curve towards the back end of this year? Is it a 2026 story before your names start to look more normal? I'm just confused why Fed cutting rates given how much you're paying on deposits? You guys are one of the higher pairs is more beneficial in the short?

Yes, yes, I think, right. There's the front end curve. I think coming down. Definitely Duffy is going to be impactful to us, but it's the long and where we have a lot more that's tied to it's going to be a pretty significant tailwind for us as to how we're thinking about where the net interest income is going to go. I think the commentary was more along. There's some day count issues that goes into that first quarter as well as we're not expecting much change with the first quarter as well. So once the curve does begin to normalize, we do believe that there's going to be some positive impact that net interest income and margin as well. That said, they're really not asking or forecasting anything to really change into the tail end of the first quarter and there is that pressure from a day count right in that right off the bat as well.

Taking my questions.

Operator

Thanks, BANKING. One moment, please.
Our next question comes from the line of Nick Cucharale of the group.

Your line is open and good morning, everyone. Just a question on the noninterest income outlook. What are the primary drivers of the 5% to 7% year-over-year growth. And are you expecting a reversion of swap activity closer to the first half of 23 as opposed to the back half?

So the biggest driver will be, as I said earlier, stabilization in our noninterest-bearing deposit balances. That was the biggest driver of net interest income and non-interest income and interest income.
I missed it.

Sorry about that.

So you can see that in our in our IP deck as well, it lays out the portions of that. Keep in mind that in 2023, we also had some one-time events related to some revenue recognition that aren't going to repeat in the prior year. But I think when you look at the totality of our fee income, we feel very good about where we're at because it only generates about 10% of our total revenue. Sometimes the increases in any one category get lost. But I do think given the lower loan growth that we have. Swap income will be somewhat challenged and will be replaced with things like FX, Wealth Management. And then we have a very strong treasury management project going on in our company. And as we put on more C&I business, we would expect that to contribute our fee income as well.

Okay.
And then just looking at the expense base, as you mentioned, some investments and some reduction opportunities throughout 2023. Now that the core conversion is complete, what investments are you most focused on to drive the next leg of growth for the Company.

I think a lot of line that with some of the strategic imperatives that we talked about, right? I mean, I think when we think about the growth in the C&I and some of the specialty niche businesses that we have. There's definitely some technology investments that we put forth. That said, a lot of different from a foundation perspective is already there. It's just enhancements at this point for things that were already put in place, but really largely aligned with what we've talked about on the strategic side mostly focused on some of the C&I stuff.

Thank you.

Thanks.

Operator

Thank you. One moment. Our next question comes from the line of manning value at Morgan Stanley. Your line is open.

Hey, good morning.
Can you talk about how you're thinking about deposit betas and deposit mix as rates come down? Is there still a lag in how deposit yields come down as rates come down and do an IB deposits start to rebound once we get to a certain level in rates. And so yes, if you can expand on that and just talk about how you're thinking about deposit costs through maybe the first rate cuts versus the next few rate cuts?

Travis Lan

Yes, this is Travis. I do think there is some lag on the beta side on the way down, our model assumes around 35% beta on the way down. As you can see, the cycle to date was 57% on the way up relative to non-interest bearing our budget. And our forecast assumes that it remains relatively stable as a percentage of total deposits around 23%. But I do think there is a terminal point at rates come in with rates that you do continue to build that back up. And obviously, as we expand C&I and treasury management, I mean those are strategic initiatives that are in place too and continue to grow noninterest deposits faster than what we actually include in our budget. So that's some thoughts around that very, very helpful.

On the loan growth guide of 5% to 7%, and I know that includes a mix shift away from investor CRE. So can you talk about some of the drivers and also what does the cadence of that look like this? Is that more back-end loaded and you need some help from the environment there? Or is that based on customer conversations you're having today. And there's a high degree of confidence that the loan growth will accelerate as we get through this year.

It is based on the confidence we have in the conversation with customers and seen the uptick in their requests from us and to build on our pipeline that we've experienced in the fourth quarter and so far into January and again, pointing out to the originations in that fourth quarter, 2.2 billion, up from about $1.8 billion in the third quarter and the uptick in our pipelines. And I see a nice contribution to that pipeline where it is now the lion's share, 65% of our pipeline. So we are seeing that activity. Typically, the first quarter was a slow quarter as people get their financial statements in place and you start seeing progressively more business as the quarters roll on.

Got it.
And the loan to deposit ratio should stay at about these levels of between 95% to 105%?

Yes.

Great.
Thank you.

Operator

Thank you, Juan Ramón, please.
Our next question comes from the line of Matthew Breese.
Stephen Your line is.

Good afternoon, everybody and Max.
I had a few questions here with me. First, I was hoping on the NI guides.
Could you provide just for context, I would love a sense of how dynamic it is, what the guide would be or estimate what the guy would be under under a no or minimal rate cut scenario for the year.

It's effectively captured in the 3% to 5% range that we provided. If rates stayed flat, then we think that there would still be upside in ENI in margin from our current levels, again, the most exposure we would have had to significantly lower rates on the long end. So absent that, the most other interest-rate scenarios would end up in the kind of guide that we provided.

Got it. Okay.
And I think you also alluded that the NIM. has already started to show some stabilization, hopefully stabilization in the first quarter. Could you provide some detail as to how the new provides on a monthly basis throughout the fourth quarter and if you started to see that stabilization already?

We did our November was the low point, I would say on a monthly basis and we were on the call last time we looked back at six consecutive months of generally stable NII and margin on some of the factors that we've already talked about in terms of shortening up the liabilities and other things provided a little bit of pressure in the fourth quarter. But I would say that the margin again, was at its low point in November. If you look at what we originated on loan yields, loan origination yields also bottomed in November and bounce back in December. But deposit new deposit origination costs actually declined throughout the quarter. So October was the high point that November was lower in December was even lower than that. One thing I would throw out there too. We do provide obviously in the deck what our loan origination yields are and there declined eight basis points in the quarter, but new deposit origination costs declined 11 basis points in the quarter and it kind of feeds into the commentary provided on on spreads. So November again was a low point on the margin, December was somewhat better, if that's helpful.

Yes.
Any frame of reference for what the difference was low to high?

It wasn't that significant. To be honest, the ending November was four or five basis points lower than December.
Got it.

Okay.

And a couple of quick ones. I noticed that service charges on deposit accounts was quite a bit lower, lower quarter to quarter. Like 15%, was that driven by the conversion? And should we expect that line to come back to its normal kind of $10.5 million level?

Yes.

So for about a month around the conversion. We waive certain transactional fees. If you look at that decline was about a million 0.2 million bucks. That's exactly what that was. So otherwise that would have been flat on. Obviously, you put out a lot of deposits throughout the fourth quarter customer deposits. So that should continue to drive the deposit service charges going forward. That will also be supplemented by the treasury management stuff that we've talked about that generates deposit revenue as well in the non-interest income area.

Okay.

And then on the average balance sheet. It struck me as odd cash balances or interest with bank deposits was down 90 basis points quarter-over-quarter to 4.6%. I usually look at that as kind of a Fed fund's proxy, what happened there, what drove yields down so substantially in cash categories and you're generally, right.

So we go through an accrual process to estimate what the cash payments received from the Fed are and the actual payments do tend to move around a little bit. So there are certain credits that go in and out there. And so you can have a yield that may not directly aligned with the interest on overnight reserves.

Okay.
But generally speaking, we should see or material model impact of that?

Yes, I think that's that's generally right.

Okay.
And on page 11 of the presentation, you showed the multifamily portfolio in pretty good detail. What struck me was that a number of these geographies have weighted average debt service coverage ratios of 1.4 times. Should we feel a little bit risky given the repricing dynamics? So one, I'm curious, those debt service coverage ratios are those at origination or the updated? And then two, do you happen to know what the existing loan yield is on this book?
Versus updates?

Yes, the weighted average debt service coverage, our current there based on recent rent rolls, we update that and the loan to values on a regular basis. I don't have the loan yield in front of me, but I will tell you again, when we look at that repricing, we've not had to modify any of the terms on our repricing and our forward look where we will reassess each loan that reprices over the next 12 months, we expect the same results, but we will have to look that up beyond what you have a travesty and we assume we don't have the full portfolio in front of me about trying to give you some color that may be helpful.

So as we show on that page, Matt, we had 420 million of fully rent control loans, those would be the lowest yielding segment and that's 4.6% yield. And we have another call it 1.8, I'd say, of exposure to properties that have some amount of rent control in them and that portfolio yields five, 45. So I think when you look broadly at multifamily, you're going to be closer in total to that by 45 deals, give or take.
And those those buckets, the four 20 of pure rent regulated and the 1.8 billion of some rent regulated does pass the stress testing we went through as well.

Yes, yes, it's the four 20 is pure rent regulated and that it's 1.4, which is partial 20% or less rent regulated.

Okay.
I know I'm being long-winded, but this is my last one. Ira, you had mentioned some frustration with overall profitability levels. Can you better define for us at which level you'd be satisfied, profitability wise, Davies measured by ROA or OTC.
And Doug, as we think about the forward model here, when do you think we can get back to, let's call it, a 1% ROA and the bank.
I don't want to go against the guidance that Chad has provided, right, Vince, but I am pretty optimistic about where I think we're going to be in 2020, 24. We were generating 16% of return on tangible common at the end of last year. And I think that's an appropriate level that we should begin to target and we should get back there and I'll leave it there.

Thanks for taking all my questions.

Operator

Thank you.
I'm showing no further questions at this time, I'll turn the call back over to Ira Robbins for any closing remarks.

I just want to say thank you for dialing in today, and we look forward to talking to you next quarter.

Operator

Thank you.
Ladies and gentlemen, that does conclude today's conference. Thank you all for participating. You may now disconnect and have a great day.