2023-04-24 14:21:28 ET
Summary
- RF is a regional multi-bank holding company that had a successful first quarter with revenue increasing slightly due to higher NII and core fees than expected.
- RF's deposit betas are currently only at 19%, indicating a positive indicator of the quality of its deposit base.
- Management has continued to take a conservative stance on capital management, suspending buybacks in 2Q22, and increasing capital to 10% or more in preparation for deteriorating macro conditions.
Overview
Regions Financial Corporation ( RF ) is a regional multi-bank holding company. I find it encouraging that RF is one of the few banks that has not raised betas on deposits for 2023. Moreover, this could prove to be conservative and add to NII, as its deposit betas are currently only at 19%. Despite the increased difficulty that many financial institutions are experiencing due to the new environment, I like the fact that management remains committed to a positive operating leverage target for 2023. Even more so, based on comments made by management during the call, it seems like RF has access to additional cost levers to pull in the event that the revenue environment deteriorates.
In terms of risk, I believe RF is still well protected against lower interest rates that are indicated by the forward curve. They have $20 billion in hedges for 2024/2025 and $17 billion for 2026, along with extra protection in 2027-2028. This should allow RF to maintain its NIM in the range of 3.6-4% and reduce the variability in its earnings. I should also point out that even though the NCO guidance has increased to 35bps, it is still lower than RF's through the cycle normalized range of around 35 to 45bps. Given that management has said NCOs will decline over the next two quarters, I find the guidance to be rather conservative. Moreover, RF's office book is adequately underwritten, comprising 83% class A properties, 58% LTV, 62% sunbelt locations, and 37% single-tenant properties. Lastly, as a proponent of management's plan to increase capital reserves, I think buybacks may need to be paused or reduced in the near future. In my opinion, RF's performance as a whole remains strong, and I recommend a buy rating. I don't anticipate RF to be uniquely impacted by the normalization of credit across the industry. For these reasons-secure funding, low betas, and solid downside NII protection - I expect RF to remain a compelling regional bank investment.
1Q23 earnings
RF had a successful first quarter, with revenue increasing slightly due to higher NII and core fees than expected. However, costs were a little higher than expected, as RF had predicted they might be. While the increase in provisions was modest, the increase in NCOs was substantial, bringing them to the upper end of the previous guidance range. The company has also revised its full-year 2023 forecast, forecasting a 6-8% increase in revenues rather than the previous 8-10%. Weaker capital markets are largely to blame for the downward revision, which is driven by a drop in NII due to higher wholesale funding and lower fees. In other words, the forecast indicates an adjusted PPNR of $3.59 billion for the fiscal year.
Deposit costs
When compared to other banks, RF's cumulative beta for interest-bearing deposits was only about 20% as of 1Q23. This reflects RF's favoritism of lower-beta insured retail deposits. Nonetheless, management expects to achieve beta terminal IB deposits of 35% by the end of this year. As a result, I believe RF's deposit costs will increase over the next few quarters as rate-seeking behavior increases in the waning stages of this economic cycle and the remaining surge of COVID-era deposits is gradually eliminated from the balance sheet.
Capital
In preparation for deteriorating macro conditions, management has continued to take a conservative stance on capital management, suspending buybacks in 2Q22. Regarding its balance sheet, RF finished the quarter with a CET1 ratio of 9.8%, which increased by 20 basis points sequentially. The growth in capital was partially offset by a 7bps headwind from the phased-in implementation of the CECL accounting standard into regulatory capital. Although I am a fan of buybacks, I think it was wise for management to increase capital to 10% or more in light of the current economic climate and the unknowns surrounding potential regulatory changes (due to the number of banks that failed). For the time being, I think RF will delay any buyback plans they may have.
Conclusion
In conclusion, RF's first quarter results were positive, with revenue increasing and costs being slightly higher than anticipated. Despite weaker capital markets, the company is forecasting a modest increase in revenue for the year. In addition, management's commitment to maintaining positive operating leverage in 2023 is promising, and the company's access to additional cost levers in case of a revenue environment deterioration provides further comfort. Overall, RF's performance is strong, and its secure funding, low betas, and solid downside NII protection make it a compelling investment in the regional banking sector in my view.
For further details see:
Regions Financial: One Of The Better Regional Banks