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SunTrust Banks (NYSE:STI)

Q4 2012 Earnings Call

January 18, 2013 8:00 am ET

Executives

Kris Dickson

William Henry Rogers - Chairman, Chief Executive Officer, President and Chairman of Executive Committee

Aleem Gillani - Chief Financial Officer and Corporate Executive Vice President

Thomas E. Freeman - Chief Risk Officer and Corporate Executive Vice President

Analysts

Kevin J. St. Pierre - Sanford C. Bernstein & Co., LLC., Research Division

Paul J. Miller - FBR Capital Markets & Co., Research Division

Ryan M. Nash - Goldman Sachs Group Inc., Research Division

Matthew D. O'Connor - Deutsche Bank AG, Research Division

John G. Pancari - Evercore Partners Inc., Research Division

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Jefferson Harralson - Keefe, Bruyette, & Woods, Inc., Research Division

Erika Penala - BofA Merrill Lynch, Research Division

Brian Foran

Operator

Welcome to the SunTrust Fourth Quarter Earnings Conference Call. [Operator Instructions] Today's call is being recorded. If you have any objections, please disconnect at this time. I would now like to introduce Kris Dickson, Director of Investor Relations. You may begin.

Kris Dickson

Thanks, Wendy, and good morning, everyone. Welcome to SunTrust's Fourth Quarter Earnings Conference Call. Thanks for joining us. In addition to the press release, we've also provided a presentation that covers the topics we plan to address during our call today. The press release, presentation and detailed financial schedules are available on our website, www.suntrust.com. This information can be accessed by going to the Investor Relations section of the website.

With me today, among other members of our executive management team, are Bill Rogers, our Chairman and Chief Executive Officer; Aleem Gillani, our Chief Financial Officer; and Tom Freeman, our Chief Risk Officer.

Before we get started, I need to remind you that our comments today may include forward-looking statements. These statements are subject to risk and uncertainty and actual results could differ materially. We list the factors that might cause the actual results to differ materially in our SEC filings, which are available on our website.

During the call, we will discuss non-GAAP financial measures in talking about the company's performance. You can find the reconciliation of these measures to GAAP financial measures in our press release and on our website. Finally, SunTrust is not responsible for and does not edit nor guarantee the accuracy of our earnings teleconference transcripts provided by third parties. The only authorized live and archived webcasts are located on our website. With that out of the way, I'll turn things over to Bill.

William Henry Rogers

Okay. Thanks, Kris. I'm going to begin this morning with a brief overview of the year and quarter, then Aleem is going to give more details on the results, and I'll wrap up the call with some perspective on our line of business performance. SunTrust made significant progress during the year on several fronts. Our core performance improved, driven by higher revenue with stable expenses. We also took definitive action to strengthen our balance sheet and improve our risk profile. Credit quality has improved significantly, and credit-related expenses are abating. All of these translated into better bottom line performance and improvement in our efficiency ratio. The solid core performance trends and earnings momentum we established earlier in the year continued throughout the fourth quarter and these are summarized on Slide 3. Most notable this quarter was strong noninterest income, driven by record investment banking quarter and continued mortgage strength, reduced expenses and favorable deposit and credit trends. These items, along with the lower provision for credit losses and tax rate, contributed to earnings per share of $0.65.

The diversity of our revenue stream continue to benefit us this quarter, as the strength in noninterest income more than offset a net interest income decline due to the impact of our previously announced loan sales. Adjusted expenses were lower from the prior quarter due to reduced compensation, along with the continued drop in credit-related expenses. Expenses were also down as compared to the fourth quarter of last year.

Now taking a look at the balance sheet. Overall, average performing loans were down modestly from the third quarter due to loan sales, but growth in targeted categories, particularly C&I, continued. Compared to last year, performing loans were up $4 billion or 3%, again, due to targeted loan growth driven by C&I. The favorable deposit mix shift continued, with average DDA growth of 4% from the prior quarter and 16% from the prior year, while higher cost time deposits were down 5% and 18% respectively. From a credit perspective, nonperforming loans declined 11% from the last quarter, inclusive of the Chapter 7 bankruptcy related loan transfers that Aleem will detail shortly, and NPLs are down nearly 50% from last year. Our capital position continued to increase, but our Tier 1 common ratio -- equity ratio estimated at 10%, up about 20 basis points from last quarter. So overall, we made significant progress this year as we endeavored to improve our overall risk profile, capitalize on revenue opportunities and improve our efficiency.

Now if you'll indulge me, I'd like to take a brief moment to thank the SunTrust teammates for all they did in 2012. We are united in our purpose of lighting the way to financial well being for our clients and communities, and our continued focus towards delivering upon our performance promise to our shareholders. So teammates, thank you.

Now I'm going to turn it over to Aleem to walk you through the details and give you more clarity on the quarter's results.

Aleem Gillani

Thanks, Bill. Good morning, everybody. Thank you for joining us this morning. I'll begin with a review of the summary income statement on Slide 4. First, you will recall that our third quarter earnings per share of $1.98 benefited by $1.40 per share from the actions we announced in September. Therefore, the sequential quarter comparisons are somewhat skewed by the September transactions. However, I will provide transparency regarding the core trends on subsequent slides.

Looking at our bottom line, our earnings per share this quarter increased to $0.65, up from an adjusted $0.58 in the third quarter and continuing the increased core earnings trajectory that we've delivered in every quarter of 2012. As Bill noted, the highlights of this quarter included strength in noninterest income, continued credit quality improvements and lower noninterest expense.

These positive trends drove a strong finish to the year despite the negative impact to this quarter's earnings from the reclassification of consumer loans discharged from Chapter 7 bankruptcy. Current quarter results also benefited from a low effective tax rate due to year end true-ups and audit settlements.

For the full year, earnings per share were $3.59 or $2.19 after adjusting for the September announcement. This adjusted amount was still more than double our 2011 earnings level, driven by higher revenue, a lower provision as a result of improved credit quality and the reduction in preferred dividends due to the redemption of TARP.

Let's begin a more detailed review of the quarterly trends, starting on Slide 5. Net interest income declined sequentially by $25 million or 2%, primarily due to a reduction in earning assets from the loan sales we announced last quarter. As a reminder, those sales included $500 million of nonperforming loans, which was substantially completed during the third quarter, as well as about $2.5 billion combined of government-guaranteed student and mortgage loans, the majority of which were delinquent. As anticipated, we completed the remaining sales of these loans during the fourth quarter. The effect of these loan sales resulted in a decrease of approximately $15 million of the sequential quarter net interest income. The remaining reduction was largely due to a 5 basis point decrease in loan yields and a 10 basis point compression of securities yields, which were a result of the ongoing low rate environment. This was partially offset by continued reductions in deposit rates, as well as lower average balances and rates paid on long-term debt, which collectively drove an 8 basis point decline in interest-bearing liability costs. These same trends explain the 2 basis point decrease in the net interest margin.

Relative to the prior year, net interest income declined by $48 million and the margin fell 10 basis points. Loan income was down about $90 million, as growth in the loan portfolio was offset by lower yields and a decline in commercial loan swap income. Investment securities income declined by $60 million due to 3 primary reasons: the size of the portfolio was somewhat reduced, reinvestment rates declined and the dividend on the Coca-Cola company stock was forgone after the third quarter transaction. Partially offsetting the lower interest income was a reduction in interest expense of about $100 million, driven by a favorable shift in the deposit mix, lower deposit rates and a decline in long-term borrowing costs of greater than 45%.

As we look to the first quarter of 2013, the full impact of the loan sales will be in the run rate. As I noted earlier, the sales reduced fourth quarter net interest income by about $15 million. Since they occurred throughout the fourth quarter, we'll have some additional loan sale related net interest income decline in the first quarter of approximately $10 million. On an interim basis, we've utilized the loan sale proceeds to reduce short-term borrowings. Over the coming months, we'll evaluate options to redeploy these proceeds into higher returning alternatives, which will help partially mitigate the net interest income impact. With regard to the first quarter net interest margins, we currently anticipate a decline on the order of mid-single digit basis points.

Slide 6 shows trends in noninterest income. Reported noninterest income declined sequentially due to the third quarter gain from the Coca-Cola transaction. However, adjusted noninterest income increased by $272 million to its highest level in over 2 years. The sequential quarter growth was driven by a $359 million reduction in the mortgage repurchase provision due to last quarter's increase in the mortgage repurchase reserve. We also had a record quarter in investment banking income, which was up $29 million sequentially, and was driven by strong syndicated finance and bond origination fees. Market conditions were conducive to debt financing, and we continue to gain share in our corporate investment banking business. Our mortgage production income remains strong overall, with production volume again around the $8 billion mark this quarter, split roughly 75:25 between refinance and purchase. However, we did experience some decline in margins from their unsustainably high third quarter levels. This was not surprising, as well as we saw some usual fourth quarter seasonality decline in loan applications.

Relative to the prior year, adjusted noninterest income increased by $262 million. Mortgage production income was up by over $300 million, roughly $200 million of which was from a lower mortgage repurchase provision and $100 million from higher core production income. Investment banking income also delivered strong growth, up by $25 million, again due to higher syndicated finance and bond origination activity. These increases were partially offset by a $21 million decline in other income due primarily to losses recognized in the fourth quarter from Ginnie Mae loan sales, which were incremental to the sales we announced last quarter.

Turning now to Slide 7 for a discussion of this quarter's trends in mortgage repurchases. Repurchased demands declined, which is consistent with the declining trend that we saw in full file requests in recent quarters. This quarter's demands were the lowest level experienced in 6 quarters, and the decline was most notable in 2007 originated loans, which as you know, has been the most troublesome vintage. Pending demands also declined modestly due to an increase in the pace of resolution.

Focusing on the reserve in the bottom left portion of the page. As expected, our reserve declined, following the increase we made throughout last quarter to reflect our estimate for incurred losses on the agreed 2009 GSE loans. The ending reserve was $632 million, and this quarter's provision of $12 million came in exactly on our previously stated expectations. Similar to several other bank's experience, Freddie Mac informed SunTrust that they plan to re-examine loans originated in 2004 and 2005, and they have already been making full file requests relating to these vintages. However, of our 2004 and '05 loans sold to the GSEs less than 15% were sold to Freddie Mac, and we believe our existing reserve is already sufficient to cover any of their incremental demands relating to these years.

Let's move on to expenses on Slide 8. Adjusted expenses declined $27 million from the prior quarter. Employee compensation and benefits fell by $42 million, driven by lower salaries due to a decline in the number of full-time equivalent employees from the third quarter, a reduction in temporary labor costs and a one-time deferred compensation impact in the third quarter. Credit-related costs also declined with other real estate and collection service expenses down a combined $29 million or over 35%. Partially offsetting these declines were increases in outside processing, as well as seasonally higher advertising expenses. Relative to the prior year, adjusted expenses were down $60 million or 4%, driven by significant decline in credit-related expenses and operating losses. These cyclically high items were at their lowest combined level in almost 3 years, and we were pleased to have some real traction in their abatement over the course of 2012.

For the full year 2011, these costs were about $800 million, excluding the accrual for the national mortgage servicing settlement. In 2012, they declined to $650 million. This year, we expect further meaningful year-over-year declines in these costs. Relative to the fourth quarter of last year, these reductions in cyclical costs were partially offset by higher outside processing. Reported employee compensation and benefits also increased due to the positive impact of onetime items last year. However, salaries declined $14 million due to a reduction in the number of full time equivalent employees.

As announced last week, SunTrust and 9 other mortgage servicers entered into an agreement in principle with the Federal Reserve and the OCC regarding the independent foreclosure review. SunTrust's cash portion of the settlement was $63 million. $32 million of this was recognized during the fourth quarter, which together with previous accruals, fully captures our expected cash expense for this matter. SunTrust's portion of the settlement also includes providing $100 million in relief to borrowers. We expect the costs associated with this relief to be substantially absorbed via our existing allowance for loan losses and other activities. As we look to the first quarter for noninterest expense, I'll remind you that we will have the normal seasonal increase in employee benefits due to FICA and 401(k) resets, which typically amounts to about $40 million. Despite this increase, we do not currently expect our overall noninterest expenses to increase as compared to the fourth quarter.

Switching gears to the balance sheet. Average performing loans declined sequentially by $1.7 billion or 1%. This decline was driven entirely by the aforementioned loan sales, with guaranteed mortgage and student loans down by a combined $2.2 billion. Excluding the impact of the sales, loans were up modestly during the quarter. C&I increased 1% on an average balanced basis, driven by asset-based lending, not-for-profit and asset securitizations. Growth in C&I did pick up toward the end of the quarter and period end balances finished up 3% sequentially, in part due to an increase in utilization rates. Commercial real estate balances continued their decline this quarter. However, that was driven by our special assets division. CRE production continues to improve, and this is a business whose growth prospects we remain optimistic about for the future. Relative to the prior year, average performing loans were up $3.6 billion or 3%. C&I was again the driver, up by over $4 billion or 9%. Balanced growth came primarily from large corporate borrowers, and was widespread across industry verticals. Residential loans declined modestly as an increase in high credit quality, non-guaranteed loans was offset by declines in home equity and guaranteed mortgages. Conversely, consumer loans increased by $1 billion or 6%, primarily due to indirect auto, but also from strong growth, albeit from low basis in direct consumer and credit card.

A review of our credit trends begins on Slide 10. Credit trends continued their multi-quarter and now multi-year improvement. Delinquency ratios declined, driven by a 23 basis point reduction in non-guaranteed residential mortgages, which partially offset a modest increase in consumer loans due to normal seasonality. Nonperforming assets on loans also improved, both declining by 11% sequentially and driven by commercial loans. This nonperforming loan improvement occurred despite the fourth quarter reclassification to nonperforming status of $232 million of mortgage and consumer loans discharged as a result of Chapter 7 bankruptcy. Although the vast majority of these loans are current, we elected to make this policy change in order to align our accounting with others in the industry who are adopting this treatment as a result of guidance issued by the OCC. Partially offsetting the Chapter 7-related increase was the sale of an additional $160 million in nonperforming mortgage and CRE loans during the quarter. These sales were incremental to those we announced as part of our third quarter strategic actions.

Net charge-offs declined by $113 million this quarter. You'll recall the third quarter net charge-offs and loan loss provision included $172 million related to the nonperforming loan sales we announced in September and $65 million related to a junior lien policy change. The current quarter included $79 million in net charge-offs and loan loss provision due to the post-Chapter 7 bankruptcy change and $39 million from the additional nonperforming loan sales I mentioned. Adjusted for these policy changes in nonperforming loan sales, net charge-offs were relatively stable sequentially. In light of the ongoing improvement in credit quality, the ratio of allowance for loan and lease losses as a percentage of loans declined by 4 basis points sequentially to 1.8%. Excluding government guaranteed loans, the ratio stood at 1.95% at quarter end. SunTrust asset quality improved substantially throughout 2012, and was widespread across loan types. Relative to year end 2011, delinquency ratios declined by approximately 20 basis points. Nonperforming loans fell by almost 50%, and net charge offs declined on a stated basis, and were markedly lower on a core basis.

Key credit metrics for both commercial and consumer loans now approximate normalized levels, while those for residential loans are still somewhat elevated by historical standards. Consequently, as we look into 2013, we expect the improvement in asset quality metrics to be primarily residential driven. Focusing on the first quarter specifically, we expect nonperforming loans to continue to decline. Additionally, core net charge-offs are anticipated to be stable to down from fourth quarter levels, adjusted for the impacts of the Chapter 7 loan reclassification and nonperforming loan sales.

Let's take a look at our deposit performance. Average client deposits increased by $2.6 billion or 2% from the prior quarter, in part due to year end seasonality. The favorable shift in the deposit mix continued, as growth was driven entirely by lower cost accounts, most notably DDA, which was up $1.6 billion or 4%. Money market and NOW accounts also increased, while higher cost time deposits fell by 5%. The story, as compared to the prior year, is a similar one. Lower cost accounts increased over $6 billion, led by a $5.4 billion or 16% increase in DDA. Higher cost time deposits declined by over $3 billion or 18%. As I mentioned earlier in the context of our net interest income discussion, this mix shift, together with the reduction in deposit rates paid, has helped to mitigate some of the rate pressure that we and the industry have faced on the asset side.

Slide 12 provides information on our capital metrics. Tier 1 common capital expanded by approximately $300 million and the Tier 1 common ratio again increased up to an estimated 10%. Our estimate for the Basel III Tier 1 common ratio, assuming that all the components of the Federal Reserves recent Notice of Proposed Rulemaking are implemented in their current form, is 8.2%. As shown at the bottom of the page, the tangible common equity ratio and tangible book value per share both increased somewhat, driven by increased earnings and partially offset by lower other comprehensive income.

With that, I'll turn things back over to Bill to cover the last couple of slides.

William Henry Rogers

Okay. Thanks, Aleem, and before we move into Q&A, I want to point out some of the highlights from a segment perspective and that will start on Slide 13. In Consumer Banking and Private Wealth Management, loan production was up 13% over the prior year, and that was driven by good mix from home equity, consumer direct and indirect auto. Furthermore, their favorable deposit trends continued, as DDA grew 20% from the prior year. Additionally, we maintained our industry-leading loyalty and service in our branches, which provides the path to help deepen our client relationships and meet more client needs. We're also committed to operating more efficiently, while expanding our penetration of existing relationships. The fact that clients are increasingly utilizing self-service channels has provided the opportunity to make some changes to both our staffing model and retail branch network without compromising service levels. Our wholesale business overall had a really strong year, hitting record net income levels. Net income is double what it was a year ago, reflective of both improved operating performance and credit improvement.

Revenue was up 8% to $3.4 billion. Capital markets revenue was up by more than 20%, led by several corporate investment banking, industry verticals, notably energy, media and communications, but also, as well as by leveraging our CIB product base and expertise to meet more needs of our core commercial clients. Wholesale's year-over-year revenue growth was also driven by higher net interest income due to loan and deposit growth, which were both up 7% year-over-year. This revenue growth, coupled with a year-over-year 4% decline in total expenses, led a significant improvement from an efficiency standpoint, with this segment's efficiency ratio declining from 65.3 in 2011 to 57.5 in 2012. Furthermore, strong performance drove the fourth quarter efficiency ratio slightly under 50%. While mortgage banking reported a net loss for 2002, its core trends were much improved and the future prospects for this business are very sound. Production volume was up $9 billion or nearly 40% and despite a higher repurchase provision, 2012 revenue increased 42%.

Excluding the impact of the mortgage repurchase provision, core origination income was up $573 million, more than double what it was in 2011. The elevated levels of refinance activity have certainly benefited the business in 2012. While that is going to abate at some point and we may see some additional margin declines, we do expect the current favorable mortgage market to remain certainly for the near term. There are a lot more clients that can benefit from refinancing. The purchase market is improving and so is the overall housing market. Given our markets and business model, I think we're uniquely well-positioned to benefit from this. We're also positioning this business for the longer term. For example, we're continuing to devote resources to purchase activity, which represented 23% of our fourth quarter production. On the efficiency side, we're focused on expanding our presence in lower-cost channels and optimizing our channel selection to maximize the long-term profile of this business. We have a diverse business mix that benefit us and will continue to do so going forward. Over the past year, we saw the firming up of several core trends in our lines of businesses, as we continue to grow, while also improving efficiency.

If you turn to Slide 14, I think you can see some of these favorable trajectories. Many positive trends emerged during 2012, with each quarter building up on the successes from the prior and combining to drive meaningful improvement in our bottom line. The earnings improvement over this time frame was driven first by revenue gains, specifically fee income, and secondarily, by ongoing credit improvement. We're starting to see tangible evidence of the progress that we've been making in both revenue and expenses. If you look back at the second quarter of 2011, which is when we really began our efforts in earnest to driving efficiency improvements. Our revenue was about $2.2 billion per quarter and our expenses were above $1.5 billion. Relative to those figures, our core revenue in recent quarters is up about $100 million per quarter, while our expenses have actually come down a bit. So we're driving growth and positive operating leverage and this, of course, is improving the bottom line and our efficiency ratio, which I think is really evident at the bottom of this page.

Now with that, I'll turn it over to Kris, and we'll start taking some questions.

Kris Dickson

Thanks, Bill. Wendy, we're ready to begin the Q&A portion of the call. [Operator Instructions]

Question-and-Answer Session

Operator

[Operator Instructions] Our first question today is from Kevin St. Pierre with Bernstein.

Kevin J. St. Pierre - Sanford C. Bernstein & Co., LLC., Research Division

Question on the credit-related expenses, Slide 25 in the appendix, if I look at those, you had -- if we look at operating losses excluding your settlement charge, seem to be down significantly to, say, $45 million, a big decline in OREO expenses in the quarter. Is that -- can we use that, adjust for the settlement charge and make that a new base and expect a continued decline? Or how do we think about those expenses going forward?

Aleem Gillani

Kevin, yes, I think that this -- take a look at this number, and we do expect to see continued improvement in this quarter as we get improvement over the year as we go through 2013. If you look at the total, you'll recall what we've been saying for a while is that we think 2011 was the peak in these costs at about $800 million per year. And prior to going into the financial crisis, we were running more like $200 million or $250 million a year. After peaking at $800 million this year, we're now down to $650 million. I don't think we'll actually go back to that run rate of $200 million to $250 million before the financial crisis, but we're headed down toward a much lower number from $650 million, and we think we'll see some of those benefits in '13 again.

Kevin J. St. Pierre - Sanford C. Bernstein & Co., LLC., Research Division

Great. And then the actual net charge-offs have been bouncing around a bit based on the NPL sales and change in policy. Your guidance or outlook for stable to down net charge-offs next quarter, kind of sticking in this 90 basis point to 1% range, any reason we shouldn't expect that those trend down significantly over 2013?

Aleem Gillani

Well, that depends a little bit on the economy and how the economy goes in 2013. But if you'll think about net charge-offs as sort of an adjusted number, about $280 million last quarter and this quarter, 3 and 4. I think if you take that $280 million as the base of looking to Q1, you'd expect that number to be stable to down some.

Thomas E. Freeman

Yes, it's Tom Freeman. I think as you continue to see delinquencies improve and the overall credit quality organization improve, I think you're establishing a base now at the number Aleem was talking about. And as long as delinquencies continue to improve, I think you'll see charge-offs continue to improve over an extended period of time.

Operator

Our next question is from Paul Miller with FBR.

Paul J. Miller - FBR Capital Markets & Co., Research Division

C&I lending, we saw a lot of your competitors have released on a national basis, more so on a regional basis, see some very strong broad-based C&I lending. Just wondering, is it -- are you seeing more activity in your markets on that front?

William Henry Rogers

Yes, this is Bill, and I think Aleem also pointed out what we really started seeing is actually that's building up a little bit towards the end of the quarter. If you look at sort of our core commercial, November was a lot better than October and December was a lot better than November. So we started seeing some build there towards the end of the quarter. So I'm pretty bullish on C&I, again, sort of seeing the trends that we're looking at, looking at the pipelines. All that being said, there is a little pull of uncertainty. So while the pipelines continue to be strong, our pull-through rates continue to be a little bit better. Our drawdown rates actually have gone -- have been a little bit improved this quarter, and that's actually different than actually the several prior 8 quarters. I think if we can get a little relief for the safety valve, we'll see C&I take off fairly well.

Paul J. Miller - FBR Capital Markets & Co., Research Division

And just a really quick follow-up, on your mortgage banking side, can -- do you disclose how much of your HARP is -- your production is HARP-related?

William Henry Rogers

Well, it's 15% in the fourth quarter.

Aleem Gillani

Paul, just as a follow-up, we've been running on HARP of the 75% of refi. About 25% of the 75% has been HARP.

Paul J. Miller - FBR Capital Markets & Co., Research Division

And is that declining or staying relatively stable because I know some people have mentioned that they burned through the most of their HARP eligible loans?

William Henry Rogers

Yes -- no, the -- I mean, every cloud has a silver lining. I mean, we have a HARP eligible environment in which we operate. Ours has been fairly stable in that sort of 15% to 17% range here in the last couple of quarters. And if you look out, I mean, we talked about this at the end of the quarter, I mean, we've got sort of 5x our quarterly run rate in terms of eligibility. That can change, housing prices increase, eligibility changes and those kinds of things, but we see a multi-quarter run rate still for us in HARP. As a matter of fact, we're intensifying our efforts on HARP.

Operator

Our next question is from Ryan Nash with Goldman Sachs.

Ryan M. Nash - Goldman Sachs Group Inc., Research Division

Bill, can you provide some more commentary just on your outlook for the mortgage business, particularly the past gain on sale spreads and just given how much HARP volume you still have that you alluded to? And I guess just secondly on the mortgage business, are you seeing capacity coming back into the market and how are you expecting this to evolve over the next few quarters?

William Henry Rogers

Okay, I'll try to get them all there, Ryan. If I miss one, come back to me. But in sort of how we look at the business overall, I think if you think about for us specifically in terms of opportunity, we're seeing our housing markets recover. We have been, I think, doing the right things in keeping a lot of purchase capacity into our business. You sort of think about a quarter of our business is purchase. We've had a good history of that. So as we start to see that market rebound, we'll start to see more activity from there. And as I've said before, we've got 4x to 5x our quarterly run rate in HARP opportunity. So I think we have more run rate there. We're building more capacity, I can say that. So we're building more capacity into our system, and we're also becoming a heck a lot of more efficient as I talk about. So while we'll see -- yet we see some margin decline, I'll talk about that in a minute. Some of it's going to be offset by just the efficiency of our own operation. That has a lot to do with channel selectivity and productivity and other things that we've been doing over the last year. In terms of gain-on-sale margin, the third quarter for us was really unusually high. I mean, we really reached some rarified air on gain on sale margin in the fourth quarter. It was down probably about 15% or so. Will we see continued gain on sale margin to be under a little bit of pressure, I think so. If I look at the first 2 weeks or 2.5 weeks of the year, things are looking pretty good. I mean, our add volume really sort of jumped back up pretty significantly in January. It fell off a lot in the last 2 weeks of the year, which I think has a seasonal impact, but jumped back pretty significantly. So certainly, for this -- what I can see in the short term, I'm still pretty optimistic about our other opportunities in mortgage.

Ryan M. Nash - Goldman Sachs Group Inc., Research Division

And just as a follow-up, as we think about later in the year or maybe even -- or as we move into 2014, can you talk about how much of the expense base in the mortgage business is variable? So if we were to get 15%, say, 15% to 20% decline in applications at some point, what do you think the change in expenses would look like?

William Henry Rogers

Yes, there certainly are variable costs. They tend to lag by a quarter or so, sort of depending on whether it's purchased or depending on whether it's refinanced in terms of the length of pull through rate, and so I'm confident certainly based upon what we've done in the past and our ability to regulate our variable cost. Ours is going to be unique also and that our fixed costs are coming down. Our fixed costs on the credit side are actually coming down fairly significantly as well. So if the market changes out in end of '13, end '14, I'm fairly confident we can react from a variable standpoint, but you're also going to be seeing some of the fixed cost come down.

Operator

Our next question is from Matt O'Connor with Deutsche Bank.

Matthew D. O'Connor - Deutsche Bank AG, Research Division

Maybe you could just provide a little more thoughts on the NIM kind of looking out for the rest of year. I think you talked about mid-single-digit decline in the first quarter and there's always some seasonal quarks there. But just as you think about the rest of the year, maybe loan growth picking up a little bit, how does all that kind of filter through into the net interest margin?

Aleem Gillani

Matt, well, we do expect to see some modest NIM compression throughout the full year, as long as rates stay where they are. So if we do stay in this for the long low-rate environment, of course, our maturing fixed-rate assets will be reinvested at lower rates and there is less capacity now for us to reprice on the liability side. So we've actually been pretty successful until now on being able to reprice liabilities both in terms of long-term debt, as well as deposits with the recent quarter, us being able to match the 8 basis point decline in asset yields, with an 8 basis point decline in liability cost. I think that as we look out to '13, there will be less capacity for us to do that on the liability side as we're getting toward terminally low rates on liabilities. If you look at year-over-year, '12 relative to '11, our NIM was down 10 basis points, full year to full year. And as I think about '13, I don't see any reason or a substantial change from that.

Matthew D. O'Connor - Deutsche Bank AG, Research Division

Okay, that's helpful. And then just separately, I know there was some moving pieces in the loan buckets with some loan sales, nonperforming sales, but if we look at period end loan growth, it was in aggregate just up a little bit. Any thoughts on -- I mean, commercial is good, but net-net, was up just a little bit. Any thoughts on just loan growth this year and what it might take to get a pickup?

Aleem Gillani

Well, I would expect loan growth to actually be positive this year. As Bill pointed out, we did see some nice increase in loan growth toward the end of 2012, and we're pretty optimistic about '13. As you know, we've clearly got the capacity. We've got the capital to go. We've got the liquidity to go, and we're happy to service our client needs. So any chance that we can get to deliver appropriate services to our clients, we're going to be ready to be there for them, and I do expect to see some loan growth from us in '13, and we'll need to do that to offset some of those NII declines that we'd be expecting otherwise.

William Henry Rogers

And you're starting to see, Matt, some of the headwinds for us start to run off. I mean, think about sort of our high-risk portfolio, which has been a headwind, it's been coming down by sort of $0.5 billion a quarter. Take CRE sort of like specifically, maybe this will be a little bit of a microcosm as our outstandings were down $1 billion over the course of the year. That was primarily, well, almost exclusively, from our sad part of our business. Our production was about double that. The current outstandings in that set are about $600 million. So they're not going to run -- they're not going to have as much of that headwind, going forward, and we'll start to see the impacts of the production. Same thing is true with home equity and I've talked with the production there. So a lot of the headwinds we're starting to see now behind us, and I think we'll start seeing more the benefits of the production.

Operator

Our next question is from John Pancari with Evercore.

John G. Pancari - Evercore Partners Inc., Research Division

Can you give us a little more color on the decline in the comp expense in the quarter? How much -- what was the size of that deferred comp impact? And then, also, the $40 million seasonal increase in comp expense you expect for the first quarter, is that going to be off of this lower base in the comp expense line coming out of this quarter?

Aleem Gillani

So the third quarter impact you're talking about was a $13 million item. That was a vesting of accelerated benefits for a particular business line. As we look forward now from here, I do expect overall comp to be going down. If you look at our total cost base, half of it comes from comp, and so that's in an area on which we're intensely focused, and we're doing a lot to make sure that we align comp with performance in every one of our segments in every one of our functions. I would expect, as you look to '13, that overall comp is going to look better. Particularly, if you look at it less from a line item basis and more from an efficiency ratio perspective, if we have the ability to add comp, but at the same time add revenue, we're always going to take that alternative. So while we are focused on comp, we're also more focused on the efficiency ratio and trying to get whatever benefits that we can get to deliver more to the bottom line that way.

John G. Pancari - Evercore Partners Inc., Research Division

Okay. So that $40 million in seasonality you expect for the first quarter of '13 should come off of this low base, coming out of this quarter?

Aleem Gillani

Yes, that $40 million is -- that's sort of a one quarter item, first quarter of every year, as FICA numbers go back up, 401(k) plans all reset and the company contributes to our teammates' 401(k) plan primarily in the first quarter of every year. But from then on, yes that ought to reset that.

William Henry Rogers

Yes, that is not evident to change in our strategy or trajectory.

John G. Pancari - Evercore Partners Inc., Research Division

Okay, all right. And then secondly, on the investment banking revenue, can you just give us a little color what drove it again, if you can give some indicated syndications? But also, how sustainable, more importantly, that item should be in the coming quarters?

William Henry Rogers

The good news is it came from a lot of places. I mean, we talk about syndications, but it also came from high-yield and high-grade. It came from M&A. It came from our asset securitization parts of our business. So the growth in the quarter really was the fact that a lot of cylinders hit versus one cylinder hit really well. So I think it's a sustainable question. Every quarter is going to be a little more volatile. First quarter investment banking is typically not your best quarter. But based upon sort of what we've seen, the momentum we've built, if you look at us on a multi-quarter basis, I mean, this has got really good momentum, and it's very diverse and very deep.

Aleem Gillani

John, I wouldn't be surprised if we a saw slight decline in Q1, as we think maybe some of our Q1 business might have been pulled forward a little bit into Q4, as our clients tried to get ahead of year end on some transactions. But outside that, this is a business where we're growing substantially and we're growing market share well. So overall, I think this is a sustainable and growing and scalable business.

Operator

Our next question is from Ken Usdin with Jefferies.

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

I just wanted to follow-up on just -- on the expense topic again. So a quick confirmation, when you guys are talking about expenses in the first quarter being no different than flat, that's just the reported number, $1.51 billion, correct?

Aleem Gillani

That is exactly correct. So you know we're expecting a $40 million increase in one line item, but there are going to be enough offsets throughout, but I think our total number will not go up.

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Right. Well, certainly, you've got the $32 million settlement in there as well. And that was going to be my second question is what else comes out of the run rate as you look forward? How much were you spending on quarterly consent order costs underneath the one-time settlement?

Aleem Gillani

We have been spending on the order of $10 million to $15 million on those consulting costs per quarter. That number -- at least some of that will still exist in the first quarter. It won't all come out, but I think as you look out from partially Q1 and then all of it starting Q2 onward.

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Okay. And then just -- then to continue the conversation about environmental expenses and the trajectory post the first quarter, what kind of line of sight can you give us on ongoing improvement environmental expenses and as well as progress you can make on your prior comments about taking -- moving the efficiency ratio?

Aleem Gillani

I think our efficiency ratio improvements, we're working on improving that from sort of several line items, not just that one. Comp is obviously one. Real estate cost is another. We're working to become more efficient in the way we handle our real estate footprint. We're working with several of our vendors and supplier partners to rationalize our use of some of their services and pricing there. So I think there's several different types of line items that we're working on to try and bring our efficiency ratio down. One of those areas will be some of these credit-related costs and after seeing that $150 million reduction in '12 versus '11, I think we ought to see in '13 a further reduction in that number and I wouldn't be surprised if that's an additional 8-figure reduction.

Kenneth M. Usdin - Jefferies & Company, Inc., Research Division

Okay. And then so if you put all that together, is it fair to say that even after the first quarter kind of keeping it flat that we should see expenses continue to track down directionally just even if there's some underlying spending to the points you're making about how much tighter you're being on finding more costs to take out?

William Henry Rogers

I think the answer to that's yes, but as -- obviously, but as it gets to the credit related, it's just as you get down to these numbers quarter-by-quarter, it's just hard to make a commitment because -- and you've seen that trend while they're trending $800 million to $650 million, and we think clearly at a lower run rate in '13. It's just hard to commit quarter-by-quarter.

Operator

Our next question is from Jeffrey Harralson with KBW.

Jefferson Harralson - Keefe, Bruyette, & Woods, Inc., Research Division

Just want to do one quick follow-up on that expense line, just to make sure I'm thinking about it right. The -- you take the $1.51 billion and take out the 40, for ongoing quarters, you're at $1.47 billion, you have probably, I don't know, at some point anyway $60 million a quarter at least coming out in environmental types of costs, and all that's probably offset by some core growth in there. So maybe the base is, I don't know, if you want to think about $1.4 billion being a base, but that's sort of the base that we're working off of, x credit-related costs, is that -- am I thinking about that generally correctly?

Aleem Gillani

That's your model, Jeff. I think that's an interesting one. You might want to talk with Kris about how he sees that.

Operator

Our next question is from Erika Penala with Bank of America Merrill Lynch.

Erika Penala - BofA Merrill Lynch, Research Division

I just had a quick question. Aleem, you mentioned that you expect about 10 basis points of compression over the next 4 quarters. So after the 5 basis points this quarter, obviously, it implies that it's pretty flat for the remaining of the year. Does that include the impact of the swap continuing to roll off on the commercial book?

Aleem Gillani

Erika, maybe I wasn't clear on that 10 basis points. I was looking at that as a year-over-year number, not a fourth quarter run rate number. From '11 to '12, our overall NIM dropped 10 basis points and what I'm thinking is from '12 to '13, we might see that type of decline again as long as rates stay where they are. If you look at the swap book, we do have some swaps rolling off in Q2 and Q3 this year. And as they roll off, we're not able to replace those swap deals, that might be in addition to the NIM decline we just talked about.

Erika Penala - BofA Merrill Lynch, Research Division

Got it. And could you give us a sense of how much that would impact if you can't replace those swaps?

Aleem Gillani

I think the amount of NII rolling off in Q2 and Q3 from the swaps, Erika, is on the order of about $25 million or $30 million.

Erika Penala - BofA Merrill Lynch, Research Division

Okay. And just wanted to sneak one last one as a follow-up to Ryan's question. You mentioned that your production volume on the mortgage side continues to be quite strong, but you're seeing a little bit of softening, as is everybody on the gain on sale margin. If your mortgage banking revenues are trickling down because of gain on sale, not because of production, how much variable cost can come out in that scenario?

Aleem Gillani

Well, I think when you look at our variable cost in that segment, I think they're pretty similar to what I'm seeing around the rest of the industry. Our variable costs are arranged somewhere between 25% and 40% of the total cost base in mortgage. I'd look at that, but I'd also remake Bill's point. We're -- that mortgage segment for us is becoming increasingly efficient. We're just running it better. We're operating it better. And as we're doing that, our fixed costs are also declining as we're working through the set of improvements we're making.

Operator

Our final question is from Brian Foran with Autonomous.

Brian Foran

Since I get 1 question, it will have 7 parts. Housing, I was wondering if you could just touch on some of the trends you're seeing by market, particularly in Georgia, since it seems pretty clear Florida has already turned, unless you disagree with that. And then two, if you think there's any meaningful impact from the new CFPB rules around servicing or if they're just codifying what you and others are already doing?

William Henry Rogers

Let me take housing first. I think you said it, I mean, clearly, Florida, we're really seeing nice improvement and when I was asked this question 3 or 4 quarters ago, we would have talked by zip code. Then we would have talked by county, and now we're really talking by markets and by state. So we're really starting to see sort of a universal improvement. And in some places like South Florida, it's actually sort of fairly dramatic in terms of what we're seeing. Georgia, I think, Atlanta being the primary part of Georgia, we're starting to see again some improvement. It's starting to ease back up. Atlanta, in fairness, was lagging a little bit, but now we're starting to see some of that increase. It now is like by description more of a county by county kind of increase, and I would assume that it would follow the same kind of trend that I talked about before. Now the rest of the state is okay. Pockets are better than others, but the rest of the state's okay. Some places, Savannah and those kind of places, are doing pretty well. Other places are -- didn't go down as far, and they won't come back as far. As it relates to the CFPB and the servicing, I think it really does and I think what you said is really right. I mean, we've been obviously anticipating this for quite a while and have put, I think, a lot of the infrastructure in place to make sure that we respond. Might there be some small marginal expense related to that? Maybe. But I think that's more of a small issue in that it really just does solidify some of the discussion. And fortunately, the investments we've been making have been extremely consistent with that announcement.

And just a quick comment before we wrap up the call today. I really believe we've built a strong foundation from which we'll be able to continue to grow and leverage the momentum we've generated. Our team is engaged. We're starting to see meaningful progress in their efforts. We're building a more effective and efficient company. The intensity across this organization is real and it's coupled with the right focus, and I think you're starting to see the real bottom line improvements. And I look very forward to updating you on our progress in 2013, and thank you.

Kris Dickson

Thanks, everybody, for joining us. If you have any further questions, feel free to give the IR Department a call.

Operator

This does conclude today's conference. Thank you very much for joining. You may disconnect at this time.

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