管理層發言
Good day, everyone. Welcome. Good day, everyone. Welcome to Western Alliance Bank Corporation's second quarter 2026 Earnings Call. You may also view the presentation today via webcast through the company's website at www.westernalliancebankcorporation.com. I would now like to turn the call over to Miles Pondelik, director of investor relations and corporate development. Please go ahead, Miles.
Good day, everyone. Welcome to Western Alliance Bank Corporation's Second Quarter 2026 Earnings Call. You may also view the presentation today via webcast through the company's website at www.westernalliancebancorporation.com. Our speakers today are Kenneth A. Vecchione, chairman, president, and chief executive officer and Vishal Idnani, Chief Financial Officer. Before I hand the call over to Kenneth, please note that today's press presentation contains forward looking statements, which are subject to risks, uncertainties, and assumptions. Except as required by law, the company does not undertake any obligation to update any forward looking statements. For a more complete discussion of the risks and uncertainties that could cause actual results to differ materially from any forward looking statements, please refer to the company's SEC filings, including 8-Ks filed yesterday which are available on the company's website. Now for opening remarks, I would like to turn the call over to Kenneth A. Vecchione.
Thanks, Miles. Good afternoon, everyone. I will make some brief comments about our second quarter performance before handing the call over to Vishal to discuss our financial results and drivers in more detail. After reviewing our revised 2026 outlook, Dale, Timothy and Lynn will join us for Q&A. I am very pleased with Western Alliance's strong second quarter performance and our early execution against the objectives outlined at Investor Day. Results were highlighted by broad based C&I driven loan growth, strong net interest income, PPNR expansion, stable net interest margin, and continued balance sheet strength. Credit trends remain constructive, with criticized assets and net charge offs both declining from the prior quarter. Ongoing resolution activity gives us confidence that loan balances will improve meaningfully during the second half of 2026. Just as important, we have already begun executing several key strategic initiatives we discussed in May, including deposit optimization efforts designed to enhance profitability and a more robust share repurchase program supported by our strengthening capital position. As we approach the $100 billion asset milestone later this year, Western Alliance is entering its next phase from a position of strength combining industry leading growth, improving profitability, and increased capital returns to drive long-term shareholder value. Turning to our financial results. Quarterly held for investment loan growth of $1.8 billion was led by C&I growth across our commercial platforms. As discussed at Investor Day, we began executing our deposit optimization strategy during the quarter, reducing higher cost deposits by well over $1 billion toward quarter end. While this contributed to lower period end deposits, it positions us to improve funding costs and enhance profitability going forward. Early indications so far in the third quarter are that interest expense and deposit costs will continue to decline. Strong average earning asset growth of $2.7 billion drove net interest income up $31 million or 16% on a linked quarter annualized basis compared to 14% year over year growth. This performance was achieved while maintaining a stable net interest margin. Quarterly noninterest income of $199 million was consistent with adjusted Q1 fee income, which excludes securities gains of $50.5 million. Mortgage banking improved from the prior quarter, though higher rates and tighter spreads are creating headwinds. Overall, we generated strong operating leverage as total revenue growth outpaced total expense growth by a 3-to-1 margin, excluding last quarter's securities gains. In total, PPNR increased 25% year over year to $412 million. Asset quality remains stable. Reductions in criticized assets combined with quarterly net charge offs declining reinforce our expectations for nonaccrual loans to decline in the second half of the year. The increase in nonaccruals during the quarter was driven by the credit disclosed in the first quarter 10-Q, which remains current on all contractual payments. As a follow-up to Investor Day commentary, we successfully resolved 2 of the 6 nonaccrual loans discussed with the remaining 4 on track for resolution in the second half of 2026. Before handing the call over to Vishal, I would like to briefly preview our revised 2026 management outlook. Since the disruptions in 2023, Western Alliance has delivered one of the strongest regional bank growth stories highlighted by predictable loan growth, ample liquidity, robust capital levels, and scaling PPNR. As a result, we remain confident in strategic objectives and medium-term financial targets outlined at Investor Day. A more balanced growth profile will create additional capacity for capital returns to shareholders. Western Alliance shares trade at a meaningful discount to our estimate of intrinsic value and the earnings power of the franchise. Greater share repurchase activity around the current price represents an attractive investment in one of our highest returning assets: our own equity. Our competitive advantage going forward will be to pair industry leading growth with disciplined capital allocation. Vishal will now walk you through our results in more detail before I review the outlook.
Thanks, Kenneth. Turning to the income statement on slide 4: Net interest income of $797 million increased 4% from the prior quarter primarily from average earning asset growth of $2.7 billion which included $1.1 billion of average HFI loan growth. NII also increased 14% year over year. Lower funding costs driven by declines in interest bearing deposit costs offset the slight margin impact from remixing loans into C&I from CRE. Net interest margin remained relatively flat as the deposit remixing strategy offset nominally lower average earning asset yields. These factors supported another quarter of NII growth. Noninterest income of $199 million was essentially unchanged from Q1 when excluding $50.5 million of elevated securities gains realized last quarter. Year over year growth of approximately $51 million, or 34%, reflected building momentum in service charges and fees through greater commercial banking, treasury management, and FX offerings. Mortgage banking revenue was higher from the prior quarter and year over year despite the headwinds created by higher mortgage rates. Loan production and lock commitment volume were both up double digit percentages from the prior quarter and year over year. The gain on sale margin did compress 8 basis points from Q1 to 29 basis points from lower secondary gains which reflected softer investor demand due to higher rates. Servicing revenue rebounded to $31 million, mostly from slower prepayments in a higher rate environment. To hedge volatility in the mortgage market, we sold covered calls on mortgage bonds, which produced gains of $6 million and are embedded in fair value gain adjustments. We expect to regularly execute these types of trades and have, in fact, already realized $3 million of income in July. Noninterest expense increased less than $9 million from the prior quarter to $583 million. Deposit costs rose $16 million due to a full quarter impact of significant back-weighted mortgage warehouse deposit growth in Q1. Pre-provision net revenue of $412 million was 25% higher compared to Q2 2025, highlighting the continued growth in the earnings power of the franchise. Provision expense of $80 million was mostly a function of loan growth and net charge off replenishment. Earnings per share of $2.36 was 6% above our adjusted EPS of $2.22 in Q1, or 14% higher year over year. Turning to the balance sheet on slide 5: Securities and cash declined $2.4 billion primarily driven by a $2.6 billion reduction in cash as we deployed more liquidity into increased loan growth. Securities and cash as a percentage of assets moved closer to the mid-20% area while our HFI loan to deposit ratio increased to 74% and closer to our medium-term target of 77% to 80%. Total quarterly HFI loan growth was $1.8 billion, and generated mostly from C&I growth, an area which continues to drive overall loan growth momentum. C&I growth was spread across our commercial banking businesses. As Ken discussed earlier, total deposits declined by $849 million during the quarter reflecting the intentional reduction of approximately $1.2 billion of higher cost deposits as part of our ongoing deposit optimization efforts. Total assets remain just below $99 billion though total equity expanded $227 million mostly from retained earnings growth. Tangible book value per share rose $2.10 from the end of Q1 to $63.24 or 13% over the prior year from retained earnings growth and modest relief in our AOCI position. Looking closer at our loan growth trends on slide 6: C&I growth continues to fuel our overall HFI loan growth. Over 80% of quarterly HFI growth occurred in C&I. From a business line perspective, commercial banking grew $950 million primarily from our specialty commercial banking verticals and hotel franchise finance within CRE. Our multiyear diversification efforts have led to C&I accounting for nearly 49% of the HFI portfolio, while CRE ex-construction has declined about 2 points over the past year to 19.5% of the book. Looking at slide 7, deposits totaled $81.9 billion in Q2, an increase of $10.8 billion year over year. The $849 million decline in deposits from the prior quarter reflected our deposit optimization strategy, resulting in a reduction of over $1 billion in higher cost balances towards the end of the quarter, with another $1 billion of additional reductions made during the first few weeks of Q3. Growth in commercial banking and specialty escrow channels, particularly business escrow services as well as HOA, helped balance the overall decline, demonstrating our early success in improving funding costs. June's end-of-month total cost of deposits was approximately 1 to 2 basis points below Q2's total average cost of $1.78. Turning to our net interest drivers on slide 8: The securities yield expanded 5 basis points to 4.64% reflecting continued reinvestment at higher yields. HFI loan yields decreased 3 basis points to 8.2% as a function of ongoing remixing efforts into more C&I loans compared to CRE. On the liability side, interest bearing deposit costs compressed 1 basis point to 2.74% from Q1. Overall liability funding costs declined 3 basis points from the prior quarter to 1.96%, which was helped by higher average balances in noninterest bearing deposits. The cost of funding earning assets also declined as average earning assets grew 3% from the prior quarter to $91.7 billion. Looking at slide 9, net interest income grew $31 million quarterly or 16% annualized to $797 million primarily from C&I driven average HFI loan growth and higher average securities, which powered strong average earning asset growth. Net interest margin was relatively stable, compressing 1 basis point from Q1 to March as the interest cost of earning assets declined 2 basis points, while the earning asset yield declined 3 basis points. Turning to slide 10, the adjusted efficiency ratio of 49% increased 140 basis points from the prior quarter. When excluding the security gains of Q1, however, this ratio would have declined by about 150 basis points. On a year-over-year basis, the adjusted efficiency ratio dropped by almost 3 points. As mentioned earlier, noninterest expense increased approximately $9 million in Q2 from higher deposit costs related to higher average mortgage warehouse deposit balance. Excluding deposit costs, noninterest expense decreased $7 million from the prior quarter. Excluding the Q1 securities gains, operating leverage resumed in the second quarter with revenue growing three times more than noninterest expense on a quarterly basis. We believe these trends position us well to continue improving operating leverage over time through a combination of disciplined expense management, deposit optimization efforts, and continued business momentum. On slide 11, you see we remain asset sensitive on a net interest income basis. Among total earning assets, 67% are variable, while variable liabilities represent 87% of total earning assets. Nonmaturity deposit rates, including ECRs, are estimated to have a beta of 59% over the next 12 months. When factoring in the potential impact on earnings from mortgage banking revenue and also deposit fees our modeling now indicates we are rate neutral on an earnings at risk basis. Earnings are expected to rise 0.8% in both an up 100 and a down 100 basis point ramp scenario. Turning to slide 12, we see core asset quality remains stable. Special mention loans decreased $87 million to $316 million and as a percentage of funded HFI loans dropped 16 basis points to 52 basis points. Classified accruing loans edged down $15 million to $440 million or 72 basis points from 77 last quarter. Nonaccrual loans increased $70 million but nearly all of this change was related to the migration of the loan mentioned previously that is now current. As detailed in the appendix, Western Alliance continues to compare favorably to our $50 billion to $300 billion asset peers in special mention, classified, and criticized loan categories. On slide 13, you see our allowance and coverage ratios. Provision expense was $80 million and replenished net charge offs as well as supported incremental loan growth, primarily in C&I. Our allowance for loan losses moved higher to $487 million or 80 basis points of funded HFI loans and our allowance for credit losses also increased 2 basis points to 89 basis points. Excluding loans covered by credit linked notes, the total loan ACL to funded loans ratio is 1.01. Regarding nonaccrual loan coverage, the loan previously discussed was the primary driver of ACL coverage dipping below 100%. We expect this to be temporary given stable core asset quality trends and expected near-term nonaccrual resolution. Looking at capital on slide 14, our tangible common equity to tangible assets ratio lifted approximately 20 basis points from year end to 7% from solid retained earnings growth as well as a slight decrease in tangible assets and an incremental improvement in our AOCI position. Our CET1 ratio was maintained at our targeted level of 11%. Turning to slide 15, tangible book value per share increased 13% year over year and has grown at a 7% CAGR since the end of 2020. The gap between historical tangible book value accumulation and peers stands at more than 4x. Western Alliance has been a consistent leader in creating shareholder value over the medium and long term. On slide 16, we have provided 10 metrics that highlight how we stacked against our peers on earnings growth, profitability, and other critical factors that drive financial results and create durable franchise value. View these metrics as important in compounding tangible book value and ultimately generating a long-term superior total shareholder return. For the last 10 years, our EPS growth and TBVPS accumulation have ranked in the top quartile relative to peers. We are also the leader in organic 10-year loan, deposit, and revenue growth as well as adjusted efficiency. We continue to make strides towards achieving top quartile returns on average assets and average tangible common equity as well as our medium-term targets of 1.2% to 1.3% and 16% to 17%, respectively. I will now hand the call back to Kenneth.
Thanks, Vishal. As we outlined at our Investor Day, Western Alliance has spent the last several years purposefully strengthening the foundation of the franchise. We have materially improved our capital, liquidity, and deposit profile, creating a more resilient balance sheet while preserving the flexibility to pursue attractive growth opportunities. At the same time, our diversified business model and specialized platforms have continued to generate strong earnings momentum as we progress towards our profitability targets of 16% to 17% return on average tangible common equity. Having achieved our targeted 11% CET1 ratio, we now have greater flexibility in how we deploy capital to maximize shareholder value. Importantly, our revised outlook continues to reflect growth among the strongest in our peer group while enhancing profitability, compounding tangible book value, and returning additional capital to shareholders. With that as a backdrop, our updated 2026 outlook is as follows. In order to prioritize share repurchases, we are revising our loan growth outlook to $5 billion. Deposit optimization efforts prioritizing profitability have reduced higher cost deposits by approximately $2 billion, including $1 billion since quarter end. As a result, we are lowering our deposit growth outlook to $6 billion reflecting lower funding needs and our continued efforts to remix the deposit base in order to improve our funding costs. Our revised loan growth outlook will allow us to notably increase share buybacks with $150 million planned for the back half of 2026 and still maintain capital levels. We are revising our net interest income growth forecast to 12% to 14% compared to our prior forecast of 11% to 14%. Our new outlook incorporates a 25 basis point hike in September; we did not have rate changes assumed in our prior guidance. We expect NIM to remain stable going forward as double-digit average earning asset growth generates higher net interest income. Total noninterest income is now projected to grow between 13% to 17% compared to 20% to 25% growth previously. We continue to see strength in commercial banking fees; however, the current geopolitical environment and the backup in the 10-year treasury note and mortgage rates will hold Q3 and Q4 mortgage banking revenue in line with Q2 levels. Looking at noninterest expense, our deposit cost range of $650 million to $700 million is unchanged. Deposit optimization efforts should lower average balances for ECR-related deposits and offset the impact of an expected rate hike. Operating expenses are still expected to land between $1.6 and $1.65 billion. With respect to asset quality, we reaffirm our core net charge off guidance of 25 to 35 basis points with nonperforming loans falling in the back half of the year. Lastly, our full year 2026 effective tax rate outlook is 19%. With that, Vishal, Dale, Timothy, Lynn, and I are here to take your questions.
分析師問答
We will now begin the question and answer session. Please limit yourself to one question and one follow-up. If you would like to ask a question, please press *1 to raise your hand. To withdraw your question, press *1 again. We ask that you pick up your handset when asking a question to allow for optimum sound quality. If you are muted locally please remember to unmute your device. Please stand by while we compile the Q&A roster. First question comes from the line of David Charles Smith with Truist Securities. David, please go ahead.
Hey. Good morning.
Good morning, David.
Could you speak a little bit more about the decision to pivot a little bit away from as strong balance sheet growth more towards buybacks? Was this about the opportunity set that you saw for good loan-deposit originations being a little bit reduced or does it just reflect the fact that you think your stock is undervalued and you have not been getting rewarded for your leading growth output? And then what do you need to see to return the same priority on growth, or do you think there is anything you can see to go back there?
Okay. Couple of questions there. Let me start with the pivot. So the revised guidance, as we said, reduced $1 billion in loan growth outlook, and that reflected a deliberate capital allocation decision. We see an opportunity to enhance shareholder value by modestly reducing our loan growth and reallocating excess capital towards share repurchases. Redirecting the $1 billion of incremental growth capacity into an expanded repurchase program allows the company to capitalize on what we view as a meaningful gap between current share price and intrinsic value. Even with the $1 billion loan origination reduction, Western Alliance within the $50 billion to $300 billion asset peer group would still post the highest organic year-over-year percentage loan growth, excluding any bank that did an acquisition. So we still outdistance peers, and we are also able to return capital to shareholders. We did say on Investor Day that we would do $300 million of repurchase activity. But the share price does not reflect our intrinsic value, the growth of the company, and the historical growth of the company. We are not getting rewarded for the excess growth. We sometimes hear that when a company grows so quickly, people assume more risk is being taken on. We explained at Investor Day our s-curve philosophy and how we grow our businesses. We do not see it as taking on more risk, but we think this is a better positioning for the Street and it moves us from maximizing balance sheet growth to maximizing value — optimizing capital returns.
Would you be open to leaning into the buyback on a continued basis if the share price is not materially up by the end of the year?
Yes. We will do that. It will be a constant review between loan growth, the adjusted risk returns that we see, keeping our capital at 11%, and then taking the excess capital that we have and repurchasing our shares. I will also tell you when we wait for the Basel III rules to be finalized. On the first reading of them, we mentioned on the last call that we had 81 basis points of incremental CET1 that would be offered to us. We would use some of that as we move into 2027 as well to buy back our stock if we do not think it reflects the appropriate value of our company. Thank you.
Your next question comes from the line of Anthony Albert Elian from JPMorgan. Anthony, please go ahead.
Thank you. On ECR deposit costs, you have a hike now in the outlook. Q3 is seasonally a stronger quarter for ECR deposits. But the guide for ECR deposit cost expense was unchanged. Vishal, is the ability to keep that range unchanged entirely due to the benefits you expect from the optimization you did in June and so far in July, and can you size up the magnitude of any more outflows you expect?
Yeah. So I will lead off and Vishal can pick up where I may have left off. A factor, too, let's talk about what we expect and what we have done. We transitioned about $1.2 billion of higher-priced deposits to other banks at the end of Q2. In Q3, we have already transitioned $1 billion, and we expect to transition another $750 million by the end of Q3. I should say we plan to do this while continuing to grow total deposits in Q3 by about $1 billion. So Q3 is going to see $1.75 billion transition off the balance sheet, but we still intend to grow deposits roughly $1 billion. That is the volume side. We also plan to reduce balances in Q4 by several hundred million dollars. All in for the year, we are targeting $3 billion, and then we will pause and evaluate our plan for 2027. As it relates to your specific question on deposit costs, we do expect deposit costs to decline in Q3 and Q4 from the deposit remixing optimization strategy. But in Q4, you will see the impact of the 25 basis point hike times the beta of the outstanding ECR balances that will offset some of that impact in Q4. So overall, our guidance for total deposits from the last guidance to this guidance remains flat, but we are able to absorb the 25 basis points increase to the ECR deposit levels.
I completely agree with that, Tony. With the 25 basis point rate hike in Q4, the impact will be back-weighted toward the end of the year, so the full year impact will be muted. The deposit cost would have gone up a little because of the rate hike, but due to the $3 billion optimization program that is bringing the number back down, we expect to offset much of that. I would also add that the majority of the $3 billion we are targeting does hit the ECR deposit balance.
And, you know, everyone talks about deposit costs as if it is asymmetrical. I just want to make sure you know that when deposit costs go down there is also a decline in net interest income because we are not putting those deposits out into investment. So the net impact to the balance sheet is much smaller than calculating just what the deposit cost reduction is within operating expense.
Thank you. And then my follow-up: Are there other parts of the balance sheet or the company you would be looking to optimize to improve profitability, whether this involves taking a closer look at certain parts of the loan portfolio, contemplating asset sales, or adjusting headcount? And could you end up with a smaller balance sheet once the optimization strategy is complete? Thank you.
I think the balance sheet will continue to grow naturally given the opportunities that we have in front of us. Just to remind folks, at the end of Q1, we only grew $400 million and we said we had a very strong pipeline moving into Q2. In fact, we did accomplish that by generating $1.8 billion of loan growth. We still see a very good loan origination pipeline. What we did with taking down the loans by a billion dollars for the full year was the beginning of the optimization. We will continue to look at that going forward, but my sense is that the balance sheet will continue to rise over time. As it relates to optimizing the P&L or looking at our operating expenses, this quarter we ran 3-to-1. We have a very good efficiency ratio and we continue to look at that all the time. We have absorbed a great deal of the expense to prepare to cross over into LFI status, the $100 billion threshold. We absorbed that and our efficiency ratio has remained steady or actually dropped during that same time. That is notable, being able to absorb the increase in LFI preparation costs while improving efficiency.
Your next question comes from the line of Jared David Shaw with Barclays. Jared, please go ahead.
Hi. Thanks. I guess, sticking with the deposit theme, when you look at growth that you are bringing on as you roll out that $3 billion but still see that good growth coming in, is that mostly interest bearing products then? And if so, what do you bring that on at? Or if it is in ECR deposits, is that just better pricing on those?
So I am going to return to one of the things we said during Investor Day: we have a number of deposit channels — HOA, business escrow services, corporate trust, our digital asset group — which all have lower cost of funds than many of our traditional business lines. It is our expectation to grow those channels at a faster pace than our traditional channels. By that, I also mean warehouse lending and MSR-related deposits usually bring in somewhat higher price deposits.
That is exactly the plan. We have different deposit initiatives with attractive costs. Each has a slightly different cost profile, but those initiatives will help us remix the deposit base. As those lower cost deposits come in, we will reduce higher cost deposits net. We plan to grow deposits in the third quarter, and we do think the cost is going to continue to improve from here. For some spot perspective, our total deposit cost in the second quarter declined 3 basis points from $1.81 to $1.78. Coming out of June, we see that trending down another 1 to 2 basis points. For interest bearing deposits, the cost was down about 1 basis point in the second quarter at 2.74% from 2.75%. We are exiting June with that down about 1 to 2 basis points, so the trajectory looks encouraging.
This is Dale. I might also add that during our Investor Day, we discussed our new deposit businesses and their growth. In the past year, they have grown 2.5x as fast as the rest of the balance sheet and have also had a decline in their funding cost at a steeper rate than the rest of the balance sheet. I think that is going to continue into the third and fourth quarter given the declines that we are going to continue to see in mortgage warehouse deposits. The mix is going to shift to lower-cost, more diversified, and faster-growing sources.
Okay. Thanks. Maybe shifting over to the fee income side. It feels like that guide seems pretty conservative given even with the flat mortgage, just sort of given where we have already seen in the first half. I guess, where do you see pressure apart from mortgage on core fees to sort of bring that guide down lower?
The guide was lowered for several reasons. First and foremost is mortgage, given the macro environment. We will be pleased if mortgage income in Q3 and Q4 stays consistent with Q2, but that is our baseline approach. In the first half of the year, some of the fee income timing was related to Juris Banking, specifically a component called DST — a payment network to handle large claims. We had a couple of those in the first half that accelerated income into the first half that we had expected in the back half. Dale can add more on that.
You may recall we discussed Cambridge Analytica before, but we had significant volume in terms of payments in the fourth quarter running into the first quarter that we thought would be a little later. Our queue in this particular channel is very strong. What we have difficulty doing is pinning down exactly when those revenues are going to come in because they are subject to motions, the federal court system, and other variables outside our control. That said, we do see this picking up, perhaps not immediately, but by fourth quarter and certainly into 2027 as some big cases come to fruition for distribution.
Your next question comes from the line of Ebrahim Poonawala from Bank of America. Ebrahim, please go ahead.
Hey. Good morning. The notion of not getting rewarded for performance and slowing loan growth to lean into buybacks: given your view of the stock and the value, should you be doing more in buybacks? And second, if this recalibration of growth continues, does this also have an impact on headcount and the amount of bankers you have? Are there other operational changes that may be instituted if you are resetting the bank to a slower trajectory of growth? Talk to us about how we should think about that beyond the next two to three months into next year around growth versus buybacks and operationally what that means.
Thank you for the question. On capital allocation: one factor we have in our model is maintaining an 11% CET1 ratio. Many competitors run between 10.2% and 10.5%, and we are aware of that. For us, keeping the CET1 ratio at 11% allows us to have the right credit rating that affords our specialized businesses — business escrow services, corporate trust, digital assets, and others — the ability to grow at an outsized pace. We are trying to optimize the balance sheet through lower deposit cost and maintain that 11% CET1 ratio to support our investment grade rating or improve it, which helps bring in lower-cost deposits. If the stock remains undervalued, do I want to buy back more shares? Absolutely. We will look at three things: loan growth opportunities, adjusted risk returns, and what happens with Basel III finalization; we believe there will be incremental CET1 available. It is dynamic. Being in a place where we can grow faster than peers and also buy back shares positions the bank well to deliver value in both the short and long term. On operating efficiency, we are always focused on it. We will trade off some spending because we have absorbed LFI preparation costs, but we will also selectively allocate funds to business development, deposit channels, new loan channels, and investments such as AI initiatives. Those AI investments will cost money up front; we are seeing benefits at the margins so far and are mobilizing the organization to realize more value from those initiatives over time.
Got it. And tied to that, Vishal mentioned cost of interest bearing deposits at 2.74% — probably among the highest in the group. Is there a way where that deposit cost relative to Fed funds can meaningfully decline, given your initiatives? If the Fed does not change rates over the next year, could we see a discernible decline in the bank's cost of funding?
Ebrahim, that is one of our core focuses and the whole point of the deposit optimization program. These are long-standing client relationships so this will involve some finesse in how we work through it. It is hard to tell the exact end state today, but we are very focused on bringing the cost down. We have gone across the bank looking at the most expensive deposits in different business lines. Our six deposit initiatives are having a lot of success, and many of the lower-cost deposit channels like business escrow services have costs well under 1%. We are having traction getting these deposits in, but it will take time; it will not change overnight. Over the medium term, we think we will be able to move the needle.
I will add that deposit cost is just one input to PPNR, which is the output we focus on. This quarter PPNR was 1.68% of average assets. Look at the PPNR growth and what we are doing with it — we also added $14 million to the loan loss reserve this quarter. Adjusted net interest margin should rise over time with our activities, and the benefit will be to a higher PPNR which gives us flexibility to reach our long-term goal of 16% to 17% return on average tangible common equity. We were at 15.4% for this quarter.
Your next question comes from the line of Janet Lee with TD Cowen. Janet, please go ahead.
Hello. Are you able to give a little bit more detail around or quantify how much of the nonperforming loan decline we should expect in the second half of 2026, given the progress you are making on resolution and based on your updated guide? You maintained your NCO guide for 2026, but should we still forecast net charge off in the second half to be in that mid-20s to get into the midpoint?
We have several things going on for the back half of the year. We said there were six credits we needed to resolve to bring NPLs down. Two of which have been resolved by the end of the quarter. A third should be resolved in the next one to ten days; everything is signed up and ready to close. The fourth is targeted and looks on track for the end of Q3, with the last two to happen in Q4. So that is the path and we remain on track as disclosed on Investor Day. Could one move from Q3 to Q4? Yes. But the trend will be down between now and year end. We also think that the charge-off level has peaked; charge-off dollars have peaked. The charge-off rate has been flat between Q1 and Q2 and we see a gently sloping decline in Q3 and Q4. Lynn, our Chief Credit Officer, is here if you want to add anything.
No, that is exactly what Ken said. High confidence in those six assets' resolutions and continued focus on the rest to bring the nonaccrual number down.
Janet, on your modelling question about charge-offs for the back half of the year: we are reaffirming the full year 25 to 35 basis points. Right now, it seems we are tracking a little above the midpoint of that range when you think about charge-offs for the back half, so modelers should consider that.
Got it. Thanks for the color. And just making sure I understood the comments earlier around your fee income guidance: Your fee income guide of 13% to 17% year over year in 2026 does not contemplate any uptick or outsized uptick in service charges in Q4, and you have a good line of sight into that popping up again in early 2027? Am I interpreting correctly?
Somewhat. For the back half of the year, the service charge income coming out of Juris Banking should be less in the back half than the first half. Other treasury management fees from regional banking and commercial business lines should tick up somewhat, but they will not offset the large settlements we had in Q1 and Q2 from Juris. So total fee income will be down compared to the first half. There are other items to note: we started hedging the mortgage business at the corporate level by selling options against MBS; we made $6.2 million in Q2 and already locked in $3 million in Q3, and we hope to continue doing that as a hedge against mortgage market volatility. Also, in our tech and innovation business, occasionally we receive exit fees or warrant positions tied to credits; when those companies have exit events, value can be recognized. Those events are hard to predict and often the timing is uncertain, so we have low expectations for counting on them in Q3 and Q4 and will treat them as upside when they occur. For DST and similar items in Juris Banking, pipeline is strong but timing is uncertain due to legal processes, so expectations are tempered for immediate impact but outlook improves into 2027.
Your next question comes from the line of Casey Haire from Autonomous. Casey, please go ahead.
Great. Thanks. Good morning, guys. One more on credit: about the ACL ratio. I know you guys are at 89 basis points; you have talked about it going to the low 90s. Any updated thoughts on potentially pushing that further? Where does that ultimately settle? I know there is a remix into C&I, which is driving that. Any updated thoughts as to where that ratio lives going forward?
Hey, Casey. I think you are spot on. The reserve will continue to move up incrementally from here driven by our reduction in mortgage growth and movement into C&I — as you saw this quarter, $1.5 billion of the $1.8 billion total came from C&I. When we look at the pipeline, much of the growth is in C&I. You are likely to see comparable increases to what we had in Q2; I think you could see a comparable increase in both Q3 and Q4. The ACL will move up given the loan mix change going forward.
An interesting data point: our peer group has lowered their loan loss reserves by about 3 basis points on average, while we have come up 2 basis points, closing that gap by about 5 basis points. We look at our ACL to be over 1% when you include the protection from credit linked notes on our residential portfolio. The CLNs act as an insurance policy where the proceeds have already been received and are available to cover losses. So that is protecting our position and, in our view, brings our effective position closer to 1%. Nevertheless, the ACL will naturally rise as we remix the loan composition.
Okay. Great. And then, Kenneth, question on the strategy pivot: how do you make this pivot and not risk long-term franchise value with the client base? Loan pipelines take time to build and WAL has a history of standing by clients. How quickly can you get back to the speed we are accustomed to?
That is a good question and it applies to both deposits and loans. On the deposit side, we will be working with clients and transitioning deposits to other banks when appropriate, giving ample notice and preserving relationships because there are other aspects to the relationship — loans, operating accounts, treasury management. On the loan side, Timothy runs a broad set of loan verticals that we can move on and off of. I'll turn it over to Timothy.
We have an incredibly broad bank with many s-curve engines and business lines. Generally speaking, if growth slows slightly, we are allocating from non-relationship lending into full relationship banking. You can see this in our numbers: investor commercial real estate has come down while C&I has gone up. Over the past three years, we invested in product improvements in our treasury management complement and we are now seeing the benefits. There is no difficulty in relationship continuity; in fact, we are moving toward deeper relationships and deemphasizing lending that did not have the same depth of cross-sell.
Your next question comes from the line of Bernard von Gizycki. Bernard, go ahead.
Hey, guys. Thanks for taking the question. Just on the lower loan growth guide, in addition to optimizing the balance sheet, does the slower growth incorporate wanting to reduce the NDFI exposure, given in totality it is an outlier? You show exposure excluding mortgage warehouse which is a safer asset class, but does the slower growth incorporate reducing NDFI exposure?
Some of that will be a natural outcome. For example, we will not push as hard on capital call and subscription lines where we see spreads compressing quickly. You could see that reduction. Also, changes in warehouse lending and MSR lending reflect the mortgage market; with mortgage pullback, warehouse needs have dropped as well.
I would reemphasize that even though we have this pivot — loan growth projected from about 10% to roughly 8.5% for the year and deposit growth from about 10.5% to roughly 8% — these growth rates remain top tier. When we looked across banks in the $50 billion to $300 billion range, this puts us at number one or number two for growth. The combination of top-tier growth and significant share repurchase activity is an attractive opportunity.
Just to follow up: given the pipelines you are seeing, and the revisions, would loan growth in Q3 likely be a bit higher than Q4?
We grew HFI loans $400 million in Q1 and $1.8 billion in Q2, so that is $2.2 billion year to date. We said $5 billion for the year, so you are looking at roughly $1.2 billion to $1.3 billion in each of the next two quarters. Our pipelines indicate that is what we expect to achieve.
Your next question comes from the line of Gary Tenner with D.A. Davidson. Gary, please go ahead.
Thanks. Just had one follow-up. On that credit disclosed in the 10-Q, I think at Investor Day you said there was an updated appraisal process. Can you share anything on that at this point?
We have not received the appraisal yet. What I will share is the borrower has brought the credit current as of the end of June. They have indicated they will make the next one or two payments going forward because they have a potential tenant looking to take a sizable piece of the building. Based on the facts we know, we believe we have the property fairly valued on our balance sheet. I am pleased the borrower brought the credit current as of the end of June and is working with us to bring in a tenant.
Great. I appreciate the color.
Your next question comes from the line of Timur Braziler with UBS. Timur, please go ahead.
Hi. Good morning. In looking to scope the magnitude of the deposit optimization: I get the $3 billion this year, but on a base of, call it, $30 billion in ECR-related deposits, it still seems kind of small. What is the end game and the ability to further reduce deposits? Will that be driven by sales initiatives? Does hitting $100 billion influence that trajectory? Thinking about 2027 and beyond balance sheet growth, are the levels this year a good jumping off point for 2027 growth?
A couple of points. Getting ready to cross $100 billion did not influence this strategy. There is a regulatory byproduct with categorization changes, but nothing we are doing is designed to stay under $100 billion. We are focusing on finessing the remixes. We are targeting $3 billion of transitions by year end, which is considerable. We expect to grow total deposits in Q3 by about $1 billion and roughly stay flat in Q4, reflecting seasonal patterns in warehouse balances. Regarding 2027, we will provide more guidance as we plan, as a lot will be predicated on loan opportunities and where we want to place our loan-to-deposit ratio, which we continue to bring up from 71% to 74%. We are in early stages of remixing, having announced the plan in May, and we need to give clients time to reposition deposits.
Got it. And one last on credit: you said two of the six loans previously discussed were resolved. I think one was a $99 million life science loan. What was the other loan that was already resolved?
The six loans mentioned at Investor Day did not include the life science loan. We are working to expedite resolution of that one as quickly as possible, but the six referred to specifically do not include it. Two of those six have closed and are off the books. We expect one to two more to close in this quarter.
Okay. So the life science loan was brought current; was that the loan referred to?
No. The life science loan was brought current, but the six loans we referenced at Investor Day are a separate set and two of those have already been resolved.
The life science loan remains a nonaccrual at this point and we have not forecasted it to roll out of nonaccrual yet. But overall, total NPLs should decline in the back half of the year.
Your next question comes from the line of Christopher McGratty with KBW. Christopher, please go ahead.
Tangible common equity: how important is the TCE ratio in this discussion with CET1?
I think TCE is at a reasonable level right now at about 7%. We tend to manage more to CET1 while appreciating all capital metrics. We feel good about TCE at this level. Also note that 27% of our assets are in cash and securities and a quarter of our loan book is residential mortgages with low LTV and high FICO, so we feel solid about the capital position.
The deposit optimization program should also help lift TCE-to-TA. We should see an upward trend on that ratio into the back half of the year.
Okay. Great. Thanks a lot.
This concludes the question and answer session. I will now turn the call back to Kenneth A. Vecchione for closing remarks. Kenneth, please go ahead.
Thank you all for your time today. I hope we thoroughly answered all your questions about the second quarter. We look forward to having another call with you soon to talk about our Q3 results. Enjoy the rest of the day, everyone. Goodbye.
This concludes today's call. Thank you all for attending. You may now disconnect.
Look forward to having another call with you soon to talk about our Q3 results. Enjoy the rest of the day, everyone.